Submitted by: Disha Sharma 101110014 Bharat Wadhwani - 101110042

BUDGET SURPLUS AND DEFICIT

'Budget - An estimation of the revenue and expenses over a specified future period of time. A budget can be made for a person, family, group of people, business, government, country, multinational organization or just about anything else that makes and spends money. A budget is a microeconomic concept that shows the tradeoff made when one good is exchanged for another. 'Budget Deficit - A financial situation that occurs when an entity has more money going out than coming in. The term "budget deficit" is most commonly used to refer to government spending rather than business or individual spending. When it refers to federal government spending, a budget deficit is also known as the "national debt." The opposite of a budget deficit is a budget surplus, and when inflows are equal to outflows, the budget is said to be balanced. 'Budget Surplus - A situation in which income exceeds expenditures. The term "budget surplus" is most commonly used to refer to the financial situations of governments; individuals speak of "savings" rather than a "budget surplus." A surplus is considered a sign that government is being run efficiently. A budget surplus might be used to pay off debt, save for the future, or to make a desired purchase that has been delayed. A city government that had a surplus might use the money to make improvements to a run-down park, for example.

INFLATION

The rate at which the general level of prices for goods and services is rising, and, subsequently, purchasing power is falling. Central banks attempt to stop severe inflation, along with severe deflation, in an attempt to keep the excessive growth of prices to a minimum. As inflation rises, every dollar will buy a smaller percentage of a good. For example, if the inflation rate is 2%, then a $1 pack of gum will cost $1.02 in a year. Most countries' central banks will try to sustain an inflation rate of 2-3%.

INFLATION AND BUDGET DEFICIT

The increase in government spending will increase GDP, which in turn will increase aggregate demand in the short-run; however, in the long-run, increase in government spending will cause both demand-pull (due to excess demand) and cost-push (due to input prices) inflation. While the government's budget constraint is useful in showing how a permanent deficit might be financed and in clarifying what is meant by "higher deficit policies lead to higher inflation," it cannot determine whether that proposition is true. In order to determine whether a higher deficit policy can, in fact, be financed and, if it can, whether it will lead to higher inflation, a theory of the economy and monetary system is required. Exchange rates and interest rates change over a wide range to finance public-sector borrowing. Changes in exchange rates change the relative prices of domestic and imported goods, and some of these changes are reflected in broad-based price levels. Fluctuations of this kind are one-time events, distinct from inflation defined as a persistent increase in a broad-based index of prices.

INFLATION AND BUDGET SURPLUS

Running a budget surplus meant the public sector was saving - its revenue exceeded its consumption spending - thus (we hope) adding to national savings and thereby reducing the size of the current account deficit and the amount we needed to borrow from foreigners.