Defining Government Expenditure vs. Investment

I like this little graphic that's been making the rounds, courtesy of Voltage Creative, hat-tip nonSense, Simoleon Sense, Paul Kedrosky.

Click to enlarge

Paul Kedrosky is a reasonable fellow, and takes care to note that the numbers "are in current dollars, and all treat expenditures and investments as equivalent." Kevin Drum is even more reasonable:

This stuff has gotten completely out of hand, with "estimates" of the bailout these days ranging from $3 trillion to $7 trillion even though the vast bulk of this sum comes in the form of loan guarantees, lending facilities, and capital injections. The government will almost certainly end up spending a lot of money rescuing the financial system (I wouldn't be surprised if the final tab comes to $1 trillion over five years, maybe $2 trillion at the outside), but it's not $7 trillion or anything close to it. People really need to stop throwing around these numbers as if the bailout is comparable to World War II or something. That's not reality based, folks.

But reasonable and right are sometimes different, and this graphic helps to think it through. We have some idea what we paid for, for example, with the $851,000,000,000 for NASA. We bought space shuttles, satellite systems, a moon shot, planetary probes, a lot of research and development, some air bases and research facilities.

What are we buying when the government purchases mortgage-backed securities, or buys preferred shares of banks that can only pay if a portfolio of real-estate loans does not totally sour? We are buying "paper", right?

No. We are not buying paper. Ironically, the pejorative term "paper" hides what we are actually doing in a way that is over flattering. All of the iffy securities that are weighing down the banking system represents money already spent on real projects or consumption. When the government purchases a security, it is taking the place of the party that originally fronted money for that expenditure. Every penny of government "investment" is retroactive expenditure on housing, real-estate, consumer credit, whatever.

If a government were to borrow funds in order to build a new stadium, we'd call that an "expenditure", even if we fully expect use fees and incremental tax revenues to eventually turn a profit for the fisc. Politicians supporting the project would call it an "investment", quite justifiably. But the project would still count as government spending.

If a private party builds the same stadium, and then is reimbursed by the government in exchange for rights to future revenue, that doesn't change the economic substance of the transaction at all. But in the second case, the government would buy "paper" — it would enter into a contract trading current government funds for future revenues. That "security" doesn't make the transaction any more or less an investment than if the government had purchased the stadium itself.

So, in economic substance, the government is currently spending through a financial time machine on the exurban subdivisions and auto loans of several years past. We are retroactively turning in the entire mid-decade "boom" into a gigantic Keynesian stimulus project. Apparently that stimulus was not so successful, since we are likely to enact a brand new massive stimulus very soon.

To be fair, it should be easier to design a good stimulus program in the present tense — financial time machines are persnickety things. But the expenditures we are planning to undertake and the "investments" we are making via the universal bail-out are not so different in kind.

I hope that the infrastructure we build next year turns out to be a wise investment, both in financial and use-value terms. It might be, but just because we hope to recoup the cost, we won't pretend that no money was actually spent. We'll call the whole thing an expenditure, even though that will probably overstate the ultimate burden. But if a power grid counts as an expenditure on government books, so should a security derived from a mortgage or credit card loan made two years ago.

You can argue that the latter are more likely to pay-in-full than the former. Or you can easily argue the opposite, given the prices that the government is paying for its financial investments relative to private-sector bids. But you can't claim that securities are "investments" while a power grid, or NASA, or even World War II are mere "expenditures". (It does not seem unlikely that the U.S. government has earned more in tax and other revenues over the years having entered WWII than it would if it had not, perhaps by a large enough margin to justify the financial costs of the war.)

Figures of 7 or 8 trillion dollars recently bandied about by the Communists at Bloomberg are overstated, since they do not distinguish between expenditures and guarantees, which are contingent liabilities. The government's contingent liabilities aren't usually counted as spending until the contingency has been triggered. But the amount of money already spent or committed on "financial investments" to date is more than $3 trillion dollars, and it is perfectly right to call that government spending on the financial bail-out.

The scale of the largely unlegislated current government program to save the financial system is breathtaking and quite unprecedented. Taxpayers might be made whole, in financial terms, or might reap sufficient dividends in terms of suffering avoided to justify the program. But don't let anyone convince you that the scale of this intervention is "overstated" because it is all "investment". NASA and the Marshall Plan were investments too, and pretty good ones.

Comments

[BobTrader:]

I agree with much of what the author says, it 5 or ten years, when real estate markets stabilize, I could even see profits from some of these interventions.

Check out this website...

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2008 Dec 02 11:38 AM

[levin70:]

And what do we call the cash flows when those investment $ are repatriated? The real scary stuff that no one is talking about is how our gov't officials will use the return $ in 2011, 12 13 etc. The gov't can sit on this paper, which is crap today, and wait 5 years and collect the cash and figure out what the real return is. When these synthetic insturments collect their $ what will the gov't do with the cash - spend it or pay down the debt issued to buy it?

Kind Regards

2008 Dec 02 11:54 AM

[Smarty_Pants:]

"All of the iffy securities that are weighing down the banking system represents money already spent on real projects or consumption."

Two points:

1) Are CDOs or CDSs expenditures on a real project or consumption? No, they are transfers of risk that went bad. It is simply agreening to pay for someone else's mistakes after the fact.

