Government expenditure and economic growth: a post-Keynesian analysis

Abstract

In a post-Keynesian growth model with positive saving propensity out of wages, this paper analyses the implication of different kinds of government expenditures on aggregate demand and economic growth. We distinguish between government expenditure on consumption and investment. The basic idea is that certain kinds of government investment expenditure influences labour productivity. In a formal model, we incorporate this idea by assuming labour productivity as an increasing function of government investment expenditure. When the economy is in a profit-led demand regime, under the balanced budget assumption, we show that a shift in government expenditure from consumption to investment leads to an unambiguous rise in both aggregate demand and economic growth. However, the result is ambiguous in the wage-led demand regime. Once the balanced budget assumption is dropped, while in a wage-led demand regime a rise in government investment expenditure may decrease aggregate demand and growth, it unambiguously raises both aggregate demand and growth in a profit-led demand regime. On the other hand, in the absence of a balanced budget assumption, a rise in government consumption expenditure has a positive effect in both regimes. We also show that allowing the government to run a deficit and incur debt does not necessarily lead to the public debt rising without bounds.