Chapter in a Nutshell

The level and composition of government spending will always be topics for debate. Decisions about government spending are value judgments, as well as economic decisions. Government spending is more than an instrument of fiscal policy. Even if the economy was always at full employment without inflation, there would still be a role for government. After all, we do need city streets, interstate highways, schools, environmental protection, and national defense. These goods are not typically provided by markets, at least not in sufficient quantities. Economists call them public goods because they are basically nonexclusive and nonrival. Nonexclusive means that no one can be excluded from consuming the good, and nonrival means that any person's consumption of that good does not diminish the good for others. By contrast, milk is not a public good because the owner can exclude others from consuming it, and when one consumes it, it is not available for someone else to drink.

Aside from its stabilization and public-goods-provider roles, the government also legislates and administers transfer payments. Transfer payments are payments by government to particular groups in society. These are usually in the form of government services, price subsidies, or cash payments. In 1996, approximately 45 percent of federal spending was on transfer payments, and only 27 percent was for provision of public goods. By contrast, 78 percent of state and local government spending was for the purchase of public goods.

The chapter describes federal, state, and local spending item by item. Security is an important spending item. Most federal spending on security is for national defense. State and local spending is split among police, corrections, and fire protection. Federal spending on security has been falling as a percentage of total federal spending over the last quarter century.

There has always been strong support for public schools. Public education is one of Thomas Jefferson's cherished legacies. Over the period 1980 - 96, the annual rate of increase in real government spending on education at all levels was 2.8 percent, slightly above the 2.6 percent rate of increase in real GDP.

Transportation, natural resources, energy, and space are all areas receiving government support. These areas exhibit the characteristics of public goods, though to varying degrees. In each area, competing groups press for different levels of spending. Though the debate over the appropriate level of spending in these areas is fierce, each has its own history and reasons for existence.

Spending programs for agriculture and public assistance are more people-specific than spending on defense, education, or transportation. Agriculture receives public money because it is felt that farm incomes might suffer significantly otherwise, jeopardizing the health of regional economies. Public assistance shows up as spending on Medicaid, Temporary Assistance for Needy Families, Supplemental Security Income, and food stamps. Public assistance spending by the federal government totaled $95.5 billion in 1996, while state and local governments added another $74.6 billion.

Since the 1930s, government has taken on the job of providing social insurance. The best known of these insurance programs is Social Security. Social Security is a compulsory program that transfers income across income and age groups. Low-wage earners tend to receive more benefits relative to their contributions than do high-wage earners. Younger workers paying Social Security taxes subsidize people in retirement who receive benefits. Unemployment insurance is another type of government social insurance program. Medicare provides health insurance for the elderly. Between 1980 and 1996, social insurance payments rose as a percentage of GDP from 8.3 percent to 9.8 percent. Still, Social Security transfer payments in the United States are somewhat below average for the group of industrialized countries.

Interest payments on the government debt grew significantly during the 1980s. In 1996, the public debt reached $5.3 trillion, and $277.1 billion was spent on interest payments.

Government spending has increased from about 28.3 percent of GDP in 1970 to 34.5 percent of GDP in 1996. Among the major industrialized countries, the United States allocates a smaller share of GDP to government than any other country except Japan. As a share of GDP, federal, state, and local purchases of goods and services (excluding transfer payments) amounted to about 15.5 percent in 1996. To the extent that government spending moves resources away from the provision of private goods to the provision of public goods, resource allocation is affected. Over time, a rising share of our resources have been devoted to the provision of public goods.

After studying this chapter, you should be able to:
· Present a public goods argument to justify government spending.
· Give examples of transfer payments.
· Describe the relative size of different components of government spending.
· List the areas of public assistance provided by the government.
· Discuss how Social Security operates in the United States.
· Contrast the level of Social Security payments in the United States with levels in other countries.
· Rank levels of government spending as percentages of GDP for major industrialized countries.
· Explain the impact of government spending on the allocation of resources.

