Note: This version corrects an
error in Table 1. The analysis in the paper is not
affected.
The 2003 fiscal year mercifully concluded on
September 30. Reckless spending by Congress and the President made
it a year in which:
- Government spending exceeded $20,000 per
household for the first time since World War II,
- The federal budget expanded by $353
billion over its 1998 level,
- defense and the attacks on September 11,
2001, accounted for less than half of all new spending since
2001,
- Mandatory spending reached its highest
level in history, and
- Spending increased despite net interest
costs plummeting by $110 billion.1
This
paper examines the colossal expansion of the federal government
since 1998. That year, a temporary tax revenue boom brought the
first budget surplus in over a quartercentury. Abolishing the
budget deficit also eliminated one of the most effective arguments
for spending restraint, and the spending floodgates swung wide
open. By 2001, the budget surplus was quickly evaporating because
tax revenues, back to their historical levels, could no longer keep
pace with runaway spending. The 9/11 terrorist attacks then
necessitated new spending on national security. But by that point
fiscal responsibility was a distant memory, and lawmakers
steadfastly refused to balance these new highpriority security
costs with savings elsewhere in the budget. As 2003 closes, the
nation finds itself burdened by runaway federal spending and
massive looming structural budget deficits.
Overall Spending
Federal spending grew by 7.3 percent in
2003, slightly slower than the 7.9 percent growth rate in 2002. The
slower growth rate is encouraging; yet, Chart 1 shows that
government is still growing significantly faster than it did in the
1990s. In fact, the 7.6 percent average annual growth over the past
two years more than doubled the 3.4 percent average annual growth
from 1993 to 2001.
The
total amount of federal spending $2,156,536,000,000 is too large
to fully comprehend (in $1 bills, it would stack halfway to the
moon, weigh 10 times as much as the Sears Tower, and blanket the
state of New Jersey). A more relatable statistic is federal
spending per household, which allows families to measure the costs
and benefits of government in their own lives. Throughout the
1990s, real federal spending remained slightly under $18,000 per
household. From 1998 through 2003, federal spending jumped by
$2,500 to reach $20,300 per household marking the first time since
World War II that federal spending has topped $20,000 per household
(see Chart 2 and Table 1).
For that amount of government, Americans paid
$16,780 per household in federal taxes in 2003 a staggering tax
burden indeed, but only the beginning. Federal revenues are still
$3,520 per household less than federal spending. That difference
represents the perhousehold cost of the $374 billion budget
deficit. Since all federal spending must eventually be paid for in
taxes, the $3,520 per household represents higher future taxes that
must be collected to fund the full $20,300 per household that
Washington spent in 2003.
The
reality that all spending must eventually be paid for in taxes
cannot be overemphasized. Despite its current popularity, the
"biggovernment conservative" model of coupling tax relief with
rapid spending increases is not sustainable in the long run. If
Washington continues to spend $2,500 per household more than it did
in the 1990s, then taxes must eventually rise by $2,500 per
household per year. Budget deficits can delay, but not ultimately
avoid, the tax collector. Permanently higher levels of spending
require permanently higher taxes.
Where the Money Went
Table 2 shows that real federal spending
surged by $353 billion between 1998 and 2003. defense and Social
Security combined for nearly half of that increase, which is not
surprising given their historically large budgets. However, they
did not grow as fast as other categories. For example:
- Unemployment Compensation payments jumped 132 percent
to $56 billion. Much of this increase was automatically triggered
by rising unemployment claims during the 20012002 recession.
Additional spending resulted when Congress and President Bush
enacted several bills extending unemployment benefits to workers
beyond their typical 13week limit. (See Chart 3.)
- education spending surged by 78 percent,
from $34 billion to $58 billion. Nearly all of this growth took
place between 2001 and 2003, as the No Child Left Behind Act was
being implemented. Most of the new spending was for aid to K12
schools (including special education funding), which jumped from
$19 billion to $32 billion. An $8 billion hike in college student
financial aid dominated the rest of the spending increase. (See
Chart 4.)
