Address: Near Jivan Jyoti Hospital, Tinsukia College Road; Contact Person: Naveen Mahato, 8876720920

Sunday, November 05, 2017

Public Finance Solved Question Papers: Nov' 2013

2013 (November)
Commerce (General/Speciality)
1. Answer the following questions as directed:                  1x8=8
(a)    Which of the following is not a source of revenue of the union government?
Ø  Income tax
Ø  Corporation tax
Ø  Land revenue
Ø  Custom duty
(b)   Mention one canon of taxation.                        Canon of Equality
(c)    Who is the Chairman of the Thirteenth Finance Commission of India?                             Dr. Vijay L Kelkar, 14th finance commission – Dr. Y. V. Reddy
(d)   Expenditure of the Union government is classified as:
Ø  Revenue expenditure
Ø  Capital expenditure
Ø  Non-plan expenditure
Ø  All of the above
(e)   Which of the following is not non-tax revenue of the Government?

Ø  Receipts from administrative services
Ø  Revenue from Public Service Commission
Ø  Grants-in-aid and Contributions
Ø  Short-term loan
(f)     Public receipts are divided into
Ø  Public receipts and public revenues
Ø  Tax and non-tax receipts
Ø  Revenue and non-revenue receipts
Ø  Revenue and capital receipts
(g)    What do you mean by deficit financing?
Ans: Deficit Financing: Deficit means an excess of public expenditure over public revenue. This excess may be met by borrowings from the market, borrowings from abroad, by the central bank creating currency. In case of borrowing from abroad, there cannot be compulsion for the lenders, but in case of internal borrowings there may be compulsion.
(h)   Write the full form of “VAT”.                              Value Added Tax
2. Write notes on any four of the following:         4x4=16
(a)    Scope of Public finance
Ans: The scope of public finance may be summarised as under:
a)      Public Revenue: Public revenue concentrates on the methods of raising public revenue, the principles of taxation and its problems. In other words, all kinds of income from taxes and receipts from public deposit are included in public revenue. It also includes the methods of raising funds. It further studies the classification of various resources of public revenue into taxes, fees and assessment etc.
b)      Public Expenditure: In this part of public finance we study the principles and problems relating to the expenditure of public funds. This part studies the fundamental principles that govern the flow of Government funds into various streams.
c)       Public Debt: In this section of public finance, we study the problem of raising loans. Public authority or any Government can raise income through loans to meet the short-fall in its traditional income. The loan raised by the government in a particular year is the part of receipts of the public authority.
d)      sFinancial Administration: Now comes the problem of organisation and administration of the financial mechanism of the Government. In other words, under financial or fiscal administration, we are concerned with the Government machinery which is responsible for performing various functions of the state.
e)      Economic Stabilization: Now –a-day’s economic stabilization and growth are the two aspects of the Government economic policy which got a significant place in the discussion on public finance theory. This part describes the various economic polices and other measures of the government to bring about economic stability in the country.

f)       From the above discussion, we can say that the subject-matter of public finance is not static, but dynamic which is continuously widening with the change in the concept of state and functions of the state. As the economic and social responsibilities of the state are increasing day by day, the methods and techniques of raising public income, public expenditure and public borrowings are also changing. In view of the changed circumstances, it has given more responsibilities in the social and economic field.

(b)   Objectives of budgetary control
Ans: Objectives of Budgetary Control: The main objectives of budgetary control are as under:
1.       To ensure planning future by setting up various budgets. The requirements and expected performance of the enterprise are anticipated.
2.       To co-ordinate the activities of different departments.
3.       To operate various cost centres and departments with efficiency and economy.
4.       Elimination of wastes and increase in profitability.
5.       To anticipate capital expenditures for future.
6.       To centralize the control system.
7.       Correction of deviations from the established standards.
8.       Fixation of responsibility of various individuals in the organization.
(c)    Evils of deficit financing
Ans: Evils of Deficit Financing
Deficit financing is not free from its defects. It has its adverse effect on economy. Important evil effects of deficit financing are given below:
1. Leads to inflation: Deficit financing may lead to inflation. Due to deficit financing money supply increases & the purchasing power of the people also increase which increases the aggregate demand and the prices also increase.
2. Adverse effect on saving: Deficit financing leads to inflation and inflation affects the habit of voluntary saving adversely. Infect it is not possible for the people to maintain the previous rate of saving in the state of rising prices.
