Long Term Effects

Future Living Standards

• Reduced because of:

1. Slowed accumulation of wealth due to lowered national saving
2. Decrease in labor productivity due to a reduction in domestic investment

National Saving

National Saving = Private Saving + Government Saving

If all other parts of national saving remain unchanged, as the federal deficit rises, national savings will fall as a result of resources being shifted into public and private consumption.

Reasons for shifts from saving to consumption:

1. reductions in taxes → increase private consumption
2. increases in government spending for federal entitlement programs → increase private consumption
3. increases in government purchases → increase government consumption

Note: This switch from saving to consumption occurs regardless of whether the increased deficit is the result of increased current federal spending or tax reductions. The decrease in national saving results from the deficits' tendency to raise the fraction of income that is consumed.

Private Saving

The degree to which private saving changes in response to changes depends upon both the current policy changes as well as peoples' perceptions about future policy actions.