- Health
Programs (other than Medicare and Medicaid) leaped 81
percent, from $33 billion to $60 billion. The National Institutes
of Health's budget, which expanded from $14 billion to $23 billion,
was the main contributor. The new State Children's Health Insurance
Program (SCHIP) added $4 billion in new annual spending, and other
public health programs accounted for the rest of the increase. (See
Chart 5.)
- Agriculture spending increased by 76
percent to $23 billion. Farm spending actually peaked at a record
$39 billion in 2000 after Congress overreacted to a slight dip in
crop prices by passing a series of massive "emergency" payments.
The budgetbusting 2002 Farm Bill assured that farm subsidies would
not drop back to their 1998 level, even though the farm economy has
improved. (See Chart 6.)
Lawmakers have also substantially
increased spending for air transportation (100 percent), community
and regional development (92 percent), and international affairs
(87 percent), but a significant portion of those spending hikes
resulted from the 9/11 attacks.
The Role of defense and 9/11
Any
analysis of recent spending trends must take into account the
budgetary effects of the 9/11 attacks. Certainly, Americans want
Washington to spend whatever resources are necessary to prevent
further terrorist attacks. Lawmakers know this, which is why they
have been classifying everything from levitating trains to farm
subsidies as "defense" or "homeland security." A more evenhanded
examination reveals that most new federal spending is not related
to defense and the 9/11 attacks.
From
2001 through 2003, the federal budget expanded by $296 billion, of
which:
- $100 billion (34 percent) was for
defense;
- $32 billion (11 percent) was for
9/11related spending for homeland security, compensating victims,
rebuilding New York, and international assistance and security;
and
- $164 billion (55 percent) was unrelated to
defense and the 9/11 attacks (see Chart 7).
What would federal spending look like if the
defense budget and all 9/11related costs were excluded? Chart 8
shows that the portion of the budget unrelated to defense and 9/11
grew by 11 percent from 2001 through 2003 the largest twoyear
increase in a decade. Thus, not only did Congress and the President
refuse to cut unrelated programs to fund the war on terrorism, but
they also actually accelerated their growth rates. Although a
convenient scapegoat, defense and other 9/11related costs do not
sufficiently explain why government is expanding so rapidly.
Mandatory Spending
In
2003, mandatory spending reached its highest level in United States
history. After holding between $8,000 and $9,000 per household
through most of the 1990s, mandatory spending surged to a record
$11,144 per household in 2003, marking the first time that
mandatory spending reached 11 percent of the gross domestic
product.
Mandatory programs are those whose annual
spending totals are not set annually, such as Social Security,
Medicaid, and most welfare programs. Policymakers decide who is
eligible for a program and what the benefit formula will be. For
the next several years, total spending is determined by how many
eligible individuals enroll in the program and where they fit in
the benefit formula. Consequently, policymakers reject blame for
mandatory spending trends that many of them did not vote to create.
But elected officials are not forbidden from changing these
spending formulas whenever they see fit. In fact, lawmakers have a
responsibility to keep mandatory spending levels in tandem with the
nation's evolving priorities.
Instead of pulling back these entitlement
programs, Congress and the President expanded them. As stated
earlier, lawmakers enacted large expansions in farm subsidies and
unemployment benefits. They also failed to reform and in 2003,
increased funding for Medicaid, the costs of which have jumped 45
percent since 1998. Social Security and Medicare grew by just 13
percent and 16 percent, respectively, in what is the calm before
their coming budgetary storm.
