Downsizing Government Employment Exacerbates the Downturn: Unemployment rate would be 7.1% without Gov’t Downsizing

The Hamilton project has a put out a nice analysis showing how harmful government layoffs have been on the employment situation. If you extrapolate the government employee to population ratio under President Bush, you’d have 1.7 million more government workers at the federal, state and local level. All else equal, this translates to a 7.1% unemployment rate.

I’m all for a lean and nimble public sector, but it is extremely damaging to try to get there during hard times. Without fiscal relief, government payrolls (especially at the state and local level) get squeezed when we need jobs most. During recessions economic activity contracts, reducing states’ sales and income tax revenue. Since states have balanced budget rules, they not only cut back on their spending and payrolls, they also put more fiscal pressure on local governments (which also cut spending and employment).

Good fiscal policy involves counteracting these pressures. The benefits and welfare gains are large, and the costs, especially when interest rates are at historic lows, are small. Numerous studies have shown that state fiscal relief during recessions increases employment. We did some of this with the Recovery Act, but have really fallen short since then. You can see how short we’ve been in the chart below – government employment has fallen off a cliff.  We are all now suffering the consequences.


About ozidar

I'm an Assistant Professor of Economics at the University of Chicago Booth School of Business and a Faculty Research Fellow at National Bureau of Economic Research. You can follow me on twitter @omzidar.
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