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Deficit spending applies to the federal state's practice of spending more than it receives in revenue. The federal government runs a deficit because it receives less than it spends. Deficit spending is a topic of discussion for economists and policymakers all over the world. Liberals believe that deficit spending is beneficial to the economy, while conservatives believe otherwise. In certain cases, policymakers must invest more than they would take in to fix sector inefficiencies. John Maynard Keynes argued in favor of deficit spending, claiming that it would be used to correct a recession. The federal government can respond to a recession by lowering taxes and rising government spending. The action causes a budget deficit. On another hand, much debt may be destructive to the economy, an economic situation known as crowding out effect.
Crowding Effect is an economic situation where the government involvement in correcting market imperfections led to high-interest rates and decreased private investment spending. The government involvement in the economy affects the supply and demand of the market. When the government implements an expansionary policy, interest rates tend to rise, and the private investment is significantly reduced. The crowding effect as a result of government intervention leads to decreased income, planning problems, and capital mismanagement. Deficit spending has its impact on the economy. The pros and cons of deficit spending are increased economic growth, enhanced planning of the economy while the problems include the after effects which are increased state debt, increased prices of goods and services, and low government savings. The advantages and disadvantages of deficit spending are discussed below (Heim, 2016).
Deficit spending spurs increase economic growth. Economists argue that proper government spending can spur a high level of economic growth to overcome economic recession. For instance, government spending on infrastructure promotes economic growth. Government spending also reverses the rising unemployment thus increases the money flow. The economy’s growth is accelerated. Fast economic growth is recommended when there is a recession. Increased economic stimulation which promotes employment and increased private investment results in economic recovery. Deficit spending fosters control and balanced planning that in turn promotes economic growth. The federal government sets out plans to reduce unnecessary investments to avoid debts. Strategic advisors and planners to federal government engage in strategies that enhance balanced planning to avert high deficits. Strategic planning is a prerequisite for a sustainable economy. A sustained economic growth can be realized only through deliberate and sound macroeconomic plan. The right control leads to the achievement of economic stability. Deficit spending also provides protection. A country can borrow to finance its military in time of war. The expenditure on military ensures the protection of the state and citizens which would be difficult to accomplish when the country’s economy is in recession (Couch, 2010).
One of the drawbacks of deficit borrowing is that the financing is done at high-interest rates from other states which lead to increased state debt. Although borrowing increase the economic prosperity, the high-interest rates leave the borrowing government in frightening debt which might take a longer time to repay. The federal state may find itself in a vicious cycle where it can operate in a deficit for a longer period. The crowding effect transfers funds from private investment to government expenditure. Another negative side of deficit spending to the federal government is the lack of surplus for an emergency. The state operating in deficit does not save for any emergency. The inadequacy becomes a problem when the country is faced with emergencies. Any emergency at times of deficit forces the country to turn to other nations for more borrowing at inflated interest rates. The emergency borrowing leads to a vicious cycle that increases debts. Lastly, deficit borrowing may lead to high prices of goods and services. The cost of deficit borrowing at high-interest rates is transferred to the consumers who for goods and services. The government increases taxes to sustain the high expenditure needed to spur economic growth. The rising taxes lead to a rise in prices and the economy shrinks. As the real GDP grows over the years, the productivity and population growth increase as well. The federal borrowing and debt increases to the extent that they become unsustainable. High external borrowing is a threat to the economy.
Economists have different views on how to handle state deficit. Economic experts and planners of the federal government should borrow to spend on its expenditure. A deficit reduction strategy can be used to avert the debt crisis. Some economists argue that deficit spending can be economically viable if used in projects that will promote economic growth. If it is not done properly, the deficit can plunge the country into high debts. Economists and policymakers are faced with difficulty when deciding on deficit spending. If the policymakers, economists, and other decision makers carefully assess the long-term impacts of deficit spending, a solution can be found. Deficit spending may be manageable if legislation allows laws increase economic activity and growth (Couch, 2010).
Couch, K. A. (2010). Deficit spending and the debt. Journal of Policy Analysis and Management, 29(4), 875-876.
Heim, J. J. (2016). Test Results: Investment Spending and Borrowing Models (One-Variable Deficit). Crowding Out Fiscal Stimulus, 91-132.
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