What are the effects of public expenditure on economic development.

Explain the effects of Public Expenditure on ability to work and saring.

What is Public Expenditure ? Explain its effects on production and distribution?

Discuss the effect of Public Expenditure on economic activities of a country.

Ans.

Effects of Public Expenditure on Economic Development

Public expenditure has a great bearing on economic development and social welfare of a country. Following observations may be noted in this regard:

(1) Effects on Production: According to Dr. Dalton, “public expenditure tends to affect the level of production in the following manner-

(1) Capacity to Work and Save : As a result of public expenditure, capacity to work and save tends to rise. Government expenditure provides various kinds of social and economic facilities stimulating the capacity to work of the people. Increased capacity implies increased efficiency and greater employment. Level of income and saving tends to rise facilitating greater investment and adding to the pace of growth. “Just as taxation reduces an individual’s capacity to work, in the same way public expenditure increases the individual’s capacity to work.” says Prof. Dalton.

(ii) Desire to Work and Save: Expenditure incurred by the government promotes the will to work and save. As a result, their income and standard. of living tend to rise.

(iii) Productive Utilization of Resources: Public expenditure restores a balance in the economy by focusing on those areas of production which generate maximum linkages effect. Public expenditure acts as a pump-priming. attracting idle resources to their productive utilization. Accordingly, production level tends to raise the resources from unproductive activities to productive ones. This results in increase in production.

(2) Effects on Distribution: Public expenditure affects distribution in the following possible ways-

(1) Regional Equality : This is how public expenditure can promote equality across different regions of a country – (a) The government expenditure should focus on development of backward areas, increasing the level of production and income of the people of those areas. Their standard of living will increase to catch up with the living standards in developed regions of the country, (b) Public expenditure should include financial help to the smallscale and cottage industries. These industries have the merit of easy diversifications across different parts of the country. Accordingly regional inequality is expected to improve.

(ii) Inter-personal Equality: Public expenditure can promote inter personal equality by way of progressive taxation and subsidies. In progressive taxation, the rate of taxation increases with every increase in the size of income causing greater burden on the rich and lesser on the poor.

(3) Effects on Consumption: Public expenditure affects consumption also. Public expenditure in terms of subsidies reduces prices of the subsidised commodities with a view to stimulate their consumption. Invariably, these are mass consumption goods and essential inputs for human capital formation.

(4) Public Expenditure and Economic Stability: Cyclical changes are an inherent character of a market economy. These changes are called Trade Cycles, and are manifested as the state of recession, depression, recovery and boom. The states of recession and depression are particularly dangerous for restricting the pace of growth. Inflation is equally bad when it tends to be galloping or hyper. Note the following observations to understand how public expenditure facilitates economic stability –

(a) Public Expenditure and Depression: During depression, the prices of commodities tend to fall. Accordingly there is a fall in production and employment. Unemployment increases. Both the producers and the consumers become pessimistic. Producers reduce output because of the lack of demand. Consumers, hoping for a further fall in prices, suspend their existing consumption needs. Accordingly, reduction in demand is compounded. As a consequence, the vicious circle of reduced demand, reduced production, and reduced employment sets in. Here comes the significance of public expenditure. According to Keynes, in the state of depression, the government should plan for a comprehensive increase in public expenditure. It can be of two types-

(i) Compensatory Expenditure : It includes those spending which the government makes on public works so as to increase employment and aggregate demand. Prof. Taylor says, “Compensatory spending thus implies substitution of public spending for the inadequacy of private spending in order to promote a desired level of income.” Such spending generate multiplier effect on income. Income rises in consonance with increased employment, acting as an anti-dote to the situation of depression.

(ii) Pump Priming Expenditure : During the depression period, investment is low. If investment is made in public sector, it will prompt private investment as well. Public expenditure thus, made is called pump priming. Initial expenditure by the government particularly on infrastructural facilities, tends to be conducive for an all round growth of private investment.

Taylor categorises public expenditure during depression as (a) Home Relief, (b) Unemployment Compensation Plans, and (c) Work Projects. Home relief is provided to the poor so as to increase their consumption, without getting their services. This is a kind of transfer payment expected to raise consumption expenditure. Unemployment Compensation Fund is set up with the help of the employers, employees and the government. Help is provided to the workers during the period of unemployment out of this fund. Work projects include public works like construction of roads, bridges and dams, etc. Expenditure on such projects will generate income to combat deflation through increased demand.

(b) Public Expenditure and Inflation : Public expenditure can be used as a policy instrument to curb inflation. It should focus on the following areas –

(i) Increase in Production : Pubic expenditure should be utilized for increasing production. Increase in production during inflation implies increased flow of goods and services in the economy. In the backdrop of rising prices, increased flow or goods and services will help strike a balance between demand and supply.

(ii) Reduction in Consumption: In a state of price rise, the government should reduce its consumption expenditure. This will reduce the pressure of demand on the goods and services. Accordingly prices are expected to fell, or at least their pace of rise will be arrested.

(5) Effects on Employment: Following observations highlight how public expenditure affects employment –

(i) Public Expenditure and Employment in Developed Countries: According to Keynes, lack of employment in the developed countries is due to the lack of effective demand. During the period of depression or unemployment, private investment remains dormant, and it is essential to increase public investment. The expenditure incurred on the public works, such as, the construction of roads, canals, hospitals, school, parks, etc., encourages private investment as well, by way of generating employment, income and effective demand.

(ii) Public Expenditure and Employment in Less Developed Countries : The problem of employment in less developed countries is different from that in the developed countries. In the developed countries, it is cyclical in nature. But in the less developed countries, it is embedded in the structure of the system based on the chronic scarcity of productive capacity or capital. More obnoxious than the open unemployment is the problem of disguised unemployment in these countries. This type of unemployment is found mostly in the agricultural sector. This implies that more than required number of people are engaged in the agricultural sector. In order to remove this kind of unemployment, it is essential to stimulate capital formation, particularly outside agriculture so that the surplus labour could be gainfully employed. This involves huge investment in diverse areas of economic activity and, owing to the limited expected revenue, private investors may not find it as a lucrative proposition. Only the state is expected to undertake such projects.

Thus, while in developed countries public expenditure facilitates employment by way of generating demand, in less developed countries public expenditure facilitates employment by way of increasing overall production capacity in the economy.

(6) Public Expenditure and the Pace of Economic Development : In less developed countries like India, public expenditure focuses on the pace of development. It involves direct participation of the government as an entrepreneur. Particularly area of strategic importance and the areas of low profit margins are adopted by the state which otherwise would have remained as dormant areas of production. Recent trends of privatization notwithstanding, the direct participation of the government in the process of growth and development in India is a factor of underlined significance.