COVID-19 Adds to Social Spending Trend

The Economist March 28th 2020 Economic policy and the virus “Building up the pillars of state”. “Rich countries are experimenting with radical new economic policies. History suggest that the effects will be permanent”.

Historical Data

Britain central government expenditure (% of GDP) mostly hovered around 10% from recorded history 1689 to pre-WWI except for excursions to pay for the Seven Years War~18%, French Revolutionary & Napoleonic Wars ~20%. Since WWI there has been a steady rise to nearly 40% as of 2018 with large spikes to fund WWI ~60% and WWII 60%.

Government spending-Year over year change in “fiscal balance” (% of world GDP) been within plus or minus 0.5% the exceptions happening after 2007 mortgage meltdown (+1.2-+1.6%) and now estimated at +2.5% due to the COVID-19 Pandemic. America will boost spending 1% (2X the 2007 expansion), China 0.4%, Eurozone 0.4% and the Rest of the World 0.6%.

From 1960 onward all the rich economies have shown a similar rise in “Public social spending” % of GDP-Today France is at 31%, Sweden 26%, Britain 21% and America 19%. Tax revenue (% of GDP) mirrors the trajectory of social spending with Sweden now at 45%, France 43%, Britain 33% and America 25%.

Key points

Government intervention is not a takeover with a “purpose…not to weaken the free market [but] to preserve [it]”. As mentioned above in times of crisis there are definite spikes in the expansion of government that fall afterward but “500 years of government power…suggest…the state is likely to play a very different role in the economy…long after”.

Taking conventional wisdom of private and government economists, there has been a swift and decisive response to the COVID-19 crisis-central banks have cut rates and governments have “launched huge new quantitative-easing schemes (creating money to buy bonds)”. They issue the bonds and buy nearly all of them back. This adds cash for grants and loans to businesses and individuals. These funds are what drives the YOY expansion of GDP worldwide to +2.5%. Essentially, for America, “The FED is now the direct lender of last resort to the real economy, not just the financial system”.

Governments are hoping to stem job losses. France and other European economies are going the furthest with this. According to “President Emmanuel Macron,…no firm will ‘face the risk of bankruptcy”. “The British state will pay up to 80% of the wages for furloughed workers. The American package includes loans to small businesses that will be forgiven if workers are not laid off”. Temporary relief on “mortgages, other debts, rent and utilities” is facilitated in some economies. Americans will receive checks for as much as $1,200.

Why has there been a tendency for government spending to expand?

Historians suggest:

1) With an increase in wealth more has been expected of government

2) As production became more sophisticated more regulation was needed

3) With increasing wealth individuals “turn their attention to others” and call for more public welfare

4) Since LBJ’s war on poverty, it is customary for the state to provide “education to children at no cost to parents or support people who are out of work”-of course with a significant fraction of the public paying taxes nearly 90,000,000 in America up from 7,000,000 in 1940 and 42,000,000 in 1945.

What will be the lasting effects of COVID-19 pandemic?

1) Government spending will increase as tax revenues fall…expect heavier taxes on the richest to follow

2) Central banks will be pressured to maintain low or zero interest rates in part to stabilize government debt

3) Even without COVID-19 governments expected more spending to support our ever-increasing ability to cure more diseases

4) Believing that immigrants bring disease, there could be even more pressure to restrict immigration

5) As urbanization seems to have facilitated the spread of COVID-19, there could be resistance to increasing urbanization. Such a move might invariably reduce efficiency

6) Companies and government may push for more local production and less globalization for key materials.