2) Even ignoring the fact that much of the derivative content of the bailout was made in non-real projects, what the author leaves unstated is that these retro-active expenditures were for projects that FAILED.

Granted, the gub'mint is pretty good at spending money on something and then messing things up, but to spend money on something AFTER it is a proven failure has to be the pinnacle of foolishness.

2008 Dec 02 11:58 AM

[Chris B:]

Agreed Smarty_Pants,

For that sum of money, we could have purchased universal healthcare, energy independence, free university educations for our brightest students, AND the advanced technology and knowledge base that could keep the US the dominant superpower in the 21st century.

Instead, we have done the equivalent of bailing out pets.com or furniture.com in 2000 or the typewriter factories in the 1980's. Every major investment - excuse me - expense of the last two decades has been for things that have no future - Iraq, Big 3 SUV's, overpriced exurban McMansion mortgages, oil. No wonder people hate paying taxes. The ROI is near zero.

This is how you dismantle an empire. Invest in saving the past instead of producing the future. I hope we're OK with 100 years of Chinese dominance because we are the ones making it happen.


On Dec 02 11:58 AM Smarty_Pants wrote:

> "All of the iffy securities that are weighing down the banking system
> represents money already spent on real projects or consumption."
>
>
> Two points:
>
> 1) Are CDOs or CDSs expenditures on a real project or consumption?
> No, they are transfers of risk that went bad. It is simply agreening
> to pay for someone else's mistakes after the fact.
>
> 2) Even ignoring the fact that much of the derivative content of
> the bailout was made in non-real projects, what the author leaves
> unstated is that these retro-active expenditures were for projects
> that FAILED.
>
> Granted, the gub'mint is pretty good at spending money on something
> and then messing things up, but to spend money on something AFTER
> it is a proven failure has to be the pinnacle of foolishness.

2008 Dec 02 12:29 PM

[Socialism c...:]

> For that sum of money, we could have purchased universal healthcare,
> energy independence, free university educations for our brightest
> students, AND the advanced technology and knowledge base that could
> keep the US the dominant superpower in the 21st century.

Agreed -- we could have spent the *bailout* money elsewhere. Come to think of it...they could have just given us ALL tax cuts. Stop thinking as though it's *their* money to begin with -- it's OURS. Let us keep more of it.

> Instead, we have done the equivalent of bailing out pets.com or furniture.com
> in 2000 or the typewriter factories in the 1980's. Every major investment
> - excuse me - expense of the last two decades has been for things
> that have no future - Iraq, Big 3 SUV's, overpriced exurban McMansion
> mortgages, oil. No wonder people hate paying taxes. The ROI is
> near zero.

Every? Sorry, but Iraq is not for nought, despite what leftist thinking mandates its followers believe. There are 25 million people very happy to have a chance at a new life, including a dozen million women who are now allowed an education!! You think that's not a game changer???

We hate paying taxes because it's our money by right, not government's. We *ought* to kill income taxes (and property taxes)...in order to restore personal property rights, which have gone totally by the wayside!! Move to solely consumptive taxation -- that lets US decide if and when to pay taxes, when we decide we can afford them and want to spend.

fairtax.org

> This is how you dismantle an empire. Invest in saving the past instead
> of producing the future. I hope we're OK with 100 years of Chinese
> dominance because we are the ones making it happen.

Define "this" in "this is how". What is your root cause? Socialist housing, followed by socialist bailouts? Those are wrong...but only the symptoms. We have to look at the lack of ethics and generally declining morals in our society and recognize that without morality, disorder cannot be segregated from our finances and kept merely in the "social" sphere.

2008 Dec 02 01:07 PM

[austrian63:]

I think we all know the government will not make money on these purchases. Smarty_pants is correct. Purchasing failed "investments" is the pinnacle of foolishness. If these assets were really likely to be worth more in the future, people would be lined up to purchase them. We don't know how much this will eventually cost but I have a feeling the stock market's performance will vary inversely with the cost of the bailouts.

2008 Dec 02 01:42 PM

[Chris B:]

Socialism,

Yes, tax cuts are another way we could allocate this massive printing of money, but the difference between a rising or sustainable empire and a third world country is how resources are spent/invested. If low taxes are all it took to achieve prosperity, Hati and Somalia would have greater GDP's than Japan and Germany. Instead, Japan and Germany invested in education, infrastructure, health, and technology. The US did the same thing for most of the 20th century, while low-tax havens like Mexico did not. Certain investments are proven by history to pay dividends to the entire nation for decades. Underwater mortgages and surplus Chevy Suburbans do not make the list.

Iraq will be another unstable third world country for the next 20 years, which is what it always was. The govt will be Islamist either by election or overthrow no matter what we do. I define that as a waste.

I would hesitate to call national economic performance a function of declining morals. It leads to the conclusion that the Chinese are better people than us because they grow faster, or that Singapore is a more moral place because income per person is higher! Besides, are morals really declining? Have we forgotten Jim Crowe, the trail of tears, internment camps, lynchings, slavery, women having no rights, etc?


On Dec 02 01:07 PM Socialism cannot compete! wrote:

> > For that sum of money, we could have purchased universal healthcare,

2008 Dec 02 01:42 PM

[Nikhil:]

nice article

2008 Dec 02 04:04 PM