3rd Quarter GDP Growth Due to Government Spending, No Reason to Celebrate

The "unexpectedly" high initial estimate of 2 percent growth in GDP is mostly due to government spending.

As the White House celebrates "the thirteenth straight quarter of positive growth" in GDP (gross domestic product, or the amount of goods and services produced in the country), Reason columnist and Mercatus Center economist Veronique de Rugy charts the numbers to reveal some deeper truth: The "unexpectedly" high initial estimate of 2 percent growth in GDP is mostly due to government spending. Without a bump up in public-sector largess, economic growth would be flat compared with the second quarter. Indeed, total private sector growth lost one-tenth of a percentage point. 

It's a bizarre artifact that GDP figures count government spending, so that if government increases spending by a dollar (whether by raising taxes or taking on more debt or simply printing more money), GDP increases by a dollar. Which is one of the reasons why GDP doesn't necessarily match what most of us would consider the real economy. And it's also why Keynesians always point out that cutting government reduces GDP. That's technically true, after all, even as it tells you very little about whether things are moving in the right direction in a self-sustaining way.

Alan B. Krueger, head of Obama's Council of Economic Advisers, notes that state and level government "purchases were essentially unchanged" but that federal expenditures were up (especially on defense, which jacked 13 percent in the third quarter).

An economy that's dependent on government spending for increases in growth isn't a good thing (you gotta pay for that spending someday, and much of the spending is simply poorly allocated as students of specific stimulus recipients can tell you).

As de Rugy and others (such as Reason's Shikha Dalmia) have shown that public-sector spending crowds out private-sector spending and investment pretty quickly. So it's not just that the government is sucking money out of the economy via taxes or debt to spend in the first place, but that such spending causes private actors to retrench.

That's especially true when it comes to defense spending, which the economist Robert Barro argues has a multiplier of just 0.8—meaning that every dollar of government spending on defense nets just 80 cents in overall GDP growth. You just can't make up that sort of loss on volume, no matter how many dollars you spend. [Note: as reader Rob Coffey notes in the comments section, Barro believes that defense spending has a bigger payoff than other forms of government spending.]

For those who worry that cutting government spending by definition means that the economy will crater, check out economist Arnold Kling's analysis of what happened to the U.S. economy when government spending shrunk by two-thirds between 1945 and 1947. Far from dropping off a cliff, GDP increased by about 10 percent. More recently, countries such as Canada and New Zealand that have cut government spending have also seen the economy grow.

Watch Reason TV's "Obama's New New Deal: As Bad as the Old New Deal":