Question

Question Set 5: Economic Growth

Explain how each of the following elements from Question Set 1 will affect long-run economic growth in the United States:

American’s low savings rate.

Rising government deficits in the U.S.

Foreign savings flowing into the U.S.

U.S. business firms’ unwillingness to undertake domestic investment.

Answer 1

1. If the US has low savings rates then this will mean that less money goes into investment and so the rate of growth of the economy slows down over time. This will also mean that as people save less the propensity to consume will be more and so there will be greater growth today and less in future periods. Economic growth in the long run falls.

2. Rising government deficits can be due to increased government spending or lower taxes. This will mean that as the government spends more economic growth will increase as the multiplier will be larger. Also lower taxes will mean that disposable income is more and so as people spend more the economic growth will more. But fiscal deficits as a whole is a sign of economic weakness in the long run.

3. As foreign savings flow into the US, then this will mean there is more money supply in the US and so this will raise economic growth at home. There will also be an increase in inflation at home as people spend more.

4. If the domestic firms dont undertake investment then this will mean that economic growth slows down in ths US as more investment is needed to speed up the growth process. As investment falls aggregate demand falls and so this cause a fall in aggregate output in the economy.