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Decrease in Government Spending on Savings and Investment

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Please explain the likely effects on Savings (Gross Private Domestic) Investment, Long Term Real Interest Rates, The Capital Stock, Natural RGDP and Natural Per Capita RGDP of a decrease in Government Investment Spending (with no change in tax rates). Please explain this in about two pages double spaced, and include information in terms of I = S prime + (T-G) + (IM-X)
Also show this shift on an equilibrium type graph where the R 0, R 1, and R 2 are on the Y axis and I0, I1,I2 and S0, S1, S2 are on X axis.

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Solution Summary

Change in government expenditure is analyzed in this response. The answer includes two references.

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Please refer to the diagram where the demand for investment is Ir0 and the supply for investment is Sr0. The equilibrium point is E0. When the government reduces investment, the demand for investment decreases, and the demand curve for investment shifts to Ir1. The new equilibrium point is E1. When the equilibrium point was E0 the rate of interest was R0 and S0 was the savings/investment, at the new equilibrium point E1, the rate of interest is R1 and the S1 is the savings/investment level.

If there is a decrease in Government Investment spending with no change in tax rate the demand for investment moves to left. In the diagram the Ir0 moves to a new position Ir1. This movement leads to a new equilibrium at E1. At this equilibrium level both the rate of interest is low and savings investment is lower. The Long term real interest rates are also pushed lower because of the lower rates of interest. On the ...

Solution provided by:
Hatim Baxamusa, MBA
Education
  • BSc , University of Calcutta
  • MBA, Eastern Institute for Integrated Learning in Management
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