Free Markets, Free People

Federal spending a higher percentage of GDP than anytime since WWII

The indispensible e21 goes after what it calls “the government sector of the economy canard”.

The setup:

A recurring theme of commentary appearing in the New York Times and elsewhere is that the government is shrinking as a share of the economy. According to Floyd Norris, “the government sector of the American economy has shrunk during the first three years of a presidential administration” for the first time since the 1960s. This dangerous decline in government spending is thought by Norris and others to be responsible for the slow growth since the recovery officially began in July 2009.

The truth:

The most straightforward way to assess the burden of government is by comparing total government outlays to gross domestic product (GDP). By this standard, the federal government is currently larger than at any point in post-War history. Between fiscal years 2009 and 2012, federal outlays averaged 24.4% of GDP, the highest government-to-GDP ratio since 1946 and 22% (4.4 percentage points) larger than the average size of government since the military demobilization following World War II of 20.0%.

The politics of the Norris approach  is to make the canard seem to be reality in an attempt to portray the last three years as a conservative approach to our economic problems by the Obama administration:

Rather than measure actual government spending, which is at record levels, Norris instead focuses on the “government sector of the economy,” which is different conceptually from the actual size of government. Each dollar of government spending does not automatically contribute to GDP. The Bureau of Economic Analysis (BEA) only counts direct government purchases of goods and services or investments in capital equipment or infrastructure in the National Income and Product Accounts (NIPA). When the government buys an airplane from Boeing, for example, it counts the same in the GDP as if the aircraft were purchased by United Airlines. The same accounting generally works for employee salaries, as government purchases of services provided by Commerce Department employees, for example, count as government consumption spending in GDP.


The difference between government spending and the government contribution to GDP is largely attributable to transfer payments, entitlements, and subsidies. In recent years, transfer payments have exploded upwards. As of March 2012, transfer payments were running at a $2.3 trillion annualized rate, or 15.2% of GDP. Over the past four years, transfer payments have grown at a compound annualized rate of 9.1%, or about 3.5-times faster than the economy. Since passage of the Obama Administration stimulus, transfer payments have accounted for more than 18% of household income. As the composition of government spending has shifted away from capital investments and towards transfers, the “government sector” of the economy has fallen even as government spending has reached record highs.

e21 then does a further analysis of the Norris claims and says while it would be easy to dismiss the Norris critique out of hand, it does have some resonance.

Norris’ talk of the decline in the “government sector” provides insight into the changing role of government – specifically as provider of infrastructure to one of enabling transfer payments:

As e21 explained previously, the growth in state and local government has come with no corresponding increase in public goods like infrastructure to show for it.

Not all spending cuts are the same:

Spending cuts for sequestration aimed at defense, for example, will reduce GDP on a dollar-for-dollar basis. Spending cuts on transfer payments and subsidies only reduce GDP to the extent that the dollar would have been spent or not otherwise earned. A dollar devoted to unemployment insurance that lengthens the duration of unemployment, for example, may actually reduce GDP.

Finally, given those explanations, why did the stimulus bomb? 

President Obama’s stimulus was very poorly constructed. In 2009, Republicans criticized the stimulus as a “spending bill.” The President responded that increased government spending was the “whole point” of a stimulus. But based on the analysis of Norris and other commentators, the spending increase was obviously too oriented towards transfers instead of real purchases of goods and services. An effective stimulus based on government spending would have looked like the plan advocated by Martin Feldstein, which would have increased government purchases of military equipment and hardware. While left-leaning economists often lament the size of the President’s stimulus (i.e. wishing that it was even bigger), the composition or relative share of the type of spending was likely a much bigger problem.

It gives further credence to the assertion than economically, Mr. Obama is out of his element.   He and Krugman (and most of the left) talk about the size of the stimulus.  In fact, what it is spent on is more important than the size.

Meanwhile we’re headed into sequestration where precisely what would help the GDP on the government size of the ledger is on the chopping block (military equipment spending, etc.).

Couple that with "taxmageddon” and you can imagine the economic carnage possible in January.


Twitter: @McQandO

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