4.5.1 Public Expenditure

Question 1

What is capital expenditure?

Answer 1

it grows the capacity of the economy & refers to long term investment
- public sector investment
- hospitals, roads

Question 2

Current expenditure

Answer 2

doesn’t buy capacity & relates to the govt’s day to day expenditure on g/s
- wages & salaries of civil servants
- NHS drugs
- teacher salaries
- paying govt debt

Question 3

What are transfer payments?

Answer 3

Payments made by the state to individuals without there being an exchange of g/s (in the form of payments)
- no production made in return
- child benefit, state pension, JSA

Question 4

Factors in changing size & composition of public expenditure

Answer 4

• changing population/age distribution
• level of GDP
• politics
• redistribution of income/changing income
• changing expectations
• discretionary fiscal policy/financial crisis
• debt interest

Question 5

Factors in changing size & composition of public expenditure (changing population)

Answer 5

• more ppl = more demand for public services (immigration)
• ageing population = increased demand for social/health care = increased pensions

Question 6

How might the level of GDP change the size & composition of public expenditure?

Answer 6

• less transfer payment
• low GDP = higher expectations of public services
• high GDP = more tax revenue

Question 7

How might politics influence a change in size & composition of public expenditure?

Answer 7

• left wings spend more
• developing countries have different priority

Question 8

Factors in changing size & composition of public expenditure (redistribution income)

Answer 8

• demand for state-provided services in income elastic (relative poverty)
• automatic stabilisers- recession increases benefits paid

Question 9

How might changing expectations influence a change in size & composition of public expenditure?

Answer 9

• new tech in services eg health & education = increased expectations

Question 10

How might discretionary fiscal policy/financial crisis influence a change in size & composition of public expenditure?

Answer 10

• spending on Brexit
• financial crisis: spending on fiscal policy, spending on debt interest

Question 11

How might debt interest change the size & composition of public expenditure?

Answer 11

• fiscal deficits, interest payments, increases as debt builds

Question 12

What are some targets of public expenditure?

Answer 12

• Welfare benefits
• Pension spending
• Education and training
• Infrastructure investment
• Higher debt interest payments

Question 13

How might welfare benefits be a target of public expenditure?

Answer 13

• spending to reduce levels of inequality. E.g, benefits to the unemployed enable them to maintain a minimum income and avoid absolute poverty.
• There is a potential higher welfare benefit could reduce incentives to work, but on the other hand, welfare benefits can also help the labour market to function more efficiently.

Question 14

How might pension spending be a target of public expenditure?

Answer 14

An ageing population, requires higher government spending, – pensions and health care spending. But pension spending has no impact on boosting productivity

Question 15

How might education be a target of public expenditure?

Answer 15

If successfully targeted on improving skills & education = govt spending can increase labour productivity = higher long-term economic growth.

Question 16

How might infrastructure investment be a target of public expenditure?

Answer 16

Higher spending on roads and railways = remove supply bottlenecks = greater efficiency = boost long-term economic growth.
- e.g HS2

Question 17

Why might higher debt interest payment be a target of public expenditure?

Answer 17

If the government has higher debt and higher bond yields = increased costs of borrowing.
- This spending will go to investors and have no benefit for the economy.

Question 18

What is the impact of high public expenditure as a proportion of GDP?

Answer 18

• low productivity
• crowding out
• increase in national debt
• AD
• living standards
• levels of taxation
• equality

Question 19

How might the impact of high public expenditure as a proportion of GDP be low productivity?

Answer 19

Low productivity & low rate of economic growth
- since the state sector is not motivated by the profit motive & so there may be little incentive to increase efficiency
- e.g Danish income tax 45%
- evaluation: can be used to free education and healthcare

Question 20

How might the impact of high public expenditure as a proportion of GDP be crowding out?

Answer 20

• resource crowding out occurs when the economy is operating at full employment & the expansion of the public sector means there’s a shortage of resources in private sector
• Financial crowding out

Question 21

What is financial crowding out?

