LACK OF GOVERNMENT SPENDING LEADS TO WEAK RECOVERY

The current economic recovery from the Great Recession of 2008 has been the weakest recovery since World War II. The average annual growth of our economy since the recession officially ended in June 2009 has been only 2.1%. [1] The other ten recoveries since 1949 have had annual growth rates of 2.8% to 7.6%, with an average of 4.65%. [2]

It’s not a coincidence that every other economic recovery since WWII was supported by increased government spending (federal, state, and local combined), except the one in 1970 – 1973. The current recovery (2009 – 2016) has seen government spending actually decline by 6.1%. It and the one in the 1970s both experienced declines in government spending of about 1% annually. The 1949 – 1953 recovery saw government spending increase at an annual rate of 17.9%, while the other eight recoveries averaged a little over 2%.

In contrast to the 6.1% decline (-0.9% annually) in government spending during the current recovery, government spending during the 2001 – 2007 recovery under President George W. Bush grew by 11.7% (1.9% annually) and during the 1982 – 1990 recovery under President Reagan it grew by 33.5% (3.8% annually).

A recession is defined as a period of time when economic output (i.e., Gross Domestic Product [GDP]), incomes, employment, industrial production, and sales decline. This occurs when the demand for goods and services in our markets – the spending of households, businesses, and governments – is not sufficient to purchase everything the economy is capable of producing.

The remedy for a recession is to boost marketplace demand. There are three ways to do this:

  • Reduce interest rates to spur borrowing and resultant spending,
  • Increase government spending, and
  • Cut taxes to spur spending by consumers, which increases demand for goods and services. (Consumer spending represents two-thirds of our economy.)

At the start of the Great Recession, interest rates were already very low so there was not much interest rate reduction that could be done. Currently, the basic interest rates of the Federal Reserve, the key ones to cut to stimulate the economy, are virtually zero.

Some cutting of taxes was done, but it was small scale because of concerns about increasing the federal deficit or creating unmanageable losses of revenue at the state level. Tax cuts for middle and low income Americans are the most effective stimulus for the economy because this group will quickly spend the increased money that’s in their pockets in the local economy. Tax cuts for wealthy individuals and corporations, which were favored by some politicians, are less effective because larger portions of this money will be saved or spent outside the local economy (e.g., overseas), so they are not as effective in stimulating the local economy.

As noted above, government spending decreased during the current recovery and therefore reduced economic growth. Spending in the economy, including government spending, has what’s referred to as a “multiplier effect” on growth. That’s because each dollar spent supports additional spending by the individual or business that received it (a cycle that is repeated endlessly), meaning that its impact is multiplied. Similarly, cuts in spending have a multiplier effect in reducing growth, reducing economic activity by more than a dollar for each dollar of reduced spending.

One reflection of reduced government spending is that the number of government employees today is roughly 400,000 fewer than it was at the beginning of the recovery in June 2009, after bottoming out in late 2013 at 800,000 less than in 2009. Each person without a job adds to unemployment and reduces consumer demand for goods and services. Prior to President Obama’s term, the total number of government employees had grown under every president since Eisenhower. [3] This loss of jobs has been primarily at the state and local levels, where government revenue was hard hit by the recession, has been slow to recover, and has not been augmented by increased funding from the federal government. Government spending per resident in the U.S. is 3.5% lower today than it was in 2009. [4]

This austerity (i.e., reductions in government spending) are widely viewed as the primary reason the current economic recovery has been so weak and so slow. Government spending cuts have occurred largely because Republican lawmakers at the federal and state levels have insisted on them. [5] If it weren’t for these cuts, economic growth would be stronger and our economy would have lower unemployment and under-employment. [6] To confirm the harm that austerity policies cause, one can look to Europe and especially Greece, where austerity policies even more extreme than the ones in the U.S. have resulted in continuing high unemployment and fiscal crises.

Government spending, even if it increases the federal government’s budget deficit in the short-term, will stimulate economic growth. This growth will lead to increased government revenue that will reduce the deficit.

In particular, spending that represents investments in our physical and human capital has a high rate of return and pays for itself over the long-term. [7] Investments in infrastructure (e.g., roads, bridges, trains, public transportation systems, and school buildings) and education (from birth through higher education) create jobs, support our current and future economies, and address real needs while also stimulating the economy. Especially with the extremely low interest rates at which the federal government can currently borrow money, it is a lost opportunity to fail to make important and needed investments in our future.

[1]       Morath, E., & Sparshott, J., 7/29/16, “U.S. GDP grew at a disappointing 1.2% in second quarter,” The Wall Street Journal (http://www.wsj.com/articles/u-s-economy-grew-at-a-disappointing-1-2-in-2nd-quarter-1469795649)

[2]       Scott, R.E., 8/2/16, “Worst recovery in postwar era largely explained by cuts in government spending,” Economic Policy Institute, Working Economics Blog (http://www.epi.org/blog/worst-recovery-in-post-war-era-largely-explained-by-cuts-in-government-spending/)

[3]       Walsh, B., 8/5/16, “Here’s an Obama-era legacy no one wants to talk about,” The Huffington Post (http://www.huffingtonpost.com/entry/obama-austerity-legacy-jobs_us_57a499ece4b03ba68012032b?)

[4]       Bivens, J., 8/11/16, “Why is recovery taking so long – and who’s to blame?” Economic Policy Institute (http://www.epi.org/files/pdf/110211.pdf)

[5]       Bivens, J., 8/11/16, see above

[6]       Scott, R.E., 8/2/16, see above

[7]       Scott, R.E., 8/2/16, see above

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