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a n e c o n o m ic re v ie w b y th e F e d e ra l R e s e r v e B a n k o f C h ica g o Banking developments Growth of government spending february 1973 Banking developments 3 Growth of government spending 6 Government has become the nation’s largest industry, generating more income and employing more people than all durable goods industries combined. The National Income Accounts begin with 1929 and provide a convenient tool for measuring the growing demands govern ments have placed on the economy. Subscriptions to Business Conditions are available to the public free of charge. For information concerning bulk mailings, address inquiries to Research Department, Federal Reserve Bank of Chicago, P. O. Box 834, Chicago, Illinois 60690. Articles may be reprinted provided source is credited. Please provide the bank’s Research Department with a copy of any material in which an article is reprinted. 3 Business Conditions, February 1973 L anking developments Time and savings deposits At the end of October 1972: • more than one-fourth of all district member banks were paying less than the 4.50 percent maximum rate permitted by the supervisory authorities on pass book savings deposits; • a smaller proportion were paying rates below ceilings on other consumertype time deposits; • most banks were offering the same rates as a year earlier, and the weighted average rate paid on total savings and small-denomination time deposits was only slightly higher than a year earlier; • in each district state, the percentage increase in both savings and other time deposits of less than $100,000 in the y e a r e n d e d October 31, 1972 was smaller than the very strong gains in the previous 12 months. But growth in those deposits with original maturities over one year accelerated. These conclusions Eire based on re ports received from 938 district member banks in the Federal Reserve System’s an nual survey of time and savings deposits. Time deposits of individuEils, partnerships, and corporations (IPC) in denominations of less than $100,000, often referred to as consumer deposits, include some business accounts. Estimates by respondents indi cate the proportion of small IPC deposits held by businesses was probably less than 10 percent. Rates paid. The proportion of banks paying less than the ceiling rate on savings deposits ranged from a high of 39 percent of Michigan bEinks to 16 percent of Wiscon sin banks. Of the below-ceiling banks, more thEin two-thirds pay 4.0 percent. Two years ago, only one-fifth of all Michigan banks were paying less than ceiling rates, but early in 1971 a number of banks, particu larly in Detroit, Grand Rapids, Eind Ann Arbor, reduced rates paid on savings. These lower rates were still in effect at the end of last October. Savings deposits at banks pay ing less than 4.50 percent account for half of all savings deposits at member banks in Michigan. By contrast, only 4 percent of all passbook savings at Wisconsin member banks are deposited in banks paying less than 4.50 percent. Of the banks that reported rates on time deposits of less them $100,000 with Ein original m aturity of less thEin one year, only 3 percent were paying less than the 5.0 percent ceiling, but an additionsil 6 per cent of the banks apparently were not offering this type of contract. On one- to two-year maturities, 8 percent of the banks were paying less than the 5.5 percent ceil ing, while 5 percent did not report Ein offer ing rate. On maturities of two years or more, 6 percent of the banks reported rates below the 5.75 percent ceiling, but 13 per cent of the bEinks were not offering this maturity. Only 39 banks reported a change in the rate paid on passbook savings from October 1971 to October 1972, with decreEises at 19 banks Eind increases at 20 bEinks. More rate chsinges were reported on time certificates and open account de posits, and the majority of these changes were upward. Including banks that begsm 4 Federal Reserve Bank of Chicago Interest-b earin g d eposits of individuals, p artn ersh ip s, and corporatio n s in denominations of le ss than $ 1 0 0 ,0 0 0 at Seventh D is tric t member banks Weighted average rateSM SA1 October 31,1972 Savings Total Percent change year ended October 31 1972 1971 Certificates and Total open accounts 14.7 21.2 12.4 16.9 26.6 Certificates and Total open accounts (p tr ee ii t) Illin o is Bloomington 4 87 4.50 4.48 4.47 4.77 4.03 4.76 Peoria Rockford Springfield 4.50 4.43 4.44 4.50 4.90 4.77 4.88 4.88 Other cities State total 4.37 4.96 14.6 13.2 10.6 16.7 4.46 4.80 13.1 Anderson Gary-Hammond 4.50 3.71 1ndianapolis South Bend Terre Haute 4.50 4.44 4.50 5.00 4.53 4.90 4.84 Other cities State total Champaign-Urbana Chicago Rock Island-Moline Decatur 4.98 10.8 25.7 18.5 11.1 31.9 18.5 15.4 1 1 .0 19.7 26.9 36.7 27.3 16.4 20.8 17.4 15.2 