Reference no: EM133714298

Economic Analysis of Financing Options for Infrastructure Spending Proposals

Authors: Huaqun Li, Garrett Watson

References

Huaqun Li, G. W. (2020, June 23). Economic Analysis of Financing Options for Infrastructure Spending Proposals. Retrieved from Tax Foundation

Summary

The article debates the need for additional government spending on infrastructure such as transportation, airports, and buildings as the economy is still recovering from the coronavirus's negative impacts. The article describes 3 different financial strategies to cover the additional spending on infrastructure and assumes an economic and revenue estimate of $1 trillion in additional infrastructure spending to help boost the US economy.

Government borrowing

When it comes to the government borrowing the money, the GDP would increase by 0.20% which is driven by the increase in government spending and extra maintenance spending. By using this financing strategy, the article estimates that wages would rise by .16% and full-time jobs would increase by 34,000. However, the annual deficit would also increase by $253 billion on a conventional basis which includes both extra spending and interest expense. The added GDP growth would reduce the static deficit to $240 billion on a dynamic basis. Government infrastructure boosts GDP, but the deficit permanently increases too.

Increase corporate tax rate to 28%

If the corporate tax rate increases to 28% from the current 21%, the economy would shrink by .04% as of 2025 even with the $1 trillion injected. A higher corporate income tax causes a negative effect on economic growth by raising the costs of growth-producing investments. Even when the 28% increase would only lead to a small GDP decrease, the tax increase does not fully cover the costs of the infrastructure spending in the first 5 years. Policymakers could use the additional revenue raised in the second half of the window to cover the spending; however, this financing strategy would also mean a decrease in wages (-.24%), and a reduction in jobs (-46K). Although, this strategy would also reduce the deficit by $124B.

Increase corporate tax rate to 35%

A corporate tax rate of 35% would pay for the total cost of $1 trillion in extra infrastructure spending, plus all other related expenditures over five years on a dynamic basis. However, this plan would shrink the GDP by 0.32%, and lose 54,000 full-time equivalent jobs as of 2025. In the longer term, by the end of the 10-year budget window, the economy would be 0.84% smaller and have 136,000 fewer full-time equivalent jobs.

Connection to the class

Module 4 describes how an increase in government spending leads to a greater increase in income. This effect is called "government-purchases multiplier" and explains how much income rises in response to the increase in government spending. The reasoning behind this is that according to the consumption function C=C(Y-T), higher income causes higher consumption. When an increase in government purchases raises income, it also raises consumption, which further raises income, which further raises consumption, and so on. Therefore, in this model, an increase in government purchases causes a greater increase in income. Also, in the Keynesian cross model, Keynes proposed that an economy's income is determined by spending plans including government spending. When an increase in government purchases raises income, it also raises consumption, which further raises income, which further raises consumption. The more the government spends then the more output they will produce and the more workers they will hire. Keynes believed that the problem during recessions and depressions is insufficient spending

Discussion questions

What are some of the pros and cons when it comes to an increase in government spending?
What are the benefits in the short-term and long-term?
Do the benefits of the increase in government spending make up for the negative impacts?