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Sunday, September 05, 2010

Public Goods and Countercyclical Fiscal Policy

I don't have any grand, new points to make here, they've all been made before, I just want to point out that the idea of "public goods" and the need for government to provide them has been lost in discussions over stimulus spending.

A previous post quoting Richard Green makes the basic case that, recession or not, spending on public goods can have benefits that exceed costs:

...what if the cost to borrow for the bridge is 3 percent and the bridge's IRR is 5%? Then doesn't the bridge stimulate spending for the simple reason that it is a good investment? The federal government has made, it seems to me, some very good investments. Hoover Dam is one. Rural electrification is another. The interstate highway system. The Golden Gate Bridge. The New York City subway system. I could continue...

I do worry about bridges to nowhere. But many macroeconomists seem to believe in the hearts that public goods don't exist, and that there is nothing government can do better than the private sector. I think it is here that macro takes its cues more from religion than science.

When interest rates are low and resources such as labor are idle, costs are low, and the cost-benefit calculation is more favorable. Duncan Black has been banging this drum:

Beware Of The Bond Vigilantes, by Duncan Black:10-year Treasury at 2.51. As I keep saying, at rates this low it's a crime not to borrow crazy amounts and spend it on supertrains and fixing bridges and whatnot.


Hire People To Do Stuff, by Duncan Black: When I look around my hilariously flawed urban hellhole, I see infinite things that could use some work, both public infrastructure and dealing with a lot of deteriorated housing stock. That's even before we get to sexy ideas like weatherization. The idea that we might have "structural unemployment" because there are a bunch of laid off construction workers is absurd. Those people have skills which can be put to good use on obvious productive activities. Someone just needs to write them a check and tell them what to do. The possibilities are, as I said, infinite.

People have been making the argument for spending on public goods during recessions for a long time:

"We Were All Keynesians Then", by Mark Thoma: Though the idea is likely far older, using public works projects to stimulate employment goes back at least to the mercantilists. For example, Sir William Petty (1623-1687) believed the government should employ the idle to work on roads, dredge rivers, build bridges, that sort of thing, though he did say in A Treaties of Taxes and Contributions (1662) that "tis of no matter if it be employed to build a useless Pyramid upon Salisbury Plain, bring the Stones at Stonehenge to Tower-Hill, or the like," so it was more of a traditional Keynesian view on stimulating aggregate demand than one devoted purely to construction of infrastructure. Thomas Malthus (1766-1834) believed that:

It is also of importance to know that, in our endeavors to assist the working class in a period like the present, it is desirable to employ them in those kinds of labour, the results of which do not come for sale into the market, such as roads and public works, The objection to employing a large sum in this way, raised by taxes, would not be its tendency to diminish the capital employed in productive labour; because this, to a certain extent is exactly what is wanted... [Political Economy, 2nd Ed., 429-430]

And, from 80 years ago, Calvin Coolidge echoes this theme:

We Were All Keynesians Then, Journal of Political Economy, Back Cover, Vol. 104, No. 5 (Oct., 1996):  The idea of utilizing construction, particularly of public works, as a stabilizing factor in the business and employment situation has long been a plan of perfection among students of these problems. If in periods of great business activity the work of construction might be somewhat relaxed; and if in periods of business depression and slack employment those works might be expanded to provide occupation for workers otherwise idle, the result would be a stabilization and equalization which would moderate the alternations of employment and unemployment. This in turn would tend to favorable modification of the economic cycle. . . The first and easiest application of such a regulation is in connection with public works; the construction program which involves public buildings, highways, public utilities, and the like. Most forms of Government construction could be handled in conformity to such a policy, once it was definitely established. . . This applies not only to the construction activities of the Federal Government, but to those of states, counties and cities.

More than this, the economies possible under such a plan are apparent. When everybody wants to do the same thing at the same time, it becomes unduly expensive. Every element of costs, in every direction, tends to expand. These conditions reverse themselves in times of slack employment and subnormal activity, with the result that important economies are possible.

I am convinced that if the Government units would generally adopt such a policy, and if, having adopted it, they would give the fullest publicity to the resultant savings, the showing would have a compelling influence upon business generally. Quasi-public concerns, such as railroads and other public utilities, and the great corporations whose requirements can be quite accurately anticipated and charted, would be impressed that their interest could be served by a like procedure.

[Calvin Coolidge, address before the Associated General Contractors of America; quoted in L. W. Wallace, "A Federal Department of Public Works and Domain: Its Planning, Activities, and Influence in Leveling the Business Cycle," Proceedings of the Academy of Political Science 12 (July 1927): 108-9] (Suggested by David Laidler)

...Given the state of our infrastructure and the state of the economy, both of which have crumbling foundations, it's past time to start these projects. So what are we waiting for?

