Government cuts spur budget triumphs in Canada and U.S.

In my 2010 study for George Mason University’s Mercatus Center, “Canada’s Budget Triumph,” I laid out the details about how, in the 1990s and early 2000s, Prime Minister Chretien and his finance minister, Paul Martin (both pictured above), cut federal government spending as a per cent of GDP. Not only was that an accomplishment in itself, but also the government did so without throwing the economy into a recession or even slow growth. This would come as a surprise to many Keynesians, but not to economists like me who see most government spending as often wasteful or even harmful.

One of the best cuts was in Employment Insurance, then called Unemployment Insurance (UI). I wrote:

Under some minor reforms made in 1977, someone had to be unemployed for 10 to 14 weeks (the lower number applied to those living in regions of the country with higher unemployment rates) before getting UI benefits. In 1994, [Paul] Martin raised the threshold a little, making the range 12 to 20 weeks.

Such cuts not only save the government money but also encourage people to take jobs. Harvard economist Lawrence Summers, who was U.S. treasury secretary under President Clinton and director of President Obama’s National Economic Council, wrote:

The second way government assistance programs contribute to long-term unemployment is by providing an incentive, and the means, not to work. Each unemployed person has a―reservation wage—the minimum wage he or she insists on getting before accepting a job. Unemployment insurance and other social assistance programs increase that reservation wage, causing an unemployed person to remain unemployed longer.

When I gave speeches about Canada’s triumph, the pushback I received is that of course that kind of thing can happen in a parliamentary system when the majority party makes a decision, but it’s harder to do in a system like that of the United States where the executive branch and the legislative branch are distinct. It is harder. But, as I showed in my recent study, "U.S. Federal Budget Restraint in the 1990s: A Success Story," it’s not impossible. In the 1990s, Congress and the president cut government spending substantially as a per cent of GDP in the 1990s.

An excerpt from my 2015 study:

In 1990, government spending on programs and interest on the federal debt was 21.9 percent of GDP. By 2000... it had fallen to 18.2 percent of GDP, a reduction of 3.6 percentage points. That amounts to a substantial 17 percent reduction in the share of GDP spent by the federal government. While this is a more modest reduction than that achieved by the Canadian government, a one-sixth reduction in the government's share of GDP is economically significant.

What about the idea that the reason this fraction fell is that the denominator, GDP, grew so much more in the 1990s than in other decades? Wrong. I wrote:

So far I have not focused on the denominator, that is, GDP. I do so now. The period from 1990 to 2000, even though it included a small recession that began in 1990, was one of substantial growth. Between 1990 and 2000, real GDP grew from $6.708 trillion to $9.191 trillion. That amounts to an annual average growth rate of 3.2 percent. That is a quite healthy growth rate for an economy that is not catching up to the rest of the world.

But it is not spectacular growth. To put that growth rate in perspective, the average growth rate of real GDP between 1959 and 1990 was actually higher, at 3.5 per cent. The growth rate between 1980 and 1990 was also 3.2 per cent. And even the growth rate from 1970 to 1980, not generally thought of as a high-growth decade, was the same 3.2 per cent achieved in the 1990s.