Krugman On American Growth & Government Spending
First of all, advocates of limited government are usually not for it just because of economic efficiency arguments, they (we) view freedom from government as a self end or desirable because of other reasons. That may be hard for Krugman to relate to, but that is similar to how leftists view economic equality as a self end or desirable for other reasons. Thus, even if it didn't harm economic efficiency, many would oppose bigger government.
And secondly, it is misleading to compare simply levels of government spending with growth. The level of government spending is perhaps more accurately associated with the higher income level in America. For growth, change in government spending is at least as important as the level. And for America, it is very misleading to discuss the 1980 to 2009 period as just one period, because government spending changed in a very different way during the 1980 to 2000 period, and the 2000 to 2009 period.
During the period of 1980 to 2000, federal spending fell from 21.7% of GDP to 18.6%. The drop was even bigger excluding net interest, from 19.8% to 16.1%. Some of that reflected the "peace dividend" from the end of the cold war, yet if you also exclude military spending, federal spending fell from 14.9% in 1980 to 13.1% in 2000.
Then comes the 2000 to 2009 period when federal spending soared from 18.6% to 22.2% (excluding outlays for TARP and similar items). The increase was even bigger excluding net interest, from 16.1% to 20.8%. If you also exclude military spending, the increase is somewhat smaller, but it still rose from 13.1% to 16.3%-which is a new all time high.
America has thus rapidly been moving towards a much larger welfare state in the era of Bush and Obama-and not coincidentally, growth dropped dramatically in the 2000s compared to the Reagan-Clinton years of the 1980s and the 1990s when welfare state spending dropped relative to GDP. During the 2000s, growth was just 1.6%, compared to 3.2% in the 1980 to 2000 period. Assuming 1% population growth, per capita income growth dropped from 2.2% in the era of reduced burden of government to just 0.6% in the era of increased burden of government.