Answer 21

occurs when the expansion of the state is financed by increased govt borrowing. This causes an increased demand for loanable funds which drives up interest rates & crowds out private sector investment

Question 22

How might high public expenditure as a proportion of GDP increase in national debt?

Answer 22

• Budget deficit (over successive years) would increase the size of the national debt. This increases interest payments on national debt in the future meaning less public expenditure is a available for spending on public services e.g schools & hospitals

Question 23

How might high public expenditure as a proportion of GDP increase in national debt? evaluation

Answer 23

but increased public expenditure on infrastructure on health/education can promote economic growth

Question 24

What is some evaluation of higher government spending?

Answer 24

• how is spending financed
• crowding out
• inefficiency of govt spending
• depends on state of economy

Question 25

Evaluation of higher government spending (depends how spending is financed)

Answer 25

if govt spending is financed by higher taxes, then tax rises may counter-balance the higher spending, and there will be no increase in AD

Question 26

Evaluation of higher government spending (crowding out)

Answer 26

• If the economy is close to full capacity, higher govt spending can lead to crowding out
• this is when he govt spend more, but it has effect of reducing private sector spending
• e.g if govt borrow from private sector, the private sector has lower savings for private investment

Question 27

Evaluation of higher government spending (inefficiency of govt spending)

Answer 27

• Some free-market economists argue govt spending has a significant potential to be more inefficient than the private sector spending.
• In the government sector, there’s poor information & lack of incentives = misallocation of resources.
• So bigger govt sector = less efficient economy as gov’t spending takes place of private-sector spending.

Question 28

Evaluation of higher government spending (depends on the state on the economy)

Answer 28

• If the economy is close to full capacity (Y1), then higher government spending = inflationary pressures and little increase in real GDP.
• If the economy is in recession (Y3), and the government borrows from the private sector, it can act as an expansionary fiscal policy to boost economic growth. We will see a significant fall in real GDP

https://www.economicshelp.org/wp-content/uploads/2015/08/fall-in-ad-depending-spare-capacity-full.png

Question 29

Higher government spending evaluation (depends on the state on the economy) example

Answer 29

For example, when European countries cut spending post-2011, this caused a serious slowdown in the economy, because other components of AD were also weak.

Question 30

What is the impact of cutting government spending?

Answer 30

• ceteris paribus, a cut in govt spending = significant neg impact on aggregate demand
• fall in AD = lower economic growth and lower inflation
• Graph: Keynesian LRAS curve, AD curve moves to the left

Question 31

What is the impact of cutting government spending? (evaluation)

Answer 31

However, if other components, such as consumer spending were rising – then a cut in government spending may just reduce the growth of AD.

Question 32

What is the microeconomic impact of cutting govt spending?

Answer 32

• productive capacity
• impact of equality

Question 33

Microeconomic impact of cutting govt spending (productive capacity)

Answer 33

• govt spending such as roads, transport, infrastructure have important effects on long run productivity of the economy
• if we cut these areas of spending, then productivity decreases = long run AS will increase at a slower rate

Question 34

Evaluation of productive capacity as a microeconomic impact of cutting govt spending

Answer 34

however, capital spending is easier to make spending cuts since in the short run, ppl don’t notice the cuts. If you reduce pensions people notice straight away.
- If you reduce capital investment, it will affect people 10 or 20 years in the future.

Question 35

How might equality be a microeconomic impact of cutting govt spending?

Answer 35

Cutting spending on Social Security (£251bn 2014) will have the least impact on economic productivity
- cutting spending on welfare benefits = increase incentive for those on benefits to join the labour force = increase labour productivity

Question 36

Microeconomic impact of cutting govt spending (impact on equality) evaluation

Answer 36

However, cutting spending on welfare = increase level of inequality and relative poverty
- In the UK, welfare benefits have grown at a slower rate than real wages in the past few decades = increased levels of inequality
- if we cut Education spending = long term neg impact of labour capital