ECON102 Principles of Macroeconomics

Write about the Economic Effect for Federally Funded Infrastructure Programme.

Infrastructure investment is investing money for the improvement of national infrastructure such as road, railways, other transport, telecommunication, electricity and water supply. These investments have no direct output and help the overall production process in an economy. Infrastructure is a public good and hence financed by government or through private public partnership. Infrastructure development is regarded as national assets, which smoothens the progress of different sectors of the economy. The essay highlights long run effect of investment and its effect on different aspects of an economy such as unemployment, inflation and interest rate.

Cash flows are generated in long run preceded by an initial investment in infrastructure. Effect of investment depends on the degree of productive slack of the economy. Infrastructure investment has always some risks as perfect forecast of future cash flows is not possible due to uncertainty in the economic, political and business scenario. As discussed by the World Bank Group, infrastructure influences productivity of the private investment and enhances competitiveness of the economy. Improved transportation system can make supply chain more efficient by reducing supply cost and delivery time. Increment in profitability expands the sector to generate more employment opportunity. As productivity of different sector increases, gross domestic product, per capita income increases to improve standard of living of the citizen of America. In short term, government needs huge amount of funds to finance infrastructure. As there is no change in the tax rate or other source of revenue, government chooses deficit spending. Deficit spending increases national debt in short term. Increasing deficit financing sometimes increases fiscal deficit to create future tax burden upon citizens. However, economist Joseph Stiglitz argued that if investment is in right track, deficit spending could stimulate economic growth. In the long run, increasing tax revenue after expansion of the economy would reduce long term debts of the government. Every long-term investment must possess some risks in the form of failing to recover cost of investment. Therefore, viability of every investment project needs to be checked through before making decision.

Interest rate is the cost of investment. There is an inverse relationship between the investment and interest rate. When interest rate regulated by federal bank is low, scope of private investment increases in the economy due to low cost of investment. Government demands for loanable fund to finance investment, when planned investment exceeds planned budget. Government demand for fund is interest inelastic unlike other private investment. Supply of funds in the financial market comes from public and private saving. When demand for investment is increases, interest rate increases as investment demand exceeds savings. The below yield curve has upward trend indicating economic expansion with higher return in future. Higher interest rate signifies higher yield from investment in future. Therefore, economy need not bother with higher interest rate.  

Federally funded infrastructure is likely to have positive impact on the unemployment in both long and short term. Demand for labour increases to complete large infrastructure projects. Moreover, if infrastructure development acts in favour of expansion of different sectors, demand for labour increases in total in the economy. Therefore, incidence of unemployment in US economy is likely to decrease. Current level of unemployment rate may remain same or may be reduced as a long-term effect. Inflation in the economy may rise as a long-term effect of infrastructure financing. If economy expands as a whole, there will be increase in aggregate demand for goods in the economy. Hence, consumer price index may move upward direction creating inflationary situation in the economy. However, if increase in demand is supported by increase in aggregate supply in  the economy, inflationary gap can be reduced.

Federal government needs to consider some risks of investment before making investment in infrastructure. As deficit financing creates burden on future generation, government needs to be strategic about the amount of deficit financing. Government may look for alternative revenue generating options such as increasing tax base that only affects the present generation. Another concern is feasibility study of the project. Extensive cost benefit analysis using tools like payback period, net present value or other suitable methods, environmental impact assessment can be used to check the viability of the project. Private-public partner can reduce burden of financing on federal government. Political, financial, currency, construction and operation risks may reduce attractiveness of the project. Therefore, government requires considering guarantees, risk insurance and innovative financing process to increase viability of the infrastructure project.

In my view, federally funded infrastructure project can be supported learning it benefits for the growth of the economy. US economy has been suffering in terms of slower growth rate, decreasing consumer spending, current account deficits. Infrastructure investment is a way to recover this situation. Investment may not have significant short-term effect, however its long-term effects exceeds cost. Federally Funded infrastructure projects can be used for balanced growth in the US economy such as bringing intersectoral link among agricultural, manufacturing and service sector. As the infrastructure project would raise interest rate, hawkish monetary policy needs to be taken. Hawkish policy creates opportunities for employment. However, rise in interest rate may decrease the scope private investment, rise inflation in the economy. Hawkish monetary policy is more suitable with the objective of the government of reducing unemployment rate. As per Phillips curve theory, there is s short run trade off between unemployment rate and inflation rate, the economy has to accept the hike in inflation in order to keep unemployment low.

In short, creation of job opportunity, expansion of different sector is likely to enhance standard of living of US citizen. Infrastructure development increases scope of entering foreign investment to boost the economy further. However, major concern is financing infrastructure. As deficit financing creates long term burden on the future generation, Federal Government may opt for other innovation financing solution to promote federally funded infrastructure projects in the US economy.