15.3 12.0 23.4 11.6 6.4 33.3 24.6 18.8 18.2 17.0 19.1 16.8 23.3 21.2 20.1 11.1 15.1 19.8 12.9 15.4 18.5 16.3 17.8 21.0 20.2 4.88 10.0 13.0 9.2 15.9 4.23 4.27 4.86 4.83 15.6 14.4 15.5 14.8 15.2 14.7 14.9 19.0 17.4 14.4 16.0 17.5 4.00 4.50 4.72 4.95 18.1 12.1 16.6 11.6 20.2 24.1 30.3 16.8 4 50 4.50 4.44 13.9 19.8 0.5 14.7 21.1 13.3 16.4 13.6 19.3 7.0 2.9 9.7 12.4 11.8 15.0 In d ia n a 29.4 Io w a Cedar Rapids Des Moines Dubuque Sioux City 4.20 5.06 4.95 5.00 5.04 4.30 5.01 12.2 18.5 10.0 15.5 14.9 4.09 4.23 4.50 4.40 4.69 4.74 8.3 9.4 4.10 4.64 Saginaw 3.99 4.12 4.44 Other cities State total 4.36 4.25 4.46 4.59 4.73 4.80 4.69 Waterloo Other cities State total 16.3 17.7 16.8 18.8 18.9 18.9 M ic h ig a n Ann Arbor Detroit Flint Grand Rapids Jackson Lansing 11.5 9.2 6.6 13.6 13.4 9.3 14.6 11.6 10.2 22.1 14.3 11.0 14.2 13.2 - 3.9 9.2 19.2 15.4 12.6 8.3 10.1 18.5 15.7 17.1 17.3 12.6 11.5 9.8 W isc o n s in Kenosha Madison 4.50 4.86 5.05 4.80 5.9 15.0 Milwaukee 4.50 4.50 Racine Other cities State total 4.50 4.42 4.47 4.93 12.8 11.7 4.35 4.79 11.8 S eve n th D is tric t 4.96 5.04 - 0.3 10.9 7.3 14.8 23.6 14.1 25.3 16.4 10.3 10.0 15.3 16.8 12.6 12.3 7.7 11.6 14.5 14.4 14.2 14.8 14.2 15.0 16.3 1"O ther cities" include S M S A s in which there are less than three banks. Davenport-Rock IslandMoline S M S A data were disaggregated in order to include Davenport banks in the Iowa data. ^Calculated by weighting each bank's reported offering rate by the dollar amount of outstanding balances in its corresponding deposit category. If a bank did not offer a particular type of contract on October 31, any outstanding balance in that category was excluded in calculating the weighted rate for the area. Business Conditions, February 1973 or resumed offering longer-maturity con tracts, 54 banks increased offering rates on one- to two-year m aturity deposits and 83 banks increased rates on maturities over tw o years. Between October 1971 and October 1972, market interest rates first declined and then rose to higher levels. The average rate paid on savings and small-denomination time deposits com bined, weighted by the outstanding am ount of deposits in each category, ranged from 4.69 percent for Michigan member banks to 5.01 percent for Iowa member banks. The difference in the average passbook sav ings rate between these two states was slight, but savings deposits account for only one-third of total consumer-type deposits in Iowa, compared with 55 percent in Michigan. Since banks th at offer higheryield time accounts tend to pay the maxi mum on these accounts, differences in aver age rates among areas in most cases reflect differences in either the passbook rate or the proportion of high-yield accounts. Net inflow. Total consumer time and savings deposits at all district member banks combined increased 12 percent in the year ended October 31, 1972, com pared to a 15 percent gain in the preceding 12 months. Gains of 12 percent or more were recorded for each district state except Michigan, however, and in some areas gains were faster in the most recent period than in the previous period. Percent changes for the two periods by SMSA and other areas 5 in each state are shown in the table. Higher-yielding deposits, those with original maturities of more than one year, increased more rapidly than total smalldenom ination deposits in the 12 months ended in October 1972 and accounted for 45 percent of small-denomination time de posits at the end of October 1972, com pared to 39 percent in October 1971. Ma turities over two years accounted for 28 per cent, compared to 22 percent a year earlier. Large-denomination time deposits. IPC time deposits of $100,000 or more in creased 45 percent in the year ended Octo ber 31, 1972. Negotiable certificates (CDs) accounted for more than two-thirds of the dollar gain, but other certificates and open accounts increased at a faster pace. More than 90 percent of large-denomination IPC time deposits and 93 percent of negotiable CDs outstanding at the end of October were accounted for by less than 100 banks, each with total deposits over $100 million. Only 219 smaller banks reported negotiable CDs outstanding, and 245 reported other time deposits of $100,000 or more. Only 23 smaller banks reported both. Rates on large deposits are adjusted frequently to keep them in line with market interest rates to the extent the banks are actively com peting for the funds of large investors. On October 31, only 33 banks reported CD offering rates higher than a year earlier, although the major money market banks were paying V4 to xh percent more. Federal Reserve Bank of Chicago 6 L rowth of government spending How governments collect and spend reve nues has been a major issue in American p o litic s th ro u g h o u t our history. The nation’s independence had its roots in con flicts over raising and spending tax