Question

Adam Smith remarked in “The Wealth of Nations’ concerning the balancing of the government budget. “What is prudence in the conduct of every private family can scarce be folly in that of a great kingdom” What problems might there be if the government decided to follow a balanced budget approach to its spending.

Answer 1

Adam Smith also known as "Father of Economics", remarked in "The Wealth of Nations" concerning the balancing of the government budget which means total expenditure of government should not exceed total revenue. When revenues and expenses are equal, its called a balanced budget. When revenue exceed expenses, its a budget surplus and when expenses exceed revenue its called deficit budget. Adam Smith was the believer of free markets where people of a nation should be left free to carry on their economic activities. The production, consumption, rewards, allocation of resources should all be their decision without government intervention. They should be the owner of factors of production. He believed that when people work with self interest, they focus more in growth and productivity and in turn provide best quality goods to satisfy the wants of society. For financial rewards, they strive make most optimum utilization of resources and there is an urge to save and invest more. He also favored division of work and specialization. When people are left to work as per their interest, there is greater employment and economic growth of the nation. Government spending in economy is minimal for production, employment and hence government can focus its spending on building a better place for people to work like investing on defense, infrastructure of nation, education, public welfare, development of economic backward regions through incentives etc.

But there are also problems associated if government follows balanced budget approach to spending. This would mean government spending decreases in the nation and also the money supply. People will have less money to borrow and invest, there would in fall rate of economic activities and economic growth would slow down. This would also cause unemployment. Government provides employment to a lot of people through its public sector projects like building bridges. There would be fall in government subsidies to economically backward regions, greater unequal distribution of wealth would be another drawback. Less capital formation due to less earning and hence less investment. Export would decline if production slows down and consumption remains same. Controlled spending would means less of public welfare leading to unhealthy societal conditions. Human capital would loose its efficiency. Also, this would be major problem during recession as government needs to spend more to make situations better during recession and help its nation. Therefore, though government would be able to show balance on its budget but in the long term the economic stability would be at risk and the quality of nation would deteriorate and hence economic growth. So, there should be proper government spending at required places to make sure its supporting the economic activity and when economic activities are favorable and they flourish, the nation would flourish too with a good budget.