The
coming crisis in Social Security and Medicare is staggering. These
programs will be able to finance themselves through payroll taxes
until approximately 2015, when the costs of funding retiring baby
boomers will overwhelm the generation still in the workforce. The
tax increase needed to fund the Medicare shortfall is projected to
reach $1,500 per household by 2020, and nearly $3,000 per household
by 2030. Funding the Social Security shortfall will require
additional taxes nearly as large as those for Medicare, and neither
the payroll tax nor any of these coming tax increases will be set
aside for the worker paying all the taxes. All of it will fund
current retirees.
Lawmakers' solution to this coming
calamity has been to pile yet another entitlement on top of these,
without a plan to pay for it. The proposed Medicare drug
entitlement would eventually add another $1,125 per household in
additional taxes per year. With no entitlement reform plans close
to enactment and lawmakers having agreed to anchor another
unaffordable entitlement onto future generations, the 2003 record
of $11,144 per household in mandatory spending may soon seem
comparably inexpensive.
Discretionary Spending
Even
judging lawmakers solely by discretionary spending trends does not
make them appear any more frugal. Since 1998, real discretionary
spending has jumped 36 percent, from $603 billion to $820 billion.
The half of the discretionary budget for defense and 9/11related
costs has surged by 45 percent since 1998. Discretionary spending
on programs unaffected by defense and 9/11 has increased 27 percent
since 1998.
Chart 9 shows that nondefense
discretionary spending has been rising steadily for over a decade.
Throughout the 1990s, these nondefense spending increases were
balanced by deep defense cuts, leaving discretionary spending
levels generally unchanged. The September 11 attacks reversed the
downward trend in defense spending and added new costs for homeland
security, international security assistance, and rebuilding New
York City. Rather than asking nondefense programs to help fund the
war on terrorism by sacrificing some of their recent budget
increases, lawmakers chose to ramp up the "butter" portion of the
budget to match the "guns" portion. As a result, nondefense
discretionary spending has reached 3.9 percent of GDP ($3,900 per
household) for the first time in nearly 20 years.
The "interest Dividend"
Spending plummeted in one category. From
1998 through 2003, net interest payments on the national debt
dropped from $263 billion to $153 billion. Low interest rates, due
more to Federal Reserve policy rather than any deliberate
congressional policy, brought the $110 billion in savings. This
"interest dividend" is as large as the 1990s "peace dividend"
following the end of the Cold War. The interest dividend, however,
has gone almost completely unnoticed.
Taxpayers did not notice the interest
dividend because they never saw a penny of it. Starting out with
such an automatic and painless $110 billion spending cut gave
budget cutters the wind at their back for the first time in nearly
50 years. They could have directly returned the interest dividend
to the taxpayers with a $1,035 per household tax cut, or they could
have used these onceinalifetime savings to restrain the growth
of government and pay down the national debt.
Instead, Congress and the President
allocated all $110 billion to new spending and, when that money ran
out, spent $353 billion more on top of it (making the actual
increase in programmatic spending $463 billion, rather than $353
billion, as Chart 10 shows). Lawmakers acted like a shortsighted
employee who responds to an unexpected $1,000 bonus by immediately
going on a $4,500 shopping spree, thus ending up $3,500 in
debt.
Worse, the interest dividend is likely
only temporary. As interest rates rise to normal levels, net
interest costs will probably return to their 1998 level. The budget
deficit would automatically increase by approximately $100 billion,
with no new government benefits to show for it.
Nowhere to Cut?
Several lawmakers have asserted that all
new spending is driven by necessities and that no programs could be
cut without calamitous consequences. These lawmakers typically
emphasize essential spending on defense and homeland security, as
well as popular spending on education, health, and unemployment
benefits. In reality, Congress and the President are throwing vast
sums of money at all types of programs. Lawmakers could easily save
taxpayers over $150 billion per year by eliminating:
- $80 billion in corporate welfare;
- $20 billion in porkbarrel projects;
- $50 billion in waste, fraud, and abuse
identified by the government's own accountants, and
- $17 billion spent each year, for which the
government's own auditors cannot account.
