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Government Spending, Equality and Development

Chris Bowers has an interesting and somewhat tongue-in-cheek post up at Open Left in which he looks at the amount of government spending as a fraction of GDP in different countries and uses it to infer how “socialist” or “capitalist” a given economy is. For example, in the United States this year, total government spending (including spending by state and local governments) may approach about 45 percent of GDP. Therefore, the United States, it can be claimed, is 45 percent socialist!

I don’t quite buy this definition of “socialist” (and like I said, I don’t think Chris entirely does either). This is because I tend to see government expenditures as performing two somewhat unrelated functions with respect to the economy. One function is in providing a social safety net; this certainly veers toward the idea/ideal of social democracy (or democratic socialism). The other is in serving as sort of a benevolent monopolist, taking advantage of the its unique amalgamation of wealth and resources to correct for market failures. The Federal Reserve is an example of such a function. Correcting for externalities, such as pollution, is an example of such a function. Arguably something like stimulative spending is too, in which the government creates demand when the private sector is unwilling or unable to do so. Such interventions, it is hoped, can augment near- and long-term growth. They will not necessarily increase equality, however, and in some cases (such as the TARP intervention) may actually do the opposite.

In any event, I thought it was worth looking at whether those countries that tend to have greater levels of government spending also tend to have greater equality, as measured by something like the Gini Coefficient. I have further broken countries down into five quintiles as measured by the UN’s Human Development Index:

It turns out that in developed economies, there is a fairly strong relationship between the amount of government spending and the amount of income equity. Western European governments, for example, have generally accounted for a greater fraction of their countries’ economies than have the United States, and they also tend to have more equal distributions of wealth. This relationship does not exist, however, in underdeveloped economies, perhaps because excessive levels of corruption render the idea of the “benevolent monopolist” moot (instead, the government is acting like more of a cartel for the wealthy and the privileged).

It also must be pointed out, however, that developed economies in general tend to have more actively involved governments. Government spending accounted for 47 percent of GDP in the most developed economies, versus 34 percent in the least developed. Developed countries also have much greater levels of income equity than do underdeveloped ones, the United States being a partial exception.

The real questions, of course, involve which way the arrows point. Are developed countries wealthier because they have tended to place a greater premium on income equity? Or do they have the luxury to do so because they are wealthier? I’m not going to attempt to answer those questions here (and in fact, I don’t have anything more than the vaguest of opinions about them), but I thought this context might be helpful for those of you who might seek to.

Nate Silver is the founder and editor in chief of FiveThirtyEight.