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Sydenham's Law of Public Expenditure and Economic Growth

Sydenham's Law: Significant increases in the growth of  public expenditure  accompany decreases in private sector growth.

What is the relationship between public spending and economic growth?  There are many theories but the surest way to observe the real effect is to examine the historical record and compare public expenditure with private sector growth.  If we look at the real data and do not rely on theories we discover that if you increase the growth of public spending you depress the economy.  This relationship is so consistent that it deserves to be called a "Law" of economics:

Sydenham's Law: Significant increases in the growth of  public expenditure  accompany decreases in private sector growth.

Sydenham's Law of public spending
and private sector growth

The diamond shapes due to Sydenham's Law are all over the public sector-private sector growth graphs.  The historical record is crystal clear: increasing public spending does not stimulate the private sector.  Look at the graphs below for the UK and US economies.

What is never seen is the theoretical "Keynesian event" where public spending increases growth.  In the past 60 years the UK has had several governments that believed in the Keynesian model but Keynesian events are not observed in the UK data despite their interventions.


Here are the data for the UK for the post war period with smoothing applied (click on graphs to enlarge them):

Graph 1: UK The effect of changes of public sector spending on the private sector
In the UK, rises in public spending appear to decrease the growth of the private sector.  When the red line goes up the blue line goes down and vice versa. Sydenham's Law applies in all cases: when public spending increases the private sector growth rate decreases.  It will be demonstrated below that Sydenham's Law is due to government incompetence as well as automatic regulation of the economy.

Notice that Keynesian events are never found in the data.  Keynesian interventions have either never occurred in the UK or Keynesian theory is wrong.  


The smoothing in graph 1 shows that the effect is not due to reporting intervals that are out of phase.  Notice how the abrupt policy change, the cut in spending in 2009-10, reversed the private sector decline.  (The unsmoothed data is given in Graph 7 below and is even more convincing).

One reason why government spending fails to cause growth is that it tends to be immediately devalued by inflation. The data for change in public spending versus inflation rate show the emptiness of using loans or printing money to increase economic performance:

Graph 2: UK: Annual increase in public spending and inflation
Yellow lines: inflation %, Red: increase in public spending % 
As can be seen, large increases in public spending are simply dissipated by inflation.  Just look at the absolutely massive cash injections by the government in the 1970's, all squandered by inflation.  This means that Sydenham's Law applies whatever the source of a government's spending - there is no magic government borrowing or printing of money that will fix everything.

The graph below shows the annual percentage change in public expenditure (inflation adjusted) versus growth in the private sector part of the economy in the USA since 1950:

Graph 3: USA: The effect of changes of public sector spending on the private sector
Notice that when the blue lines go up the red lines usually go down and vice versa.  As public expenditure increases non-public, private sector growth declines. (You can click on the graphs to make them bigger).

Sydenham's Law applies to both the US and UK economies. This is a "law" of economics because the two factors, public spending and private sector growth are tightly linked.  Does public sector growth control private GDP or private GDP growth control public spending?  This is discussed in Note 1 below and it seems that public spending growth controls private sector growth.

Sydenham's law also applies to Japan:

A recent massive increase in Japanese public spending has completely destroyed the private sector recovery that seemed to be happening in 2009-2010:

 (I do not have the raw data for 2011 and 2012).

Is Keynesianism rational?

It is interesting that the coupling between public spending and private sector output occurs when the public sector is at least about 10% of GDP and requires public spending of over 15-20% to become a "Law".  The USA provides an example of an economy that only reached a 10% tax take after the first world war.

Graph 4

Notice that the much vaunted "New Deal" in the mid 1930s seems to have followed and possibly reduced a larger private sector recovery.

Data for the New Deal period

Graph 5
There can be no doubt that the "New Deal" of 1934 benefited from a pre-existing recovery in the private sector.   The principle myth of Keynesianism, that public works stimulated the economy, is false.  In fact the public spending of the late 30s probably suppressed a greater recovery.

