Typically, our analysis of the Fed’s Z.1 flow of funds report has focused on household finances. But the Z.1 is a big data set, and also contains some interesting stuff on government finance, particularly table F.106.
First, a chart that everyone should be familiar with: government receipts less government expenditures, otherwise known as the deficit.
No surprises here, the government is spending more than it brings in. But this is mostly due to Keynesian-style spending meant to stimulate the economy, right? Let’s look at the breakout of spending:
One of the more salient features of this graph has been highlighted by the red arrow: 1972, when transfer payments became the most significant government outlay. The portion of government spending that could be referred to as stimulative is consumption expenditures, but this is becoming a smaller portion of total government spending. For instance, when flow of funds data was first collected in 1952, consumption expenditures made up 71% of total expenditures while transfer payments made up 20%. By the end of 2009, consumption made up only 28% of the total while transfer payments made up 61%. The primary function of government now seems to be transferring wealth from one group to another through programs like Social Security, Medicaid, Medicare, unemployment benefits, the new health care system, etc. It’s hard to consider this kind of spending stimulative, and I doubt this is what Keynes had in mind. The interesting line to watch going forward will be the green one: interest payments. While they are currently low, this is due to low interest rates, not low absolute debt levels (as just about everyone should be aware). It’s easy to imagine scenarios in which the green line quickly becomes a more significant portion of government expenditures.
For now, however, transfer payments are king of the hill. They are now so large that they have caught up with total government receipts. Let’s look at this idea in the following two charts.
Put a different way, effectively all government receipts (personal income taxes, corporate taxes, various withholdings) are going right back out the door to fund Social Security/healthcare/unemployment/etc. All other government expenditures need to be financed.
Perhaps we’ve naively made the upper bound of that last chart 100%. It’s likely that we’ll need to reformat that axis in future, unless the long-term trend of rising transfer payments can reverse itself. The more likely outcome will be the search for higher receipts, in the form of higher personal income and corporate taxes.
Mr. Roche is the Founder and Chief Investment Officer of Discipline Funds.Discipline Funds is a low fee financial advisory firm with a focus on helping people be more disciplined with their finances.
He is also the author of Pragmatic Capitalism: What Every Investor Needs to Understand About Money and Finance, Understanding the Modern Monetary System and Understanding Modern Portfolio Construction.
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