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Infrastructure Won't Fix the Economy By: Ronald D. Utt, Ph.D.
Heritage Foundation | Thursday, December 18, 2008


As the U.S. economy continues to deteriorate and has now entered a recession of uncertain magnitude, many in Congress, the media, and the business com­munity are pushing for a bold federally funded stimu­lus package that they claim will create jobs, raise incomes, and put the economy back on its path of positive economic growth. Not surprisingly, much of this advocacy stems from a nostalgic embrace of Pres­ident Franklin Delano Roosevelt's New Deal, imple­mented in the early 1930s in a failed effort to end the Great Depression that had its origin in the stock mar­ket collapse of October 1929.

Related to this sentimental longing for New Deal authenticity is the revival of the teachings of John Maynard Keynes, who postulated in his 1935 The General Theory of Employment, Interest and Money that "There is room...to promote investment and, at the same time, to promote consumption, not merely to the level which with the existing propensity to con­sume would correspond to the increased investment, but to a higher level still."[1] Subsequent generations of elected officials throughout the world took this obser­vation as a license to raid their treasuries, and no country could be sorrier for endorsing a primitive ver­sion of Keynes's teachings than the Japanese--who squandered vast sums of national wealth in a vain attempt at stimulus that cost them the chance to lead the world in economic growth and prosperity.[2]

New Deal Back in Vogue


Here in America, federal officials and lobbyists have raced back in time to embrace their own retro-Keynesian kitsch by passing H.R. 7110, the Job Cre­ation and Unemployment Relief Act of 2008, in September. The Congressional Budget Office (CBO) estimates that this bill will cost $58.2 billion between 2009 and 2013.

More recently, President-elect Barack Obama announced his intention to propose a stimulus package composed of spending increases and tax reductions that may total between $500 billion and $1 trillion and that will include a substantial amount of money for infrastructure, an inexact term that includes the physical assets upon which everyone depends: telephone poles, school buildings, roads, electric wires, power-generation plants, waste-water treatment facilities, grist mills, reservoirs, etc. This focus stems in part from a belief that much of our infrastructure has deteri­orated and that a substantial investment in it is essential to long-term growth and prosper­ity while also providing jobs and profits in the present.

Not surprisingly, trade associations that repre­sent road, rail, and transit builders and operators have been aggressive in their advocacy of more infrastructure spending, promising tens of thou­sands of new jobs and vastly improved service in the future. The media have also joined in; the New York Times's Paul Krugman was one of many to make this case for more infrastructure spending when he urged recently that "[f]iscal expansion will be even better for America's future if a large part of the expansion takes the form of public investment--of building roads, repairing bridges and developing new technologies, all of which make the nation richer in the long run."[3]

Little Impact on Jobs or Growth

As The Heritage Foundation has noted in earlier reports, past infrastructure spending--especially related to transportation--has little to show in terms of countercyclical stimulus or job creation.[4] Much of this lackluster impact stems from the long lag time involved in getting such spending pro­grams up and running, as well as the propensity of the state and local governments to substitute federal money for already-committed state and local money in order to shift such funds to other purposes.[5]

In this regard, trade associations like the Ameri­can Association of State Highway and Transporta­tion Officials, which contend that there are more than 3,000 transportation projects ready to get started within 30 to 180 days, are most likely refer­ring to projects that are already funded. In this time of need, no sensible state government would waste the considerable costs associated with planning, permitting, engineering, and management in get­ting projects "ready to go" unless there were funds already available to start--and complete--them.

In making his pitch for more spending, Mr. Krugman perhaps anticipates that critics of his spending scheme might cite the example of Japan, whose reliance on bold infrastructure spending in the early 1990s led to the squandering of so much money on so many wasteful projects that the coun­try soon slipped from one the world's most prosper­ous nations to the status of a middling also-ran that has yet to recover from its mistake. Krugman attempts to create a parallel to New Deal timidity by arguing that "[i]n 1996-97 the Japanese govern­ment tried to balance its budget, cutting spending and raising taxes. And again the recession that fol­lowed led to a steep fall in private investment."

The Japanese Experience

In fact, Japanese fiscal policy during the 1990s was flamboyantly unrestrained, and during that decade no other advanced industrialized country had expanded government spending by nearly as much. Starting in 1991, government spending (outlays) in Japan accounted for just 31.6 percent of the nation's GDP--one of the lowest among members of the Organisation for Economic Co-operation and Development (OECD).[6] That year also marked the high watermark of Japanese pros­perity: In 1991, Japan's per capita gross national income (as adjusted for purchasing power parity) reached 86 percent of the U.S. gross national per capita income, compared to the 66 percent Japan had reached in 1970--a remarkable achievement that only tax- and budget-cutting Ireland has achieved since then.

As the decade of the 1990s wore on, many other countries--especially in Europe--were paring back government spending to spur growth, but Japan was doing just the opposite. By 2000, its government outlays had jumped to 38.3 percent of GDP, while Canada had reduced its government's share from 52.3 percent in 1991 to 41.1 percent, and the United Kingdom had gone from 44 percent to 37.5 percent, to cite just a few of the many developed nations that were actively shrinking government over that period to bolster their private sectors.

