Deficit spending is a situation where the expenditures of the government are higher than its revenues which it collects in a particular fiscal period. The situation causes or even worsens the debt balance of the government. In many cases, the government deficits are financed by trading in public securities, more specifically, in government bonds. Economists in the Keynesian Tradition have the notion that government deficits are useful in stimulating the fiscal policy. Deficit spending develops trade deficits and fiscal deficits. Fiscal deficits usually happen when the spending by the government is more than its revenues. The government often borrows funds through the process of issuing Treasury securities or other instruments that would fund the deficit. The trade deficit is seen when the imports of a company are more than the exports. The crowding-effect indicates that an increase in spending in the public sector would reduce or even eliminate spending in the private sector. It is a common phenomenon that is seen in most countries especially during trade deficits. Deficit spending has its advantages and disadvantages;
Advantages
The first advantage of deficit spending is that it results in the growth of the economy. Considering the fact that the government has the funds which it needs, it is able to afford to spend money on infrastructure. It can also manage to create new employment for the people. With the increase in the rate of development in the country, more investors get attracted and thus provide an opportunity for more jobs and increasing the level of revenues. As the money enters into the economy, the general growth in the economy also increases. Deficit spending is especially beneficial during the recession period because it often encourages job creation, an increase in private investment ventures, and improvement in businesses, which eventually results in the improvement in the economy.
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The next advantage of deficit spending is the fact that it forces the government to increase its level of control on the amount of spending. Deficit spending usually results in budget deficits and thus makes government bodies to think twice before engaging in unnecessary and expensive investments. In addition, governments are often required to pay back the loans used to fund investments at higher interest rates. Therefore, they would be more careful at the time when they are developing budgets and making investments to avoid paying high amounts. They also tend to make wise decisions when they are prioritizing spending and projects.
Finally, deficit spending has the advantage of providing protection to countries. For example, if a country is in recessions and is facing emergencies, the government can use deficit spending for funds.
Disadvantages
Deficit spending has its disadvantages such as resulting in a bad economy. Countries often do not have savings during the periods of the deficit as they need to concentrate on paying interests and the debt. It means that during emergencies then the country would not have funds and may be forced to borrow from other financial institution or nations. The other negative effect is the government’s tendency to increase the taxes, hike the commodity prices, and decrease the level of public services that can result in lower living standards and inflation.
The next disadvantage is a decrease in investment levels. In cases where the governments are not in a position to manage their loan in an effective manner then the debt would increase drastically leading them dipper into the recession. The result would be less money that would be available for infrastructure and the situation would also discourage investors from engaging in any business in the country.
The next risk is on the national sovereignty depending on the terms of the loan that a country takes during the period of recession. Countries are often required to meet specific demands before the loan is approved and some governments may be forced to sell assets and part of its land to pay its debt. The government may also be forced to raise the level of taxes to pay the loan. However, rising prices above what is considered to be usually can lead to another problem of inflation.
It is worth noting that even though the borrowings by the governments results in investments in infrastructure, the facts still remains that these debts are made at higher rates. Even though money flows into the country, the debt still remains there is no increase in the actual investment. the debt continues to increase.
Crowding-out Effect
The crowding-effect indicates that an increase in spending in the public sector would reduce or even eliminate spending in the private sector. It is a case where an increase in the level of interest rates results in a decrease in the amount of public spending investment. The aim of the increase in the interest rate by the government is usually as a result in the increase in spending that is aims at boosting the economic activity. Government borrowings have a positive and negative effect on the economy. The borrowings have the positive effect of increasing the level of spending on infrastructure which increased the level of development in a country. An improvement in the level of the economy is bound to attract investors in the economy who further help in improving it and increasing job opportunities. However, the negative effect that comes with such spending is that there will be an increase in the amount of taxes aimed that helping to pay the debt. In addition, the next effect of government borrowing on the economy is inflation in cases where the government is forced to increase the price of commodities.
Conclusion
From the analysis it is evident that deficit spending is where the expenditures of the government are higher than its revenues which it collects in a particular fiscal period. The situation causes or even worsens the debt balance of the government. On the other hand, economists in the Keynesian Tradition have the notion that government deficits are useful in stimulating the fiscal policy. Despite the arguments that support and those which are against deficit spending, it is evident that the financial method is still of use in many countries. My personal view is that the advantages of using deficit spending are less that the challenges that come with using it. It is especially not good in cases where the current debt of a country are high. In such cases, a revision needs to be made on the budget before any more investment is made. Countries that do not have high debt can benefit from debt spending in terms of meeting the economic issues which are short-term in nature. It means that deficit spending can only help in dealing with short-term issues but can also hinder economic prosperity in the long-term. For example, even though these deficit spendings often create opportunities and jobs in the short-term, they on the other hand lead to an increase in the interest rates and taxes. The factors can result in an increase in the number of reluctant borrowers in the economy which can then lead to the vicious cycle of using the quick fix method of deficit spending.
Bibliography
Baumol, W. J., & Blinder, A. S. (2008). Macroeconomics: Principles and policy . Mason, OH: South-Western Cengage Learning.
Dwivedi, D. N. (2005). Macroeconomics: Theory and policy . New Delhi: Tata McGraw-Hill.
Heim, J. J. (2017). Crowding out fiscal stimulus: Testing the effectiveness of US government stimulus : Cham: Springer.
Tucker, I. B. (2011). Macroeconomics for today Mason, OH: South-Western Cengage Learning.
