Conventional wisdom has held that the absence of growth in federal spending from 2009 through early last year was a significant drag on growth, since it reflected "austerity." Supply-siders see things differently: zero growth in spending meant a shrinkage in the burden of government on the private sector, and this was a stimulus to growth. A shrinking public sector allfowed the private sector to manage more of the economy's scarce resources more productively than the government could, and this served to strengthen the economy. This shrinking-government "tailwind" to growth is now beginning to fade, albeit very gradually. But if left unchecked, growth in entitlement spending could become a huge problem in the years to come.
Flat growth in spending coupled with strong growth in revenues resulted in a huge reduction in the federal budget deficit. If the deficit were to never grow beyond its current level, we wouldn't have a problem. A deficit of 2-3% of GDP is eminently sustainable, and is arguably even necessary in order to ensure the continued liquidity and efficiency of the Treasury debt market—which serves as the backbone for the world's bond and stock markets.
Strong growth in federal revenues was driven primarily by individual income tax receipts, which in turn were driven by the growth in jobs, as the chart above shows. In short, economic growth is the main source of revenues for the government.
The chart above shows federal transfer payments as a % of disposable income. This is now by far the largest component of federal spending, comprising 71% of federal outlays. Transfer payments have mushroomed from 32% of federal spending in 1968 to more than twice that today, and from 5% of disposable income in 1951 to almost 20% today. They will continue to rise as baby boomers retire and healthcare subsidies increase, not to mention the myriad other entitlement programs which always seem to exceed expectations (e.g., student loans, food stamps, disability insurance, medicare).