Obama’s Economic Stimulus Plan: Fresh Ideas Needed

President-elect Barack Obama unveiled his proposed fiscal stimulus plan to spend between $500 billion to $700 billion on a package of measures, including massive spending on infrastructure repair and building, and for solar projects and wind farms, to create jobs and “get the economy moving again.” How does Mr. Obama know that those projects are beneficial to the United States and will indeed create rather just redistribute jobs in the United States? He doesn’t know that, but he is doing what the federal government has done since Herbert Hoover: have the government spend money it does not have in order to try to make up for a perceived lack of private sector spending during a business downturn. How did he pick these favored industries to receive these billions of dollars of government spending? Most likely political lobbying from those groups (the construction industry and its unionized workers favor infrastructure spending) and the political appeal – however economically irrational – of the idea of energy independence.

Thus, this stimulus plan – any stimulus plan – must be evaluated based on whether it will deliver benefits greater than its costs, and whether the plan will indeed create any net new jobs. Beginning with infrastructure spending, the government is saying that spending on roads and bridges rather than a myriad of other priorities (including tax cuts) is the best use of those government funds. Will several thousand new miles of highway or a few hundred repaired bridges be worth the billions of dollars that would be spent building or repairing them? The value of public infrastructure projects are very difficult to measure, and the economic stimulus effects of infrastructure spending is uncertain. In fact, most targeted spending in stimulus bills is criticized because the benefits are concentrated into one industry.

Assuming that the value of the infrastructure would exceed the cost, what about job creation? The billions of dollars used to pay construction crews for the building looks like it is creating construction jobs, and those construction workers will then spend their wages buying cars and houses, and then the car manufacturers and home builders will hire workers to address this new demand. However, the money for the infrastructure building must come from someone, and that means taxpayers either now or in the future must pay for those projects, and will therefore have to reduce their spending in other areas to pay for these infrastructure projects, including the interest on the debt for those projects. Thus, someone who might otherwise pay for a child’s education, purchase health insurance, or vacation in Hawaii instead will pay additional taxes to pay for the roads and bridges. Therefore, there will be unseen job losses from these targeted spending initiatives, but politicians are not forthright about these costs.

Accordingly, it is very unlikely that any net new jobs will be created by the government spending, and there is likelihood on a net basis jobs will be lost. The reason for this is that construction jobs are kept at an artificially high level by the Davis-Bacon Act, which does not allow for the payment of competitive wage rates; rather, it mandates paying “prevailing wages” that are usually union-based rates on construction contracts. Thus, a lot of the stimulus spending on infrastructure will be awarded to the favored class of workers drawing abnormally high, non-market wages. If we take money from citizens who would otherwise purchase goods in competitive industries where wages are usually lower (and therefore employers can afford to hire more workers per customer dollar), it is very likely that directing stimulus dollars to protected industries will cause a net loss in employment.

It is also worth noting, that if money is spent for environmentally friendly technologies such as wind and solar, infrastructure spending is usually environmentally disastrous. Forest and trees are cleared for road-building, and then with roads comes the attendant development of nearby property. The environmental degradation from infrastructure spending is fairly well documented. The worst environmental disasters of all time in the U.S. were large infrastructure projects, many of which took place during the New Deal. Many dams in the western United States were built during the New Deal to create jobs, and destroyed many river ecosystems, including the Colorado River basis and the upper and lower Tuolumne River in California.

What about the proposal to spend government stimulus money on solar energy and wind farms. First of all, it must be recognized that if solar and wind power were indeed economically feasible, then the profit motive would draw in entrepreneurs to invest in these industries, and indeed there is some private investment in these industries, where sun or wind are plentiful. However, even these projects have gotten benefits of tax credits and accelerated depreciation benefits. Obama justifies spending in these areas to create jobs and to build energy independence. It is unlikely net new jobs will actually be created: there will be unseen job losses not just from citizens spending less because of higher taxes, but also because solar and wind energy compete with other energy forms of energy. Thus, kilowatts generated by a solar power plant, may cause workers at coal companies to lose their jobs and go on unemployment benefits. With regard to energy independence, that is a foolish goal if the U.S. can trade with other countries to bring in less expensive energy sources, and currently the U.S. can do that. If a consumer pays say $1.00 per kilowatt hour of electricity, should that consumer pay $2.00 for the same quantum of energy merely because it came from a U.S. wind farm rather than oil pumped in Saudi Arabia?

In light of these criticisms, what would be a good stimulus package? The best stimulus package would be to reduce tax rates across the board by the largest possible percentage without currently damaging the government’s ability to pay its debt. Returning to the Reagan tax rates of a 28% rate and a 15% rate would be the fairest, most productive stimulus package. Lowering the taxes on productive business activities encourages all forms of economically viable businesses to come into existence, and workers are hired into businesses that are growing because they are selling something that consumers want. Government spending means the government is buying something no one currently wants: government spending usually distorts the proper allocation of resources. Private sector economic development promotes the efficient allocation of societal resources to those goods and services citizens want. Thus, lowering tax rates as the stimulus package is simple, fair, and economically efficient. Doing so can also be counted upon to stimulate new businesses that no government expert foresaw. Therefore, the U.S. can avoid having the government try to “pick winners” with its lavish spending. Better the spending be for industries and new ventures that are determined by the market rather than government experts.