I've made this plea before. This was in January 2009, more than a year and a half ago, and I was trying to make the case that there's plenty of time to put more spending on public goods type infrastructure in place:

...right now, with so much of our infrastructure in need of attention, we need public goods.

We tried the tax cut approach to stimulating the economy once, we had no choice since Bush and the Republicans would not have passed any other type of stimulus package.

Guess what? It didn't work very well, and we have little to show for it. Had we, say, rebuilt water systems instead, at the very worst we'd have better water. That's not so bad in any case.

And it's been interesting, if that's the right word, to watch the same people who delayed fiscal policy for months and months and months as they insisted that we try tax cuts first now tell us that it will take too long to put the spending in place. They don't seem to realize the delay is because of their insistence on the use of tax cuts rather than spending. If we had started on these projects a year ago instead of enacting the tax cut package to appease the right, timeliness would not be such an issue - we might already be repairing sewage systems, rebuilding roads, and so on. I've even heard some who ought to know better argue that because forecasts say the recession will end soon, we can't possibly get the spending in place soon enough. That is, they argue that by the time the spending hits the economy, the economy will have already recovered (these are often the same people who reassured us that there was no housing bubble, and there was not worry anyway because the recession, if it hit at all, would be very mild and easily absorbed by our dynamic, flexible economy). Never mind that forecasts beyond around six months ahead are not much better than a coin flip, and they know it, some forecast somewhere says that the recession will end before spending is in place, and that's enough for them to take the argument public. What if the forecast is wrong?

It's not completely clear to me that the fact that the recession might end soon undercuts the case for government spending anyway. If the money is spent on large, socially beneficial projects - and lots of infrastructure comes under this heading - then so what if the economy recovers? These are things we very much need, and that won't change just because the economy is doing better. There will be net benefits no matter the state of the economy, but the net benefits will be higher if we pursue these projects when the costs are low. If we are lucky, and the economy recovers very fast, much faster than expected, then there will still be benefits, they just won't be as large.

We need to do these things, and right now, with so many idle resources in the economy, the opportunity cost of employing resources is low. For this reason, this is an opportune time to meet the challenges that we face in repairing the infrastructure and in meeting other needs that are critical to maintaining robust economic growth, and in maintaining our health and welfare.

The tax cuts are better than spending proponents generally ignore public goods when they argue that the private sector is always better at spending money, but it seems to me that leaves out an important part of the argument.

If the argument that the private sector is more efficient than government always prevailed, we wouldn't have any public goods at all, and that's not an economy I'd want to live in. Obviously, there are times when spending on public goods is justified economically, and I'd argue strongly that this is one of those times, i.e. that there are lots of places the government can spend money that have large social returns. Why would we want to wait until the opportunity cost is very high to reap these returns instead of pursuing these projects now when the cost is lower? If we are going to have to make these expenditures anyway, it doesn't make any sense to wait. ...

Let me end with this from Brad DeLong:

Department of "Huh?!": Obama Election Season Edition, by Brtad DeLong: Outsourced to Jackie Calmes, who wonders whether the Democratic establishment is insane:

On Economy, Democrats Face a Lack of Unity: Mr. Obama spoke Thursday with the House speaker, Nancy Pelosi, and the Senate majority leader, Harry Reid, to coordinate on proposals.... Among the ideas favored within the administration are tax incentives for clean energy jobs and credits for employers who increase their work forces. The president and his team have ruled out a broad-based payroll tax holiday to promote hiring, officials say. But they are still considering whether to propose making permanent a tax credit for businesses’ research and development; for three decades the costly credit has been repeatedly renewed rather than made permanent so the revenue loss does not show up in deficit projections.

Democrats say the list of stimulus ideas is mostly tax cuts because spending proposals would have no chance of Republican support.

Yet Republicans have opposed Democrats’ tax cutting ideas as well, so some Democrats argue that the new ideas could further demoralize party liberals, who want new spending for job-creating public works...

To put forward a weak, ineffective, Republican idea for further stimulus that then does not pass seems the worst of all possible worlds.

The forecasts are that employment could take years to fully recover. There's plenty of time for more spending on public goods, the need for such spending is large, and right now the cost of that spending is very, very low. And, repeating from above, even if the recession ends sooner than we expect, "these are things we very much need, and that won't change just because the economy is doing better. There will be net benefits no matter the state of the economy, but the net benefits will be higher if we pursue these projects when the costs are low."

[Update: Ryan Avent at The Economist's Free Exchange has more along these lines.]

    Posted by on Sunday, September 5, 2010 at 10:57 AM in Economics, Fiscal Policy | Permalink  Comments (36)


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