3. Adverse effect on Investment: Deficit financing effects investment adversely when there is inflation in the economy trade unions make demand for higher wages for that they go for strikes and lock outs which decreases the efficiency of Labour and creates uncertainty in the business which a decreases the level of investment of the country. 
4. Inequality: In case of deficit financing income distribution becomes unequal. During deficit financing deflationary pressure can be seen on the economy which make the rich richer and the poor, poorer. The fix wage earners are badly effected and their standard of living reduced thus gap between rich & poor increases. 
(d)   Tax and non-tax revenue
Ans: Tax Revenue: A fund raised through the various taxes is referred to as tax revenue. Taxes are compulsory contributions imposed by the government on its citizens to meet its general expenses incurred for the common good, without any corresponding benefits to the tax payer. Seligman defines a tax thus: “A tax is a compulsory contribution from a person to the government to defray the expenses incurred in the common interest of all, without reference to specific benefits conferred.
Examples of Tax Revenue 
Ø  Income Tax(on income of the individual as well as joint Hindu families) 
Ø  Corporation Tax (on income of the companies both domestic and foreign companies operating in India ) 
Ø  Interest Tax (on the gross interest income of the financial institutions like Bank) 
Ø  Expenditure Tax(expenditure incurred in luxury hotels and restaurants) 
Ø  Wealth Tax(total wealth of individuals and Hindu undivided families) 
Ø  Custom Duty.(import and export duty) 
Ø  Central excusive Duty.(duties on industrial products) 
Ø  Service Tax.(on services provided by hotels,telephones,port services etc.) 
Non Tax Revenue: The revenue obtained by the government from sources other then tax is called Non-Tax Revenue. The sources of non-tax revenue are fines, fees or penalty.
(e)   Gram Panchayat
3. (a) Explain the concept of “Maximum Social Advantage” with the help of a diagram.                11
One of the important principles of public finance is the so – called Principle of Maximum Social Advantage explained by Professor Hugh Dalton. Just like an individual seeks to maximize his satisfaction or welfare by the use of his resources, the state ought to maximize social advantage or benefit from the resources at its command.
The principles of maximum social advantage are applied to determine whether the tax or the expenditure has proved to be of the optimum benefit. Hence, the principle is called the principle of public finance. According to Dalton, “This (Principle) lies at the very root of public finance” He again says “The best system of public finance is that which secures the maximum social advantage from the operations which it conducts.” It may be also called the principle of maximum social benefit. A.C. Pigou has called it the principle of maximum aggregate welfare.
Public expenditure creates utility for those people on whom the amount is spent. When the volume of expenditure is small with a slighter increase in it, the additional utility is very high. As the total public expenditure goes on increasing in course of time, the law of diminishing marginal utility operates. People derive less of satisfaction from additional unit of public expenditure as the government spends more and more. That is, after a stage, every increase in public expenditure creates less and less benefit for the people. Taxation, on the other hand, imposes burden on the people.
So, when the volume of taxation becomes high, every further increase in taxation increases the burden of it more and more. People under go greater scarifies for every additional unit of taxation. The best policy of the government is to balance both sides of fiscal operations by comparing “the burden of tax” and “the benefits of public expenditure”. The State should balance the social burden of taxation and social benefits of Public expenditure in order to have maximum social advantage.
Attainment of maximum social advantage requires that;

a) Both public expenditure and taxation should be carried out up to certain limits and no more.
b) Public expenditure should be utilized among the various uses in an optimum manner, and
c) The different sources of taxation should be so tapped that the aggregate scarifies entailed is the minimum.
Assumptions of this theory:
1.All taxes result in sacrifice and all public expenditures lead to benefit.
2. Public revenue consists of only taxes and there is no other source of income to the government.
3. The govt. has no surplus or deficit budget but only a balanced budget. 
Diagrammatical Explanation of the theory of maximum social advantages

In the above diagram, MSS is the marginal social sacrifice curve sloping upward from left to right. This rising curve indicates that the marginal social sacrifice goes on increasing with every additional dose of taxation.   MSB is the marginal social benefit curve sloping downwards from the left to right. This falling curve indicates that the marginal social benefit diminishes with every additional dose of public expenditure. The two curves MSS and MSB intersect each other at the point P. PM represent both marginal social sacrifice as well as marginal social benefit. Both are equal at OM which represents the maximum social advantage.
Criticism of the theory of Maximum Social Advantages
1. Non measurability of social sacrifice and social benefit: The major drawback of this principle is that it is not possible in actual practice to measure the MSS and MSB involved in the fiscal operation of the state.
