The next big idea in eco­nomic growth

The Pak Banker - - OPINION - Noah Smith

THIS pres­i­den­tial elec­tion has driven home a prob­lem that oth­ers have been notic­ing the last few years: The U.S. seems to be out of ideas for eco­nomic growth. The main ar­gu­ment ap­pears to be over re­dis­tri­bu­tion -- tax rates, the size of the wel­fare state, free col­lege. Pro­tec­tion­ism is also mak­ing a come­back; Bernie San­ders would re­strict trade and pun­ish Wall Street, while Repub­li­can can­di­dates would curb im­mi­gra­tion. Th­ese are mostly de­bates about the size of the pie. But what about grow­ing it?

Most ideas for growth still en­dorse some form of ne­olib­er­al­ism -- a catch-all term that ad­vo­cates free-mar­ket poli­cies and dereg­u­la­tion. Free mar­keters tend to as­sume that slash­ing regulation will boost growth, pos­si­bly by dra­matic amounts, de­spite only mixed ev­i­denceon the mat­ter. On the left, "third way" pro­po­nents con­tinue to em­pha­size tar­geted dereg­u­la­tions, such as a re­duc­tion in oc­cu­pa­tion li­cens­ing, weak­ened in­tel­lec­tual-prop­erty pro­tec­tions, a re­duc­tion in land-use re­stric­tions, and in­creased im­mi­gra­tion. I tend to agree with the lat­ter, but ne­olib­er­al­ism is fun­da­men­tally an old idea. We've been try­ing to boost eco­nomic free­dom for decades now, and there's a good pos­si­bil­ity that all the lowhang­ing fruit has been picked.

So what else is there? Look­ing around, I see the glim­mer of a new idea form­ing. I'm ten­ta­tively call­ing it "New In­dus­tri­al­ism." Its sources are var­ied -- they in­clude lib­eral think tanks, Sil­i­con Val­ley thought lead­ers and var­i­ous econ­o­mists. But the cen­tral idea is to re­form the fi­nan­cial sys­tem and govern­ment pol­icy to boost busi­ness in­vest­ment.

Busi­ness in­vest­ment -- buy­ing equip­ment, build­ing build­ings, train­ing em­ploy­ees, do­ing re­search, etc. -- is key to growth. It's also the most volatile com­po­nent of the econ­omy, mean­ing that when in­vest­ment booms, ev­ery­thing is good. The prob­lem is that we have very lit­tle idea of how to get busi­nesses to in­vest more. Un­for­tu­nately, net U.S. busi­ness in­vest­ment has been more or less in de­cline for decades:

Some peo­ple have sug­gested that the way Amer­i­can busi­nesses make their in­vest­ment de­ci­sions is fun­da­men­tally bro­ken. Stan­dard cor­po­rate fi­nance teaches us that busi­nesses in­vest to max­i­mize share­holder value. The peo­ple we call "in­vestors" -- lenders and share­hold­ers -- are thought to drive busi­ness­in­vest­ment de­ci­sions with their fi­nan­cial­in­vest­ment de­ci­sions. Lend­ing money or buy­ing stock -- fi­nan­cial in­vest­ment -- is sup­pos­edly a vote of con­fi­dence in the real in­vest­ment plans of a busi­ness. In fact, our the­o­ries as­sume such a tight con­nec­tion be­tween fi­nan­cial in­vest­ment and busi­ness in­vest­ment that we use the same word for both ac­tiv­i­ties.

But what if this sys­tem just doesn't work as well as it should? If fi­nan­cial in­vestors have short-term hori­zons, they may not push busi­nesses to do the long-term in­vest­ment that re­ally boosts the econ­omy. J.W. Ma­son, a re­searcher at the Roo­sevelt In­sti­tute, foundthat busi­nesses have re­cently been bor­row­ing money not to make real in­vest­ments, but to make cash pay­outs to share­hold­ers:

In the 1960s and 1970s, an ad­di­tional dol­lar of earn­ings or bor­row­ing was as­so­ci­ated with about a 40-cent in­crease in in­vest­ment. Since the 1980s, less than 10 cents of each bor­rowed dol­lar is in­vested...To­day, there is a strong cor­re­la­tion be­tween share­holder pay­outs and bor­row­ing that did not ex­ist be­fore the mid-1980s. This change in cor­po­rate fi­nance, as­so­ci­ated with the "share­holder rev­o­lu­tion", means there is good rea­son to be­lieve that the real econ­omy ben­e­fits less from the eas­ier credit pro­vided by macroe­co­nomic pol­icy than it once did.

This could be hap­pen­ing be­cause in­vestors don't see much of a fu­ture for Amer­i­can busi­nesses, and are thus choos­ing to get out while the get­ting is good. On the other hand, it could mean that in­vestors are sim­ply think­ing in the short term and are more in­ter­ested in quick cash grabs than in push­ing com­pa­nies to max­i­mize their long-term value.

Mean­while, Sil­i­con Val­ley's ti­tans of in­dus­try are start­ing to com­plain about the sys­tem. Ven­ture cap­i­tal­ist Marc An­dreessen, for ex­am­ple,reg­u­larly laments pub­lic fi­nan­cial mar­kets' short-term fo­cus. The ev­i­dence is on his side: Pub­lic com­pa­nies in­vest much less than pri­vate ones.

If the pub­lic mar­kets are bro­ken, how can they be fixed? In­tel co-founder An­drew Grove sug­gests tax in­cen­tives for com­pa­nies to in­crease their scale. Eric Ries, a startup-man­age­ment guru, of­fers a more rad­i­cal idea: a new stock ex­change that would force in­vestors to hold stocks for long pe­ri­ods of time. This so-called Long Term Stock Ex­change would be a far more rad­i­cal step than the tax on fi­nan­cial trans­ac­tions be­ing sug­gested by San­ders and oth­ers.

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