Government Budget and Economic Recovery:

An Academic Perspective
Vid Adrison
Head of Economics Department

Disclaimer
The material in this presentation is the author’s personal opinion
and does not necessarily reflect the institutional opinion
Economic Activities: A Micro Perspective
• All of us have 24 hours a day
• Everyone has its own optimal time allocation for work, leisure, and other
activities
• Everyone is on the supply side in the input (labor) market
• We spend the optimal amount of time to produce a given service/product
• We earn income from our job
• Everyone is also on the demand side in output markets
• We spend our earned income on consuming products/services
• Under a normal condition, everyone will specialize in what they can
do the best
• Specialization results in more output (i.e., the economy grows)
The Pandemic Effect: A Micro
Perspective
• In the pandemic situation, our time allocation is NOT optimal
• Activities that require physical presence are reduced
• Increased risk causes the demand to fall
• Increased risk causes the average production cost to rise
• Demand for labor is reduced
• Labor income will fall
• It will affect the demand for other goods/services
The Pandemic Effect: A Macro
Perspective
• Keynesian Equation:
• Y=C+I+G+X–M
• C, I, X, and M will fall
•C : Mostly essential spending. Non essential spending will decrease
•I : High uncertainty will cause investment to fall
•X : Other countries will focus on basic needs (essential spending).
The demand for our export will fall
•M : Demand for import will fall
• G must be counter-cyclical to restore the economy
The Pandemic Effect
(A)S'
• Demand shock (A)S
• Increased risk of activities causes a (A)P
reduction in the demand
• Producers will produce less output
• The demand for labor will fall
• The demand for intermediate input
will fall
• Workers in the affected sectors (A)D
will experience a reduction in
their income (A)D’
• Demand for goods and services will
fall
(A)Y
• Downward Spiral??
The Effectiveness of Government
Spending in Economic Recovery
The Effectiveness of Government
Spending in Economic Recovery
The Effectiveness of Government
Spending in Economic Recovery
• Tax Incentive:
• Only those who remain in the business will utilize
• Capital Spending:
• Shift AS downward
• Increase AD
• However, budget absorption will still be the main challenge
• Subsidy
• Helps the private sectors to survive
• However, if the demand is still low (due to high risk of activities), the
beneficiaries will still have lower output
Theoretical Impact of Tax Incentives
• Theoretically, the tax incentives will shift the marginal cost function (i.e.,
individual supply function) to the Southeast
• However, if the producers still expect a low demand, production will be
less than the normal condition
• The demand for labor will fall
• Those who are unemployed will experience a reduction in their income
• SOME formal sectors, MOST informal sectors
• They need money to consume at least the subsistence level
• In short, only those who remain employed will enjoy the tax incentives
• The same logic is applicable for corporations
Final Remark
• The effectiveness of government spending in recovering the economy
depends on the degree of COVID 19 spread
• Effort to reduce the spread out will help the economy to recover