Over the past few days, a number of economists and other financial professionals have argued that the recent economic data confirms that sequestration is hurting the economy. Is what they are saying real, or is it just political Krugman-esque gibberish?
More than likely, the answer is: it’s all agenda-driven gibberish, rather than unbiased economic analysis. In sum: the recent economic data do not indicate that sequestration, or more aptly put federal savings (cost reductions), is hurting the economy by some large magnitude. Rather, recent data suggest that sequestration may be putting a very, very small downward pressure on economic growth (if at all) in the very short term. And it’s more likely that the recent tax increases are responsible for any stalling growth than it is federal spending. That’s it.
Additionally, the upward boost from reduced deficits and reduced costs of the federal government likely outweigh, by a large amount, any very short-term effects.
This article addresses only one component of the government spending advocates argument by looking at the GDP figures in detail.
Here are the Commerce Department’s GDP figures from last week.
Sequestration and GDP
The GDP figures show positive overall GDP growth in all five quarters shown above, ranging from a low of 0.4 percent in Q4 2012 to 3.1 percent in Q3 2012. The recent 2.5 percent estimate is on the upper end of the growth distribution.
What government spending advocates would have elected officials and the public in general believe is that the only negative component of GDP – government spending (red) – would have boosted overall GDP growth (orange).
The thinking is simple. Because GDP is simply consumption plus private investment + government + net exports, if government expenditures are negative, then GDP growth, by definition, is being dragged down.
Anyone thinking about the issue in this way would likely say “well duh.” It doesn’t take a Ph.D. in economics to understand that type of addition. The issue is much more complex than that, though.
The first issue anti-sequestration advocates must answer is: if government spending is causing such a drastic decline in business conditions, then why is the most recent figure generally in line with where the economy should be right now? We’re three years into a balance sheet recovery and GDP growth is about 0.8 percent above the average for the past ten years. One can likely guess the reasons or excuses that will be given. The simple answer is, though, they’re all excuses for the observed evidence.
The second issue individuals against federal cost savings must answer is: if government spending is causing such a drastic effect on economic activity, then why isn’t it affecting private consumption and investment? Below is what is meant by this: basically, if government spending is such a great thing, then there should be a positive correlation between GDP growth and private consumption and investment. Take a look at the following two graphs, which generally show a downward trend in private activity when government activity increases.
Now, spending advocates generally have a counter arguments related to the business cycle associated with government spending versus private spending or the lack of a strong statistically significant relationship. The recent evidence in the recovery years, though, simply points towards how goofy it is to believe such ideas.
Overall, federal cost savings (sequestration) are a good thing for the economy; the evidence generally confirms this, both in the here and now and, of course, in the long term view where our children start to matter.