InflationYearGDP-US
$ billion nominal
Population-US
million
Total Spending -total
$ billion nominal
Non public
GDP
Inflation
Factor
1/(1+Inf'n)
Change in
Public
Spending
Change in
Non-Public GDP
0.9%192696.949116.01910.78086.1690.9910.0300.065
-1.9%192795.544117.77511.22084.3241.0190.061-0.002
-1.2%192897.365119.55711.44085.9251.0120.0320.031
0.0%1929103.600121.36611.68091.9201.0000.0210.070
-2.7%193091.200123.20311.92079.2801.0280.049-0.114
-8.9%193176.500124.07112.17064.3301.0980.121-0.109
-10.3%193258.700124.94512.44046.2601.1150.140-0.198
-5.2%193356.400125.82512.62043.7801.0550.070-0.002
3.5%193466.000126.71212.81053.1900.966-0.0190.174
2.6%193573.300127.60514.78058.5200.9750.1250.072
1.0%193683.800128.50416.76067.0400.9900.1230.134
3.7%193791.900129.41017.22074.6800.964-0.0090.074
-2.0%193886.100130.32117.68068.4201.0200.048-0.065
-1.3%193992.200131.24019.05073.1501.0130.0920.083
0.7%1940101.400132.16520.42080.9800.9930.0640.099
The changes are calculated as (Year2value x inflationfactor - Year1value)/Year1value
Data: US Bureau of economic Analysis: GDP and Other Major NIPA Series, 1929–2012:II,
www.usgovernmentspending.com ,Inflationdata.com, US Department of Labor CPI:  ftp://ftp.bls.gov/pub/special.requests/cpi/cpiai.txt

Notice that the improvement in private sector growth dates from 1932 but the New Deal started in 1934.

Analysis

This analysis does not mean that public spending should be slashed and slashed again.  It means that public spending should be carefully controlled so that it does not suppress growth. A modest growth in public spending that is less than the growth in the private sector part of GDP should be sustainable.  The UK can keep the NHS and welfare but great care must be taken not to overspend. You cannot simply spend your way out of a recession.

When there is an incipient recession government must not panic and increase public spending, in the UK, with almost 50% of the economy in the public sector, steady increases in the growth of public spending may briefly increase total GDP but they make the underlying problem worse by removing funds from the private sector.  If there is an incipient recession then public spending should be kept as steady as possible to pay for welfare (or even reduced) but public sector spending growth should not be increased until private sector growth returns.

The ideal for long term economic management is probably for public spending growth to change at a rate that is sufficiently low to have a minimal impact on GDP growth, this will probably avoid most recessions. 

It is probably true that government interventions smooth out some of the more extreme changes in GDP but, as will be seen below, they also cause extreme changes in the private sector.  The net effect of government interventions during downturns seems to be little more than a shift of value from the productive private sector to the non-productive state sector which exacerbates the downturn in the private sector.
Graph 6 USA GDP growth in yellow
The moral of Sydenham's Law is that governments should not fiddle about with the public finances. If more public spending is required just increase the public sector steadily, at the same constant rate per year, don't jerk around.

Governments should always have a surplus of about 3% of revenue over spending and increase revenues at a steady rate that is comparable to the long term growth in GDP with a target of spending being less than 40% of GDP.


Note 1: Does public spending control private sector growth or vice versa?

Public spending is almost certainly the causative agent.

It could be argued that public spending changes automatically with private sector growth, for instance declines in the private sector causing unemployment and hence more spending.  This "automatic regulation of the economy" cannot apply where private sector growth is greater than zero because the economy is growing, there is no increase in unemployment etc. In Graph 7 below there are changes that cannot be blamed on "automatic regulation of the economy", for instance, in 1971 there is a fall and in 1972 a massive rise in public spending when growth is buoyant, the fall in public spending causes a rise in private sector growth and the rise in spending a fall in growth.

In the data for the USA there are some large increases in public spending relating to the Vietnam War that correlate with reduced private sector growth rates, in the UK there are increases in spending due to Labour's ideological stance and Keynesianism that reduce private sector growth rates. These events show that deliberate increases in the rate of change of public spending cause decreases in private sector growth.

Graph 7: Unsmoothed UK data, notice how Brown's spending spree reduced growth.
(The full data for the UK is tabulated at the end of the article Is Labour right?,/>)

Public spending is clearly directly linked to private sector growth.  When public spending increases taxes are usually increased to pay for the spending.  These taxes remove money from the private sector and immediately reduce growth.  When there are tax cuts public spending is usually reduced and the private sector benefits immediately.

If public spending is increased as a result of loans or printing money then inflation increases, depressing the private sector and reducing the value of loans.  The only major exception to this pattern is Black Wednesday.