2. Non applicability of the low of equimarginal utility in public expenditure: The low of equimarginal utility may be applicable to private expenditure but certainly not to public expenditure.
3. Neglect non-tax revenue: The principle says that the entire public expenditure is financed by taxation. But, in practice, a significant portion of public expenditure is also financed by other sources like public borrowing, profits from public sector enterprises, imposition of fees, penalties etc.
4. Lack of divisibility: The marginal benefit from public expenditure and marginal sacrifice from taxation can be equated only when public expenditure and taxation are divided into smaller units. But this is not possible practically.
5. Assumption of static condition: Conditions in an economy are not static and are continuously changing. What might be considered as the point of maximum social advantage under some conditions may not be so under some other.
6. Misuse of government funds: The principle of Maximum social advantage is based on the assumption that the government funds are utilized in the most effective manner to generate marginal social benefit. However, quite often a large share of government funds is misused for unproductive purposes
7. "The govt. has no surplus or deficit budget but only a balanced budget."- is an invalid assumption.
(b) Explain the Keynes theory of public finance.
Ans: Keynes’ Theory of Public Finance: Functional Finance Keynes and Hansen have given us the ‘new economics’ which is primarily a new concept of public finance. They assume that a capitalist economy by itself cannot function and thereby the government will have to come to the rescue of the economy at certain times. They emphasize compensatory action through fiscal policy to stabilize and regulate the economic system of a country. The Keynesian concept of public finance has been called functional finance by Abba P. Lerner. Functional finance is the system of judging fiscal measures by the way they function in the economy. Functional finance reduces fiscal operation of taxation, public expenditure and the public debt to operations of policy so as to reduce the volume of money and the aggregate demand in the country. For example, according to functional finance, the main function of taxation is not to secure funds for the state but to be an effective weapon in the hands of the state so as to reduce the purchasing power of the people. In the same way, the main function of public expenditure is to influence the volume of aggregate demand to equal aggregate supply.
Thus, the old precepts vanished, economists began to visualize the instrument of fiscal policy as a means of promoting a healing to their economy. Public finance became Functional Finance signifying a study of the fiscal functions of the government that could eliminate unwanted distortions and fluctuations in the economic activity.
4. (a) What do you mean by “Financial administration”? Briefly explain the various agencies involved in financial administration.                                4+7=11
Ans: Meaning of Financial Administration
In simple words, financial refers to such a system or method by which one can analyse the financial working of the public authority. Thus the focuses on the procedure which ensure the lawful use of public funds. However the concept has been differently defined as under:
Prof .M.S Kenderic, “The financial administration refers to the financial measurement of govt. including the preparation of budget method of administering the various revenue resources the custody of the public fund, procedures in expending money, keeping the financial records and the like. These functions are important to the effective conduct of operation of public finance”
Prof. Dimock, “Financial administration consists of a series of steps whereby funds and made available certain official under procedures which will ensure their lawful and efficient use. The main ingredients are budgeting, accounting, auditing and purchase and supply.”
For the success of financial administration of the Government, different constitution play imperative role. These agencies can be grouped as:
a)      Executive
b)      Legislature
c)       Financial Department of Financial Ministry
d)      Auditing Department
a)      Executive. According to Prof. H. M. Grover, “The executive is the best position to the view the financial problem as a whole ant to assume the responsibilities for the success and failure of a financial programme.” Executive is responsible for running the administration, thus it is in the best position to say what funds are required for it. No tax or expenditure can be made without the permission of the executive. It is therefore, the responsibility of the executive to prepare the budget which is stupendous task. In Parliamentary Government, there is a principle that no demands for grants can be made except on recommendation of the executive. It is therefore In India; executive refers to the Central Government. Since, Finance Ministry is responsible for the administration of the finance of the Central Government, even then it performs the policy making function and tries its best to get the final approval of the legislature.
b)      Legislature. In democratic parliamentary system, it is the legislature or parliament which is the time representation of the people. In India, under the constitution there is special provision to control the finances:
1.       Controller over Taxation. Indian constitution under Article 265 provides that no tax shall be levied or collected except the permission of law. Thus, The Government has to present all tax proposals before parliament in the form of a Bill to be passed into law and unless no art is passed, no tax can be levied. Similarly U.S.A constitution under article one mentions, “The congress shall have to levy and collect tax.”Therefore under, we can conclude that the power of taxation always vests with literature.
