In normal economic times, when the economy is at or near full employment and low inflation, it is the role of the Fed to keep it there. If the economy needs a boost, the Fed reduces interest rates to encourage more spending. If inflation is the concern, rates are raised to slow things down.
Unfortunately, we are not in normal times. Interest rates have fallen to near zero and cannot go lower; consequently normal monetary policy actions are very limited. So, it is not surprising that top economists, including the current Fed chair, have urged an increase in government spending to work in concert with the Fed to bring the economy back to full employment and targeted levels of inflation.
Despite the urging of experts, there is little agreement in Congress on the value of government spending as a stimulus tool, even when monetary policy options are weak and the proposed spending is focused on obviously needed public goods. For many years, advocates of austerity have been arguing that reductions in government spending would give the private sector more confidence to invest and "create jobs" that would result in full employment.
This alternative hypothesis has been tested. It has failed. Government spending as a fraction of GDP has been falling the past several years, and there is little evidence of greater confidence by investors.
Fear of inflation is another objection to increasing government spending to stimulate the economy. Citing a "skill shortage," proponents of austerity argue that adding a spending stimulus in a market with a skills shortage would drive up wages and prices.
However, as economist Heidi Shierholz has written, there is no evidence of a skills shortage. If there were, it would show up in lower rates of unemployment in those sectors where the skill shortage occurs and in wage increases in those sectors relative to the rest of the labor force. Her data indicate that none of these phenomena are currently present in our labor market; insufficient aggregate demand is the cause of the prolonged anemic recovery.
There appears no way to obtain congressional support for increased social spending. However, support for spending to repair our physical infrastructure remains a possibility.
First, even the most antigovernment politicians can observe that our streets and roads and bridges are in disrepair.
Second, the unemployment rate for construction workers is in double digits, so increased spending in that sector would not be inflationary.
Third, at today's low interest rates, the benefits of such reconstruction easily outweigh the cost of capital to support it. Fourth, as Lawrence Summers has pointed out, wear and tear on cars caused by potholes cost drivers $300 annually or roughly 50 cents per gallon for the average driver.
On the other hand, infrastructure repairs are estimated to cost the average driver about 5 cents a gallon. So, we have an opportunity to spend 5 cents to save 50 cents per gallon.
Fifth, infrastructure is immobile. Once the investment is made, it remains in the United States for workers and businesses to use to boost productivity and improve competitiveness. Sixth, deferred maintenance constitutes a physical debt just as real as financial debt.
Spending $100 million will raise financial debt by $100 million but reduce physical debt by $100 million, leaving the total actual debt (physical plus financial) unchanged. It is bad economics to focus on one type of debt while ignoring another.
The result is a win-win: In the near term, construction employment would rise. These workers would spend their wages on needed goods and services and in the process help create a chain of spending to help stimulate a recovery.
In the longer term, the restoration of the infrastructure assets would boost worker productivity, increasing the competitiveness of the economy and supporting higher incomes.
The longer we wait, the greater the cost. When a recession is prolonged, as it is now, it produces a needless deterioration of workers' human capital, that is, the skills and knowledge needed to effectively perform in the workplace.
Skills that are honed by continuous training on the job and in the classroom deteriorate and knowledge becomes dimmed or forgotten when there are long absences from the workplace. For example, middle-age workers, unless they use their period of unemployment to update their skills and education, lose the productive power of their experience and training.
The sooner we stimulate the economy to full employment, starting with infrastructure investment, the better.
William L. Holahan is emeritus professor of economics at the University of Wisconsin at Milwaukee. Charles O. Kroncke, retired dean of the College of Business at UW-M, is also retired from USF. They are co-authors of "Economics for Voters." They wrote this exclusively for the Tampa Bay Times.