Economics, Pethokoukis

More on the supposed austerity threat to growth

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After yesterday’s downer GDP report, I sketched out this hypothetical: “What if government spending added 6 percentage points, and the private sector subtracted 2 percentage points? The news headlines would say GDP rose by 4%, but that growth would be illusory and unsustainable.”

We should want economic policy that enables private-sector growth, not props up GDP statistics through government spending. I also pointed out that from 1994 through 1999, GDP growth averaged 4% a year. But government spending added, on average, just 0.3 percentage points to that total. The rest came from private sector growth. So to the extent the fourth-quarter GDP report reflects a shift in composition to the private sector away from the public sector, so much the better

The Daily Beast’s Dan Gross agrees and offers a caveat:

Before our eyes, the economy is continuing to change its shape – it is one increasingly dominated by the private sector and consumers, by private spending and investment, and less dependent on public sector and government spending, especially on things like weapons and wars. That’s a good thing.

The issue, however, is the speed and timing of this shift. We may have negotiated the fiscal cliff and a debt ceiling debacle. But we shouldn’t delude ourselves into thinking that Washington is no longer a threat to the recovery. To a degree, austerity at the federal level is just beginning. The payroll tax and other higher taxes are likely to take a bite out of consumption this year, and in coming years. Defense spending is likely to tick down. Bipartisan pressure for a deficit deal remains high. And the sequestration – a set of indiscriminate, across-the-board cuts – is supposed to go into effect in a matter of weeks.

It seems that Dan assumes public sector austerity is a real drag on private-sector growth. And it probably is, to some extent, over the short term. But rather than continue bad spending and tax policy, why not do smart spending cuts and add in a) entitlement reform, b) pro-growth tax, regulation, and immigration policies, and c) continued monetary easing? I’m less worried that we are cutting too quickly than in our haste we may be cutting the wrong things.

2 thoughts on “More on the supposed austerity threat to growth

  1. Yep, glad the private sector did OK. Glad to see the Feds shrink. But this is like trying to make a bucket of urine into whipping cream.

    This many quarters into a recovery should be producing 4-5% GDP growth. They earned an “F.”

  2. I think everything in our toolkit should be focused on propping up the economy. Ideas like “a) entitlement reform, b) pro-growth tax, regulation, and immigration policies” are good, but in the words of John Adams, As John Adams said, “In my many years I have come to a conclusion that one useless man is a shame, two is a law firm and three or more is a Congress.”

    Blinder has an interesting perspective on this in his new book ‘After the Music Stopped’: modest stimulus upfront, and serious deficit reduction in the future. I’d highly encourage anyone to read it:

    Amazon: http://tinyurl.com/afterthemusicstopped-amazon
    Facebook: http://facebook.com/afterthemusicstopped

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