DP496 On Budgetary Policies and Economic Growth

Author(s): George Alogoskoufis, Frederick van der Ploeg
Publication Date: December 1990
Keyword(s): Budgetary Policy, Burden of Debt, Consumption, Endogenous Growth
JEL(s): 020, 111, 320
Programme Areas: International Macroeconomics
Link to this Page: cepr.org/active/publications/discussion_papers/dp.php?dpno=496

This paper investigates the implications of budgetary policies for consumption and economic growth. We present a model that combines the Arrow-Romer endogenous growth model with the Blanchard-Yaari overlapping-generations model. We show that a rise in government debt, financed by lump-sum taxes, increases the share of private consumption to national income and reduces the long-run growth rate. We also show that a rise in government consumption financed by lump-sum taxes reduces both the share of private consumption in national income and the long-run growth rate. These results do not follow in infinite-horizon, representative-household models of endogenous growth. In such models the substitution of debt for tax finance does not affect consumption and the growth rate, and a balanced budget increase in government consumption crowds out private consumption one-for-one, without any effects on the growth rate. The paper examines the dynamic adjustment of consumption, growth and government debt to a temporary tax cut, and briefly discusses the empirical implications of the results.