Are Obama's Billions Backfiring?
The question worth asking now is pretty simple: will America’s current capital investment program bring about economic growth?
A lot of the capital spending going on at this moment is driven by government planning: spending on alternative "green" energy (a major priority for the administration); infrastructure (high speed rail has got the most attention but lots of money has also gone for new road and bridges); and Internet bandwidth. All very significant. Alternative energy alone has got subsidies of about $95 billion. If these government financed bets are "right, " and people want these things, the Obama administration will look very smart and the economy will recover.
If it’s wrong, however, no amount of capital spending will do a whit of good.
Like David Frum, I’m skeptical of the idea that additional tax cuts of any sort will really spur an economic recovery in the short term. That said, increased capital investment and higher worker productivity (and worker productivity growth is pretty healthy right now) is always and everywhere a good thing -- as long as it meets what the market demands.
In the long run, living standards will rise only if productivity increases: without more productivity per worker, the size of the pie does not grow in real terms and the entire economy becomes the zero-sum game. If healthier job growth resumes (and it may not) then the most recent economic numbers and the story of higher capital investment with lower job growth will, in hindsight, be considered a painful but necessary move like the corporate downsizing of the early 1990s.
But sustained productivity growth can come only as a result of capital investment that meets market needs. Simply throwing money at building roads, bridges, manufacturing plants, computers or whatever doesn’t do the trick: the former Soviet Union and Japan from 1980 to the present did more capital investment than the United States but fell behind in the long run.
In relatively poor countries, investment-heavy centrally planned efforts work because low-hanging fruit such as making sure everyone has electricity, installing air conditioning in warmer areas, and shifting from cottage industries to centralized manufacturing plants raise productivity everywhere they are tried.
As economies get more sophisticated, however, figuring out the right competitive niche becomes a lot harder and once-successful central planning efforts often fall on hard times.
The Soviet Union’s twelfth (and final) five year plan saw the country become the world’s leading producer of robots but these robots proved next-to-useless because Soviets didn’t have the computer technology to help them do anything. Japan’s vaunted bureaucracy, likewise, misallocated billions on government-planned pipe dreams like a unique high definition television standard that was impractical to manufacture in quantity and a Japan-only computer bus that never caught on. Finally, America’s current stagnation resulted from a similar government-driven over-investment in home building.
In the short run, however, even the “wrong” capital investment can create a patina of growth and prosperity but, when they don’t meet market needs, they are about the worst way the spend money imaginable. It’s better for a society to spend money on life improving things almost everyone would consider frivolous—say, designer clothes and fancy restaurant meals— than to dump it into useless “capital” investments like “roads to nowhere” or manufacturing plants that produce things nobody wants.