CAMBRIDGE – The need to stimulate demand in the United States and other developed economies has provoked a debate that goes beyond economic technicalities to questions about government’s overarching responsibilities. Like the great economist John Maynard Keynes before them, Larry Summers and Paul Krugman have advocated a greater role for public spending to compensate for weak private-sector demand. But the justification for such a policy must transcend economic logic if it is to win political support. A greater role for government requires an overriding mission.
At an IMF Conference last November, Summers invoked the specter of “secular stagnation,” a condition in which aggregate demand persistently falls short of potential supply, generating under-employment and slow, if any, growth. Summers suggested that a speculative and unsustainable financial bubble had been required to create even a simulacrum of full employment in the decade or so before the crash.
Unfortunately, that bubble also led to the 2008 global financial crisis and the subsequent Great Recession. Moreover, recovery from the nadir in 2009 has been frustratingly slow, with employment as a proportion of the working population remaining virtually unchanged. According to Krugman, this is a familiar story – consider the failure of the late-1990’s tech bubble to generate sustainable growth – that goes back three decades.
Both Summers and Krugman argue that one of the biggest constraints on monetary policy during such crises is the “zero lower bound” for the policy interest rate. They suggest that the real rate of interest at which investment and savings would reach equilibrium at a level of output consistent with full employment is now negative. Unfortunately, they acknowledge that the alternative of a debt-financed fiscal stimulus would also be impossible in America’s current political climate.
In his frustration, Krugman even invoked Keynes’s famous challenge to orthodox thinking on the question of persistent economic stagnation:
“If the Treasury were to fill old bottles with bank-notes, bury them at suitable depths in disused coalmines which are then filled up to the surface with town rubbish, and leave it to private enterprise on well-tried principles of laissez-faire to dig the notes up again…there need be no more unemployment and, with the help of the repercussions, the real income of the community, and its capital wealth also, would probably become a good deal greater than it actually is.”
Or, as Krugman put it: “[S]pending is good, and while productive spending is best, unproductive spending is still better than nothing.”
But, despite his impeccable economic logic, Keynes lost the policy debate. Instead, policymakers argued that unproductive, debt-financed government spending would panic businessmen and bankers into reducing further their already-low support of economic activity (and this at a time when Britain’s unemployment rate was triple its current level).
A similar situation was playing out in the US, where President Franklin D. Roosevelt’s New Deal public-works programs were attacked as wasteful boondoggles. The subsequent retreat to fiscal virtue triggered the 1938 “Roosevelt Recession.”
Two years later, a rueful Keynes wrote:
“It is, it seems, politically impossible for a capitalist democracy to organize expenditure on the scale necessary to make the grand experiment which would prove my case – except in war conditions.”
Krugman has suggested, satirically, that the necessary initiative “involves faking a threat from nonexistent space aliens.”
What both Keynes and Krugman realized was that sustained state investment in support of economic growth depends on the existence of a political mission that transcends economic calculus. In the past, the overriding mission was national development, and the policy instruments were mercantilist: the appropriation of available intellectual property, and the protection and subsidization of select infant industries in order to achieve global competitiveness.
This imperative was evident in England’s pursuit of Flanders in the sixteenth and seventeenth centuries; in the economic and military pursuit of Britain by the US and Germany in the late nineteenth century; and in the rise of Japan, the East Asian Tigers, and China in the twentieth century. It was apparent in America, too, during the Cold War, when national security concerns justified an economically active state, even as extensive social-welfare systems were supporting aggregate demand across the rest of the developed world.
Although Jeffrey Sachs has criticized Summers and Krugman for advocating a deficit-financed “consumption-led recovery,” they would not disagree with Sachs’s argument that “America urgently needs investments in modernized infrastructure, advanced science and technology, and job skills appropriate for the twenty-first century.” As he points out, “Large-scale investments remain impeded because the US lacks basic strategies in all key sectors. We have no national energy strategy other than fracking; no modern transportation strategy; no coastal protection strategy; no jobs-training strategy.”
But Sachs might have strengthened his case had he also recalled that during the Cold War, US national transportation strategy was implemented in the 1956 National Interstate and Defense Highways Act, and its national education strategy was implemented as the 1958 National Defense Education Act. Indeed, tilting at a supposed Keynesian propensity for consumption-led recovery is at best a distraction. As Summers rightly responded:
“Some have suggested that a belief in secular stagnation implies the desirability of bubbles to support demand. This idea confuses prediction with recommendation. It is, of course, better to support demand by supporting productive investment or highly valued consumption than by artificially inflating bubbles.”
Yet what all participants in this debate have neglected is the need to justify such investments politically – to address the issue of the “missing mission.” If demonization of government by market fundamentalists is to be overcome, there must be a greater purpose than simply avoiding another financial crisis or deep recession – as Keynes learned during the Great Depression.
We do not have to look far for such a mission. The case for acting on a massive scale to combat climate change has been made in Europe, and even in China. Why has there been such little debate in the US? Is it because those who oppose such discussions reject the science of climate change? Or do they deny the science because accepting it would legitimize an economically activist state?