"The overall economic news remains good. No startling occurrences, but general indications are that the economy continues to be strong. Payroll employment for the United States remained stable for the month of September. The unemployment rate dropped another 0.1 percent to 4.6 percent. Labor market conditions look good. Price changes were modest during the month: only a 0.25 percent change for September. Happily, the increases in energy prices were equally modest.
The data for the Bluegrass region show a strong increase in payroll employment and a rather marked reduction in the unemployment rate from 4.9 percent to 4.3 percent. Keep in mind, though, that these are preliminary numbers and are not seasonally adjusted. We have cautioned readers in the past not to make too much of negative changes in local (un)employment numbers because of their preliminary nature. The same applies on the upside. While it is always good to see reductions in unemployment, the dramatic reduction in the unemployment rate shown by the data in August probably overstates the gains made in that regard.
In related news, the Congressional Budget Office (CBO) reported (http://www.cbo.gov/publications/bysubject.cfm?cat=35) that the federal budget deficit is projected to be $250 billion this year. This is below what was previously forecast and is considerably less than last year's $318 billion deficit. The smaller deficit is no surprise, however. This is a frequent occurrence in a strong, growing economy. In this setting, employment is high, meaning that taxable income is high. Likewise, business income is normally strong in a good economy, leading to even more taxable income. Essentially, the growth in tax collections is outstripping the growth in federal government spending.
Though a decline in the deficit is often associated with good economic times, a shrinking deficit is frequently hailed as good news in and of itself. The latter is a mistaken viewpoint, though it's easy to see why it comes about. From the perspective of one's personal or business budget, a reduction in debt generally is a good thing, so why wouldn't the same thing apply to the government budget? Before answering, note that when you borrow, your personal deficit rises, but someone else's falls - namely the person who loaned you the money. Most borrowing and lending goes through financial institutions, but if you borrowed from one, they are providing you with money "loaned" to them from individuals' saving and investing. Personal saving and investing reduces those individuals' personal budget deficits. Because for every dollar borrowed there is a dollar loaned, a dollar increase in your deficit spending means a dollar's reduction for someone else's.
A similar logic applies to government budget deficits. A government budget deficit means that the dollar value of government goods and services provided exceeds tax revenue collected and the difference is borrowed. The money is borrowed from individuals who purchase government bonds. For every dollar of debt the government takes on, there is a dollar of "savings" by someone loaning money to the government. Essentially, those who buy U.S. government bonds are loaning money to those who do not. The borrowing of one group, via government debt, is exactly offset by the savings of the other group.
Thus, focus on the budget deficit gives a misleading picture of the cost of government. The cost of government is the value of its expenditures. If these expenditures are financed entirely by tax revenue, then taxpayers bear this cost by forgoing the purchase of private goods and services. If these expenditures are financed partly by tax collections and partly by borrowing, then taxpayers and bond buyers share the cost by forgoing the purchase of private goods and services. Either way, private individuals bear the entire burden today.
That brings us to the critical point. The performance of government should be evaluated by the value of the goods and services it provides. Whether it's financed by taxes or borrowing is secondary. The CBO reports that, though the deficit is falling, government spending continues to grow faster than GDP. Nominal GDP is expected to be 6.6 percent higher this year. Federal government expenditures are forecast to be 7.5 percent higher. Thus, the federal government is accounting for a larger share of the economy. (Tax revenue is predicted to rise by 11.8 percent, thus the decline in the deficit.) What are we getting out of this increased government? That is the key question. Perhaps surprisingly, the increase in defense spending it not expected to be that high: 5.8 percent. Relief for Katrina and Rita can't account for much of the increase. The approximately $60 billion slated for that purpose amounts to only 2.2 percent of the government's budget. The big increases come in the so-called "nondiscretionary" budget: Social Security, Medicare, and Medicaid. Collectively, they are expected to grow by 7.4 percent this year, with Medicare leading the way with growth of 11.8 percent. My view is that concerned citizens should be asking what these programs (and other government programs) provide that the private sector cannot and what are sensible ways to contain their costs.
John Garen is department chair and Gatton endowed professor of economics at the University of Kentucky.