Evaluate the likely economic effects of an increase in government expenditure on infrastructure

Since government spending is a component of Aggregate Demand (AD), this expansionary fiscal policy will cause AD to rise. This will be exaggerated by the multiplier effect, whereby an injection into the circular flow of income results in a greater than proportional rise in national income, since money will be re-spent through the economy. For example, to increase spending on infrastructure, the government must pay a builder. The builder can then spend these wages on buying more goods. This therefore also increases consumption, which is another component of AD, so AD increases further. The effect of this can be seen on an AD-AS diagram, whereby if AD rises, GDP rises, and depending on the capacity of the economy shown by the position of the AS curve, the price level could also rise if AS is small enough, in this Keynesian model. Therefore, this increase in government expenditure will likely cause economic growth, but also when the national economy lacks capacity, a rise in inflation.
However, in evaluation, one must consider the adverse effects of an increase in government spending. A rise in government expenditure will likely be funded by the government borrowing from banks. However, this means private banks have less capital to lend to private individuals and firms, meaning they cannot consume as much. Hereby, the rise in government spending is balanced out by a fall in private consumption, meaning AD does not rise, due to the crowding out effect. Furthermore, an increase in government borrowing increases their debt, and this will decrease private confidence in that national economy as there is a greater chance that government will default on its loans. Hence there will be less Foreign Direct Investment (FDI) into that country due to the increased risk of investments, and as investment is another component of AD, AD will decrease further, and as a result, GDP will fall. This was seen in Greece, whereby an excessive debt caused by high government spending saw a loss of confidence and GDP decreased.