Thursday, June 11, 2015

The incredible shrinking budget deficit

I've been posting regularly on this subject for at least the past 5 years, and although it seems old hat, the continued improvement in federal finances caught my eye even while distracted by the pleasures of touring Northern Italy. Here are some updated charts with brief commentary:

The best news of all is that federal government spending has experienced very little or no growth for the past six years (see red line in the chart above)! This has allowed the magnitude of government influence on the economy (mostly via transfer payments (aka income redistribution), which account for almost three fourths of federal expenditures) to shrink from over 24% of GDP to now just over 20%. As Milton Friedman taught us, government spending is equivalent to taxation, regardless of how it is financed. And when the amount of income that gets redistributed by the government shrinks by some 20% in just six years, that is significant. This is already giving the private sector a lot more breathing room, at the same time as it has reduced the expected future burden of taxation. This is the kind of stuff that can juice the private sector's animal spirits.

Thanks to zero growth in spending opposite relatively strong growth in revenues, the federal budget deficit is now approaching 2% by my calculations (see chart above). Six years ago we were staring at budget deficits that would equal or exceed 10% of GDP for the foreseeable future. As usual, it turned out to be difficult to foresee what has actually happened. This dramatic improvement—even though the economy has struggled to grow—is a big reason the equity market has been able to advance as it has. This is also something I've been blogging about since late 2008: markets have rallied because the future has turned out to be much less dire than expected.

Just think what might happen going forward if our government managed to do just a few things right. Like slashing corporate tax rates—which, as the chart below shows, are a very small part of total revenues but currently pose a huge barrier to investment (think of the billions in foreign profits that U.S. corporations refuse to repatriate—living proof that the tax code is distorting the economy). Or reforming entitlement programs—like privatizing social security and raising the retirement age. Or cutting capital gains rates, which, at 30% or so, penalize savings and investment. I'm an optimist because there are so many things that are wrong with our economy today that could be fixed easily and quickly.

We've made significant progress in these past years by gradually starving the government beast, but much more needs to be done. Government simply can't spend $3.6 trillion a year as efficiently as the private sector could. Trying to spend $300 billion a month leads to too much waste, corruption, and inefficiency. To paraphrase one of Obama's advisors, the federal government is simply too vast to be run efficiently.


Matthew Grech said...

I'm astounded that all those who claim to be for the "little guy" haven't focused on reducing the payroll tax, especially when they claim to be all about job creation. In a related note, it's becoming more apparent that roughly 10% of the theoretical workforce is unemployable in any meaningful sense. Wage increases are finally happening, the unemployment rate is vastly improved, and we're hearing more about pockets of worker shortages. But amid all of that we still have near peak levels of those who have left the workforce (not due to retirement).

The deficit story is a terrific story that has gone underreported. I think this is because neither party likes it. The sequester, which held spending down, was brilliant but was never intended to be this "successful." Wait for it, Scott: At some point, probably in the very near future, we'll see some sort of agreement between the parties to ramp up spending, a la Reagan/O'Neill. Both parties will get what they want - higher spending on their chosen goodies - while the American taxpayer gets stuck with the bill. I hate to be cynical but Congress' reputation precedes it.

Benjamin Cole said...

Matthew G---Amen, cut FICA taxes!
Why tax those who employ and work?
Lost tax revenues can be recouped through QE.
I would also like to cut national security outlays by $300 billion annually and totally eliminate the corporate income tax or totally eliminate any taxes on dividends.

Hans said...

Look at the top chart to the year 2010. So spending has moderated, but
other the past two decades it simply EXPLODED..I take no joy that the
spending has flat lined.

If you CPI a dollar in 1990 by 2010, according to government units,
you would need $1.67 to maintain ones purchasing power.

Then examine the spending by the government unit during the same
time period and you can see why economic growth is stagnate and will
continue to under perform previous years.

I am sorry to say, but the spending lust by WDC has not been curtailed.

Good luck with reduced spending; reduced taxes; reduced regulations; what
will be reduced will be the average citizen input in running this nation.

There will be no reforms because WDC is deformed..And to add to our collective
problems, we have Fedomics..