Government spending does not come out of thin air


This week I shall continue my discussion of the threatening size of government spending (as a proportion of GDP) to the medium-term economic outlook and macroeconomic stability.  In response to several readers’ queries, I wish to point out that, the statutory passing of the annual budget, with or without amendments and cuts at the end of April, does not bring to an end the need for debates, discussions and analytic discourses over the Budget.

Instead I would suggest it marks the start of the official implementation in the coming year of the National Budget 2012 recently passed by the National Assembly.  The full implications of what has been passed by the National Assembly will be observed in the course of this year.

This week I shall respond to the obvious query I hinted at last week.  That is, why does big government in Guyana impede growth and signal macroeconomic challenges?  It should be noted that the response given here is specifically based on the existing configuration and special features of both the government sector and the Guyana economy.

In other words this column does not pretend to offer anything significant to the raging international economic debates in regard to the role of government activity and whether or not this impedes or promotes growth and development in market economies.

My personal judgment is that the available empirical evidence on the role of government in promoting or impeding growth (based on several well-known economic studies) remains inconclusive.

What I am certain of though, is that it is safe to conclude from a broader political economy perspective the data support the thesis that good economic governance and effective public management constitute indispensable supports for promoting sustainable growth and development.

In Guyana, neither of these circumstances obtains and, for that reason, I conclude big government impedes growth and development, as expanded on below.

Taxes and spending

First, resources spent by the Guyana government emanate from either taxation or borrowing (including the printing of money).  Because of this, government spending always crowds out private spending (depending on the extent to which there are unutilized resources available only for public use).

This is similar to the argument made to caution against the expectation that government spending always has “stimulative effects.”  For government to inject spending power into the Guyana economy, it must first tax or borrow out of the economy the needed resources.

From this perspective, government spending always redistributes resources from the private sector to the public sector.  Mysterious as the ways of government are, it cannot, however, manufacture spending or purchasing power out of thin air, as it were.  If it could have Guyana would not be so poor.

Further to this observation, from an economic standpoint the resources used by government are justified only if they can be more “efficiently” used than they could have been, if left to the private sector in private markets.

Except for instances of demonstrated market failure, this is not to be expected.  (This topic was covered in columns dealing with last year’s Budget.)

Second, about 80 per cent of government spending in Guyana is financed from taxation.

With spending so large (and the tax base so riddled with defects) the marginal rates of taxes on income are high. From a plethora of economic studies it has been observed that high marginal rates of taxes disincentivise labour (effort), savers, and investors.

The reverse of course also holds true, that is, low marginal rates stimulate productivity.

The lesson from the above is that Guyana government spending will impede growth and development, to the extent that it negatively impacts productivity, and the willingness and availability of persons willing to work.

Spending and

Third, by the same token as above, government borrowing to finance its spending can result in an economic cost.

Unless the money that is borrowed funds a project which generates entirely returns to cover 1) all its costs,  2) yield a reasonable profit, and 3) permit pay back in full of the money borrowed (principal and interest) when it is due, it places a burden on the economy.

Guyanese who have lived through our debt crisis and the succeeding structural adjustment of the 1990s can never forget how harsh and onerous the consequences were. Indeed the legacies of those terrible economic times still live on in the Guyanese economic system.

Fourth, with total government spending averaging over two-thirds of GDP; transfer payments projected at about one-fifth            of total expenditure in 2012; and public investment accounting for about one-half of total investment in recent years, the government is responsible for a humungous portion of economic activity in Guyana. The managerial and institutional capacity of the government to manage at a centralized level such a large share of domestic output of goods and services is in grave doubt.

This doubt is accentuated further by the distance government has taken from embracing all of Guyana‘s talents, skills and expertise.

There are a litany of examples to show the continued accretion of more and more economic activity to the centralized state and little or no steady dispersion of economic power, influence and decision-making.

There are also a litany of examples of stalled and questionable projects big and small, such as the access road to the Amaila Falls Hydro; the GuySuCo modernisation, GPL restructuring, as well as widespread pictures carried in the media of roads that are built and destroyed in a matter of weeks; government buildings constructed at inordinate cost; idle, unused, derelict and unattended state properties; doubtful sales of public properties (Sanata Textiles, Duke Lodge).

Next week I shall wrap up the discussion of this topic and go on to look at the state of government indebtedness as the size of government spending as a share of GDP rises.

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