- Assess the impact of an increase in Government spending on education and health care.
1. Government spending G is a component of AD. Therefore there will be an increase in AD and potentially economic growth.
2. There will be an increase in government borrowing, to fund the increased expenditure.
3. Higher AD may cause inflation.
4. In the long term higher spending on education, and to a lesser extent health care, may cause an increase in labour productivity and therefore AS. Over time AS may increase at a faster rate and lead to an increase in the underlying trend rate of economic growth.
5. Other components of AD. The effect of higher G depends on other components of AD. For example, if consumer spending was low due to lower house price, then AD may not increase at all. If the government increased taxes to pay for the higher spending then AD would not increase.
6. Multiplier Effect. Higher G may lead to a multiplier effect. This means the initial increase in government spending causes a bigger final increase in GDP. E.g. nurses and teachers have more to spend so others benefit.
7. Side Effects. To spend more the government need to borrow. However, this could cause crowding out. This means the government spends more, but because the private sector lend money to the government they have less to spend themselves; therefore AD doesn't actually increase.
8. Efficiency of spending. It depends on how efficient the government spending is. Spending on education may not increase labour productivity
9. State of Economy. The effect of higher spending government spending depends on the state of the economy. For example, if the economy is in recession then an increase in AD will help to increase growth without causing inflation, but if the economy is at full capacity it will cause inflation.
10. Time Lags. The effects of higher government spending will take a long time to have an effect.