The Effects of Fiscal Policy on Private Business Investment

DUE DATE: Sunday, April 6 by 9:00 PM on the NetTutor website:

http://www.nettutor.com/worth/econ/wsu

In January, 2012, the McKinsey Global Institute published "Debt and deleveraging: Uneven

progress on the path to growth." In the executive summary, the following observations were made

about the state of investment spending in the United States (and the U.K.):

"Today, annual private investment in the United States and the United Kingdom is equal to roughly

12 percent of GDP, approximately 5 percentage points below pre-crisis peaks. Both business

investment and residential real estate investment declined sharply during the credit crisis and the

ensuing recession.”

The authors identify six ‘markers’ of successful recovery from a financial crisis. One of those

markers is a credible plan for balancing the government’s budget in the long-run. In their words, we

need “long-term fiscal sustainability.” Why is long-term fiscal sustainability important for today’s

economic growth? In particular, how would a failure to present a credible plan for balancing the

government’s budget in the long run affect private business investment? Explain fully, using the

model of loanable funds you studied in Chapter 10. In your answer, address the following points:

Explain how economic growth occurs

o Explain how business investment contributes to that growth in two ways.

(See the powerpoint from Week 7 Tuesday Economic Growth and Week 8

Thursday Writing Assignment 3)

Explain how interest rates influence the incentive to invest. Make it clear that you

understand the logic – why does an increase in the market interest rate reduce the

incentive to invest? This paragraph should comprise the bulk of your paper. (See

Chapter 10 in your text and 10C and 10D in your course pack.)

Explain how large government budget deficits year after year will have an impact on

the equilibrium interest rate using the Loanable Funds model presented in Chapter

10.

Summarize in a concluding paragraph – why did the McKinsey Global Institute

conclude that long-term fiscal sustainability is important for economic growth? Be

sure to define the term ‘fiscal sustainability’ in your answer. (See the Week 8

Thursday Writing Assignment 3 powerpoint).

Grading Rubric Your essay will be assessed as either ‘Meets expectations’ or ‘Needs improvement.’ If your

essay needs improvement, you will be given feedback from NetTutor to help you revise it.

You can then re-submit the essay to NetTutor for another try – but you only get one second

chance. You’ll need to accumulate three acceptable writing assignments to fulfill the writing

portion of the course requirements. The table below shows the criteria your essay will be

judged against.

Criterion Needs Improvement Meets Expectations

Writing

The writing is difficult to follow and/or poorly organized. Transition sentences are absent or ineffective. Typos and/or grammatical errors distract the reader.

Ideas are well-organized. Transition sentences effectively connect one idea to the next. The essay is free of typos and grammatical errors.

Application of economic analysis

The determinants of economic growth are not discussed, or are incorrectly identified.

The determinants of economic growth are correctly identified.

The role of business investment in fostering economic growth is incomplete or incorrect.

The role of business investment in fostering economic growth is accurately and thoroughly explained.

The effect of interest rates on investment is misunderstood or omitted.

The student demonstrates a firm understanding of the effect of interest rates on investment.

The impact of government budget deficits on interest rates is incompletely or incorrectly determined.

The impact of government budget deficits on interest rates is completely and correctly determined.

Conclusion

The concluding paragraph does not present a well-organized summary of the argument.

The concluding paragraph accurately summarizes the argument.

The term ‘fiscal sustainability’ is not defined, or is defined incorrectly.

The term ‘fiscal sustainability’ is correctly defined.