Government Spending and Financially Sustainable Growth

Private and public exogenous expenditures have different impacts on the sectoral balances. The same rate of growth in income has varying implications for the domestic private sector’s financial balance (saving minus investment or, equivalently, disposable income minus private spending) depending on the composition of the demand driving that growth. An increase in private investment pushes the private sector toward deficit. Even though the investment boosts income, saving will not rise as much as investment because of leakage to taxes and imports. In contrast, government spending adds income and saving for a given level of investment. An implication is that growth driven by private expenditure that occurs without compensating growth in government spending pushes the private sector into deficit except to the extent that net exports counter the effect.

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