The Bureau of Economic Analysis (BEA), which is the government agency in charge of providing official macroeconomic and industry statistics, recently released its report on the U.S. economy in the third quarter of 2023. The Bureau of Economic Analysis highlighted that the American economy grew over the third quarter by 4.9%. This result came as exceeded expectations because economists forecasted the economy would grow by 4.5%.
According to the BEA, the recent growth of the economy could be attributed to three main factors: strong consumer spending, business investment, and government spending.
Source: Bureau of Economic Analysis
Based on the BEA assessment, consumer spending, which accounts for about two-thirds of US economic activity, was the main driver of growth in Q3. This is likely due to a combination of factors, including the strong job market, excess savings, and pent-up demand. Within the goods and services that propped up the economy, the leading contributors to the increase were other nondurable goods (led by prescription drugs) as well as recreational goods and vehicles.
On business investment, the BEA indicated in its report that business investment also picked up in Q3, after a slowdown in the previous quarter. This is a sign that businesses are confident in the future of the economy and are willing to invest in new growth opportunities. The increase in private inventory investment reflected increases in manufacturing and retail trade. Within nonresidential fixed investment, a decrease in equipment was partly offset by increases in intellectual property products and structures.
On government spending, the BEA suggested that government spending also contributed to economic growth in Q3. This is partly due to increases in both federal defense and nondefense spending such as the infrastructure bill and the American Rescue Plan Act, which both provided significant funding for public investments.
Does government spending really contribute to economic growth? Most economists, notably those with Keynesian affiliations, have argued over the decades that government spending is an essential tool for stimulating economic growth. And politicians in favor of spending and deficit such as the incumbent President, use this line of thought to take credit for their policies when the economy delivers positive results when their policies actually do the very opposite.
Where does the government get the money to “inject” into the economy in order to stimulate it? We know that Congress does not have a vault of money waiting to be distributed. Government can only inject money into the economy by either taxing consumers or borrowing out of the economy. In either case, the government takes money out of people’s pockets, first, before “injecting” it back into the economy.
The phrase “government spending stimulates the economy” suggests that the government has the ability to create new purchasing power out of thin air. The reality is that government cannot create new purchasing power. If Congress funds new spending with taxes, it is simply redistributing existing income. If Congress instead borrows the money from domestic investors, those investors will have that much less to invest or to spend in the private economy. And if Congress borrows the money from foreigners, the balance payments will adjust by equally reducing net exports, leaving GDP unchanged. In other words, every dollar Congress spends must first come from somewhere else.
Thus, it is erroneous to factor government spending into the GDP equation and use it as a variable that actually contributes to creating new wealth for the economy. What government spending does is that it impacts labor productivity and labor supply through its policies. It is consequently important to reiterate that Bidenomics does not stimulate economic growth in the sense that the Biden administration wants to make people believe.