2.       Control over Public Expenditure. In Indian constitution states. “All revenues received of all loans by the union or state shall be paid into in the consolidated funds of the union or state, as case may be ad that no money can be written out of  the fund except in accordance with the law and for the purpose and in the manner provided for in the constitution.”
3.       Enforcement of Financial Accountability. Every Government is bound to spend the money granted by the parliament for no purpose other than it was sanctioned by the legislature or parliament. This function is performed by the Comptroller and Audit-General of India. In this way, one can say that Parliament is the supreme in Finance matters.
c)       Financial Ministry: This Finance Ministry plays significant role in financial administration as it ensure that proper use of public funds. It controls the both before the presentation of budget to parliament to and in it executive after approval by the parliament. The Finance Ministry possesses the expert knowledge in financial matters. It considers all proposals to each ministry in the perspective of the government as whole.
The various scheme and proposals of the different ministries are included in the budget after consultations and discussions with the finance ministry. After the final approval of the budget by the parliament, it seeks to ensure that the amounts are properly spent in accordance with the provision of budget. Therefore, it is the finance ministry which frames rules and regulations about the preparation and executive of the budget. The ministry of finance has been divided into four departments, viz
1.       Department of Economic Affairs.
2.       Department of Revenue and Insurance.
3.       Department of Expenditure.
4.       Department of Co-ordination.
d)      Auditing. Auditing is the most important ingredients of parliamentary control over the finances of country as a hole. In a democratic form of government, the supreme authority with the regard to financial policy is vested in legislature. This is ensured by the provision of audit of public expenditure by an independent statutory authority i.e. Comptroller and Audit-General. Therefore, audit supplies an essential link between the executive and parliament and helps in interpreting the action in so as the have a finance bearing of the former on the latter.
(b) What is “Zero-base budgeting”? Briefly discuss the process involved in “zero-base budgeting.
Ans: Zero Based Budgeting
Zero Base Budgeting is a new technique for the preparation of budgets. It involves fresh evaluation of every item of expenditure as if it were a new item. It is reconsideration of each item of expenditure from the very beginning. It is like assuming that a zero expenditure has been incurred on a project at the time of its review, although the project may be in existence from a long time and may have involved some expenditure also. The review is meant to provide a justification or otherwise of the project as a whole in the light of objectives set for it and priorities of the society. The procedure is altogether different from the usual procedure followed in India.
Peter A. Phyrr describes, the concept of zero base budgeting as an operating, planning and budgeting process that requires each manager to justify a budget request in detail from scratch…….” It means, the budget as a whole is considered rather than to examine incremental change only.
According to Prof. R. A. Musgrave, “the idea of zero base budgeting is to consider the budget as a whole, rather than to examine incremental changes only.”
Essentially, the concept of zero base budgeting is that all the financial requirements of a budget unit are analyzed, evaluated and justifies annually and not just the increased or additional requirements. In more practical way, zero base budgeting means the evaluation and prioritization of all programmes at different levels of effects. To be simpler, under zero base budgeting, each department ministry is required to justify its budget requests from the bottom up, evaluating alternative programme packages and ranking programmes so as to select the best alternative and allocate resources accordingly. The budget is considered as a whole and a fresh one, i.e. from zero base.

Steps in Zero-Base Budgeting
a)      Objective: The objective of budgeting should be determined. When the objective is clear, then efforts will be made to achieve that objective. Different organizations may have different objectives. One concern may try to reduce the expenditure on staff, another may try to discontinue one project in preference to another. So the first step will decide about the object and then other steps will be possible.
b)      Decision for operation: The extent to which zero base budgeting is to be applied should be decided. Whether it should be used for all operational areas or it should be applied in some areas only should be decided beforehand.
c)       Decision Package: The next step in ZBB is developing of ‘decision packages’. A decision package is “a document that identifies a specific activity in such a manner that management can evaluate and rank it against other activities competing for limited resources, and decide whether to approve or disapprove it.”
d)      Cost and Benefit: Cost and benefit analysis should be undertaken. We should consider the cost involved and the likely benefits to accrue. Only those projects should be taken first where benefit is more as compared to the cost involved. Cost benefit analysis will help in fixing priority for various projects on the basis of their utility or ranking of decision packages. It provides answers to the following questions.
1.       Is it necessary to perform the activity at all? If the answer is in the negative, there is no need for proceeding further.