Furthermore, Congress and the President
have not even been able to say no to the lowerpriority programs in
Table 3. Every dollar spent on these programs represents one less
dollar for tax relief, national security, or deficit reduction.
The Consequences Of Unrestrained Spending
Increased government spending weighs down
the economy and requires taxes that hinder working families'
ability to make ends meet. A growing economy requires a base level
of government spending on defense and justice to enforce the
property rights and rule of law necessary for markets to function.
Public goods, such as roads, are often important for facilitating
trade and aiding economic growth. Yet, they can be difficult for
the private sector to provide without at least minimal government
oversight. In such cases, limited government involvement can aid
economic growth.
Contrary to the fallacy that government
spending stimulates the economy, government spending beyond this
base level impedes economic growth for three reasons:
- Diminishing
Effectiveness. Governments often begin spending on such
necessities as defense, law enforcement, and basic public goods.
Empowered by the opportunities for economic growth that these
services provide, they mistakenly conclude that they can solve any
problem. Consequently, they tend to expand their efforts into
services that the market is better equipped to provide, such as
education, housing, food, and pensions. With each expansion, the
government not only blocks the market from functioning, but also
becomes less and less effective itself, until it ultimately becomes
a barrier to economic growth.
- Politics. Markets use the profit motive
to ensure that resources are allocated efficiently. Businesses
seeking profits must consistently respond to consumer demand with
quality products at low prices. Governments, by contrast, are
monopolies with no real profit motive or incentive to spend money
efficiently, so policymakers make reelection their "profit" and
consequently allocate resources to even the most wasteful programs
if they help ensure their return to office. While innovation and
evolving with the changing times are required for businesses to
survive, they represent an unnecessary risk for politicians who are
guaranteed reelection as long as they do not interrupt the flow of
government funds to their districts. Hence, while markets helped
the Model T evolve into the Porsche and the Apple IIe into the
supercomputer, the federal government continues to run many of the
same federal agencies now obsolete that it established as far
back as the 1800s.
- High
Taxes. Increased government spending makes it difficult
for working families to make ends meet. Even when the government
funds itself by borrowing money, repaying those loans will
eventually require higher taxes. Unless lawmakers pare back the
$2,500 per household spending increase since 1998, the average
household will eventually have $2,500 less per year to spend on
necessities such as health insurance, retirement, housing, and
education. Regrettably, many people praise government spending on
families without acknowledging that families first had to be
taxed and that the burden of those taxes often outweighs the
benefits of the government programs.
In addition to their high cost, taxes hurt
the economy by distorting incentives. Families and businesses work,
save, and invest because they expect a financial reward. These
productive behaviors also make the rest of the nation wealthier by
creating additional economic activity. But burdensome tax rates
reduce the financial reward for being productive. Consequently,
families and businesses cut back their productive behavior to
escape taxes, and the entire economy slows down.
To
see the consequences of excessive spending and taxation, one need
look no further than Western Europe, where politicians have
promised to provide for all of their citizens' needs in exchange
for higher taxes and bigger government. Western Europeans have
incomes 40 percent below Americans' and unemployment rates twice as
high. They also pay 50 percent of their income in taxes.
Conclusion
Budgets are about setting priorities. Each
day, millions of households find ways to live within their means.
All of them would surely like to spend more money than they have;
yet, they understand that separating necessities from unaffordable
luxuries, even making unpleasant sacrifices, is required to stay
out of the red.
Congress and the President have lacked
that belttightening discipline. As new spending requirements have
emerged, they have refused to set priorities and make sacrifices in
programs less vital to the national interest. This lack of
discipline has raised the cost of government to over $20,000 per
household for the first time since World War II. In the absence of
responsible spending restraint, the economy will struggle under
the weight of excessive taxes and runaway federal spending.
Brian M. Riedl is Grover M. Hermann
Fellow in Federal Budgetary Affairs in the Thomas A. Roe Institute
for Economic Policy Studies at The Heritage Foundation.