It's Not What The Feds Spend, But What They Spend It On

These days, deficit spending is a dirty word, but it wasn't too long ago that it had a distinct appeal to the economic fraternity. According to Keynesian theory, such spending can act as an elixir to a moribund economy, often causing a quicker and more potent rebound in business activity than falling interest rates. The concept of fiscal stimulus is embodied in all traditional macroeconomic models, which tend to focus on the size of the deficit, not the specific ways the government spends its funds.

In a recent study published in Contemporary Policy Issues, however, economist David Alan Aschauer of Bates College examines the relationship between the forms that government spending takes and the potency and durability of its stimulative impact. Specifically, he looks at the effects that three components of government spending--consumption, military investment, and nonmilitary investment--have on current and future levels of national output.

Aschauer's findings are enlightening. Based on data from 1949 through 1985, he calculates that expenditures for government consumption (its operating budget) and for military investment had relatively little effect on output. But nonmilitary investment in such infrastructure as highways, sewers, dams, and ports had a potent effect: Each $1 increase in such investment induced a $4 rise in the level of national output within four to five years.

The results of the study complement Aschauer's earlier work, which found that rising public infrastructure investment stimulates private investment by lowering the cost of business and thus boosting its rate of return. They also suggest that the traditional practice of initiating public works projects during recessions makes good economic sense. Without such investment projects, Aschauer found, increased government spending had only a minor and transitory impact on growth.

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