reve nues. Our present form of government arose because the Articles of Confederation failed to provide an effective means of raising revenue for national needs. Despite the importance of taxes and expenditures on the political scene, govern ment spending had little impact on the economy during much of our history. As late as 1900, total purchases of goods and services by all levels of government were less than 7 percent of our total output. This low level of spending reflected the “small government” attitude that pervaded American political thinking through the eighteenth and nineteenth centuries. Prior to the Depression, spending by state and local governments dwarfed that of the federal government except in time of war. During the 1930s, federal government spending was greatly expanded on a wide variety of programs intended to stimulate the economy and alleviate hardships. The e x p e rie n c e of the 1930s dramatically changed the public’s expectations of the role of government. At first, these expecta tions were focused on the federal govern ment, but after World War II this change in outlook extended to state and local govern ments as well. Changing expectations were not the only cause of the growing importance of government in the economy over the 44-year period 1929 through 1972. Much of government’s influence in to day’s econ omy stems from the expansion of activities which had been accepted government func tions long before 1929. For instance, the national character of the armed services predates the Constitution. However, the present global scale of U. S. military com mitments has increased military costs far beyond the level considered normal prior to World War II. Similarly, public edu cation became a primary responsibility of state and local governments early in our history. But the “ baby boom ,” which began in the late Forties, and the broad Table I. Comparison of government purchases of goods and services with gross national product Year Gross n a tio n a l p ro d u c t (billion dollars) G ove rn m en t purchase o f goods and services State and local (billion dollars) (percent o f GNP) Federal (billion dollars) T o ta l (percent o f GNP) (billion dollars) (percent o f GNP) 1929 103.1 7.2 7.0 1.3 1.2 8.5 8.2 1972 1,152.1 148.9 12.9 105.9 9.2 25 4.8 22.1 Business Conditions, February 1973 7 expansion of government into higher edu cation have increased costs far beyond any thing anticipated in the 1920s and 1930s. Government activity has been broad ened further by vast socially-oriented pro grams, such as social security, that either were started prior to World War II or were reasonable outgrowths of the trends of the Thirties. Beyond these, government has moved into the space program and atomic energy, areas reserved to science fiction fans before 1940. Government has become our largest industry. Governments generate more in come and employ more people than all dur able goods industries combined. Nearly one out of every five workers draws a govern ment paycheck. The impact of government spending on the economy occurs in two ways: 1. Governments make direct demands on the nation’s productive resources both in terms of the goods and services they buy and in terms of the share of the labor force they employ. 2. Governments alter the distribution of personal income by taxing some individ uals to provide income to others (trans fer payments). In addition, the federal government alters spending patterns of state and local governments by transfer ring taxes raised in some areas to govern ment units elsewhere (grants-in-aid). The National Income and Product Accounts of the United States begin with 1929 and provide a convenient tool for evaluating the importance of government activity in the total economy. This article traces the growing demands that govern ments have placed on the economy over the period covered by the National Income and Product Accounts. But before pro ceeding with a detailed examination of this growth, it is well to fix in mind the total magnitude of the change which has oc curred between 1929 and 1972. (See Tables I and II.) Over the 44-year period, while the total economy grew over 11 times, state and local government purchases of goods and services grew over 20 times. Federal government purchases in 1972 were 81 times larger than in 1929. The federal share of total output was almost eight times as large and the state and local share about twice as large as in 1929. If the relation ships of 1929 had been preserved in 1972, state and local purchases of goods and ser vices would have been about $80 billion, instead of the $149 billion actually spent, and federal purchases would have been a little under $15 billion, instead of the actual figure of $106 billion. The same gen eral picture of very large expansion is also evident where total government expendi tures, not just purchases of good and ser vices, are considered. Table II. Comparison of total government expenditures with gross national product Year Gross n a tion al p ro d u c t (billion dollars) G ove rn m en t e xp e n d itu re s (percent o f GNP) T o ta l F ederal* State and local (billion dollars) (billion dollars) (percent o f GNP) (billion dollars) (percent of GNP) 1929 103.1 7.8 7.6 2.5 2.4 10.3 10.0 1972 1,152.1 162.8 14.1 20 8.5 18.1 37 1.3 32.0 *Grants-in-aid included in state and local expenditures o n ly to avoid double counting. 