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Monday, January 04, 2016

'Falling Interest Rates and Government Investment'

I guess we have to keep making this point, hoping against hope that Congress will hear it. This is from Cecchetti & Schoenholtz:

Falling Interest Rates and Government Investment: Switzerland is an amazing place, not least the skiing, the chocolate, and the punctual trains. The latter is part of the country’s exquisitely maintained infrastructure: there are no potholes, and no deferred maintenance of train tracks, tunnels, airports, or public buildings. Few countries go so far, but many can take a lesson: it pays to maintain infrastructure at least so that it doesn’t fail.
We bring this up now because financial markets are telling us that it’s a very good time to build and repair infrastructure: real (inflation-adjusted) interest rates have fallen so low that it has become exceptionally cheap to finance the improvement and repair of neglected roads, bridges, transport hubs, and public utilities. Yet, in the United States, we are doing less public investment than ever: net government investment has fallen to what is probably a record low. ...

Net Government Investment as a percentage of Net Domestic Product (annual data), 1959-2014


Fixing the problem would be straightforward, and cheap in terms of finance. ...

To be clear, this argument need not be seen as one for a larger government, but for an efficient one that provides the public goods necessary for sustained economic growth at the lowest cost. For a country to remain prosperous, it needs an infrastructure that is constantly being renewed and improved. The alternative of postponing maintenance probably leads to higher costs—both from the direct impact on the economy from the deterioration of physical capital and from the need to finance future (larger) repair projects at potentially higher interest rates. Put differently, when fiscal policymakers choose to tighten the nation’s belt, they should not do so at the expense of future national income. ...

There is no need to be as obsessive as the Swiss; their outlays for public goods are surely greater than most Americans would wish to pay. But given today’s low hurdle rate of return, it is difficult to see how spending an extra 1% of NDP each year now to maintain and improve roads, bridges, airports, and buildings would be economically unsound. Even if the additional outlays are not self-financing, the social return is likely to be far greater than the cost. As monetary economists, we include as a valuable social benefit the reduced probability of hitting the zero lower bound in a world with a 2% inflation target.

    Posted by on Monday, January 4, 2016 at 08:24 AM in Economics, Fiscal Policy | Permalink  Comments (71)


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