“With an objective to reduce inflation, government may reduce public Expenditure.”
Discuss the rationale behind such a step which may be taken by the Government.
Ans. Reducing public expenditure as a measure to combat inflation is often considered for the following reasons:
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Demand-Side Effect: Government expenditure contributes to aggregate demand in the economy. By reducing public expenditure, the government aims to decrease overall demand, thereby reducing the pressure on prices. When aggregate demand decreases, there is less upward pressure on prices, which can help to mitigate inflationary pressures.
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Fiscal Discipline: Lowering public expenditure demonstrates fiscal discipline and commitment to controlling inflation. It sends a signal to markets and investors that the government is taking proactive steps to stabilize the economy and maintain price stability. This can enhance confidence in the government’s ability to manage the economy effectively.
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Crowding-Out Effect: High levels of government spending can crowd out private investment. By reducing public expenditure, the government frees up resources for the private sector, which can stimulate private investment and economic growth. This can lead to increased productivity and supply-side improvements, helping to alleviate inflationary pressures in the long run.
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Macroprudential Policy: Lowering public expenditure can be part of a broader macroprudential policy approach aimed at addressing imbalances and vulnerabilities in the economy. By curbing excessive government spending, the government can promote sustainable economic growth and stability, which are essential for controlling inflation in the medium to long term.