8 Federal Reserve Bank of Chicago S ta te and local government dominates purchase outlays billion dollars 250 - 200 - federal nondefense 150 - 100 - state and local I932 I942 I952 ■I n u . m i J I962 1972 Note: 1972 data are prelim inary. Pre-1939 defense spending, not given in National Income Accounts, has been estimated from Treasury data. Purchases of goods and services . . . Government expenditures fall into two broad categories: purchase of goods and services and all nonpurchase expendi tures. Purchases include: 1. items government buys from the pri vate economy; 2. wages and other employment costs; 3. net investment in government-oper ated enterprises. Thus, purchases are the direct demands that all levels of government place on the nation’s productive capacity. A typical nonpurchase expenditure is the cost of social security benefits, which affects the nation’s income distribution pattern but for which the government does not receive any indentifiable return. Only the purchase category, therefore, is included when com puting gross national product, the total value of the outp u t of the economy. The growth of government purchases since 1929 reflects the changing patterns of its three major components: federal de fense purchases, federal nondefense pur chases, and state and local purchases. Dur ing the 1929-72 period, state and local spending has dominated, overshadowed only by defense costs during World War II. Defense purchases, less than $1 bil lion in 1929, increased slowly during the 1930s, then grew enormously, peaking at $87 billion in 1944, the historic high. Between 1947 and 1951 they were about $10 billion, and then rose to their Korean peak of $49 billion in 1953. The postKorean decline was small and was followed by steady growth which carried defense spending above the Korean high in 1962. The Vietnam peak came in 1969 at $78 billion. After declines in 1970 and 1971, growth began again in 1972. Federal nondefense purchases rose rapidly from the 1929 level of $500 million to $3.8 billion in 1940. Curtailed during World War II, they recovered quickly as soon as the war ended. By 1949, inflation and general growth of government brought them to almost double the prewar level. During the 1950s, there was a plateau with varying ups and downs, but beginning in 1960 the space program and other expan sions of government activity brought on rapid growth interrupted only by a pause in 1969, and they reached $30 billion in 1972. The pattern for state and local gov ernment purchases is quite different than for either category of federal spending. From 1929 to the end of World War II, w h ile federal purchases were growing rapidly, state and local levels hovered around $7 billion. Once the war was over, state and local purchases began to grow persistently from about $10 billion in 1946 to $149 billion in 1972. New schools to accommodate the baby boom, massive ex pansion of public college education, high ways, and new services for new communi ties all contributed to the growing costs. Business Conditions, February 1973 9 . . . command over 1/5 of GNP Although the growth in government spending since 1929 has been large, the economy itself was 11 times larger in 1972 than it was in 1929. So, more than dollar levels, it is growth measured as a share of gross national product that delineates the tr u e im p a c t o f governm ent on the economy. World War II, with defense spending consuming almost 42 percent of GNP, dominates the overall picture. After the war, the defense share dropped to around 5 percent of GNP, and remained there until the Korean War. By 1953, the defense share had nearly tripled and the drop after Korea was small. Since 1959, there has been a steady decline in the relative level of defense purchases, despite the high level of U. S. commitments. Vietnam produced only a minor ripple in this trend, and the 1972 level of 6.6 percent was the lowest since 1950. The federal nondefense share of GNP rose from less than 1 percent in 1929 to over 4 percent in 1939. Nondefense spend ing declined during World War II, but after the war there was a sharp climb to just under 3 percent as a result of the first post war recession, a level never again equaled. From 1950 to 1960, the level hovered around 1.5 percent, with minor ups and downs. Since 1960, there has been