Vision Versus Prudence: Government Debt Financing of Investment

Melbourne Institute Working Paper No. 30/13

Date: September 2013

Author(s):

John Freebairn
Max Corden

Abstract

This article explores the arguments for and against the use of government debt to finance large-scale public investments. Relative to the options of higher taxation or lower other expenditures, debt finance means that both the costs and the benefits of the investment fall on future generations. Debt funded public investments can be an important component of a fiscal stimulus policy package, especially when the effectiveness of monetary policy is limited. While the vision arguments presume socially beneficial investment projects are chosen, political choices often involve projects with low benefit cost ratios. More debt involves higher and higher costs, not only interest costs, but also laxer fiscal choices, a weaker basis for macroeconomic policy to counter future economic shocks, and in extreme cases a loss of policy autonomy. An independent and transparent body to undertake benefit cost assessments of investment projects, and with public release and scrutiny, would support a higher level of debt finance.

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  • Government investment, fiscal policy, debt finance