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Increased Government Spending Can Have a Domino Effect

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Fiscal stimulus

Many economists agree that the United States needs to shift from a reliance on monetary policy to more fiscal stimulus, but it is not clear that the political stars are aligning to do so, even though both candidates favor increased spending. At this point, the most likely election outcome appears to be a continuation of divided government, with polls showing Hilary Clinton ahead, but with a closely divided Senate and a diminished Republican majority in the House. It is not clear that a large fiscal package can emerge from this configuration. This is consistent with history; 2009 aside, the first year of an administration normally does not coincide with a big fiscal push. Since 1905, the median rise in federal spending in the first year of an administration is around 5.5%, almost identical to the other three years.

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Market Realist – Monetary policy versus fiscal stimulus

Monetary policy involves changing the interest rate and influencing the money supply, while fiscal stimulus involves the government changing tax rates and levels of government spending to influence aggregate demand. Even though both measures pursue similar effects—higher economic growth (IWF)(IWO) or controlling inflation—fiscal stimulus has a greater impact over longer periods.

Polls showing the Democratic nominee Hilary Clinton ahead of her Republican opponent Donald Trump may signal a reduced Republican majority in the House. However, a lot can change between now and election day. Both candidates favor increased spending, but while increased spending may mean expansionary efforts by stimulating job growth and a positive economy, it has a domino effect as well.

Market Realist – Increase in national debt

Fast-paced spending can accumulate excess debt as the government issues interest-bearing bonds (HYG)(LQD) to finance spending. This effect can lead to an increase in national debt (BND), which ends up competing with the private sector—for example, healthcare (XLV) and financial (KBE). This repercussion could raise rates indirectly because of increased competition for borrowed funds.

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