a defi nite upward trend, interrupted briefly by the demands of the Vietnam war. Despite this growth, the 1972 level of 2.6 percent was sharply below the 1939 level. The dominance of state and local government purchases prior to World War II, and their steady growth since, show up clearly when considered relative to GNP. In 1929, the state and local government share was seven times larger than the federal share. Even after the rapid rise in the feder al share in the 1930s while the state and local share was stagnant, the latter was still nearly double the federal level in 1939. Governm ents’ share of GIMP mounted in the postw ar era percent of GNP 20 1932 1942 1952 1962 Note: 1972 data are prelim inary. Pre-1939 defense spending, not given in National Incom e Accounts, has been estimated from Treasury data. During World War II, massive defense s p e n d in g by th e federal government eclipsed the state and local share, but when the war ended the two shares were about equal. With renewed defense expansion for Korea, federal spending again outpaced state and local spending. After Korea, the steady growth of the state and local sector, and declining defense spending, resulted in again reaching a balance that persisted from 1964 through 1968. Since that time, the total federal share has been declining, while the state and local share has grown. By 1972, it Weis over one-third larger than the federEil share. Although the impact of government purchases of goods and services on the economy is now substantially higher than the 15 percent share of GNP commanded during the Depression, the share of GNP has remEiined relatively stable at around 21 percent since 1952. Furthermore, it is the U. S. position in world affairs which created most of the increase. 1972 10 Total government employment has quadrupled since 1929 million persons Manpower needs of government . . . Most discussions of the size of gov ernment focus on the federal government, but, in the area of employment, state and local government plays the major role. Dur ing the entire 1929-72 period, except dur ing World War II and Korea, state and local government em ployment has outweighed the combined military and civilian man power of the federal government. Both state and local government employment and federal civilian employ ment quadrupled from 1929 to 1972. Federal civilian employment, always below 1 million prior to World War II, has ex panded for each war and retreated to a rela tively stable postwar level. However, each postwar level has been higher than the pre vious postwar level. State and local govern ment employment has grown steadily larger over the entire 1929-72 period. Employment in the armed forces has expanded far more rapidly in each conflict Federal Reserve Bank of Chicago than has federal civilian em ployment, and the postwar contraction has been sharper, but the increases for Korea and Vietnam were modest compared to the expansion for World War II. Military em ployment ex ceeded federal civilian em ployment in every year from 1951 until 1972. The differential began dropping after 1968, and by 1972 military employment fell below the civilian level. Total government em ployment, in cluding the military, was nearly constant from 1929 to 1935. Since then, a definite growth trend, obscured at times by federal reductions following wartime peaks, has re flected the strong influence of state and local government on the total. In 1929, total government employ ment consisted of 600,000 federal civilian employees, armed forces of about 200,000 and 2.5 million state and local government employees. Growth during the 1930s was slow. Even with the military preparedness program in 1939, the armed forces that year reached only 400,000, and federal civilian employment reached 900,000 out of total government employment of 4.5 million. The high point for manpower re quirements in World War II was 1945, when the armed forces utilized over 12 million men and federal civilian employ ment reached 3.8 million. That year, state and local government em ployment totaled 3.1 million. The peak Korean War year was 1952, when federal civilian employment was 2.4 million, the armed forces reached 3.6 million, and state and local em ploy ment was 4.2 million. The Vietnam crest was reached in 1969, when federal civilian employment exceeded 2.8 million, and the armed forces were 3.5 million. By then, state and local government had reached 9.4 million. By 1972, federal civilian em ploy ment had declined below 2.7 million, the armed forces were about 2.4 million, and state and local government employment had risen to 10.6 million. Business Conditions, February 1973 11 . . . take 18 percent of the labor force The impact of government employ ment on the manpower resources of the n a tio n is best seen when government em ployment is examined as a share of the labor