Friday, January 6, 2012

Government spending cannot produce economic growth

Government spending cannot produce economic growth. The reason is that the government must take money out of the private sector economy to spend it on anything.

Let’s test this scenario in our minds:

Imagine, if you will, that the government were to hire all of the workers in the U.S. to build highways, bridges and work on other infrastructure. Doing so would produce a huge amount of economic activity. Many things would be bought and sold and billions, perhaps trillions, of dollars would be paid in wages to the workers.

Even though the president and Congress would undoubtedly tout the fact that “their policies had caused national unemployment rate to fall to zero,” all of this activity and hype would not produce a single ounce of real economic growth for two reasons:

  1. The government would have to take the necessary billions of dollars out of the private economy in the form of taxes or credit (deficit spending). Either way, it would shrink the supply of cash and credit available to private sector operations. Therefore, even if it were possible for the private sector to produce goods without labor, businesses would be so strapped for cash, they could not do so.
  2. With no workers in the private sector, no goods could be produced. Therefore, even if the wages paid to the public sector workers were exceptionally high, scarcity of goods coming from the private sector would make the prices of goods and services even higher. As a result, the workers would feel more "impoverished." Making $500 an hour makes little difference if a loaf of bread costs $125.00.

It is the production of an abundance of goods and services coming from the private sector, thus driving prices down, that make us feel "better off" (or "wealthier"). If a flat-screen television costs you $1,000 and you make $40,000 a year, you feel much "better off" than if a flat-screen TV costs you $15,000 and you make $40,000 a year. The more options we have to satisfy our needs and desires with the money we earn, the "wealthier" we feel—regardless of the actual dollar-amounts involved.

On the other hand, if government interventions make goods and services scarce (hence, more "expensive"), we feel "poorer" and "worse off" regardless of the level of our income.

Since government must must always take money out of the private economy to do whatever it does—money that would otherwise be used to produce abundant growth in goods and services—the government, therefore, cannot produce real economic growth.

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