Deficit Spending, Expectations, and Fiscal Policy Effectiveness

This paper develops a formal theoretical model within which it investigates mathematically the policy implications of adverse business expectations involving deficit financing. It is found that hostility towards deficit financing will always diminish the effectiveness of fiscal policy and render the ultimate impact of fiscal policy indeterminate. Potentially, a fiscal policy aimed at expansion may lead to a perverse final effect: a decline in economic activity. The model constructed allows deficit financing to influence the money supply.