force. Most discussions of the labor force concentrate on the civilian labor force because that is the base used by the Labor D epartm ent for its statistics on employment, unemployment, and the un employment rate. However, it is clear that a high proportion of those in the armed forces would seek employment in the civilian economy if they were not in the military. In periods of compulsory military service, the total labor force is larger than normal because some draftees would other wise be outside the labor force. For pur poses of this review, the total labor force, civilian and military, has been used as the measure of the labor supply. In 1929, all government activities combined employed about 7 percent of the total labor force. This level grew to almost 10 percent of the total by the end of the 1930s. World War II brought on enormous g ro w th , an d government employment reached nearly 30 percent of a labor force that had, itself, greatly expanded. In the years between World War II and the Korean War, total government employment was steady at about 12 percent of the total labor force. It jum ped to 15 percent during the Korean War and stayed there until 1961. Growth in the early 1960s was slow, but gained speed when the buildup for Vietnam began in 1966. The share soon reached 19 percent, and held constant through most of the Vietnam conflict. However, in 1972, the strong growth of pri vate em ployment combined with the de cline in military activity reduced the level to below 18 percent. The stability of the federal civilian share of the labor force is particularly re markable. Since 1947, it has stayed in the range of 3 to 3V\ percent of the supply, P o stw ar government employment gains were mainly sta te and local percent of labor force 30 25 state and local o L i l,. i 1932 ................. . , 1942 1952 , ,,!■ i ............ i 1962 Note: 1972 data are prelim inary. except for a small increase above this level during the Korean War, and a still smaller rise for Vietnam. Since the end of World War II, mili tary manpower demands have been many times larger than before the war. Neverthe less, there has been a persistent downward trend in the military share since the Korean peak in 1952, briefly halted by the Vietnam conflict in 1966-68. By 1972,the military share had declined to its lowest level since 1950. State and local needs relative to the total supply of manpower have grown steadily since 1947, continuing the trend th at began in the early Thirties. While the federal civilian share in 1972 was the lowest since 1941, the state and local share had doubled in th at time. In 1972, more than one out of every eight persons in the total labor force was employed by state and local government, and almost one out of five were employed by all government. 1972 12 Total expenditures have grown inexorably since 1947 billion dollars Note: 1972 data are prelim inary. Grants-inaid are included in the state and local sector only to avoid double counting. Total government expenditures . . . While government purchase of goods and services is the direct measure of govern m ent’s impact on the gross national pro duct, it is total government expenditures that most people associate with the size of government. Total expenditures get pri mary emphasis in discussions of govern ment budgets, spending, and taxation. This total is the number th at determines the level of taxes and borrowing needed to finance government. Total government expenditures are determined by adding to purchase all of the nonpurchase expenditures for social se curity, unem ployment compensation, wel fare payments, subsidies, and other similar expenditures. One of these expenditures by the federal government th at requires special consideration is grants-in-aid to state and local governments. These grants are in cluded in the National Income Accounts as Federal Reserve Bank of Chicago part of federal expenditures, but state and local governments actually spend these funds. Therefore, grants-in-aid must be re moved from either state and local expendi tures or federal expenditures to avoid double counting. For this article, they have been removed from federal expenditures. The general pattern of total govern ment expenditures follows that of total government purchase of goods and services. Federal expenditures in the period since World War II have dominated the total, typically being twice as large as all state and local expenditures. The trend toward the increasing importance of federal ex p e n d itu re s had already begun in the Thirties. Federal expenditures of $3.7 bil lion in 1929 were about one-third the total of $11.5 billion. They grew to $8.0 billion in 1939, almost equal to state and local expenditures of $9.6 billion. Federal ex penditures reached their World War II peak level in 1944, when they were almost $95 billion out