Sorry, Keynesians, Government ‘Funding’ Can’t Grow the Economy

By: Frank Shostak

A key factor that constrains people’s ability to generate goods and services is the scarcity of funding. Contrary to popular thinking, funding for consumption and production is not about money as such, but about real savings.

Note that various tools and machinery or the infrastructure that people have created is for only one purpose and it is to be able to produce final consumer goods that are required to maintain and promote life and well-being.

For a given consumption of final consumer goods, the greater the production of these goods the larger the pool of real funding or savings is going to be. The quantity and the quality of various tools and machinery (i.e., the available infrastructure) place a limit on the quantity and the quality of the production of consumer goods.

Through the increase in the quantity of tools and through the introduction of better tools and machinery a greater output can be secured. The increase in the quantity of tools and their enhancement requires funding to support various individuals that are engaged in the production of new tools and machinery.

This of course means that through the increase in real savings, a better infrastructure can be built and this in turn sets the platform for a higher rate of economic growth.

A higher economic growth means a larger quantity of consumer goods, which in turn permits more savings and also more consumption. With more savings a more advanced infrastructure can be created and this in turn sets the platform for a further strengthening in the economic growth.

Note that the savers here are wealth generators. It is wealth generators that save and employ their real savings in the buildup of the infrastructure. The savings of wealth generators employed to fund various individuals that are specialized in the making and the maintenance of the infrastructure. Real savings also fund individuals that are engaged in the production of final consumer goods.

Since government doesn’t produce any real wealth, obviously it cannot save and therefore it cannot itself “fund” any activity. Hence for the government to engage in various activities it must divert funding i.e. real savings from wealth generators.

As a rule such activities amount to providing support to various non-productive activities that add nothing to the pool of real funding — for instance, providing a large amount of money to various non-productive activities in order to protect employment.

Since government activities in essence only consume and do not generate real savings obviously, government cannot grow an economy. An increase in government spending then means the weakening of wealth generators and thus weakening and not strengthening the economic growth as popular thinking and various empirical studies show.

How then are we to reconcile the so-called facts that are supposedly presented by various econometric studies (i.e. that government can grow the economy)?

Contrary to popular way of thinking data cannot talk by itself and present so called facts. The data must be assessed by means of a framework that can withstand some basic scrutiny such as whether the government whilst not being a wealth generator can grow the economy.

Once we reach the conclusion that the government cannot grow the economy, we can emphatically reject various econometric studies that tell us the exact opposite. It must be realized that the data out of which various so called “facts” are produced appear to be supportive of various empirical research conclusions as long as the private sector of the economy generates enough real savings to support productive and non-productive activities.

As long as this is the case various econometric data torturing techniques can produce a “support” for any pie-in-the-sky theory such as that the government can grow an economy.

The so called empirical findings provide support for the Keynesian theory (i.e. that when government spends more on goods and services this boosts the overall income in the economy). Hence it would appear the more government spends, the larger the national income is going to be.

Observe that government cannot increase its spending without reducing the means of wealth generators — those who save. Once the ability of wealth generators to produce real savings curtailed economic growth follows suit and no amount of money that government pushes into the economy can make it grow.

This was first published by the Mises Institute.

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