FINANCE is that part of practical affairs which is concerned with money taken in a broad sense, to include not only that which is legally money (such as coin and paper money) but also bank credit or "credit money." Without suggesting that a word of such extensive practical application can be adequately defined by any simple formula, we may indicate its significance by saying that finance is "the art of providing the means of payment." The im mediate aim thereby assigned to finance in any business is simply that of maintaining at all times an adequate cash balance (in money or bank credit). But the means employed include all the multifarious methods of borrowing money and of exchanging one sort of pecuniary right against another.
Subdivisions of Finance.—The following are the principal categories of finance in commercial enterprise: (I) Banking. Banks create credit money by lending, and sup ply their customers with the means of payment.
(2) The Money Market. Closely associated with the banks, but distinguishable from them, is the money market, an organiza tion for dealing competitively with short-term lending in the form of bills of exchange or day-to-day loans.
(3) The Investment Market, viz.: (a) The Stock Exchange, where stocks, shares, bonds and debentures are bought and sold, (b) New Capital Issues, or the raising of funds from inves tors for the promotion of new capital enterprises.
(4) The Foreign Exchange Market, where the means of pay ment in one country are exchanged for the means of payment in another.
(5) Insurance, including life insurance, which is a form of in vestment, and insurance against risks (such as fire or shipwreck).
Public Finance.—This is in a class by itself. Governments raise the means of payment : (a) by taxation, (b) by borrowing.
Taxation means compulsory contributions of money taken by authority of law from members of the community.
Governments have other resources. On the one hand they ob tain money from state-owned enterprises, such as posts, telegraphs, telephones, railways or from state-owned property, such as for ests or mines. On the other hand they exact services in kind, such as compulsory military service. But in any highly developed com munity taxation is the principal resource.
If revenue fails to meet expenditure, the deficiency has to be made good by borrowing.
Financial policy has to decide (I) how much revenue is to be raised and by what taxes, (2) how much public expenditure there is to be, and in what directions it is to be limited, (3) whether any of the expenditure is to be met by borrowing, and, if so, how much, and on what terms the money is to be borrowed.
Control of Public Expenditure.—In order to secure a balance between revenue and expenditure outside these excep tional cases, some control over expenditure is needed.
This control takes several forms : (I) Parliamentary Control. Parliaments are given the right of voting the public expenditure under a number of separate cate gories (sometimes elaborately and minutely classified), and the executive government is required to keep within the vote under every head.
(2) Executive Control. Every department is required to con form to the directions of the ministry of finance in regard to its expenditure. (A particularly drastic and searching control is exercised by the Treasury in Great Britain).
(3) Accountability. To be effective, all forms of control re quire some system which will bring to light any cases in which the directions given have been contravened. There must be a thorough system of audit devised for this purpose.
In limiting expenditure it is necessary to weigh in the balance the advantages of the expenditure which is in question, against the disadvantages of the taxation which would have to be imposed to meet it. The ministry of finance, in exercising control over the various heads of expenditure and in determining what taxes are to be imposed, retained or remitted, should constantly keep that comparison in view.
It is also the function of the ministry of finance to consider what items of expenditure may be met from borrowing, what form the borrowing should take, what provision should be made for sinking fund to pay off debt, and what arrangements should be made for dealing with debt maturities and conversions. In all these matters, while it is for the ministry of finance to make pro posals, the measures actually taken are usually regulated by statutory enactments.
A minister of finance also requires authority for temporary borrowing. Primarily temporary borrowing is needed to meet a temporary lag of revenue behind expenditure, or to meet emer gency expenditure in the interval before a permanent loan can be issued. But there is a danger that it may extend beyond these limits. Temporary borrowing can be effected through banks, which create the credit money which they lend. An excessive floating debt is a great danger because it may lead on to inflation of the currency. Inflation may be regarded as a breakdown of public finance. The government, having failed to provide the means of payment by means of taxation and genuine borrowing, has resort to the creation of bank credit to fill the gap.
Governments and legislatures take responsibility for the pro vision of currency for the community. But sound principle gen erally requires this function to be kept as separate as possible from the finance of the public service. The administration of the currency is (or ought to be) directed to the provision of the means of payment for the community generally and not for the government in particular.
Public finance includes, besides the finances of governments, the finances of local authorities (municipalities, county councils, communes, etc.). Local authorities are usually given limited tax ing powers by statute and their borrowing powers are also restricted and supervised. Sometimes they also receive subsidies from the government out of the national tax revenue.