In this paper I’m going to analyze the efficiency and sustainability of the US fiscal policy from the Keynesian perspective. Also I’m going to elaborate on the impact of fiscal policy on GDP and the overall state of economy.
First of all, let me remind you of the most important concept and terms used by Keynesians to explain the basics of fiscal policy. The taxation system and the structure of government spending influence the demand of good and services. Therefore, these two factors have an impact on the level of GDP in the short run. So we come to define Keynesian fiscal policy. Keynesian fiscal policy means reforming the system of taxation and government spending in order to facilitate the level of GDP. According to Keynesian economic doctrine, an increase in spending leads to an increase in output, while increase in taxes has the opposite implication. Now lets apply the Keynesian theory to practical analysis.
The tragic events of 2001 were a great shock for US economy. After the budget surplus of $127 billion in 2000, the country suffered from a deficit of $158 in the following year. The challenge was to restore economy using fiscal policy as an important regulatory tool. In 2002 the decision was to increase spending in social programs, namely the Medicare, income security, unemployment compensation. Still, defense and homeland security were also funded better.
But we should keep in mind that the US general government deficit ranks almost the first in the industrialized world. Public debt levels also remain high. As a consequence, today’s primary focus of the US fiscal policy is cutting taxes and increasing government spending for homeland security and defense. According to Keynesian doctrine, cutting taxes and increasing spending must result in considerable GDP growth. From the most general point of view, we must admit that the US fiscal policy is aimed at reducing budget deficit and stabilizing economy. But such policy has some significant drawbacks. First of all, such policy doesn’t encourage private investment. Secondly, such policy causes additional pressure on the interest rates.
Keynesians suggest that decreasing taxes and increasing spending may boost GDP in the short run. If we look carefully at the long-term consequences of the current US fiscal policy, we’ll see that such fiscal policy may deteriorate further growth in industrial production.
But we should take into account the social and demographical issues that put an additional pressure on the budget. There is an important problem to cope with. The baby-boomers generation is retiring now, and government spending on medical aid and social security should be constantly increased. Also, according to Keynesian theory, increased export will reverse the situation. If the government takes active steps to enhance the export flows GDP will grow and unemployment will be reduced in the short run.
From history we know that expensive government programs in combination with excessive consumer spending may push the demand for goods and services far beyond the limits of economic productivity.
Running surplus to eliminate fiscal instability isn’t the best solution of the abovementioned problems for the ample reason that this step can shift the problem to another branch of economy. Presently the need for efficient and rational reform of the US fiscal policy is evident.
Philippe Burger, Sustainable Fiscal Policy and Economic Stability: Theory and Practice (New Directions in Modern Economics), Edward Elgar Publishing, January 1, 2004, ISBN: 1843766329