2.       How much is the actual cost and what is the actual benefit of the activity?
3.       What is the estimated cost and estimated benefit of the activity?
4.       If the unit is dropped, can the unit be replaced by outside agency?
e)      Preparation of budgets: The activities and projects for which benefit is more than the cost are ranked. Priority is accorded to the most profitable projects/activities, in the allocation of funds.
f)       Selection and Approval: The final step involved in zero-base budgeting is concerned with selecting, approving decisions packages and finalizing the budget.
5. (a) Discuss Adam Smith’s Canons of taxation.                                12
In the modern age, tax is the main source of Income. Every tax is an additional burden on the tax-payer. Thus, it is essential that the burden of a tax should be divided in equitable manner. Every govt. bears the responsibility to provide certain facilities to its subject. For this purpose, the govt. has to adopt a definite principle. Further, it needs a definite machinery for imposing, collecting and utilizing the money. Therefore, a better taxation system speaks of the better taxing capacity and efficient economic administration of the governments.
It is an important question as to how the taxes can be levied and what should be pattern of distribution of the taxes. Moreover, taxation does not have only economic but also social and political implications. For every new tax, it is correct to note the ‘motive’ behind such proposals. In short, it carries the motives of capacity to pay, no discrimination and positive effect on the balance of payment.
However, these motives cannot be achieved unless a clear cut policy regarding the imposition of taxation is followed. Economists have suggested various principles regarding taxation. But none of had given the exact canons of taxation. The canons or principles given from time to time bear the testimony of a good taxation policy.
Adam Smith was the first writer to give a detailed and comprehensive statement of the principles of taxation. Basically, he laid stress on the ways in which an economy could increase its productive capacity and ultimately achieve a higher rate of economic growth. According to him, if the principles enunciated by him, were adopted in a full spirit, the govt. would have a very sound taxation policy. Findlay Shirras has strongly commented on the contribution made by Adam Smith, “No genius, however, has succeeded in condensing the principles into such clear and simple canons as has Adam Smith.” Adam Smith has enumerated the following four canons of taxation which are accepted universally:
1.       Canon of Equality.
2.       Canon of Certainty.
3.       Canon of Convenience.
4.       Canon of Economy.
1)      Canon of Equality: According to this canon, a good tax is that which is based on the principle of equality. In a broader sense, equality may be considered to be same as justice. In this principle, it is maintained that the tax must be levied according to the taxpaying capacity of the individuals. Adam Smith had defined this principle as follows: “The subject of every state ought to contribute towards the support of the government, as nearly as possible, in proportion to their respective abilities that is , in proportion to the revenue which they respectively enjoy under the protection of states.”
In other words, the principle of benefit states that the burden of taxation should be fair and just. Thus, rich people must be subjected to higher taxation in comparison to poor. The higher the income and higher the tax, the lower the income of lower the tax.
2)      Canon of Certainty: Another canon of taxation is the certainty which implies that the tax-payer should determine the following manners carefully: (a) The time of payment, (b) Amount to be paid, (c) Method of payment, (d) The place of payment, (e) The authority to whom the tax is to be paid.
With this, a tax-payer will be able to keep equilibrium between his income and expenditure. There should not be any embarrassment and confusion about the payment of tax. Every tax-payer must know the time of payment, manner and mode of payment, so that he may adjust his expenditures accordingly. In the words of Adam Smith, “The tax which each individual is bound to pay ought to be certain the not arbitrary. The time of payment, the manner of payment, the quantity to be paid, all ought to be clear and plain to the contributor and to every other person.” This certainty creates confidence in the contributor of the tax.
3)      Canon of Convenience: The taxes should be levied and collect in such a manner that it provides the maximum of convenience to the tax-payers. The public authorities should always keep this point in view that the tax-payers suffer the least inconvenience in payment of the tax. For example, land revenue should best be collected at the harvest time. The income-tax from the salaried class be collected only when they get their salaries from their employers. To quote Adam Smith, “ Every tax ought to be levied at the time or in the manner in which it is most likely to be convenient for the contributor to pay it.” This canon is important both for the tax-payers and the govt. The tax-payer feel convenient in payment of tax. The authorities also come to know the incidence of taxation and get increased income by way of taxes.

4)      Canon of Economy: It implies that minimum possible money should be spent in the collection of taxes. The maximum part of the collected amount should be deposited in the govt. treasury. Thus, all unnecessary expenditure in the collection should be avoided at all costs. In the words of Adam Smith, “Every tax ought o be so contrived as little to take out and to keep out of the pockets of the people as possible over and above what is brings into public treasury of the state.” So more addition should be secured to the public revenue at the minimum maintenance cost. It also implies that a tax should interfere as little as possible with the productive activity and general efficiency of the community so that it may not create any adverse effect on production and employment.
