Debating Government's Role in Boosting Growth: Cowen and Smith
It is a point of endless debate among policy makers, economists and politicians: Does government have the ability to get more growth out of the economy and increase employment -- and if it does, what government programs do the job best while costing the least? We asked Bloomberg View columnists and economists Tyler Cowen and Noah Smith to meet online and debate the matter.
Cowen: My view is pretty simple: at this point the economy is fairly close to full employment and the momentum is positive. So right now I don't see a significant role for demand-side arguments for government stimulus. To be sure, there are plenty of projects that can be defended on their own merits, such as road maintenance. But the economy is essentially over the negative demand shocks from the 2008-2009 period.
Smith: There's a possibility that's true, but there's also a possibility there's still some demand gap left. The prime-age employment-to-population ratio is only about two-thirds back to where it was before the recession hit. And wages and prices are both still rising fairly sluggishly. So I don't see much downside to trying some more demand-side policies. If we see inflation start to spike we can always put on the brakes. Meanwhile, because infrastructure repair is probably something we should be doing anyway, it makes for good fiscal policy; if there's a demand gap, it'll help with that too. If not, at least we have some nice roads.
Cowen: Government should adopt policies that pass a cost-benefit test on the supply-side. If we go beyond that, there is by definition a potential harm in choosing inefficient policies that destroy some wealth and worsen resource allocation. Without positive demand-side effects, these policies create some economic harm. Keep also in mind that the decline in labor force participation probably comes from structural factors. We should address those, but let's do it by making the economy more efficient, not less efficient.
Smith: We don't live in a world of certainty, where costs and benefits are known. If there happens to be a lingering demand shortage, we get an added benefit from infrastructure spending. If there's not, then infrastructure spending will raise interest rates (crowding out private investment) and/or inflation. But we have the option to dial back spending if we see that happening. So I see the possibility of a demand gap as adding upside, but not much downside, to infrastructure spending. Of course, I think we should avoid letting our transportation networks decay even if there is NO demand gap. As for the structural factors keeping prime-age employment-to-population down, what do you think those are?
Cowen: There are a few reasons, but the internet may be the biggest. It is easier to have fun while unemployed. That's a social problem for some people.
Smith: If that's true -- if we're seeing a greater preference for leisure -- why are we not seeing wages go up as a result? Is that market also broken?
Cowen: Maybe employers just aren't that keen to hire those males who prefer to live at home, watch porn and not get married. Is that more of a personal failure on the part of the worker than a market failure?
Smith: OK, but however you slice it, when fewer people are willing to work, because they'd rather sit at home and play "Call of Duty," that's a negative labor supply shock. And that should make wages accelerate.
Cowen: Wages won't accelerate if that shock is a negative signal about the quality of part of the labor force.
Smith: In other countries, in other time periods, we've seen long, persistent falls in employment after financial crises. For example, Sweden and Japan in the early '90s. These countries' employment-to-population numbers eventually recovered, but it took quite some time. Now, I kind of doubt that these decade-long slumps in employment were due to sudden increases in men's desire to stay home and play video games. I think the case for demand-side policies is that they could accelerate an otherwise slow return to full employment.
Cowen: There are plenty of cases of countries experiencing longer-run structural shifts. Disability may be a factor, along with the greater ease of identifying unproductive labor. Often, a sudden recession triggers the relevance of longer-run changes by helping employers realize that a new regime has arrived. Wages are going up some now -- that is further evidence of progress. The Federal Reserve certainly seems to think we are not far from full employment. They recognize that some structural shifts have gone on. And it's great that Japan has improved labor force participation, a big part of that is a decline in the prejudice against women; we can give Prime Minister Shinzo Abe some credit for that.
Smith: Female labor force participation in the U.S. is well below its pre-crisis level. Maybe video games are now marketed equally toward men and women.
Cowen: Pre-crisis isn't a good standard for judging labor markets; that was a bubble. The literature as a whole doesn't consider the recent slight decline in female labor force participation to be a major puzzle. Wages reflect supply and demand. I probably think wages are more flexible than you do.
Smith: Standard theory says that if a bunch of guys decide they would rather sit around playing video games than work, labor has become more scarce, and -- barring any changes in labor demand -- its price should rise.
Cowen: Keep in mind there is plenty of other evidence for a partial collapse of norms among some of the lower earners in the U.S. It has been detailed in numerous books. I am claiming that some of that labor is now perceived as being of lower quality, which is entirely possible. You seem to want to call it a deviation from the supply and demand model. I don't think it is.
Smith: Sure. I agree. This could be holding back wages. But a tightening of the labor market should produce an acceleration of wages, even if that quality deterioration is going on in the background. So I think if we don't do any more stimulus, it is unlikely to be a disaster. But if we try some more stimulus and it fails, that is also unlikely to be a disaster.
Cowen: Now, let me make a bit of a separate point, but this is an important one. I think we would agree that activist fiscal policy isn't massively popular with American voters. The attitude of "let's just try some, it might work out," or "it's fine to waste resources, if we boost demand" contributes to that unpopularity. Support for fiscal stimulus is pretty scarce. Let's save it up for the really important times. Taxpayers do in fact think that government is always ready to spend on its own priorities rather than the priorities of the taxpayers -- let's not make that more true than it has to be.
Smith: I agree that there doesn't seem to be much popular clamor for fiscal stimulus. However, polls do show strong support for infrastructure spending. And more infrastructure spending has been endorsed by both presidential candidates.
Cowen: I too favor more infrastructure spending, at least provided we do it wisely. There is a good supply-side case for that. But it is not a free lunch and I get nervous when I see it presented as such. That is not your argument, but it is out there nonetheless.
Smith: I agree. There are too many free-lunch arguments out there. But it seems pretty clear to me that letting our network of roads and bridges decay into unusability would be a very irreversible decision.
Cowen: This would depend on the specific case, but sometimes repairs can be postponed. And spending is often more irreversible than doing nothing. Just look at the Big Dig in Boston -- what a disaster. Let's keep in mind U.S. spends pretty close to the average on infrastructure as a percentage of gross domestic product among developed nations. Things always need repairs, and we have been negligent in this regard. But the situation is hardly the disaster it is sometimes made out to be.
Smith: I agree that alarmism isn't called for on either side of the debate. I think an OK-but-not-great amount of infrastructure repair is currently being done, and people are thankfully starting to pay more attention to the excess-cost issue. But I also think that the downside risks of things like infrastructure spending and continued low interest rate policy have been a bit exaggerated, and the upsides a bit ignored.
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