Question

Increases in fiscal expenditures or reduction in taxes could have negative impacts on the economy’s recovery.

please expand on the comment above, why do increases have negative impacts?

Answer 1

When there is an increase in the government spending on goods and services or there is a reduction in the tax rate, it is generally expected to increase the real income. With higher disposable income consumers are likely to purchase more imports. Therefore net exports could fall. Also, if the reduction in the budget surplus or the newly created budget deficit is financed through borrowing, it will raise the rate of interest in the market, which will crowd out private investment to an extent. In this manner reduction in the net exports and private investment are two negative impacts expansionary fiscal policy.