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Is Everyone Just Imagining the Government Spending Explosion?

Charles Blahous | October 21, 2010

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The New York Times’s Paul Krugman published an interesting column last week entitled, “Hey, Small Spender.” The “small spender” in Dr. Krugman’s description is – sans deliberate irony – the federal government. In his piece, Dr. Krugman once again argued that an acceleration of federal spending was called for to reduce unemployment and to accelerate economic growth. This is by itself unremarkable, for he has over the past couple of years argued that the federal government should spend more, and run still larger deficits, than it is currently doing.

What was remarkable about this latest piece was instead Dr. Krugman’s depiction of where we already are, in particular his repeated assertions that no spending expansion has yet taken place. As example, his column stated, “The whole story (of expanded government) is a myth. There never was a big expansion of government spending.” (Emphasis added). Later in the same column, “Where’s all that spending we keep hearing about? It never happened.” Krugman repeats this “never happened” verdict two more times later in his column. For good measure, he also writes of a “widespread perception that government spending has surged, when it hasn’t.” He attributes this alleged misperception in part to a “disinformation campaign from the right, based on the usual combination of fact-free assertions and cooked numbers.”

Before delving into the particulars of Dr. Krugman’s policy arguments, let’s eliminate the risk of fact-free assertions and simply examine those pertinent facts with respect to government spending levels. If there is a “disinformation campaign,” the conspiracy has apparently grown quite wide, spreading both to the Congressional Budget Office as well as President Obama’s own Office of Management and Budget (OMB). For earlier this year, OMB reported the following history of federal spending levels:

(Chart)

As the chart above shows, federal spending reached historic levels in 2009 – to be surpassed again in 2010 – a peak in relation to the overall economy not seen since World War II. In 2009, federal spending soared to 24.7% of GDP, a figure not even closely approached since 1946.

Moreover, as the graph above shows equally clearly, these levels of spending were not solely the result of a gradual, inevitable evolution in the size of government, but instead represented a sudden surge of spending in response to the recession. From 2008 to 2009, federal spending increased by 4% of GDP in a single year. The spending increase that Dr. Krugman says “never happened” was in fact the biggest single-year spending increase since 1952.

Lest anyone believe that the rise in government spending as a percentage of GDP was largely a function of a decline in GDP itself, it should be noted that the absolute size of the spending increase over 2008-09 was also of historic magnitude – exceeded since 1952 only by 1975 (a year in which rapid nominal spending growth was partially fueled by high price inflation).

This recent spending surge is the largest reason why the federal deficit has arisen from 3.2% of GDP in 2008 to roughly 10% in each of 2009 and 2010. Once again, it bears recollection that these are the highest levels for federal deficits since (sound familiar?) World War II.

Of what did this sudden spending increase consist? OMB again supplies the data. Altogether, federal spending rose by roughly $535 billion from 2008 to 2009. But at the same time, annual federal interest costs on government bonds dropped by roughly $66 billion. Overall, then, the government engaged in more than $600 billion in additional non-interest spending in 2009 relative to 2008.

To understand where all the new spending occurred, it may be helpful to rely upon the government’s methods for classifying spending. The federal budget is classified each year into different categories by “function and subfunction.” The pie chart below shows which functions had the biggest shares of the $600 billion increase.

(Chart) Most of 2008-09 Spending Increase...

By far the biggest single expenditure increase in 2009 (44% of the total) was in budget function 370, where outlays for the TARP financial stabilization program were categorized. Incredibly, however, the government overall projects to spend even more in 2010 than in 2009, despite the fact that TARP’s transactions have turned around completely during the current year. OMB has actually projected a positive swing of over $300 billion in TARP spending from 2009-2010 – from a $292 billion net outlay in 2009 to a $25 billion net savings in 2010. This $300-plus billion fiscal improvement will be swamped, and then some, by still more spending increases currently in process.

Behind TARP, the spending category most responsible for the 2008-09 increase was “income security” (which includes unemployment compensation and other forms of relief), followed by Social Security, whose expenditures were swelled by a large 2009 COLA as well as a recession-induced uptick in disability and early retirement benefit claims.

Dr. Krugman acknowledges these spending increases in the middle of his column: “To be fair,” he writes, “spending on safety-net programs, mainly unemployment insurance and Medicaid, has risen — because, in case you haven’t noticed, there has been a surge in the number of Americans without jobs and badly in need of help. And there were also substantial outlays to rescue troubled financial institutions, although it appears that the government will get most of its money back.” Despite this acknowledgment, however, much of his column is still devoted to arguing that this historic expansion of federal spending never occurred.

Some of the government’s deficit-spending in 2009-10 occurred somewhat automatically due to cyclical effects, while some of it was a consequence of deliberate interventions. The recession itself depressed federal revenue collections and increased federal benefit claims, each of which adds to federal deficits. The depression of federal revenues will fix itself once the economy recovers. By 2013, under OMB projections, federal revenues will actually be higher than the historic average as a percentage of GDP.

Even without further legislation, therefore, government fiscal practices would have been counter-cyclical. Legislation such as TARP and the “Recovery Act” has only added further to the base of government-provided fiscal stimulus that would otherwise have occurred.

It is important to distinguish between the wisdom and the fact of these counter-cyclical relief and financial stabilization expenditures. Even if we agree that they were appropriate, this doesn’t mean that they never happened. All reasonable participants in the national discussion should acknowledge that the federal spending increase is the largest in recent history.

Dr. Krugman stakes his claim to the non-existence of the spending binge primarily on redefining what constitutes relevant federal spending. He writes, “when people denounce big government, they usually have in mind the creation of big bureaucracies and major new programs. And that just hasn’t taken place.” He then goes on to cite the decline in the federal workforce as evidence for his general claim.

This is, to put it charitably, an innovative argument, considering the demonstrated and widely evident public unease with the current overcommitment of federal resources. It seems absurd to represent that the Tea Party movement would never have materialized if only these ignorant demonstrators had appreciated that TARP and the auto bailout were being administered by previously-existing government departments. But those who rightly worry about untenable federal spending commitments are similarly not basing their concern on the number of federal employees required to administer them, but on the fiscal commitments themselves. A willingness to spend money within the existing federal bureaucracy does not a “small spender” make.

It is important to observe these facts, because they pertain to the ongoing debate over the best future direction for federal policy. Some advocates, like Dr. Krugman, call for additional stimulus spending. Fine; that’s a point to be debated. But we need to remember that the government is already engaging in historically unprecedented fiscal stimulus, to the tune of deficits equal to 10% of GDP, most of this fueled by increased spending.

No one can state with certainty when exactly this level of deficit spending begins to produce diminishing or negative returns; that is, when the cumulative effect of fiscal overextension begins to undermine even near-term stimulative effect. It is reasonable to debate whether, given the current state of the economy and the grim long-term budget picture, the government should be running deficits equal to 6%, 8%, 10% or 12% of GDP, or some other figure.

But we cannot reasonably have even that discussion if we are not together willing to even acknowledge the current facts in evidence. We cannot sensibly diagnose whether there should be additional federal spending if we aren’t willing to acknowledge the unprecedented level of spending already taking place.

Charles Blahous serves as one of the two public trustees for the Social Security and Medicare programs. He is also the author of Social Security: The Unfinished Work.


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