Regulations Are A Really Big Drag On U.S. Growth
by Mark Perry & Thomas Hemphill
May 13, 2016
When the Department of Commerce reported recently that the U.S. economy grew at an annual rate of only 0.5% during the first quarter of 2016, the White House attributed the meager growth in output to weakness in business investment and exports.
Yet there is another important institutional influence often overlooked — or conveniently ignored — that negatively affects the country’s overall economic performance: the increasing impact of government regulations.
In a 22-industry study released in April by the Mercatus Center at George Mason University, a group of researchers found that federal regulations created an economic drag on the U.S. economy amounting to an average annual reduction in GDP growth of 0.8%. What is unique about this study is that that it evaluates the cumulative costs of regulation over a long time period and examines the effect of federal regulations by considering a counterfactual experiment: What would have happened if federal regulations had been “frozen” at the levels that prevailed in 1980?
The study’s authors posit that the cumulative buildup of federal regulations over time leads to duplicative, obsolete, conflicting and even contradictory rules, and that the multiplicity of such regulatory constraints complicates and distorts executive decision-making concerning a firm’s planning for research and development, business expansion, investments in new equipment, and updating manufacturing processes.
Thus, because of the importance of innovation and productivity growth to the U.S. economy, these distortions have negative consequences for long-term economic growth in the U.S. The Mercatus research team calculated that the 0.8% annual drag on real GDP growth since 1980 due to the cumulative effects of regulation can be extrapolated into a 25% reduction in the size of the U.S. economy in 2012, or an economy that was $4 trillion smaller (nearly $13,000 per American) than it would have been in the absence of regulatory growth.
The federal government is not required to track total regulatory costs, although estimates of the regulatory burden on the U.S. economy range upwards of more than $2 trillion per year, or more than 10% of GDP. Not surprisingly, the Obama administration has shown a much greater appetite for expanding federal regulations than the previous Bush administration.
James Gattuso and Diane Katz of the Heritage Foundation, in the tenth installment of their “Red Tape Rising” reports (forthcoming May 2016), found that in the first seven years of the Obama administration through 2015, the executive branch enacted 229 major “economically significant” regulations (those anticipated to impose costs of $100 million or more) on America’s private sector.
In contrast, during the entire eight-year term of the previous Bush administration, there were only about half as many (126) such major regulations imposed on the private sector. Costwise, it has been estimated that the regulations enacted during Obama’s time in office now total $108 billion annually (in 2015 dollars), or 52% more than the $71 billion annual cost imposed by regulations during the eight years of the Bush Administration.
Given the regulatory zeal of Team Obama, it should not be surprising that economic growth has averaged only 1.4% annually over the last seven years. Further, Obama is the only president in modern history whose time in office didn’t include at least one year of economic growth at the 3% historical average.
Further, most studies that estimate regulatory costs focus exclusively on the burden of federal regulations. Therefore, if the costs of private-sector compliance with state and local government administrative rules were factored into the Mercatus Center analysis, the negative economic effects of all government regulations on the U.S. economy could easily exceed 1% of foregone annual GDP growth.
Moreover, the use of dynamic economic modeling to estimate cumulative regulatory effects has the potential to offer a more realistic appraisal of the full costs when legislators are considering regulatory actions. Too often, the negative effects of government regulations do not sufficiently capture the impact on stifling innovation in the private sector. In a developed economy like the U.S., such innovation is crucial for facilitating economic growth through improved business productivity and new product and process development.
While some regulation of the private sector is needed, it should be explicitly recognized that there is an increasingly significant cumulative cost to the American economy of a burgeoning regulatory state. When it comes to competing in the world economy and trying to restore economic growth in the U.S. to the 3% historical average, the connection between the increasingly costly regulatory burden being imposed on America’s private sector and the ongoing, mediocre national economic performance reflected in the anemic growth in the first quarter is reaching an important crossroads.
Hemphill is a professor of Strategy, Innovation and Public Policy at the University of Michigan-Flint and Senior Fellow at the National Center for Policy Analysis.
Perry is a professor of economics at the University of Michigan-Flint and a resident scholar at the American Enterprise Institute.