While Krugman is correct in noting that Japan cut back spending in 1997 (to 35.1 percent from a 36.4 percent share of GDP), it soon shot up to around 38 percent, where it remains today. As a 2001 Heritage Foundation report noted, a substan­tial portion of Japan's stimulus spending was focused on infrastructure:[7]

Beginning in 1991-1992, Japan adopted the spending approach now advocated by many in the U.S. Congress when it embarked on a massive nationwide program of infrastruc­ture investment. Between 1992 and 2000, Japan implemented 10 separate spending stimulus packages in which public infra­structure investment was a major compo­nent. Excluding the 2000 program, for which final costs are not yet available, addi­tional spending on the infrastructure com­ponent alone amounted to 30.4 trillion yen, or $254 billion at the current exchange rate.

Cutting spending seems not to have deterred prosperity in most of the European countries that have done so since 1990, while the relative prosper­ity of the Japanese has been on the decline as gov­ernment spending has advanced. After peaking at 86 percent of U.S. income in 1991 and 1992, Japa­nese income continually fell behind the U.S., and by 2000, Japan's per capita gross national income had fallen to 73.7 percent of that of the U.S. despite the increased spending stimulus in Japan during the 1990s and into the 2000s. This decline in relative performance reflects the fact that the Japanese econ­omy grew at an annual rate of only 0.6 percent between 1992 and 2007. In 1991, only the United States, Austria, and Switzerland had higher per cap­ita incomes than Japan. By 2006 (the most recent OECD numbers), Japan's per capita income was surpassed by Austria, Australia, Belgium, Canada, Denmark, Finland, Ireland, Holland, Switzerland, Sweden, and the U.S.[8]

Conclusion

Although the benefits of a costly, infrastructure-focused stimulus package based on massive gov­ernment spending may be intuitively attractive, past evidence suggests that the impact of govern­ment spending programs that are intended to encourage economic growth is very modest and unlikely to enhance recovery or deter recession. As noted above, the Japanese government imple­mented such a program during the 1990s, and the consequence was two decades of economic stagna­tion. Less ambitious infrastructure stimulus pro­grams have been implemented in the United States over the past few decades, and numerous indepen­dent and government studies have concluded that these programs had little impact on economic activity or jobs.

It is worth remembering that the New Deal of the 1930s substantially and permanently increased the scope of the federal government as Congress and the President attempted to spend their way out of the Depression. After the stock market collapse in 1929, the Hoover Administration increased federal spending by 47 percent over the following three years. As a result, federal spending increased from 3.4 percent of GDP in 1930 to 6.9 percent in 1932 and reached 9.8 percent by 1940. That same year-- 10 years into the Great Depression--America's unemployment rate stood at 14.6 percent.

It is important to recognize that our infrastruc­ture and the continued investment in it are impor­tant underpinnings of future economic growth and sustained prosperity. But it is equally important to recognize that the long-term nature of these bene­fits to cost-effective mobility and quality services, and the need to choose carefully among competing options and technologies, suggests that a stimulus scheme based on spending is ill-suited to the short-term stimulus needs that are of concern to policy­makers. Given current congressional practices, any stimulus package approved by Congress is certain to contain a host of projects that have nothing to do with prosperity and everything to do with political influence and current fashion.

ENDNOTES:

[1]John Maynard Keynes, The General Theory of Employment, Interest and Money (New York: A Harbinger Book, 1964 edition), p. 325.

[2]Ronald D. Utt, Ph.D., "Lessons on How NOT to Stimulate the Economy," Heritage Foundation Backgrounder No. 1495, October 22, 2001, pp. 3-6, at http://www.heritage.org/Research/Budget/BG1495.cfm. See also Amity Shlaes, "The Perils of a Cement Tsunami," The Washington Post, December 10, 2008, p. A25. at http://www.washingtonpost.com/wp-
dyn/content/article/2008/12/09/AR2008120902785.html
.

[3]Paul Krugman, "Deficits and the Future," New York Times, December 1, 2008, at http://www.nytimes.com/2008/12/01/opinion
/01krugman.html?pagewanted=print
(December 16, 2008).

[4]Ronald D. Utt, Ph.D., "More Transportation Spending: False Promises of Prosperity and Job Creation," Heritage Foundation Backgrounder No. 2121, April 2, 2008, at http://www.heritage.org/Research/budget/bg2121.cfm.

[5]Ibid., pp. 6-7.

[6]All subsequent data on incomes are from Organisation for Economic Co-operation and Development, OECD Factbook 2008: Economic, Environmental and Social Statistics--ISBN-92-64-04054-4, "Macroeconomic Trends--Gross Domestic product (GDP)" and "National Income Per Capita (U.S. dollars, current prices and PPPS)," while data on government spending shares come from OECD Economic Outlook 77, Annex Table 25: General Government Outlays.

[7]Utt, "Lessons on How NOT to Stimulate the Economy," p. 3.

[8]Luxembourg and Norway are excluded from these calculations because of anomalous economic factors that distort their data relative to those of other advanced nations.

Ronald D. Utt, Ph.D., is Herbert and Joyce Morgan Senior Research Fellow in the Thomas A. Roe Institute for Economic Policy Studies at The Heritage Foundation.


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