Q.
(a) State any TWO (2) types of government budget. (5 marks)
(b) State TWO (2) functions of Central Bank. (5 marks)
(c) Define direct tax and give TWO (2) examples in relation to property. (5 marks)
(d) Define "Business Cycle". (5 marks)
(e) Define "unemployment" and give any THREE (3) types of unemployment. (5 marks)
(25 marks, 2016 Q8)
A.
a) 2 types of government budget
Government budgets are of the following types:
- Union Budget : The union budget is the budget prepared by the central government for the country as a whole.
- State Budget : In countries like India, there is a federal system of government thus every state prepares its own budget.
- Plan Budget: It is a document showing the budgetary provisions for important projects, programmes and schemes included in the central plan of the country. It also shows the central assistance to states and union territories.
- Performance Budget: The central ministries and departments dealing with development activities prepare performance budgets, which are circulated to members of parliament. These performance budgets present the main projects,programmes and activities of he government in the light of specific objectives and previous years' budgets and achievements.
- Supplementary Budget: This budget forecasts the budget of the coming year with regards revenue and expenditure.
- Zero-Based Budget: This is defined as the budgetary process which requires each ministry/department to justify its entire budget in detail. It is a system of budget in which all government expenditures must be justified for each new period.
Ref:
https://en.wikipedia.org/wiki/Government_budget
b) 2 functions of Central Bank
1. Issue of Currency:
The central bank is given the sole monopoly of issuing currency in order to secure control over volume of currency and credit. These notes circulate throughout the country as legal tender money. It has to keep a reserve in the form of gold and foreign securities as per statutory rules against the notes issued by it.
It may be noted that RBI issues all currency notes in India except one rupee note. Again, it is under the directions of RBI that one rupee notes and small coins are issued by government mints. Remember, the central government of a country is usually authorised to borrow money from the central bank.
When the central government expenditure exceeds government revenue and the government is unable to reduce its expenditure, then it borrows from the RBI. This is done by selling security bills to RBI which creates new currency notes for the purpose. This is called monetisation of budget deficit or deficit financing. The government spends new currency and puts it into circulation to meet its expenditure.
2. Banker to Government:
Central bank functions as a banker to the government—both central and state governments. It carries out all banking business of the government. Government keeps their cash balances in the current account with the central bank. Similarly, central bank accepts receipts and makes payment on behalf of the governments.
Also, central bank carries out exchange, remittance and other banking operations on behalf of the government. Central bank gives loans and advances to governments for temporary periods, as and when necessary and it also manages the public debt of the country. Remember, the central government can borrow any amount of money from RBI by selling its rupees securities to the latter.
3. Banker’s Bank and Supervisor:
There are usually hundreds of banks in a country. There should be some agency to regulate and supervise their proper functioning. This duty is discharged by the central bank.
Central bank acts as banker’s bank in three capacities:
(i) It is the custodian of their cash reserves. Banks of the country are required to keep a certain percentage of their deposits with the central bank; and in this way the central bank is the ultimate holder of the cash reserves of commercial banks, (ii) Central bank is lender of last resort. Whenever banks are short of funds, they can take loans from the central bank and get their trade bills discounted. The central bank is a source of great strength to the banking system, (iii) It acts as a bank of central clearance, settlements and transfers. Its moral persuasion is usually very effective so far as commercial banks are concerned.
4. Controller of Credit and Money Supply:
Central bank controls credit and money supply through its monetary policy which consists of two parts—currency and credit. Central bank has monopoly of issuing notes (except one-rupee notes, one-rupee coins and the small coins issued by the government) and thereby can control the volume of currency.
The main objective of credit control function of central bank is price stability along with full employment (level of output). It controls credit and money supply by adopting quantitative and qualitative measures as discussed in Section 8.25. Following three quantitative measures of credit control by RBI are recalled for ready reference.
Instruments of money policy:
(i) Bank Rate (02009, 10C):
This is the rate of interest at which the central bank lends to commercial banks. It is, in a way, cost of borrowing. Cheap credit promotes investment whereas dear money discourages it. In a situation of excess demand and inflationary pressure, central bank increases the bank rate. High bank rate forces the commercial banks to raise, in turn, the rate of interest which makes credit dear. As a result, demand for loans and other purposes falls.
Thus, increase in bank rate by the central bank adversely affects credit creation by commercial banks. A decrease in bank rate will have the opposite effect. At present (Feb., 2013), bank rate (also called repo rate, i.e. the rate at which banks borrow from RBI) is 7.75% and Reverse Repo Rate (rate at which banks park their surplus funds with RBI) is 7.0%.
(ii) Open Market Operations:
These refer to buying and selling of government securities by central bank to public and banks. This is done to influence money supply in the country. Mind, sale of government securities to commercial banks means flow of money into the central bank which reduces cash reserves. Consequently, credit availability of commercial banks is curtailed / controlled. When central bank buys securities, it increases cash reserves of the banks and their ability to give credit.
(iii) Cash Reserve Ratio (CRR):
Commercial banks are required under the law to keep a certain percentage of their total deposits with the central bank in the form of cash reserves. This is called CRR. It is a powerful instrument to control credit and lending capacity of the banks. Presently (Feb., 2013), CRR is 4.0%.
To curtail the credit giving capacity of the banks, central bank raises the CRR but when it wants to enhance the credit giving powers of the bank, it reduces the CRR. Similarly, there is another measure called Legal Reserve Ratio (A2012)—LRR which has two components—CRR and SLR. According to Statutory Liquidity Ratio or SLR, every bank is required to keep a fixed percentage (ratio) of its assets in cash called liquidity ratio. SLR is raised to reduce the ability of the banks to give credit. But SLR is reduced when the situation in the economy demands expansion of credit.