of total government expendi tu r e s o f $103 billion. They dropped sharply after World War II before starting to grow again, and did not reach the World War II dollar level again until 1961. They have grown steadily since, reaching $208.5 billion in 1972. The growth immediately after World War II came from veteran’s benefits and foreign aid. Later, social security became a dominant factor, but the space and atomic energy programs, aid to education, and other new programs swelled the total. State and local expenditures were virtually constant from 1929 to the end of World War II, $7.8 billion in 1929, and $8.4 billion in 1944. Ever since World War II, the growth has been continuous and rapid: $11 billion in 1946, $36 billion in 1956, $84 billion in 1966, and $163 billion in 1972. This growth has been distributed over every area of state and local govern ment activity, but it has been particularly strong in education, public assistance, and public health. Business Conditions, February 1973 13 . . . are 1/3 the size of GNP A significantly different pattern from t h a t exhibited by dollar expenditures emerges when the size of expenditures is compared with gross national product. Total expenditures, for all levels of govern ment combined, have shown a persistent upward trend all through the 1929-72 period. Superimposed on this trend are the enormous bulge caused by World War II and a much smaller bulge caused by Korea. The effect of the Vietnam war is barely noticeable in comparison with that of the two earlier conflicts. In 1929, total expenditures were 11 percent the size of GNP. They rose to 20 percent in the 1930s, jum ped to an all-time high of nearly 50 percent during World War II, then returned to their prewar level of 20 percent immediately after the war. The pre war growth trend resumed in 1947 and per sisted through 1972, when the level of total government expenditures was just over 32 percent of GNP. Thus, the increase in the size of expenditures relative to GNP which occurred in the six years 1929-34 was almost as large as the increase during the 34 years 1947-72. When the purchases of goods and ser vices by the federal government and state and local government were compared, it was seen that the state and local share was the larger through most of the 1929-72 period. However, when the totals of pur chase and nonpurchase expenditures of the two sectors are compared, the federal share predominates. This difference in behavior results from the increasingly im portant role of federal nonpurchase expenditures, such as social security, in the composition of total federal expenditures. In recent years, non purchase expenditures have accounted for about half of all federal spending. Nonpur chase spending of state and local govern ments is much less im portant, usually less than 10 percent of expenditures. The size of state and local govern ment expenditures relative to GNP began to decline in 1933 with the launching of the “ New Deal.” This downtrend was not reversed until 1945. Although the trend has been rising ever since, expenditures did not climb back to the 1929 level of 7.5 percent of GNP until 1954, and did not exceed the 1932 peak of 13.1 percent until 1970. Nevertheless, since the mid-1950s, growth of state and local expenditures has tended to be the principal source for growth in the relative size of total government expendi tures. During the four most recent years, 1969-72, the size of federal expenditures relative to GNP has been declining, while growth of state and local expenditures has accelerated, so that the total level has con tinued to grow. In 1962, state and local government expenditures were 36 percent of the total. In 1972, they were 44 percent of the total, the highest share since 1940. 14 Transfer payments reallocate more and more personal income percent of disposable income Personal transfer payments Except during the World War II period, transfer payments to persons have accounted for the largest portion of non purchase expenditures of all governments. They grew from about 50 percent of the total in 1929 to almost 85 percent in 1971. To the extent that transfers Eire made to different individuals than those taxed to make the payments possible, their primary effect is to shift purchasing power from some individuals to others. This shift in in come also occurs with certain other expen ditures that are not classed as transfer pay ments, such as interest payments and sub sidies. Because it is not practical to trace the effects of any of these expenditures e x c e p t tran sfer payments through to personal income, the actual income redistri bution is larger than that resulting from transfer payments alone. Most, but n ot all, transfer payments are exempt from income taxes. The impact Federal Reserve Bank of Chicago of transfer payments on the redistribution of purchasing