The Organisation for Economic Cooperation and Development (OECD) has recently come out strongly in favour of public borrowing to fund infrastructure investment across the industrialised world. In its recent Economic Outlook, and in view of slowing growth in the global economy, it favours ‘accommodative’ (ie loose) monetary policy, public investment in infrastructure, especially in Europe, and structural reform.
This is fairly mainstream stuff, but the focus on public investment is something that, given very low interest rates, should be a no-brainer. This is especially true in countries which have embarked on austerity policies. In many cases, such as the US, UK and Germany, spending on infrastructure has been weak for some time, so there are plenty of opportunities which will yield a positive net return.
Public infrastructure represents part of the ‘lifeblood’ of the economy. Without sufficient transport, energy, utilities, housing and, in today’s world, broadband networks, the private sector will be more limited in what it can achieve. As described in this blog before, public investment, where needed, can ‘crowd-in’ private investment, and thus boost growth. In the short run, where projects are what in the US they call ‘shovel-ready’, jobs and demand can be created. In the longer run, as projects are completed, the supply capacity of the economy is improved and enlarged, leading to potentially higher productivity as private sector investment is encouraged.
There are different ways of funding public investment. The funds can be sourced from higher or reallocated tax revenue, or they can be borrowed with the cost determined by the interest rates on public debt. The latter are currently at extremely low levels in many countries, so borrowing would seem to be perfectly feasible. In an environment of weak growth and low inflation, crowding-out from higher rates discouraging private investment should be minimal.
Higher taxes can discourage private sector activity, depending on the tax incidence, but if the returns on the public investment are higher than those on the private activity that is reduced, then there will be a positive net social benefit to the economy, which will be larger than otherwise.
Reallocated tax revenue must come from reducing public spending in other areas, such as defence or welfare. No matter how the new investment is funded, the process will be as much political as economic. Arguments for who gains and loses in distributional terms inevitably come into play. In the UK, the chancellor is loth to increase borrowing compared to his party’s much vaunted ‘long term economic plan’. His goal of fiscal consolidation has since 2010 taken much longer than anticipated. Although he remains a fairly cunning political tactician and perhaps more flexible than he makes out, his plan for a budget surplus in ‘normal times’ finds little support among even mainstream economists. In my view it is economically illiterate, and its success depends on factors which the government has not taken into account, such as the evolution of the current account.
Despite all this, public investment is badly needed in a number of countries. No matter how the shift from austerity is spun, if ever there was a time for public borrowing to fund productive investment, now is most definitely it.