On the Net

• The National Endowment for the Arts (http://arts.endow.gov/), the National Institutes of Health (http://www.nih.gov/), National Public Radio (http://www.npr.org/), and the Public Broadcasting Service (http://www.pbs.org/) all produce merit goods.

• Social Security contributions and benefits (http://www.ssa.gov/) are examples of government transfer payments.

• Government helps provide for national security through the National Guard (http://www.ngb.dtic.mil/).

• The Sierra Club (http://www.sierraclub.org/) promotes greater public spending on our natural resources.

• The Social Security Administration (http://www.ssa.gov./) provides information on recent federal public assistance legislation (http://www.ssa.gov/legislation/legis_intro.html). For one perspective on the Personal Responsibility and Work Opportunity Reconciliation Act, review "How Congress Reformed the Welfare System" (http://www.heritage.org/heritage/congress/chapt5.html) by Robert Rector.

• The Health Care Financing Administration, a federal agency within the Department of Health and Human Services, provides information on Medicare and Medicaid (http://www.hcfa.gov/medicaid/medicaid.htm).

• The Bureau of the Public Debt (http://www.publicdebt.treas.gov/), among other services, provides the amount of the federal government's debt, to the penny.

Economic Consultants

The National Education Association (NEA) is an organization with over 2 million members who work at every level of education. JoAnn Weber, a high school teacher and local volunteer for the NEA, often meets with parents and school officials to discuss education funding in the United States. Recently, a group of parents expressed concerns that, first, federal government spending on education was too low, and, second, that recent political efforts to cut federal spending have had an adverse impact on education funding.

JoAnn is unsure how to answer these concerns, and she has asked Economic Consultants to provide her with information. Prepare a report for JoAnn that addresses the following issues:

1. How much does the federal government spend on education?
2. In recent years, has federal spending on education increased or decreased? By how much?
3. Does U.S. education spending, as a percentage of gdp, compare favorably or unfavorably with that of other nations?

• National Education Association (NEA)
(http://www.nea.org/)
The NEA provides information about its programs and activities.

• Organisation for Economic Co-Operation and Development (OECD)
(http://www.oecd.org/els/)
The Education, Employment, Labor and Social Affairs Department of the OECD provides international data and information on education spending.

• National Center for Education Statistics (NCES)
(http://nces.ed.gov/)
The NCES is the primary federal entity for collecting and analyzing data related to education in the United States and other nations.

• Education Indicators: An International Perspective
(http://nces.ed.gov/pubs/eiip/index.html)
Education Indicators: An International Perspective, an nces report, provides comparative data and analysis on education spending by the United States and other nations.

• U.S. Department of Education
(http://www.ed.gov/)
The U.S. Department of Education provides information on its offices and programs, education initiatives, and reports and publications.

Added Perspective: More on the Net

• A number of organizations, including the Electronic Policy Network (http://www.epn.org/tcf/welfintr.html), the Urban Institute (http://www.urban.org/welfare/overview.htm), and the Welfare Information Network (http://www.welfareinfo.org/), provide news and commentary on welfare reform.

• For different perspectives on Social Security reform, review the Cato Institute Project on Social Security Privatization (http://www.socialsecurity.org/) and the National Committee to Preserve Social Security and Medicare (http://www.ncpssm.org/menu.html).

Interactive Quiz

Test your understanding of the chapter's concepts with the interactive quiz. The quiz contains twenty multiple-choice questions, like those found on a typical exam. Questions include detailed feedback for each answer, so that you may know instantly why you have answered correctly or incorrectly. In addition, you may email yourself and/or your instructor the results of the quiz, with a listing of correct and incorrect answers. Finally, check your results versus other students around the world -- previous scores to quizzes are displayed online.

How to Take the Quiz
Start the quiz, type in your name (required), your email address (optional), and the email address of your instructor (optional). Answer the questions (as many or as few as you like, but you need to answer at least one question). Then hit the submit button and see your results. At the results page, click on the link in the "description" column to see feedback on your answers. Scroll down the page to see quiz results from students around the world.

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