5. Government Spending

Whatever way the government spends money, it will always decrease satisfaction from what it would have been had the money not been taxed in the first place.  We shall now analyze the effects of different types of spending.

Government spending is often justified in one of the following ways:

• It is required to create / preserve jobs, and maximize employment.
• It is required to provide certain goods and services.
• It is required to stimulate private industries through loans and subsidies.
• It is required to provide a “safety net” for the poor, by welfare payments.

We shall see that none of these justifications stands up to scrutiny. 

5.1. Job Creation / Preservation Projects 

A fundamental fallacy of mainstream economics is the belief that a more efficient way of doing things destroys jobs, and a less efficient way of doing it creates them.  Allied to this fallacy is the belief that there is only so much work to be done.  On the contrary, so long as there exists some unsatisfied human needs and wants, there is work to be done in providing for them.  These two beliefs lead to support for government projects and laws for spreading the “available work” among as many people as possible.

One supposed way to spread and maintain jobs is to slow technological progress.  Machines and computers are not installed for fear that they destroy jobs.  While they may do so temporarily, in fact machines do not destroy jobs at all in the longer-term.  Labor is freed up from laborious tasks and is available for other types of work, and productivity is increased.  If an entire industry becomes obsolete, the workers will quickly be absorbed into other industries where their labor is producing things that consumers want more.  Entrepreneurs are encouraged, by their pursuit of the profits that could be made using the cheap labor pool, to set up businesses to employ the newly-unemployed workers; competition quickly bids up wages to normal levels again.

Another way is to artificially increase the division of labor, demanding that each worker strictly stick to his designated tasks.  Laws are passed demanding that bricklayers cannot lay stones for chimneys; that is the work of the stonemason.  A plumber cannot tile a bathroom; that is the work of a tilesetter.  This way jobs are maintained, but efficiency and productivity are obviously decreased.  Labor resources are wasted.

Yet another way is to limit the number of hours that comprise a working week.  This artificially increases individuals’ leisure time and again lowers productivity.   Consider the example of a shortening of the working week from 40 hours to 30 hours.  Either:

(a)   pay is maintained at the same hourly rate and there is a decrease in total wages, or

(b)   hourly pay is increased to keep total wages at the same level. 

In case (a) new jobs will initially be created.  Even if we assume that each industry increases jobs by the same percentage (i.e. no distortion to the structure of production), and the new workers are no less efficient than the old ones (i.e. no decrease in productivity), there will be no net increase in man-hours, so productivity will not increase.  All that will happen is that the old workers, now receiving less overall pay than before, are effectively subsidizing the new workers, against their wishes.  More likely, however, is that the new workers would be less efficient than the old workers (a decrease in productivity) and not all industries will be affected equally by the law, so there will be a distortion of the economy away from where it is best organized for satisfying consumer needs.

The law will artificially distort individuals’ preferences for leisure over the fruits of labor.  On the free market, working hours will be determined by individual preferences, but with maximum working-hours law, leisure is effectively forced upon them.  With a maximum working-hours law, overall productivity and growth will decrease below what individual’s were willing to work for.  Labor is wasted on unwanted leisure.

In case (b), if hourly pay is forced to rise by 1/3 to account for the decrease in working hours so that total wages stays the same, clearly there is an artificial increase in production costs, and a subsequent lowering of productivity.  Employers will go out of business and many more jobs are lost than would have been created.  There will also be distortion to the structure of production.

Government spending cannot increase jobs in the long-term, but it actually cannot even increase jobs in the short-term, when we recall that all spending must come from taxation.  For every job “created” by the government, a private sector job will be lost, because the taxation lowers overall demand from consumers.  Government spending only changes the types of jobs that people do; jobs will created in the industries favored by the government and lost in those that serve the demands of consumers.

It is sometimes argued that governments must maintain the size of their bureaucracies and service personnel rather than put people out of work.  For example, at the end of a war, where will all the soldiers find jobs?  The answer is that they will no longer be employed by the government, so the government no longer has to tax the citizens to pay them.  The amount of money the taxpayers have increases and their subsequent increase in demand for goods and services soon stimulates new jobs to be created for the unemployed ex-soldiers.  Furthermore, they are now supporting themselves through their own productivity, rather than being parasites to society, supported by taxpayers and producing nothing.  In this way, overall productivity and satisfaction goes up.

This is a specific case of the more general case of population increases.  It is argued that population increase – whether through increasing birth-rates, decreasing death-rates or immigration - is bad because there are no jobs for the new people to do.  This overlooks that there will also be new demand from the new people, and this will create the extra jobs.  If unemployment is high, then supply of labor is high and therefore the price of labor (wages) will be lowered.  This will make new businesses viable and reduce unemployment.

Mainstream economists have a fetish for “full employment”, believing that to be the ultimate goal of government policy.  But there will always be unemployment.  There will be those who do not wish to work, and there will always be people transitioning between jobs.  Jobs are lost and gained as the market adjusts for changes in demand and changes in the supply of labor.  Government price controls – as we shall see – always lead to shortages and surpluses.  Minimum wage laws are a labor price control.  They create a surplus of labor: unemployment.  Other government actions – like income taxes, welfare spending, and regulations – also create unemployment which would not exist on a free market.

It would be easy for the government to ensure full employment – simply employ everybody itself.  The government could simply pay everyone an hourly wage for some nominal task; it could pay people to dig holes in the ground, or to sunbathe in their gardens for some set hours per day.  Clearly this would mean that nothing ever gets produced, and everyone would be far worse off, even though everyone is “employed”. 

This underlines why it is productivity, not employment, that should be the ultimate end for the government-hired economist.  It is true that we cannot have continuous full productivity without full employment.  However, we can very easily have full employment without full productivity.  Primitive tribes do not suffer from unemployment; the difference between them and modern nations is in their productivity.  The whole progress of mankind has been to increase productivity; that is, to get the best results from the minimum amount effort.    Because of greater productivity, employment can be reduced – for example, working hours can be lower, children don’t have to work, and people can retire at a younger age.  The goal of economists should be finding the way that increases productivity; full employment is but a means to this end, not an end in itself.

Lobbyists and unions often ask the government to bail out their industry, via some form of intervention (grants, loans, subsidies, price controls, tariffs, etc), on the basis that a large number of jobs will be lost if the industry is left to bankruptcy.  We have already seen that a sudden loss of jobs will not create anything more than temporary unemployment, because the market process will ensure they are absorbed back into the structure of production.  Furthermore, they will now be doing jobs that are more useful to consumers. If a major employer, such as General Motors, is bailed out by the government instead of being allowed to fail, then capital, land and labor will be being wasted by continuing to be used by GM, who are evidently not using it in the best way to satisfy consumer needs.  If GM is allowed to fail, then that capital, land and labor would be put to better use.  Thus we see the importance that government allows industries to fail and does not interfere with the free market process of bankruptcy.