Small Is Best: Lessons from Advanced Economies

June 7, 2012

Government is necessary to defend the nation, to enforce property rights, to provide public goods and to intervene in markets that exhibit large externality effects.  Supply-side economists, however, argue that modern national governments have extended themselves far beyond this mandate, and that this has had a negative effect on economic growth.  By increasing taxes to unprecedented levels, they argue, large governments with extensive powers stifle risk-taking and entrepreneurship.  Supply-siders argue that this dampens long-term economic prospects and encourages stagnation.

Ryan Bourne and Thomas Oechsle of the Center for Policy Studies, a British think tank, have conducted an econometric analysis to test this argument.  Comparing 34 "advanced" economies (as defined by the International Monetary Fund) over the past 10 years, Bourne and Oechsle classified governments as big or small if tax outlays/receipts were larger or smaller than 40 percent of gross domestic product (GDP).

  • Budget outlays for big governments were, on average, 15.1 percentage points higher than average outlays for small governments.
  • Similarly, the tax burden averaged 14.7 percentage points higher for big governments than for small governments.
  • GDP grew for small governments at a 3.1 percent average annual rate from 2003-2012, compared to 2.0 percent per year for big governments.
  • The three economies with the fastest growth among big governments -- Czech Republic, Israel and the Slovak Republic -- were those with the lowest tax burdens among big governments.

The overall growth results were economically significant: smaller governments tended to grow much faster than bigger governments.  Dissenters often respond that for what they lack in growth, bigger governments provide in superior social outcomes, specifically in education and health.  The econometric analysis conducted by the researchers also tested this argument.

  • Directly comparing the outcomes for big and small governments over the last 10 years gives mixed results.
  • On one hand, life expectancy at birth in 2009 was higher for small governments than for big governments (81.3 years vs. 79.9 years).
  • On the other, infant mortality was both lower for big governments than small governments (4 per 1,000 births vs. 3.5 per 1,000 births).
  • In education, testing outcomes in mathematics, science and literacy on the internationally administered PISA test, students of smaller governments performed significantly better.
  • Though these results should be interpreted cautiously, they undermine the argument that big governments provide superior social outcomes.

Source: Ryan Bourne and Thomas Oechsle, "Small Is Best: Lessons from Advanced Economies," Centre for Policy Studies (U.K.), May 2012.

For text:

http://www.cps.org.uk/files/reports/original/120522105633-smallisbest.pdf

 

Browse more articles on Economic Issues