J. Scott Moody & Wendy Warcholik, Ph.D. | March 3, 2009
Crowding Out Oklahoma's Private Sector
J. Scott Moody & Wendy Warcholik, Ph.D.
In the debate in Washington, D.C. over the so-called stimulus package, there is one basic truth that has largely been ignored: Only the private sector can create new wealth and income; government can only spend what it first takes from the private sector.
Government gets its money by either taxing the private sector or borrowing from the private sector. In extreme cases, the government can print its own money.
As a result, since increased government spending crowds out private sector spending, the so-called stimulus package is really just covering a shift in the economy away from the private sector and towards the public sector (defined as federal, state, and local compensation plus transfer payments).
Of course, this is not a new phenomenon. It has been going on for a very long time. Chart 1 shows the steady erosion of the private-sector share of personal income in Oklahoma going all the way back to 1929 (the first year of available data). Data from the U.S. Department of Commerce's Bureau of Economic Analysis (BEA) tell us that in 1929, Oklahoma's private sector accounted for 92.8 percent of all personal income earned in the state. By 2007, the private-sector share had fallen by 26.4 percent to 68.3 percent of personal income-making Oklahoma's the 13th smallest private sector among the 50 states.
In the long run, a state's private-sector share matters a great deal. States with larger private sectors grow faster over time than states with smaller private sectors. And there is a large gap between the state with the largest private-sector share (Connecticut, at 79.3 percent, has a per capita personal income of $54,117) and the state with the smallest private-sector share (West Virginia, at 59.1 percent, has a per capita personal income of $29,537). To put it another way, Connecticut's per capita personal income is 83 percent larger than West Virginia's.
This suggests that we should be very careful about how any "stimulus" package is designed. There are two different ways in which government can inject money relatively quickly into the economy-tax rebates or spending.
One benefit of tax rebates is that the crowding-out of the private sector is only temporary. Once the rebate works through the economy, there are fewer long-term side effects. This is clearly illustrated by the 2008 stimulus package enacted under President Bush.
The stimulus consisted of a tax rebate that ranged from $300 to $600 for single-filers, or $600 to $1,200 for married-filers, and included $300 per dependent. The rebate disbursements started in May 2008 and continued through the end of the year.
Chart 2 shows the effect of the tax rebates on Oklahoma's private sector share of personal income. Between the 1st and 2nd quarters of 2008, Oklahoma's private sector share dropped to 67.71 percent from 68.46 percent as the tax rebate checks hit taxpayers' mailboxes. However, as the tax rebate disbursements wound down, the private-sector share began to rebound in the 3rd quarter of 2008 to 68.37 percent.
Unlike President Bush's tax rebates, President Obama's stimulus package is based on a massive increase in government spending. And as Chart 1 clearly shows, increases in government spending do not go away. They accumulate.
Former OCPA trustee Tom Coburn put it succinctly in a February 4 column in The Wall Street Journal: "90% of the bill represents one of the most egregious acts of generational theft in our nation's history, with taxpayer money going to special-interest earmarks, an ill-conceived bailout to the states, and permanent spending increases that expand government's reach in areas like health care and education. ... Moreover, one in five [jobs created] will be a government job" [emphasis added].
The most recent estimates show that Oklahoma will receive approximately $2.6 billion over the next two years. In particular, much of the new money will be used to bail out existing Medicaid programs and expand Medicaid to unemployed workers and their families. Since Medicaid's creation in 1965, it has been a major driver of the crowding-out of the private sector. In fact, BEA data show that Oklahoma's spending on "Public Assistance-Medical Care Benefits" grew tremendously under the new program-to $3.5 billion in 2007 from $26 million in 1965.
In addition, President Obama recently signed into law a $65.4 billion extension and expansion over 10 years of Medicaid's State Children's Health Insurance Program (SCHIP), which will further crowd out the private sector. While not officially part of the broader stimulus package, the timing of its passage will only exacerbate the ills of the stimulus package.
More disturbingly, the SCHIP expansion included a 156 percent increase in the federal cigarette tax, to $1.00 per pack from $0.39 cents per pack. This has the potential to put many mom-and-pop retail stores out of business, further adding to the woes of Oklahoma's private sector.
Overall, the federal stimulus package and the SCHIP expansion are bad news for America's and Oklahoma's private sector. Both programs will hasten the arrival of the day that the private sector's share of personal income dips below 50 percent. At that point, America will officially become a socialist nation where government generates the majority of economic activity.
Unfortunately, the price we will all pay for this affliction will be lower incomes and higher taxes.
J. Scott Moody (M.A., George Mason University) and Wendy P. Warcholik (Ph.D., George Mason University) are OCPA research fellows.
J. Scott Moody
OCPA Research Fellow
OCPA research fellow J. Scott Moody (M.A., George Mason University) serves as chief executive officer of State Budget Solutions. Formerly a senior economist at the Tax Foundation and a senior economist at the Heritage Foundation, he has twice testified before the Ways and Means Committee of the U.S. House of Representatives. Moody is the co-creator of the Tax Foundation’s popular “State Business Tax Climate Index.” His work has appeared in Forbes, CNN Money, State Tax Notes, The Oklahoman, and several other publications. This article is an updated version of an analysis published in 2008.
Wendy Warcholik, Ph.D.
OCPA Research Fellow
Wendy P. Warcholik (Ph.D., George Mason University) is an OCPA research fellow. She formerly served as an economist at the U.S. Department of Commerce’s Bureau of Economic Analysis, and was the chief forecasting economist for the Commonwealth of Virginia’s Department of Medical Assistance Services. She is a co-creator (with J. Scott Moody) of the Tax Foundation’s popular “State Business Tax Climate Index.”