expenditure plays four main roles:
With its prioritised structure and its peculiar decision-making processes, it substantiates the prevailing kind of State.
In democracy, public
expenditure is an expression of people's will, managed through political
parties and institutions. At the same time, public expenditure is characterised
by a high degree of inertia and law-dependency, which tempers the will
of the current majority.
By contrast, public expenditure in national accounts does not comprehend mere transfers among social groups, as it is the case of pension schemes. Payments of interest on public debt are not comprehended as well.
Second, public expenditure
can be classified according to the official body and organization
from which budget it is paid, as for example:
the central state and its ministries;
Here we should note that public expenditure usually does not consolidate state-owned firms. Their capital goods expenditure is added to investment.
In modern states, the expenditure of the different bodies is interlinked, with national programmes co-financing both international and decentralised projects. The co-financing with the private sector is sometimes actively looked for.
public expenditure can be classified according to the macro-function
at which it is directed:
justice and public order;
These priorities can be financed independently one from each other or be integrated and built in complex packages, as it happens with urban regeneration and policies for the transition to a green low-carbon economy.
In different places
and over time, those macro-functions have largely changed their level
of priority and even the social acceptance of the idea that it is the
State that must care of them.
In particular, as
a very sketched framework, one may distinguish at least three general
models of state to which public expenditure corresponds:
the minimal state, where only justice, public order, foreign policy
and some other basic functions should be carried out by the state, relying
on private initiative for the others;
Both the welfare and developmental state include the items of the minimal state. Military expenditure and special policies are common traits of the three models, maybe in different proportions.
shares in public expenditure, one can get insights in the kind of
state under analysis.
Needless to say, the State does not exert its influence on economy and society through public expenditure only, but also for example through laws. By integrating laws, public expenditure and the tax system (as well as other components) one put together comprehensive policies.
In certain countries, public expenditure contains a wide arrays of waste and resource dissipation, duplicative employment of low-productive bureacrats, boosted quotations in tenders, leading to super-normal profits of the few selected firms, which, if there is any lax legislation, practice and enforcement, generate the incentive for corruption. Transparency and public monitoring of prices of the goods purchased by public authorities can substantially increase the efficiency and the consensus around public expenditure.
expenditure is determined by political will of the leading forces
in the state: their priorities, their desired state model, and their interpretation
of current economic and political phase. Past choices have relevant
impact on public expenditure because of inertia and incrementalism. Bureaucracy
may play an important decision role for the actual expenditure.
considered as a completely exogenous variable, the public expenditure
would thus be fully in the hand of political decision-makers
without dependency from the economic context.
policy makers may turn out to follow an anti-cyclical broad control
of public expenditure. Automatic stabilizers may be at work, as with the
case of support schemes for unemployment: in
this case, higher unemployment and disappointing GDP
growth would lead to higher public expenditure through unemployment benefits
and financial support to firms.
In a different political and institutional context, public expenditure may, instead, positively respond to state revenues. Higher revenues (and maybe even a public surplus) may lead to higher public expenditure. Symmetrically, if there is an upper limit to public deficit and, because of a recession, tax revenue fall, the State may be forced to cut public expenditure. In this context, public expenditure would turn out to be pro-cyclical.
Lawmakers facing elections are sensitive to the public opinion. Usually, low-income social groups are in favour of expanding public expenditure in social issues, as stimulus for jobs, and provision of free or subsidised services. The rich tend to use less public services and to be more worried by the amount of tax necessary to fund public expenditure. The middle class is ambivalent and will react depending on the specific frame that will be proposed by politicians.
Specific expenditure categories and items have their favourable and opponent constituencies. Certain large-scale projects can be the subject of a national debate and the decision can depend on its outcome.
The process of public budgeting is crucial to influence the outcome, e.g. with the sequence of decisions being capable of "leaving no money" for the "last" choices. The current level of public deficit or surplus is ambivalently used to influence changes in the level of public expenditure. For those who desire a more or less balanced budget, the surplus is an invitation to spend, a deficit to cut. However, the same surplus can instead be directed to tax cut and the deficit gap can be filled in by new taxes or more incisive fight to tax evasion.
A GDP component as it is, public expenditure
has an immediate impact on GDP. An increase
of public expenditure rises GDP by the same amount, other things equal.
Moreover, since income is an important determinant of consumption, that
increase of income will be followed by a rise in consumption:
a positive feedback loop has been triggered
between consumption and income, exactly as in the case of shocks in export,
investment or autonomous consumption.
The full extent of this mechanism will depend, however, by the reactions of the other economic agents. Firms have to decide whether to increase production or prices in response to demand.
Moreover, if consumers
interpret the increase in public expenditure as a fall in their disposable
income (i.e. after-tax income), consumption
may fall accordingly.
expenditure is also told to crowd-out investment,
possibly through an interest rate increase,
further leading, in a floating exchange rate
regime, to a currency appreciation. Exports
would then be displaced as well.
In more microeconomic terms, public expenditure may be directed to consumer goods and thus substitute families' expenditure, as with the case of health drugs. By contrast, in other cases, as with education, public expenditure may trigger further consumption (books and all the other goods whose consumption depend on culture levels).
Conversely, the part of public expenditure which is burned in rent-seeking behaviours, corruption, and purposeless purchases can alter the rules of the game in markets, firms, and income distribution.
In developed countries, it has always grown, whatever the political orientation of the government. Just the tempo can change. With a few exceptions, only under extremely strong constraints has public expenditure been cut in absolute terms, so that this attempt can be judged as difficult.
Wars are episodes of extremely high public expenditure, followed usually by a return to normality, unless the pressure of the ex-soldiers for social advancement is met with an extension of the welfare state.
During recessions, tax revenue tends to fall, public budget usually degradates. Some governments react by reducing public expenditure and freezing employment and wages in the public sector. Other decide to spend more to stimulate the economy.
The former risks to worsening GDP dynamics and engendering a vicious cycle, which can be broken by international trade dynamics, financial inflows or other variables.
The second would provoke a deep public deficit, waiting for GDP rebound and, possibly, new taxes.
Still, real world data show often little reaction of public expenditure to the cycle. Most cycles show public expenditure as a stabilizing tool just keeping the same dynamics when the rest "goes wrong".