(b) Discuss the factors affecting the “impact and incidence of taxes”.
Ans: Incidence of Tax
Incidence of tax or taxation is the burden of paying tax ultimately. In other words, when the money burden of a tax finally settles or comes to rest on the ultimate tax payer, it is called the incidence of a tax. The incidence of tax remains upon that person who cannot shift its burden to any other person, i.e. who ultimately bears it. The burden of a tax falls either on the buyer or on the seller. If the price of a commodity rises by the full amount of the tax, the incidence is wholly on the buyer. On the contrary, if the price of the commodity does not rise at all, the incidence is wholly on the seller. In case the prices rise by less than the full amount of the tax, the incidence is partly on the buyer and partly on the seller.
The concept of incidence of tax or taxation has been variously defined by different economists. According to Dalton, we may say that the incidence is upon those who bear the direct money burden of the tax. For example, when a sales tax is imposed on Tata Steel, but the company’s shop recovers it from the buyers, so the incidence of this tax lies on the buyers since they ultimately bear its money burden. Mrs. Ursula Hicks, however, classified incidence of taxation into two categories: formal incidence and effective incidence of taxation. The Taxation Enquiry Committee also adopted the definition as given by Mrs. Hicks while studying the problem of incidence of taxation in India. The Taxation Enquiry Commission defined the formal and effective incidence of taxation as Formal incidence is the money burden of taxes resting with the subject on whom the burden is intended by taxing authority to fall, and effective incidence is the real or final distribution of tax burden after its shifting in consequences of changing demand and supply condition of taxed commodity or services. In this sense, formal incidence refers to the concept or incidence of taxation and effective incidence to the effects of taxations.
Factors Influencing the Incidence of Taxation: The following are the factors influencing the incidence of taxation are as follows:
1)      Elasticity of Demand and Supply: In case, the demand of the commodity is elastic, the burden of the tax shall fall on the trader because if the trader tries to pass on the burden to the consumer in form of a higher price, the consumer will reduce the consumption of the commodity to the minimum. As such, he would prefer to bear the burden of tax himself. On the contrary, if the demand of the commodity in question is inelastic, the trader can easily shift the burden of the tax to the consumer.
In case the supply of the commodity is elastic or if the commodity is not perishable, the burden of the tax will fall on the consumer because the bargaining power of the trader is much higher than that of the consumer. On the contrary, if the supply of the commodity in question is inelastic or if the commodity is easily perishable, the incidence of the tax will be on the shoulders of the trader because the trader cannot store it for long on account of the perish ability of the commodity. The entire burden will fall on the trader.
2)      Availability of Substitutes: Another factor affecting the incidence of taxation is the availability of substitutes. For instance, take the case of tea and coffee. If the government levies a high excise duty on coffee, the coffee merchant cannot pass this burden to the consumers because if he shifts the burden of excise duty to the consumers in the form of higher coffee prices, the consumers may start using tea which is a good substitute of coffee.
3)      Amount of Tax and the Taxation System: In case the amount of the tax on the commodity in question is very small, then, in such a situation, the trader may not like to pass the burden on to the consumers because he may not like to displease his valued customers, e.g. 5% tax imposed on brokers of Stock Exchanges in India.
4)      Mobility of Capital: Mobility of capital is another factor which also influences the incidence of a tax. In case the capital is not mobile, the producer has invested a major part of his capital in his business in fixed assets (land, building, machinery etc.) and thereby he cannot withdraw it easily, then he may not be in a position to shift the burden of taxes to the consumers. He will have to bear the burden himself. On the contrary, if the capital is mobile, the producer has invested most of his capital in stock of raw material and partly finished goods etc. and thereby he can withdraw it easily, then he is in a position to shift the burden of taxes on to the consumers. Thus the consumers will bear the burden.
