The Effects of Budgetary Changes
Expert reviewed • 22 November 2024 • 8 minute read
Budgetary changes, as part of fiscal policy, have far-reaching effects on the economy. They influence how resources are allocated, how income is distributed among different segments of society, and the overall level of economic activity.
What are the Effects on Resource Use?
Government budgets significantly affect how resources are allocated in an economy. Changes in budgetary allocations can prioritise certain sectors over others, influencing the overall direction of economic development.
- Infrastructure Spending: Increased government spending on infrastructure projects, such as roads, bridges, and public transportation, can enhance resource use efficiency. For example, the Australian government's 2023-24 budget allocated $120 billion for transport infrastructure projects over 10 years. This directs resources towards construction, engineering, and related industries.
- Education and Training: Allocating more funds to education and vocational training can enhance the skill levels of the workforce, leading to better utilisation of human resources. Australia's budget for 2023-2024, which includes significant investments in education, aims to equip the workforce with skills needed for the future economy.
- Healthcare: Increased healthcare spending can improve public health, reducing absenteeism and increasing productivity. For instance, the federal budget allocated $135 billion to Medicare over the last four years. This indirectly supports lower-income households by reducing out-of-pocket healthcare costs.
What are the Effects on Income Distribution?
Budgetary policies can also have profound effects on income distribution. By adjusting tax policies and social welfare programmes, governments can address income inequality and promote a more equitable distribution of wealth.
- Progressive Taxation: Implementing a progressive tax system, where higher income earners pay a larger percentage of their income in taxes, can help reduce income inequality. However, the 2023-24 Australian budget maintained the previously legislated Stage 3 tax cuts, which will flatten the tax system from July 2024. This is projected to benefit higher-income earners more, potentially increasing income inequality.
- Social Welfare Programmes: Expanding social welfare programmes, such as unemployment benefits, food assistance, and housing subsidies, can provide a safety net for the most vulnerable populations. For example, the 2023-24 budget included a $14.6 billion cost-of-living package, which increased welfare payments. This directly boosts the income of lower-income households.
- Universal Basic Income (UBI): Some countries are experimenting with UBI, where all citizens receive a regular, unconditional sum of money. While still controversial, proponents argue that UBI can reduce income inequality and provide economic security.
These effects on income distribution, especially Australia's social welfare programmes, have significantly helped reduce income inequality in the economy. This is evident in Australia's steady Gini Coefficient decline, indicating the country's movement towards increased income equality.
What are the Effects on Economic Activity?
Budgetary changes can stimulate or slow down economic activity depending on the nature of the adjustments.
Changes in Aggregate Demand
Changes in government spending and taxation directly affect components of aggregate demand:
- Government Spending (G): Increased government spending directly boosts aggregate demand. For instance, the $120 billion infrastructure investment over 10 years is expected to stimulate economic activity in construction and related sectors.
- Consumption (C): Tax cuts or increased transfers can boost disposable income, potentially increasing consumption. The $14.6 billion cost-of-living package in the 2023-24 budget aims to support household spending.
- Investment (I): Business tax incentives can encourage private investment. The extension of the instant asset write-off for small businesses is expected to boost business investment.
Changes in Aggregate Supply
Some budgetary measures can also affect aggregate supply:
- Productivity Enhancements: The 2023-24 budget's $392 million Industry Growth Program aims to boost productivity, potentially shifting the long-run aggregate supply curve outward.
- Labour Force Participation: Childcare subsidies and changes to paid parental leave in recent budgets aim to increase workforce participation, particularly for women, potentially increasing aggregate supply.