Government Budget And Austerity Measures Essay Samples

Overview

Government refers to a financial document that the government uses to estimate the expected revenue from taxes and other investments as well as the expected expenses that the government would incur during the year. The document serves the basis for the government to match the government’s investment plans as well assist in developing policies that would safeguard the country’s economy from unforeseen events. There are three categories of a state budget that include a surplus, balanced or a deficit budget. Due to the unexpected nature of the economy, the government may be prompted to replenish estimated budget through borrowing from external or private entities or issuance of bonds to the public.

The effect of the government’s budget on the economy.

In most cases, government’s financial expenses may exceed the revenue estimates prompting the government to seek alternative sourcing to replenish the deficit. For instance, during the recession the Greece government faced a drastic deficit in its budget following the impact of the global recession between the year 2007 and 2009. As an austerity measure, the government resulted in massive borrowing from external entities that culminated in an increased ratio of debt level to the level of Gross Domestic Product (GDP).

Increased interest rate

When a government faces a budget deficit, it could result to sell bonds to the public under high-interest rates thus spilling the effect on other securities interests trading in the market. Economically, issuance of bonds by the government at high-interest rates increases the demand for securities in the market. The government may issue bonds to the central government at a predetermined rate of return payable on maturity. The economic effect culminates in the increase in the securities of other interest rates. The increased interest rate for bonds would attract more rational investors whose aspiration is to capture on the projected rate of return on the bonds. Investors would resort to seeking funds from the financial institutions that in turn raise the lending rate to gain from the rise in demand.
The high lending rate set by the financial institutions reduces the rate of investment since investors are unable to borrow at the prevailing market rate. The slow growth in investment lowers the government revenue and eventually causes a decline in the Gross Domestic product. (GDP)

The rise in taxes and reduction in government allocation for spending.

One of the measures that a government undertakes to stabilize the budget deficiency is the fiscal policy through the central bank. A fiscal policy is an economic instrument applied by the government by adjusting taxes and regulating government expenditure. The essence of the fiscal policy is to regulate the consumer’s purchasing power as a cautionary approach towards maintaining stable macroeconomic objectives. Taxation is the major source of government revenue that the government raises to increase revenue and match the annual expenses. Increased taxation on consumer products and capital gains reduces the consumer’s real income and eventually lowers the level of purchasing power. Due to tax imposition on the citizens, the rate of investment decreases and eventually lowers the rate of employment creation.
On the other hand, governments readjust the expenditure allocation to a lower level as a cautionary approach to seal the deficit. Reduced government expenditure decrease the flow of money in the economy, a situation that causes the citizens to lower their spending power. For instance, the Greek government had to downsize the money allocated to various projects in the ensuing period following the global recession crisis. In most cases, the government withdraws expenditure funds for long-term economic projects that have no immediate impact on the current operations of the economy.

Increased Government Borrowing

The government may resort to borrowing from financial institutions and private entities at an agreed interest rate for an agreed period. Eligible citizens are also eligible to lend the government money and benefit from a stipulated rate of return on the principal amount. If the money borrowed exceeds the value of the gross domestic product, the economy suffers from investor’s withdrawal in speculation of the economy’s financial crunch. Most of the borrowed amount is to the high interstate that further expands the economy’s debt ratio to an alarming level. As a result, foreign donors would be reluctant to inject funds into the economy expressing fear that the high debt ratio would be unsustainable in the future. For instance, the high rate of borrowing by the government resulted in investor’s withdrawal of investment projects and eventually hurting the economy. When a firm relocates its investment projects, the host governments lose on corporation tax as well as increased rate of unemployment in the economy.

The effect of the state of the economy on the government’s budget

A major state of the economy that affects the government budget is the recession period. During the recession, the economic production lowers the rate of inflation increases due to rise in the cost of products. A recession is an unexpected occurrence that adversely affects the general economy of a country and eventually spills the effect to other countries. During the 2007-2009 global recessions, Greek economy suffered grossly resulting in the government approach to borrow from external and internal lenders.
One of the major effects of recession to the budget is increased borrowing. During the recession, inflation is usually at its peak, an indication that the consumer’s real income is low due to increased price of products. The government resorts to expand its expenditure budget to channel part of the resources through offering incentives to the industrial sector. The essence of providing incentives is to lower the price of goods and eventually raise the citizens ‘purchasing power.
Another impact on the budget is increased deficit due to a deficit in the balance of payment. During the state of inflation, the foreign currency exchange is adversely affected due to inflation and, therefore, the affected economy suffers from depreciated currency those results in a balance of payment deficit. The deficit adversely affects the budget since the expected revenue would reduce the expenditure. In that case, the government could result in more borrowing to replenish the deficit gap.
Moreover, recession leads to increase increased spending by the government on the firms that have suffered a financial crisis. The high investment funds create a deficit on the government’s budget and prompts borrowing to cater for the extra amount of invested funds. Further, the overall reduction in the Gross domestic product in the economy deters the government from attaining the expected revenue target that eventually causes a deficit in the country’s budget.

The reasons why austerity measures usually result in disappointing improvement in the government’s budget.

While fiscal austerity measure is viewed as an appropriate tool to stabilize the economy, the policy could be ineffective if used alone. Extensive measure by the government to increase spending as an approach to counter economic recession could result in reduced Gross Domestic Product of a country. When a country borrows a huge amount of funds to revive the economy through investment, the debt creates anxiety among investors who derail in injecting their resource in the economy.
The policy is effective in the short-term period but unsustainable in the long-term since continued borrowing of funds causes an accumulation of interest expense that further reduces the government’s budget. In another perspective, raising taxes could be unsustainable in the long-term as the strategy inhibits the rate of investment in the economy. Imposition of tax on goods and services as well income tax on individuals and firms reduces their level of consumption hence causing a marginal decline in investments and spending behavior. Consequently, the government could fail to attain the projected revenue in the coming years.
In summary fiscal policies can only be effective with the supplementation of monetary policy tool with a common objective to attain stable macroeconomic objectives.