5)      Influence of the Laws of Production: Laws of production also influence the incidence of a tax. Let us take the law of increasing returns and law of decreasing returns:
a)      Law of Increasing Returns: Let us take a product which is being produced under the law of increasing returns. In case, the government levies new tax or increases the present levy, the price of the commodity is liable to increase. In that case, the price of the commodity will increase in step with the extent of the tax so imposed or increased. For example, suppose a firm is producing 1,000 units of the commodity and the cost of production comes to Rs. 10 per unit. Now the government levies excise duty to the extent of Rs. 1 per unit. The price of the commodity will now rise to Rs. 11 per unit. As a result of this rise in price, the demand of the commodity will decline necessitating a cut in its production. In case the production is cut down, its cost per unit will automatically rise on account of the reduction in the output because the commodity is being produced under the law of increasing returns. Assuming that the cost of production per unit rises up to Rs. 11 per unit, and commodity is being taxed at the rate of Rs. 1 per unit. Thus, the overall price of the commodity will rise to Rs. 12 per unit. It is clear that the price of the commodity in this case has increased in proportion greater than the increase in the tax. The tax is only Rs. 1 per unit whereas the price of the commodity has increased by Rs. 2 per unit.
b)      Law of Diminishing Returns: Let us assume that the production of the commodity is subject to the law of diminishing returns. In the above example, if the government levies the tax as the rate of Re. 1 per unit, the price of the commodity will now rise to Rs. 11 per unit. With the rise in price, the demand for the commodity will go down, and, consequently production will have to be cut down. Since the commodity is being produced under the law of diminishing returns, the cost of production per unit will also decline consequent upon the reduction in the production. Assuming that the cost of production falls down to Rs. 9.50 paise per unit and the commodity is taxed at the rate of Re. 1 per unit, the overall price will come to Rs. 10.50 paise per unit only. In other words, the price of the commodity rises to an extent less than that warranted by the imposition of the tax.
c)       Tax Area: Tax area is also an important factor which influences the incidence of taxation. It may be very difficult or impossible to shift a purely local tax, if it is relatively high, i.e. Municipal Corporation Tax. But when a local tax is light, it may be possible to shift it without any great difficulty. For example, State Sales Taxes tend to be more easily shifted then local taxes because they are uniform over a wider area, and national sales taxes tend to be even less difficult to shift.

6. (a) Discuss the effects of public expenditure on production and distribution.                               11
Ans: Effects of Public Expenditure
Public expenditure incurred according to the sound principles of public finance, exerts healthy effects on the entire economy of a nation. The ultimate effects of public expenditure, in the form of greater production, more equitable distribution of wealth and all-round economic development of a country, are always expected to be present, if the expenditure is incurred after considerable thought and utmost rationality.
Gone are the days when it was advocated that the state should interfere the least in economic activities and the government is merely an agent for the people – responsible for the maintenance of justice, police and army. In those days public expenditure on economic activities was normally considered a waste. Contrary to this, a new concept of public expenditure has been developed by the modern economists. Today, public expenditure is regarded as a means of securing social ends rather than just being a mere financial mechanism. In present times, Wagner’s Law of Increasing Public Expenditure – both extensively and intensively, is considered universally true. The trend of rising public expenditure is not confined to any particular country, but it is found in almost all countries of the world, irrespective of its socio-economic and political set-up. Every public expenditure is considered desirable, when it is not wasteful, but has a positive effect on production, distribution, consumption and thus maximizes economic and social welfare of the country as a whole.
Effects of public expenditure can be studied under the following heads:
a)      Effects of Public Expenditure on Production.
b)      Effects of Public Expenditure on Distribution.
c)       Miscellaneous Effects of Public Expenditure including Consumption.
Effects of Public Expenditure on Production: While analyzing the effects of public expenditure, Dalton very correctly said that just as taxation, other things being equal should reduce production as little as possible, so the public expenditure should increase it as much as possible. He further added that the level of production and employment in any country depends upon the following three factors:
1)      Effects Upon the Ability to Work, Save and Invest: If public expenditure increases the efficiency of a person to work, It will promote production and national income. Public expenditure on education, medical services, cheap housing facilities, means of transport and communications, recreation facilities etc. will increase the efficiency of persons to work. At the same time, public expenditure can promote saving on the part of the lower income groups by providing additional income to them, for a person who has larger income can be normally expected to save a larger amount. Finally, public expenditure, particularly repayment of public debt will place additional funds at the disposal of those who can save. Thus, it is evident that public expenditure can promote ability to work, save and invest and thus promote production and employment.
2)      Effects on Willingness to Work, Save and Invest: Public expenditure also affects the people’s willingness to work, save and invest. Pension, provident fund, interest-free loan, free medical aid, unemployment allowances and other government payments provide security to a person and, therefore, reduce the willingness of persons to work and save – after all, why should a person work hard and save when he knows fully he will be looked after by the government when he is not in a position to earn any income, i.e. he finds his future fully secured. In the absence of any savings, the question of investment does not arise at all.
