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... governments often own productive businesses such as railways, postal services or energy providers. But, by accounting convention, state-owned enterprises that sell products at market prices are counted as private enterprises in the value added of the relevant sector: public railways are part of the transport sector, not the government sector. Even though state-owned corporations earn profits (and in the stats, higher profits means higher value added), their profits are accounted for in the industrial sector they work for, not the 'government' sector. So if the state-owned railway makes huge sales and profits (high value added), it boosts the transport sector value added, even if that sector is perhaps only successful because of state ownership. Only government-owned entities that don't sell at market prices are by definition included in the government sector. In short, from the perspective of national accounting, you don't count as government if you are doing market production. So, in the case of free public education, while increasing the number of teachers might add to GDP (because they are paid), the value they actually produce does not increase GDP. All of which means that government can only increase its value added with non-market production, thereby obscuring the true importance of government in the economy: value that government businesses do add is not shown in official statistics, nor is the value that education or health generate. These rules have been made in order to find a straightforward way to account for economic activity. Yet, when you consider the combined weaknesses of accounting conventions - government is lumped with households as a 'final' consumer; government cannot make a surplus, earn returns, increase its productivity or raise value added through market production - you can't help but notice that, while every effort has been made to depict finance as productive, the opposite seems to be true for government. Simply because of the way that productivity is defined, the fact that government expenditure is higher than value added reinforces the widely held idea that 'unproductive' government has to take before it can spend. This thinking by definition restricts how much government can influence the course of the economy. It underpins the theory of austerity. And it is a consequence of fables about government told over several centuries.

The accounts seem to say that government is just spending what it taxes away from value-adding companies. But can that be true? The national accounts fail to capture the full amount of this government value added and have several major flawed assumptions. First of all, national accounts regard most of government value added only as costs, mainly pay to government employees; government activity lacks an operating surplus, which would increase its value added. Let's compare it with the private sector. The share of pay in private-sector value added is rarely above 70 per cent. On that basis, you could say that government value added is on average only 70 per cent of what it should be. Second, the return on investment by government is assumed to be zero; by this logic it does not earn a surplus. If it were more than zero it would show up as operating surplus. The US did not officially separate public current expenditures (e.g. costs to run the everyday business of government, such as civil servants' salaries) and capital expenditure (e.g. to fund new infrastructure) until the 1990s, which strengthened accountants' impression that the government only spent money. But of course vital government investments abound: obvious examples include infrastructure projects like the Federal interstate highway system in the US or motorways in the UK. It makes no sense simply to assume that the return on enormous government investments is zero, when similar investments by the private sector do produce a return. Moreover, it is perfectly possible to estimate a return. One way of doing this is to assume a market rate of return such as the yield on municipal bonds - the overall return on bonds issued by cities. The crucial point here is that zero government return on investment is a political choice, not a scientific inevitability. 

After the 2008 financial crash - a crisis chiefly brought about by private, not public, debt - governments saved the capitalist system from breakdown. Not only did they pump money into the financial system: they took over private assets. A few months after Lehman Brothers collapsed, the US government was in charge of General Motors and Chrysler, the British government was running high street banks and, across the OECD, governments had committed the equivalent of 2.5 per cent of GDP to rescuing the system. [...] In a nutshell, austerity assumes that public debt is bad for growth, and that the only way to reduce it is to cut government spending and debt by running a budget surplus, irrespective of the possible social cost. With debt down to an unspecified level and government finances 'sound', the private sector will be freed to reignite prosperity. The politics of 'austerity' has framed the policies of successive UK Chancellors of the Exchequer and European finance ministers for almost a decade. In the US, from Newt Gingrich in the 1990s to the legally mandated spending cuts - sequestration - after the last financial crisis, Congress has threatened periodically to shut down the Federal government unless lower budget targets are met. But this fixation on austerity to reduce debt misses a basic point: what matters is long-run growth, its source (what is being invested in), and its distribution (who reaps the rewards). If, through austerity, cuts are made to essential areas that create the capacity for future growth (education, infrastructure, care for a healthy population), then GDP (however ill defined) will not grow. Moreover, the irony is that just cutting the deficit may have little effect on the debt/GDP if the denominator of the ratio is being badly affected. And if the cuts cause more inequality - as the Institute for Fiscal Studies has shown was the case with the UK austerity measures of the last years - consumption can only grow through debt (e.g. credit cards), which maintains purchasing power. Instead, if public investment is made in areas like infrastructure, innovation, education and health, giving rise to healthy societies and creating opportunities for all, tax revenues will most likely rise and debt fall relative to GDP.