Individuals and Government Chapter 1 Individuals and Government Copyright © 2002 Thomson Learning, Inc. Thomson Learning™ is a trademark used herein under license. ALL RIGHTS RESERVED. Instructors of classes adopting PUBLIC FINANCE: A CONTEMPORARY APPLICATION OF THEORY TO POLICY, Seventh Edition by David N. Hyman as an assigned textbook may reproduce material from this publication for classroom use or in a secure electronic network environment that prevents downloading or reproducing the copyrighted material. Otherwise, no part of this work covered by the copyright hereon may be reproduced or used in any form or by any means—graphic, electronic, or mechanical, including, but not limited to, photocopying, recording, taping, Web distribution, information networks, or information storage and retrieval systems—without the written permission of the publisher. Printed in the United States of America ISBN 0-03-033652-X

Government Governments are organizations formed to exercise authority over the actions of persons who live together in a society and to provide and finance essential services.

Political Institutions Political Institutions are rules and generally accepted procedures that evolve for determining what government does and how government outlays are financed.

Examples of Political Institutions Majority rule Representative government

The Allocation between Private and Government Resources Food Housing Cars Clothing Government National Defense Public Schools Police

Figure 1.1 A Production-Possibility Frontier Government Goods and Services per Year A G1 X2 X1 M Private Goods and Services per Year

Distribution of Government Goods and Services Nonmarket rationing: Prices and willingness to pay those prices are not applicable to goods such as national defense.

The Mixed Economy Markets and Politics Pure Market Economy Virtually all goods and services are supplied by for-profit private firms. Supply and demand determine price.

The Mixed Economy Markets and Politics Government supplies goods and services Regulates private economic activity Gov. exp = ¼ to ½ GDP Gov. taxes at least ¼ national income Political institutions Compulsory financing

Figure 1.2 Circular Flow in the Mixed Economy Goods & Services Goods & Services Output Market Dollars Dollars Taxes, fees, charges Government Services Income Support & Subsidies Subsidies Taxes, fees, charges Government Services Households Government Firms Resources Dollars Dollars Resources Input Market

Government Expenditures in the United States Government purchases of labor land capital Government Transfer Payments Welfare Social Security

Growth in Government Expenditures   Growth in Government Expenditures Table 1.1 (abbreviated) Year GDP Federal Government State and Local Government Total Government Percentage of GDP 1930 91.3 2.5 7.5 10.0 10.95 1945 223.0 84.7 8.5 93.2 41.79 1960 527.4 85.8 34.1 119.9 22.73 1975 1635.2 345.4 152.1 497.5 30.42 1999 9256.1 1755.8 863.7 2619.5 28.30  

International Comparisons Country Government Current Expenditures as a Percentage of GDP 2001 Denmark 53.5 France 50.5 Germany 46.2 Canada 40.7 United Kingdom 39.5 Japan 38.2 United States 29.7

Figure 1.3 Total Government Expenditure as a Percentage of GDP 1929-1999 45 40 35 30 Percentage of GDP 25 20 15 10 5 1929 1931 1939 1945 1955 1970 1980 1982 1984 1986 1988 1990 1992 1994 1996 1998 1999 Year

Structure of Federal Government Expenditures Purchases of Goods and Services Transfer Payments Grants in Aid to State and Local Governments Net Interest Paid

Federal Expenditure by Category, 1999 Table 1.2 Category Percentage of Total Federal Expenditures Transfer Payments 42.97 Purchases 27.04 Interest 14.97 Grants to State and Local 12.84   Other 2.18

Figure 1.4 The Distribution of Federal Expenditure, 1966-1999 70 Government Purchases 60 50 Transfer Payments 40 Percentage of Total Federal Expenditure 30 Grants to State and Local Governments 20 10 Net Interest 59 61 63 65 67 69 71 73 75 77 79 81 83 85 87 89 91 93 95 97 99 Year

Federal Government Expenditure by Function All other 5% Veteran’s Benefits 3% Social Security 23% Transportation 3% Education 4% Health 9% Net Interest 11% National Defense 16% Medicare 12% Income Security 14%

The Structure of State and Local Government Expenditure in the United States Education Civilian Safety Transportation Executive, Legislative, and Judicial Income Security Health and Hospitals Recreational and Cultural Activities

State and Local Government Expenditure Recreational and Cultural Activities 2% Other 7% Health and Hospitals 3% Income Security 5% Education 42.71% Executive Legislative and Judicial 11% Transportation 13% Civilian Safety 16%

Financing Government Expenditures in the US Taxes: Income (Corporate and Personal) Payroll Excise Customs

Corporate Profits Taxes Federal Revenues Customs Duties 1% Other 1% Excise Taxes 4% Corporate Profits Taxes 12% Income Taxes 47% Payroll Taxes 35%

State and Local Government Revenues Other 8% Sales Taxes 27% Property Taxes 21% Corporate Profit Taxes 3% Payroll Taxes 1% Federal Grants 20% Nontaxes 3% Income Taxes 17%

Implications of a Graying America Social Security Medicare Medicaid

How Much Government is Enough? The question of how much government is enough is an important one in any society. It is the tradeoff between public and private goods. When government gets bigger, it comes at the expense of less private consumption.