3)      Effects on Diversion of Resources: Public expenditure also affects the diversion of resources. For example, if the government wishes to attract productive resources to a particular industry, it will start giving financial assistance from its own funds to such an industry. In the same way, if the government wishes to attract productive resources to a particular area or region, it will start giving a variety of incentives in the form of bounties, subsidies etc. (such as land at concessional rates, cheap electric supply and water, loans on nominal rates of interest, freedom from sales tax, income-tax etc. for a certain period, production subsidy etc.) to the industrialists to achieve this objective.
Effects of Public Expenditure on distribution: Public expenditure has its effects not only on production but is also a most powerful weapon in the hands of the government for bringing about an equitable distribution of wealth. For bringing about an equitable and just distribution of wealth the government can use not only its taxation policy but public expenditure policy can also help to a great extent in achieving this very objective. In fact, the role of taxation and public expenditure in removing inequalities of income is complementary and supplementary. If the government intends to minimize the economic inequalities that existed in the society, it should levy maximum about of taxation on richer sections of the community, because their taxable capacity is undoubtedly high. The income so earned through taxation should be spent on providing various types of facilities, subsidies and amenities to the poorer section of the community. For example, the state can extend to the poor benefits of old age pensions, social insurance, free medical aid, cheap housing, interest-free loans, subsidized food etc. This will automatically bring redistribution of wealth (national income) in favour of the poorer section of the community. On the contrary, public expenditure which confers larger benefits to the richer sections of the community, e.g., subsidies on luxury goods, provision of subsidized milk, other foodstuff etc. tends to widen the gap of inequalities. As Dalton puts, “That system of public expenditure is best which has the strongest tendency to reduce inequalities of income”. Public expenditure has, thus, an important rule in reducing economic inequalities in the community.
(b) Discuss the reasons for growth of public expenditure in India in recent times.
Ans: Causes for increase in Public Expenditure
There has been a persistent and continuous increase in public expenditure in counties all over the world. It is due to the continuous expansion in the activities of the state and other public bodies on several fronts. The modern governments not only perform such primary functions as the civil administration as well as defence of the country, but also take considerable interest in promoting economic development of their countries. Today, the state is taking active part in social and economic matters, such as education, public health, removal of poverty and in commercial and industrial development. The public expenditure has increased enormously in recent years mostly due to the development activities of the state. Hence, the increase in public expenditure is fully justified.
One of the most important features of the present century is the phenomenal growth of public expenditure. Some of the important reasons for the growth of public expenditure are the following.
1) Welfare state: Modern states are no more police states. They have to look in to the welfare of the masses for which the state has to perform a number of functions. They have to create and undertake employment opportunities, social security measures and other welfare activities. All these require enormous expenditure.
2) Defence expenditure: Modern warfare is very expensive. Wars and possibilities of wars have forced the nation to be always equipped with arms. This causes great amount of public expenditure.
3) Growth of democracy: The form of democratic government is highly expensive. The conduct of elections, maintenance of democratic institutions like legislatures etc. cause great expenditure.
4) Growth of population: tremendous growth of population necessitates enormous spending on the part of the modern governments. For meeting the needs of the growing population more educational institutions, food materials, hospitals, roads and other amenities of life are to be provided.
5) Rise in price level: Rises in prices have considerably enhanced public expenditure in recent years. Higher prices mean higher spending on the part of the govt. on items like payment of salaries, purchase of goods and services and so on.
6) Expansion public sector: Counties aiming at socialistic pattern of society have to give more importance to public sector. Consequent development of public sector enhances public expenditure.
7) Development expenditure: for implementing developmental programs like Five Year Plans, Modern governments are incurring huge expenditure.
8) Public debt: Along with debt rises the problem like payment of interest and repayment of the principal amount. This results in an increase in public expenditure.
9) Grants and loans to state governments and UTs: It is an important feature of public expenditure of the central government of India. The government provides assistance in the forms of grants-in-aid and loans to the states and to the UTs.
10) Poverty alleviation programs: As poverty ratio is high, huge amount of expenditure is required for implementing alleviation programmes.
Justification for increase in Public Expenditure
Increase in public expenditure can be justified on the following grounds :
a)      Assists in increasing state activities,
b)      Increase in welfare activities,
c)       Reduces disparities between rich and poor,
d)      Boom for rapid economic development specially in underdeveloped and backward economy,
e)      Provides economic stability, and
f)       Brings prosperity etc.
7. (a) Discuss the growth of public debt in India.                                11

(b) Discuss the recommendations of the thirteen finance commission.