Academic journal article American Economist

Productivity Growth and Public Sector Employment

Academic journal article American Economist

Productivity Growth and Public Sector Employment

Article excerpt

1. Introduction

There is broad recognition that, with reference to U.S. data, there has been a rise in the share of public sector employment over the past several decades. [See, for instance, the standard labor economics textbook in its fourth edition by McConnell and Brue (1995, p. 347).] In fig. 1, we show that the U.S. share of public sector employment in total civilian labor force increased from 9.7 percent in 1950 to a peak of 15.7 percent in 1975, and, thereafter, gradually declined to 14.6 percent in 1995.(1)

Popular explanations for the rise in public sector employment share typically appeal to demand factors. In particular, it is commonly argued that in a growing economy, there is a rise in relative demand for high income-elastic government services such as higher education, health services, parks and a clean environment. By implication, the derived demand for public sector workers increases. In this paper, we provide an alternative explanation for the rising share of public sector employment up to the early 1970s before gradually declining, using a general-equilibrium model whose predictions accord well with the stylized facts of U.S. productivity growth.

More generally, economists' interest in the growth of public sector expenditure goes back at least to the German economist Adolph Wagner who wrote in the 1880s. [See his paper in Musgrave and Peacock (1958).] In Musgrave (1969), it is argued that because infrastructure is particularly important at the early stage of development, public capital expenditures occupy a larger share in the earlier development phase, and then show a relative decline as a higher level of income is reached. The classic study of Peacock and Wiseman (1961), on the other hand, puts forward an alternative hypothesis regarding the rising share of public expenditure to GNP. The authors argue that during national emergencies, particularly war, voters are willing to cross the old "tax threshold" and to accept a higher level of taxation, which they would otherwise resist. After the emergency has passed, they are willing to retain the higher level of taxation, making possible higher levels of civilian public expenditures. The volume edited by Forte and Peacock (1985) contains a useful collection of papers applying economic analysis to look at the underlying causes of growth of public expenditure.

The theory developed in this paper focuses on only one component of public expenditure - the payroll of public sector employees. It augments the neoclassical growth model to incorporate Harrod-neutral technical progress and a public sector input that enters productively into private sector production. Making the empirically relevant assumptions that the production of the public sector good is relatively labor-intensive, and that the elasticity of substitution between capital and labor in private production is less than unity, we show that in a market economy where the public and private sectors hire labor competitively, the observed rise and fall in the share of public sector employment can be explained basically by the role of technical progress. In particular, we demonstrate that a temporary rise in the rate of Harrod-neutral technical progress (corresponding to the 50s and 60s in [ILLUSTRATION FOR FIGURE 1 OMITTED]) raises the share of public sector employment before declining (in the 70s and 80s). For empirical studies on the productivity slowdown, we refer the reader to the following literature. Denison (1985, p. 34) computes that the average growth rate of potential national income in the whole economy per person potentially employed dropped from 2.26 percent (1948-73) to 0.23 percent (1973-82), in which residual productivity decreased by 1.13 percent. Baily and Gordon (1988) note that there might be a common impetus to productivity advance in the early postwar years across all sectors (p. 420) and there was a widespread productivity slowdown after 1973 (p. 362). …

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