Fiscal ‘stimulus’: A loanable funds critique

Abstract

This paper proposes an extended loanable-funds framework for examining the effects of fiscal stimulus on the budget balance, international borrowing, real interest rates, private saving, private investment and national income. It challenges the prevailing view that fiscal policy can be used effectively as an income 'stimulus' instrument, and proposes that discretionary fiscal measures that increase the budget deficit entail macroeconomic costs for significant external borrower economies, such as Australia, New Zealand and the United States.