To what extent should government borrowing be a cause for concern? (25 marks)
A budget deficit is a term that refers to the government borrowing more money than they receive in taxation. It can be argued that government borrowing can be seen as a cause of concern when it has an effect on the macroeconomic objectives which include: stable prices, low unemployment, a good balance of payments and economic growth.
The government may need to borrow extra money in certain areas. For example if the government needs to spend extra money on essential areas such as education and healthcare then borrowing becomes essential for them rather than a cause of concern. Spending on education e.g. improving schools through technology and providing more education opportunities through apprenticeships may be a huge benefit for the government in the long run. The result could be more people in employment, causing unemployment to be low which can allow the government to reduce their spending on areas such as welfare benefits, working tax credits etc. The government would receive a huge gain in the future as people who are in employment will pay tax and by doing so the government can improve areas such as healthcare, defence etc. However by saying this, in the short run unemployment is not solved as some aspects to improving education such as improving the capital can be seen as supply side policies. And it is important to remember that supply side policies do not happen overnight they take many years before the effects are actually seen. Therefore in the short run the government faces a problem that they are faced with debt due to borrowing and the unemployment rate has remained virtually the same. Therefore it can be argued that is this worthwhile borrowing if it has no instant effects. However as the diagram below shows it appears that it is worthwhile as in the long run LRAS will shift to the right without adding to the price level meaning no inflation but it’s important to note that if fiscal policy was implemented we may be faced with inflation. As a whole, it can be argued that improvements in retraining , education provides the previously unemployed/students to find jobs in the future which ensures that they have a more fulfilling career and to some extent it can be argued that the country may experience economic growth if it brought the previously unemployed into better paying jobs. However by saying this, in order for this to occur the government need to focus mostly on the working class if their incomes increase then the economy as a whole can experience an increase in real GDP.
A reason why government may need to implement borrowing is due to the fact that the other potential way to finance expenditure can be damaging to the economy. This is increasing taxation. Times are very hard already for most consumers especially groups like the working class. Therefore increases in taxation can cause outburst such as strikes, protests etc. In addition to this, increasing taxation will cause AD to fall as the diagram shows. If the government chose to increase the taxation then this will cause problems for the economy. For example, due to an increase in taxation/corporation tax then the disposable incomes of consumers will fall causing saving to increase and spending to fall. This acts negatively to the economy as it causes AD to fall from AD1 to AD2. Likewise investment will fall if corporation tax is increased. This causes businesses to have a rise in their costs therefore if the government choose to increase taxation it will react negatively on AD as it may also cause unemployment due to firms not being able to afford the salaries of some workers. Therefore it feels that the government should borrow with the hope of increasing AD.
Through government spending e.g. from extra borrowing there is a hope that aggregate demand can increase if expansionary monetary policies are used such as increasing government spending/decreasing taxation. This can cause AD to increase causing less incentive for saving and more incentive to spend which reverberates around the economy. For example if consumption increases then consumers are likely to spend more of their incomes on different things such as travel agents, retailers etc. Therefore this causes demand to increase for these industries and it can be assumed that if there is higher demand then businesses need to take on more workers which would reduce unemployment and allow government spending in certain areas to reduce e.g. unemployment benefits. However it is also important to note that this can also be seen as a “cause of concern.” As well as having piled up debt, it is important to note that if the economy has not reached full employment and AD increases this can cause demand pull inflation which can be a problem for the economy as a whole because inflation can have negative implications as too much is chasing too few goods. Therefore this causes other effects such as increasing the interest rates to control demand outstripping the supply which then again reduces AD.
In conclusion, it appears that government borrowing can be a cause of concern especially if it is not spent on the right areas. However if it is needed in areas which can benefit the economy the most e.g. education and healthcare then it is required. The government must realize that borrowing can be important in areas which most need it but excess borrowing is when there is a cause of concern. Recent events show us problems with countries like Greece and Portugal who have borrowed far too much and are now on the brink of bankruptcy. Therefore in order for the government to avoid events like this it should reduce borrowing and only borrowing if it’s the last resort.
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