Answer to Question #241301 in Macroeconomics for mnb

Question

Government expenditure has increased dramatically over the last two decades from an average of 24.1% of GDP for the period 1960-1969 to an average of 39.8% of GDP for the period 2008-2017. Discuss the unbalanced productivity growth theory to explain the growth of government expenditure.

Answer 1

Baumol concept of unbalanced growth divides the economy into two sectors: the more productive sector and the less productive sector. The private sector is believed to be more productive, while public is the less productive sector. When more resources shift to the public sector, the overall productivity growth decreases. This is because there will be is an increase in wages in the private sector, and as diffusion of wages occurs, they also increase in the public sectors. A shift of resources towards the less productive sector and increasing wages put pressure on government expenditure and may lead to a fiscal crisis. The government expenditure as a percentage of GDP may increase drastically. This can explain the above-given increase in government expenditure from 24.1 % in 1960-69 to 39.8% during 2008-2017.