Government Spending Government Purchases versus Transfer Payments • The government spends trillions of dollars a year – GDP = C + I + G + Xn • The G in our formula refers to Government purchases • It does NOT refer to transfer payments. 7-7 What is a transfer payment? Transfer payments is the government taking money from one group and giving it to another group in the economy. Transfer Payments Include • Social Security – Transferring between the generations • Veteran Benefits – Transferring money to veterans • Unemployment Benefits – Transferring from the employed to the Unemployed. Government Purchases vs. Transfers – Approximately half is “transfer payments” • The largest transfer payment is social security • These payments eventually end up in the “C” part GDP (after they are spent) – Approximately half is “government purchases” • The largest government purchase is defense • These end up in the “G” part of GDP Federal and State and Local Purchases Relative to GDP, 1960-2000 25 Total Government Purchases Total government purchases have been declining since the late 1960s and in 1995 constitute 16 percent of GDP 20 15 State and Local Purchases 10 5 Federal Purchases 0 1960 1965 1970 1975 1980 1985 1990 1995 Y ear Copyright 2002 by The McGraw-Hill Companies, Inc. All rights reserved. 7-8 Federal and State and Local Transfer Payments as a Percentage of GDP, 1960-2000 Federal transfer payments have risen sharply since the mid-1960s, while state and local transfer payments have also grown substantially since the early 1970s. 16 Total Government Transfer payments 14 State and Local Transfer Payments 12 10 8 6 Total government transfer payments have risen from just 6 percent of GDP in 1960 to more than 15 percent today 4 Federal Transfer Payments 2 0 1960 1965 1970 1975 1980 1985 1990 1995 Y ear Copyright 2002 by The McGraw-Hill Companies, Inc. All rights reserved. 7-9 Graphing in “G” C+I+G C+I G C Graphing the C + I + G + Xn Line To keep the graph as simple as possible, we are assuming the government spends a constant amount of money regardless of the level of disposable income 3,000 C+I+G C+I 2,000 C 1,000 45û 1,000 2,000 Disposable income ($) Copyright 2002 by The McGraw-Hill Companies, Inc. All rights reserved. 3,000 7-10 Graphing the C + I + G + Xn Line How much is G? 3,000 C+I+G C+I 2,000 C Answer: 400 1,000 45û 1,000 2,000 Disposable income ($) Copyright 2002 by The McGraw-Hill Companies, Inc. All rights reserved. 3,000 7-11