Contextualizing Government Spending - 03/01/09

Paradoxes readily emerge if one takes the recent government spending out of context. How does even more debt solve a debt problem? Are we communists now? Are we creating more problems by trying to solve them? Let's look at the context: The value of the global economy has declined by tens of trillions of dollars and is in the midst of a downward death spiral. Iceland? Bankrupt. Japan? Terrible.

George Soros, who presciently outlined the magnitude and depth of the current crisis in January of 2008, now suggests that the worst is yet to come. "We witnessed the collapse of the financial system... It was placed on life support, and it's still on life support. There's no sign that we are anywhere near a bottom."

There are those that believe the most prudent approach is to cut taxes and let the economy work itself out. However, China is spending money on a stimulus right now as is most of Europe. What will anti-interventionists do when the balance of power shifts away from the United States, the value of the dollar decreases, and our personal savings get wiped out as a result? Some of these folks may take a manufacturing job that has been outsourced to America or immigrate to a country like China where there's likely to be a surplus of jobs. Talk about communism.

Christina Romer, a strong proponent of tax cuts in normal times, has argued that counter-cyclical tax cuts appear to have had little success in the past. Thus, an investment in the right programs appears to be the best strategy to combat a steep recession. I agree with the Obama administration's analysis that investment in energy and education offer the best long term returns for our collective investment. Far from digging a hole and filling it back in, an investment in our ideas and how we fuel them will yield greater economic benefits going forward than simply building more "things" to use today.

Borrowing against the future for short term gains is precisely the prescription for economic collapse. It's the formula that the financial industry followed, and it's one that has proven time and again to be disastrous for businesses, households, and states. What's the best investment for the future? As Andy Rachleff, co-founder of Benchmark Capital stresses, "I don't know and I don't want to know... By definition, if someone is going to create a new market, we have no idea what it is before we invest."

Is solar the next great idea? It is if efficiency increases and costs come down. If this occurs, energy becomes merely a delivery and construction job, cutting out the expensive need for excavation, extraction, refining, and distribution. In this instance, government demand for solar technologies will encourage the growth of the industry from the supply side, driving prices down. Builders will learn the skills to install and maintain solar panels and set up their own businesses to serve others, make a profit, and earn a living. This is precisely the type of long term growth that one looks for in a stimulus program.

Spending like this has worked. Government investment in the interstate highway system, the internet, and decades of university research has laid a foundation for the best economic growth in the world. Spending it seems is a necessary evil.

But if solar is NOT the next great idea, world changing technologies tend to come out of research labs and universities. As Juan Enriquez discussed recently at TED, technology is going to play a huge role in decreasing the cost of medical care. It has to. Therefore, we must fund it. Procrastination will and always does come with a price, and the price will be far worse than running a short term deficit now.

This is central planning, but the alternative is much, much worse. In his most recent letter to shareholders, Warren Buffet lays out the nature and scope of the current government intervention. "Economic medicine that was previously meted out by the cupful has recently been dispensed by the barrel." He admits, "major industries have become dependent on Federal assistance...weaning these entities from the public teat will be a political challenge." Taken out of context, it appears Buffet is against intervention. However, Buffet establishes his view in the next paragraph. "Whatever the downsides may be, strong and immediate action by government was essential last year...to avoid a total breakdown. Had that occurred, the consequences for every area of our economy would have been cataclysmic."

Henry Paulson had to swallow this bitter pill in the wake of Lehman's collapse. He realized that in rare situations, too big to fail becomes a very real economic argument and must be respected. Putting aside moral hazard, Paulson pushed for 700 billion dollars to help support crumbling financial institutions. "I am convinced that this bold approach will cost American families far less than the alternative--a continuing series of financial institution failures and frozen credit markets unable to fund economic expansion." Paulson reflects, "When the situation changes, you have to be willing to change with the situation."

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