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The Size of the State:  A Big Beast to Tackle

The Economist
Friday, 19 Oct 2012 | 10:04 AM ET
US Capitol Building with cash
US Capitol Building with cash

TO SAY that public schools, roads and bridges helped make America rich would ordinarily arouse no more controversy than to say that a dog is a man’s best friend. The exception is when Barack Obama clumsily tries to make the point during a presidential race, in an instant distilling the campaign down to a single question: what is the role of government?

On a campaign stop at a fire station in Virginia on July 13th, Mr Obama said: “If you were successful, somebody along the line gave you some help…Somebody invested in roads and bridges. If you’ve got a business—you didn’t build that. Somebody else made that happen.”

In the days since then, Republicans have taken that last sentence and turned it into an attack ad to bolster their message that Mr Obama likes government more than business. It reveals “an ideology that somehow says it’s the collective and government that we need to celebrate,” declared Mitt Romney, the challenger. And the row goes on. New T-shirts are being printed, fresh denunciations penned.

At first glance, Mr Obama’s critics have ample ammunition. Federal spending during his term was the highest relative to GDP since the end of the second world war. A record number of the population now gets federal entitlements such as Medicaid and food stamps. The federal government backs 90% of new mortgages, up from half before the financial crisis, as well as a growing share of student loans. Staffing levels at regulatory agencies have ballooned, and they churn out more and costlier rules than their predecessors.

Behind these bits of data, however, lies a more complicated reality. Much of the expansion in government is a direct consequence of the weak economy. Last year a record 45m people received food stamps, up 58% from 2008, while a record 53m were on Medicaid (the health-care programme for the poor), up 21%. This is almost entirely caused by unemployment and shrunken pay-cheques; eligibility has not changed for either programme in that time, although the 2009 stimulus act temporarily raised food stamp benefits and state Medicaid transfers. Similarly, because investors have lost their appetite since the crisis for securities without a federal guarantee, federally-backed agencies have been forced to underwrite a growing share of new mortgages.

The feeble economy also exaggerates the share accounted for by government. Federal spending, now 24% of GDP, would be 22% of it if the economy were at full employment and therefore bigger, says the Congressional Budget Office (CBO). The share of the employed now on federal, state and local payrolls has risen sharply since 2008, but only because private employment has plunged. As a share of what the CBO reckons is the normal labour force, it is the lowest since the 1960s (see chart), reflecting deep cuts in state and local government payrolls.

Regulatory staffing has risen by 14%, or 34,000 people, since 2008, according to figures compiled by the Regulatory Studies Centre at George Washington University. More than half that increase, however, was within the Homeland Security behemoth, in particular immigration and border protection (see chart): areas where conservatives have clamoured for more, not less.

Even with these caveats, however, government has grown under Mr Obama. This is especially true of regulation, the biggest irritant to business. By the White House’s own reckoning, federal agencies, especially the Environmental Protection Agency (EPA), have issued more and pricier rules per year than under George W. Bush. And that is not even counting the hundreds of new rules dictated by Obamacare and the Dodd-Frank financial reform, most of which have yet to take effect.

Federal regulators now touch areas of economic activity they once left alone, such as greenhouse-gas emissions. The Consumer Financial Protection Bureau (CFPB), brought to life by Dodd-Frank, announced on July 16th that it will start regulating credit-reporting bureaus, such as Equifax, which help determine whether a consumer gets a loan. Existing rules are being enforced more energetically: the Commodity Futures Trading Commission’s $200m fine levied on Barclays, a British bank, for manipulating Libor, the inter-bank lending rate, was its largest ever.

Will the election change that trend? Mr Romney can certainly dam the flow of new federal rules by populating agencies with more business-friendly appointees. But unless Republicans win a filibuster-proof 60 seats in the Senate, he will not be able to repeal Obamacare or Dodd-Frank outright. Moreover, the public likes bits of both. Glenn Hubbard, an adviser to Mr Romney, has suggested that the CFPB, loathed by Republicans, may stick around.

Mr Romney has promised to cut federal spending to 20% of GDP, roughly what it averaged under Bill Clinton and Mr Bush. That will be harder than it looks. The 22% of GDP to which federal spending should return once full employment is achieved is not that high merely because of Mr Obama’s policies. Interest on the ballooning national debt also contributes to it, as well as rising health costs and ageing.

Mr Romney has embraced the budget of Paul Ryan, the Republican chairman of the Budget Committee in the House of Representatives, which promises steep cuts in federal entitlements, including food stamps and Medicaid, and the replacement of traditional Medicare for the old with cheaper vouchers. But once in power, Republicans may well flinch at cutting such popular programmes without Democratic support. With most entitlements off limits and Mr Romney wanting to boost defence, that leaves domestic discretionary spending, such as research, education, roads and law enforcement. But Mr Obama and Congress have already agreed to draconian caps that will shrink such spending to its lowest share of GDP since the 1950s.

And what if Mr Obama is re-elected? He will find it much harder to expand government than he did in his first term. The Supreme Court has already released states from any obligation to go along with the president’s expansion of Medicaid. Discretionary spending caps, the deficit and probable continued Republican control of the House of Representatives stand in the way of new or expanded spending programmes. And the business backlash may already have slaked Mr Obama’s enthusiasm for regulation; after pulling the plug last autumn on the EPA’s stricter ozone rules, the White House recently weakened its proposed new limits on emissions of fine particles by oil refineries, factories and other operations. So while the gap between what Mr Obama and Mr Romney say will happen to the size of government is enormous, the reality will not be.