power is, therefore, more accurately measured by comparing the magnitude of transfer payments with dis posable personal income rather than with total personal income. Personal income grew from about $84 billion in 1929 to $795 billion in 1972, more than nine times larger. In 1929, government transfer payments to individ uals were less than $1 billion, about 1 per cent of total income. In 1972, they reached $104 billion, over 13 percent of the total. In 44 years, transfer payments grew by over 110 times, or 12 times as fast as the growth in disposable income. The pattern of growth of personal transfer payments as a share of disposable income has involved a complicated series of increases, occurring whenever the scope of benefits was expanded. After each increase peaked, there was a subsequent decline, but never to as low a level as existed prior to the expansion. The legislation of the 1930s raised the transfer paym ent level from 1 percent of income in 1929 to over 3lA per cent before World War II witnessed a decline, reflecting increases in employment and income rather than a lowering of benefits available. After the war, the level of transfer payments relative to income rose sharply, primarily as a result of GI benefits. Korean War GI benefits and the maturing of the social security system brought subsequent peaks in the years 1950, 1958, and 1961. The decline following the 1961 peak ended in 1964. The level has been rising ever since, as social security benefits have been improved, and medicare was added in 1963. The expansion since 1964 has also reflected growth in direct welfare pay ments, particularly the “Aid to Families with Dependent Children” program. The increase from just under 12 percent of dis posable income in 1971 to over 13 percent in 1972 was the largest year-to-year in crease since the end of World War II. Business Conditions, February 1973 Grants-in-aid Transfers of funds from the federal government to state and local units has a long history in the United States. Revenue from sales of public land was turned over to the states in the early 1800s, and other transfers occurred right up to the Depres sion. However, such transfers were small and unstable, and had little impact on state and local financing or on the federal bud get. In 1929, federal grants-in-aid were less than $150 million, provided less than 2 per cent of state and local revenues, and were less than 5 percent of federal expenditures. In the early 1930s, grants-in-aid were used to provide funds for both direct assistance and public work projects. By 1935, they had risen to over $1.7 billion, 20 percent of state and local expenditures and over 26 percent of the federal budget. From then on, they played an im portant role in state and local finance. Grants dropped substantially in the late 1930s to about $800 million, and remained under $1 billion through the war years. From 1946 through 1957, grants increased at about the same rate as state and local expenditures, providing about 10 percent of state and local government funds. In 1958, the growth rate of grants-inaid accelerated, raising the share of state and local spending they funded from 10 to 14 percent. They continued to supply this share until the end of 1965. From then on, they have provided progressively larger shares of state and local expenditures. By 1972, grants-in-aid were just under 24 per cent of state and local spending, topping the Depression peak for the first time. Prior to 1957, grants-in-aid never exceeded $3.5 billion. Since then, they have grown every year except 1960, reaching $38.4 billion in 1972. The share of federal expenditures devoted to grants-in-aid dropped from 26 percent in 1935 to less than 1 percent in 1944. In the immediate postwar period, 15 Federal grants fuel state and local government growth*4 billion dollars 1932 1942 1952 1962 Note: 1972 data are prelim inary. their share of federal expenditure surged to nearly 6 percent and then settled back to a 4 percent plateau, which lasted through 1956. Since that time, their share of the federal budget has grown steadily. By 1972, grants-in-aid exceeded 15 percent of federal spending, a post-Depression high. Prior to 1972, most grants-in-aid were earmarked for specific purposes, such as welfare payments, highway construction, and education. In late 1972, revenue shar ing began a new era for grants-in-aid. Reve nue sharing funds can be used for any legi timate purpose. While currently less than 20 percent of total grants,these funds do represent a new departure in the fiscal rela tionship between the federal government and states and municipalities. The federal government’s role as tax collector for s m a lle r g o v ern m en ts seems likely to become increasingly im portant during the next several years. Morton B. Millenson 1972
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