John Cochrane Makes the Case for Infrastructure Spending (And the Marriage of Supply and Demand-Side Policy)
If John Cochrane actually believes that government should undertake infrastructure investment when the costs are low and the benefits are high, conditions that currently exist, then why isn't he demanding that government begin a massive infrastructure program immediately? He apparently has sway with right-wing legislators (e.g. the recent dinner with Paul Ryan), so why isn't he using his influence to change the debate?:
Mr. Cochrane, meanwhile, was among the earliest forceful advocates in 2009 of the argument that fiscal stimulus is essentially impossible, and that an increase in government would lead to runaway inflation. But at the end of his widely cited essay denouncing the concept of fiscal stimulus, Mr. Cochrane emphasized that he wasn't saying the government should never borrow money or engage in deficit spending; it just has to meet certain conditions.
If it’s a good idea to build roads, then build roads. ... The government should borrow to finance worthy projects, whose rate of return is greater than projects the private sector would undertake with the same money, spreading the taxes that pay for them over many years, after making sure its existing spending meets the same cost-benefit tradeoff.It would appear that Mr Cochrane's conditions for supporting deficit-funded infrastructure spending are currently being met. America has a $2 trillion backlog of infrastructure maintenance that must be undertaken sooner or later. And as Karl Smith explains, the yield on 5-year treasury inflation-protected bonds (TIPS) has been negative for months.
One thing I don't understand is why he says this kind of spending must only be done after spending that is less beneficial is eliminated. One doesn't depend on the other. If infrastructure meets the cost-benefit tradeoff, then it's worthwhile even if there is wasteful spending on the books (imagine if a corporation said it couldn't build a new factory expected to make millions and millions in profit per year because it has another investment that is losing $10 -- it would be a bad decision to hold up the profitable investment until the unprofitable one can be eliminated).
Many of us have been making this argument for some time. His two conditions are: (1) the return on the infrastructure exceeds the return that private the private sector could earn with the same money. But corporations are sitting on mountains of cash. Clearly, the opportunities for profit in the private sector are lousy right now, and public returns to infrastructure are much higher. (2) Projects must meet a cost-benefit tradeoff. Interest costs, wages, and the price of materials are all very low due to the recession. So costs are low. We have a huge backlog of needs so the benefits are high. Thus, unlike private sector firms who are having trouble finding profitable investments, finding infrastructure projects with a net positive tradeoff is not at all difficult.
Let me make a more general point. Infrastructure spending to combat the recession is an interesting evolutionary development in stabilization policy. It marries the supply-side ideas about long-run economic growth with short-run ideas about demand stimulation. In the short-run, spending on people (wages), materials, plans, building, etc. stimulates the economy and helps to lift us out of the doldrums. And in the long-run good infrastructure investment enhances our economic growth rate. That's why this type of stimulus at least has some political chance, it satisfies both demand stabilization and supply-side ideas.
My biggest worry about moving aggressively in this direction and using it as the main way of dealing with downturns is that we may not be able to put this type of spending into place fast enough to deal with short-run problems and to forestall objections that the slowness will make the spending counterproductive. Two years ago, for example, I can remember people arguing against infrastructure spending because we didn't have time, the economy would recover before the projects really got going, and they would overheat the economy. (This is only a valid argument if the costs of the project rise in the recovery due to interest rate, wage, and material cost increases, and the increases change the net benefit from positive to negative. But with our needs as large as they are, it's likely that most projects would remain profitable even if the economy recovers faster than expected, so in reality this isn't much of an objection. And even if it is a worry, there are other ways to prevent overheating. But, nevertheless, this argument found a receptive audience.)
The arguments about infrastructure spending coming online too slow to be helpful have been made throughout the crisis, and these arguments can always be used to try to block this type of spending. That's one of the things the ideas for an infrastructure bank are trying to address. By having projects on the shelf and ready to go that have already passed the cost benefit test, this type of objection should have less ability to block infrastructure spending during downturns.
I would be wary of committing to this type of stimulus above all else, i.e. of relying exclusively on this type of fiscal policy response to recessionary conditions. But if we can somehow make it easier to implement infrastructure spending in recessions (and in the good times as well), that's a step in the right direction.