5. Exchange Control:
Another duty of a central bank is to see that the external value of currency is maintained. For instance, in India, the Reserve Bank of India takes steps to ensure external value of a rupee. It adopts suitable measures to attain this object. The exchange control system is one such measure.
Under exchange control system, every citizen of India has to deposit with the Reserve Bank of India all foreign currency or exchange that he receives. And whatever foreign exchange he might need has to be secured from the Reserve Bank by making an application in the prescribed form.
When commercial banks have exhausted all resources to supplement their funds at times of liquidity crisis, they approach central bank as a last resort. As lender of last resort, central bank guarantees solvency and provides financial accommodation to commercial banks (i) by rediscounting their eligible securities and bills of exchange and (ii) by providing loans against their securities. This saves banks from possible failure and banking system from a possible breakdown. On the other hand, central bank, by providing temporary financial accommodation, saves the financial structure of the country from collapse.
It has been mentioned above that a central bank is the custodian of foreign exchange reserves and nation’s gold. It keeps a close watch on external value of its currency and undertakes exchange management control. All the foreign currency received by the citizens has to be deposited with the central bank; and if citizens want to make payment in foreign currency, they have to apply to the central bank. Central bank also keeps gold and bullion reserves.
Banks receive cheques drawn on the other banks from their customers which they have to realise from drawee banks. Similarly, cheques on a particular bank are drawn and passed into the hands of other banks which have to realise them from the drawee banks. Independent and separate realisation to each cheque would take a lot of time and, therefore, central bank provides clearing facilities, i.e., facilities for banks to come together every day and set off their chequing claims.
9. Collection and Publication of Data:
It has also been entrusted with the task of collection and compilation of statistical information relating to banking and other financial sectors of the economy.
Ref:
c) Definition of Direct tax and 2 examples in relation to property
A direct tax is paid directly by an individual or organization to an imposing entity. A taxpayer, for example, pays direct taxes to the government for different purposes, including real property tax, personal property tax, income tax or taxes on assets. Direct taxes are different from indirect taxes, where the tax is levied on one entity, such as a seller, and paid by another, such as a sales tax paid by the buyer in a retail setting.
Ref:
Direct Tax http://www.investopedia.com/terms/d/directtax.asp#ixzz4rVfkyBwL
Example of direct tax in property:
2. Real Property Gains Tax - when a property is sold with a profit, the seller has to pay the RPGT.
3. Corporate taxes are a good example of direct taxes. If, for example a manufacturing company operates with $1 million in revenue, $500,00 in cost of goods sold (COGS) and $100,000 in total operating costs, its earnings before interest, taxes, depreciation, and amortization (EBITDA) would be $400,000. If the company had no debt, depreciation or amortization, and had a corporate tax rate of 35%, its direct tax would be $140,000, derived as: ($400,000 * 0.35) = $140,000.
4. Additionally, a person's income tax is an example of a direct tax. If a person makes $100,000 in a year and owes $40,000 in taxes, the $40,000 would be a direct tax.
Ref:
Direct Tax http://www.investopedia.com/terms/d/directtax.asp#ixzz4rVfcT3E4
d) Definition of "Business Cycle"
e) Definition of "unemployment" and 3 types of unemployment
In the US,
Unemployment is defined by the Bureau of Labor Statistics as people who do not have a job, have actively looked for work in the past four weeks, and are currently available for work. Also, people who were temporarily laid off and were waiting to be called back to that job are included in the unemployment statistics.
https://www.thebalance.com/what-is-unemployment-3306222
3 types of unemployment
Types of and theories of unemployment, including
Ref:
https://en.wikipedia.org/wiki/Unemployment
1. Cyclical Unemployment
Over time, the economy experiences many ups and downs. That's what we call cyclical unemployment because it goes in cycles. Cyclical unemployment occurs because of these cycles. When the economy enters a recession, many of the jobs lost are considered cyclical unemployment.
For example, during the Great Depression, the unemployment rate surged as high as 25%. That means one out of four people were willing and able to work, but could not find work! Most of this unemployment was considered cyclical unemployment. Eventually, unemployment came down again. As you can see, at least part of unemployment can be explained by looking at the cycles, or the ups and downs of the economy.
2. Frictional Unemployment
Frictional unemployment occurs because of the normal turnover in the labor market and the time it takes for workers to find new jobs. Throughout the course of the year in the labor market, some workers change jobs. When they do, it takes time to match up potential employees with new employers. Even if there are enough workers to satisfy every job opening, it takes time for workers to learn about these new job opportunities, and for them to be considered, interviewed and hired.
When Cindy graduates from college, she begins looking for work. Let's say it takes her four months to land a new job. During this time, she is frictionally unemployed.
Let's talk about structural unemployment, which occurs because of an absence of demand for a certain type of worker. This typically happens when there are mismatches between the skills employers want and the skills workers have. Major advances in technology, as well as finding lower costs of labor overseas, lead to this type of unemployment.
When workers lose jobs because their skills are obsolete or because their jobs are transferred to other countries, they are structurally unemployed. It's structural unemployment because the structure of the economy has changed, not because of the regular ups and downs of it.
For example, Matt loses his job because the manufacturing company he worked for in Ceelo moves overseas, and some of the factory workers left at home are not needed because of new high-tech gear that was recently installed. So, Matt becomes structurally unemployed. Most of the new jobs require a college degree or new skills, so Matt decides to go back to school. It's a very common example of what's happened in the economy, especially during challenging times.
One type of structural unemployment is seasonal unemployment. Seasonal unemployment happens when the structure of the economy changes from month to month. Some jobs close down because the seasons change.