There is also a more subtle relationship between the growth of public spending and private sector growth that is due to the fact that the public sector does not trade, it does not add value.  If a company supplies another company with £10 worth of goods these may produce £20 of sales for the second company and so £20 of GDP in total may be generated, if a company sells £10 of goods to the government only £10 of GDP is generated.  It might be thought that £10 of GDP is better than nothing and this would indeed be true if the company that sold the goods to the government could use the money to increase its capacity and so increase sales to the private sector.  However, if public sector spending increases still further it will use up this spare capacity.  Any continuously increasing public spending will divert private sector resources to the public sector and may decrease private sector growth.

The influence of changes of private sector growth on public spending is less clear than the effect of public spending on the private sector part of GDP.  Decreases in Private sector growth often just leave the private sector growing at a slower rate, they do not necessarily cause unemployment or economic distress. So decreases in private sector growth will not always trigger immediate increases in public spending in the form of welfare payments etc.. Increases in private sector  growth are even less likely to have the observed effect on public spending.  The observed relationship is that increased private sector growth is related to decreased public sector growth but the increased tax take when private GDP is growing should have the opposite effect. It is clear that the private sector growth cannot be controlling public sector growth so it is deliberate government spending that is the controlling factor: increasing public spending depresses the economy.


POLITICAL THOUGHTS click here to see the whole POLITICAL THOUGHTS magazine POLITICAL THOUGHTS!


See also:

Public spending and GDP

Is Labour right?


The raw data for the USA:


Inflation Year GDP-US
$ billion nominal
Population-US
million
Total Spending -total
$ billion nominal
Non public
GDP
0.0% 1900 20.567 76.212 0.63 19.937
0.0% 1901 22.269 77.68 0.64 21.629
4.0% 1902 24.062 79.176 1.66 22.402
3.8% 1903 25.93 80.701 1.76 24.17
0.0% 1904 25.681 82.255 1.87 23.811
0.0% 1905 28.788 83.839 1.99 26.798
0.0% 1906 31.037 85.453 2.11 28.927
3.7% 1907 33.851 87.099 2.24 31.611
-3.6% 1908 30.133 88.776 2.38 27.753
0.0% 1909 32.229 90.486 2.53 29.699
3.7% 1910 33.423 92.229 2.68 30.743
0.0% 1911 34.343 93.523 2.85 31.493
3.6% 1912 37.384 94.836 3.03 34.354
2.4% 1913 39.14 96.167 3.21 35.93
1.3% 1914 36.479 97.516 3.49 32.989
0.9% 1915 38.675 98.885 3.79 34.885
7.7% 1916 49.638 100.273 4.08 45.558
17.8% 1917 59.702 101.68 5.67 54.032
17.3% 1918 75.835 103.107 16.76 59.075
15.2% 1919 78.333 104.554 22.96 55.373
15.6% 1920 88.393 106.022 11.33 77.063
-10.9% 1921 73.603 107.626 10.53 63.073
-6.2% 1922 73.432 109.254 9.3 64.132
1.8% 1923 85.414 110.908 9.63 75.784
0.4% 1924 86.947 112.586 9.98 76.967
2.4% 1925 90.575 114.29 10.37 80.205
0.9% 1926 96.949 116.019 10.78 86.169
-1.9% 1927 95.544 117.775 11.22 84.324
-1.2% 1928 97.365 119.557 11.44 85.925
0.0% 1929 103.6 121.366 11.68 91.92
-2.7% 1930 91.2 123.203 11.92 79.28
-8.9% 1931 76.5 124.071 12.17 64.33
-10.3% 1932 58.7 124.945 12.44 46.26
-5.2% 1933 56.4 125.825 12.62 43.78
3.5% 1934 66 126.712 12.81 53.19
2.6% 1935 73.3 127.605 14.78 58.52
1.0% 1936 83.8 128.504 16.76 67.04
3.7% 1937 91.9 129.41 17.22 74.68
-2.0% 1938 86.1 130.321 17.68 68.42
-1.3% 1939 92.2 131.24 19.05 73.15
0.7% 1940 101.4 132.165 20.42 80.98
5.1% 1941 126.7 133.966 24.35 102.35
10.9% 1942 161.9 135.792 45.58 116.32
6.0% 1943 198.6 137.643 92.71 105.89
1.6% 1944 219.8 139.519 109.95 109.85
2.3% 1945 223 141.421 118.18 104.82
8.5% 1946 222.2 143.349 79.71 142.49
14.4% 1947 244.1 145.303 57.73 186.37
7.7% 1948 269.1 147.283 55.08 214.02
-1.0% 1949 267.2 149.291 62.71 204.49
1.1% 1950 293.7 151.326 70.33 223.37
7.9% 1951 339.3 153.917 75.94 263.36
2.3% 1952 358.3 156.552 99.9 258.4
0.8% 1953 379.3 159.232 110.05 269.25
0.3% 1954 380.4 161.958 111.33 269.07
-0.3% 1955 414.7 164.731 110.72 303.98
1.5% 1956 437.4 167.551 115.8 321.6
3.3% 1957 461.1 170.42 125.46 335.64
2.7% 1958 467.2 173.337 134.73 332.47
1.0% 1959 506.6 176.305 145.75 360.85
1.5% 1960 526.4 179.323 151.29 375.11
1.1% 1961 544.8 181.588 164.83 379.97
1.2% 1962 585.7 183.881 169.5 416.2
1.2% 1963 617.8 186.204 177.35 440.45
1.3% 1964 663.6 188.555 189.11 474.49
1.6% 1965 719.1 190.937 193.89 525.21
3.0% 1966 787.7 193.348 216.22 571.48
2.8% 1967 832.4 195.79 248.07 584.33
4.3% 1968 909.8 198.263 277.19 632.61
5.5% 1969 984.4 200.766 296.09 688.31
5.8% 1970 1038.3 203.302 321.84 716.46
4.3% 1971 1126.8 205.515 354.79 772.01
3.3% 1972 1237.9 207.752 388.25 849.65
6.2% 1973 1382.3 210.013 411.64 970.66
11.1% 1974 1499.5 212.299 453.23 1046.27
9.1% 1975 1637.7 214.609 550.53 1087.17
5.7% 1976 1824.6 216.945 620.29 1204.31
6.5% 1977 2030.1 219.307 668.17 1361.93
7.6% 1978 2293.8 221.694 734.47 1559.33
11.3% 1979 2562.2 224.107 809.24 1752.96
13.5% 1980 2788.1 226.546 940.24 1847.86
10.3% 1981 3126.8 228.67 1073.12 2053.68
6.1% 1982 3253.2 230.815 1179.43 2073.77
3.2% 1983 3534.6 232.979 1283.58 2251.02
4.3% 1984 3930.9 235.164 1353.81 2577.09
3.5% 1985 4217.5 237.369 1496.29 2721.21
1.9% 1986 4460.1 239.595 1592.72 2867.38
3.7% 1987 4736.4 241.842 1662.02 3074.38
4.1% 1988 5100.4 244.11 1771.33 3329.07
4.8% 1989 5482.1 246.399 1915.12 3566.98
5.4% 1990 5800.5 248.71 2088.85 3711.65
4.2% 1991 5992.1 251.802 2230.3 3761.8
3.0% 1992 6342.3 254.933 2349.28 3993.02
3.0% 1993 6667.4 258.103 2420.82 4246.58
2.6% 1994 7085.2 261.312 2506.9 4578.3
2.8% 1995 7414.7 264.561 2634.73 4779.97
2.9% 1996 7838.5 267.85 2719.3 5119.2
2.3% 1997 8332.4 271.18 2813.4 5519
1.6% 1998 8793.5 274.552 2923.17 5870.33
2.2% 1999 9353.5 277.966 3053.31 6300.19
3.4% 2000 9951.5 282.172 3239.91 6711.59
2.8% 2001 10286.2 285.082 3428.55 6857.65
1.6% 2002 10642.3 287.804 3697.49 6944.81
2.3% 2003 11142.2 290.326 3934.54 7207.66
2.7% 2004 11853.3 293.046 4131.75 7721.55
3.4% 2005 12623 295.507 4397.1 8225.9
3.2% 2006 13377.2 298.109 4697.84 8679.36
2.9% 2007 14028.7 300.733 4923.25 9105.45
3.8% 2008 14369.1 303.38 5339.88 9029.22
-0.4% 2009 13939 306.051 5970.04 7968.96
1.6% 2010 14508.2 308.746 5942.98 8565.22
3.2% 2011 14958.6 311.592 6059.65 8898.95
1.7% 2012 15601.5 314.123 6231.69 9369.81



Data source






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