U.S Bureau of the Census (1975, p. 1102).
The permanently larger government provided a reason to maintain the World War II tax rates, although the Republicans did try to lower them. They took control of Congress after the 1946 elections and promptly passed tax rate reductions. But President Truman vetoed these changes, citing as his reasons the budget deficit and concerns that unemployment and inflation would rise after the war (Witte 1985, 131–44). Congress was unable to override his veto. By 1948, however, a postwar depression had not appeared, and the federal government was running a budget surplus. With two of Truman’s reasons no longer valid, congressional Republicans were able to attract enough Democratic votes to override another Truman veto and enact a modest tax reduction.
Despite these reductions, tax rates were still much higher than they had been during the 1920s. These higher rates, combined with the expanding postwar U.S. economy, provided the funding for another major expansion of the federal government.
The Growth of Transfer Payments
Figure 2.3 shows U.S. federal outlays from 1929 to 2009. The series that excludes transfer payments (the dotted line) consists of outlays for defense, the post office, foreign affairs, general government, and spending on infrastructure (roads, harbors, airports, etc.). The solid line includes transfer payments, which are primarily Social Security and Medicare benefits, but also federal poverty programs (including Medicaid) and interest on the debt.
Figure 2.3 FEDERAL GOVERNMENT OUTLAYS INCLUDING AND EXCLUDING TRANSFER PAYMENTS, NOMINAL VALUES, 1929–2009
SOURCE: Federal Reserve Bank of St. Louis, FRED data set.
As Figure 2.3 makes clear, the major growth in federal spending during the past several decades has been in transfer payments, which reflects the rise of the welfare state. The two series diverged in the 1950s, and the gap continued to widen during the decades that followed. Major sources of transfer payments’ growth have been Medicare and Medicaid, both created in 1965, and Social Security benefits, which became more generous during the 1960s and 1970s. More recently, increased numbers of retiring baby boomers (with millions more in the pipeline) have led to further expansion of transfer payments.
The data plotted in Figure 2.3 are not adjusted for inflation, nor do they account for the fact that the U.S. economy has expanded over time. Figure 2.4 makes these adjustments by plotting federal outlays as a proportion of annual U.S. gross domestic product (GDP), which is the standard measure of the nation’s economic output. In 1929, federal spending was 2.7 percent of GDP, of which 1.6 percentage points were transfer payments. The 1930s’ New Deal programs caused these values to rise, and then during World War II, the government soared in size, peaking at almost 50 percent of economic output in 1944 and 1945. Transfer payments began diverging from the other outlays after the Korean War. Since then, federal spending excluding transfer payments has declined relative to economic output; in fact, the series is now roughly where it was in the late 1940s. Meanwhile, transfer payments rose to nearly 12 percent of GDP by the mid-2000s.
Figure 2.4 FEDERAL GOVERNMENT OUTLAYS INCLUDING AND EXCLUDING TRANSFER PAYMENTS, AS PERCENT OF GROSS DOMESTIC PRODUCT, 1929–2009
SOURCE: Federal Reserve Bank of St. Louis, FRED data set.
Table 2.2 shows various components of federal receipts and outlays during two recent years. In 2007, federal receipts were 19.4 percent of GDP, with the individual income tax accounting for 8.8 percentage points and the Social Security and Medicare taxes comprising 6.6 percentage points. That same year federal outlays for transfer payments—Medicare, Social Security, income security, and net interest—were 11.8 percent of GDP. The 2007–2009 recession caused tax receipts to decline relative to income, to 16.2 percent of GDP by 2010. Meanwhile, a federal spending binge caused outlays to expand to 25.8 percent of GDP, of which 14.8 percentage points were transfer payments. Since receipts were 16.2 percent of GDP while outlays were 25.8 percent, the government borrowed the difference (9.6 percentage points of GDP).
Table 2.2 FEDERAL RECEIPTS AND OUTLAYS AS PERCENT OF GROSS DOMESTIC PRODUCT, 2007 & 2010
| Receipts | |||||||
| Year | Total Receipts (%) | Individual Income Tax (%) | Corporate Income Tax (%) | Social Security & Medicare Tax (%) | Other* | ||
| 2007 | 19.4 | 8.8 | 2.8 | 6.6 | 1.2 | ||
| 2010 | 16.2 | 6.7 | 1.4 | 6.5 | 1.6 | ||
| *Other receipts include gift and estate taxes, excise taxes, customs duties, and Federal Reserve deposits. | |||||||
| Outlays | |||||||
| Year | Total Outlays (%) | Defense (%) | Medicare (%) | Social Security (%) | Income Security (%) | Net Interest (%) | Other** |
| 2007 | 20.6 | 4.2 | 2.8 | 4.4 | 2.8 | 1.8 | 4.7 |
| 2010 | 25.8 | 5.2 | 3.4 | 5.3 | 4.6 | 1.5 | 5.8 |
| **Other outlays include international affairs, health, and post office. | |||||||
| Federal Deficit | |||||||
|
Year
|
