The Case for Public Investment Led Growth

It strikes me that progressive economists should talk less about the need for immediate fiscal stimulus, and more about the case for an extended period of public investment led growth.

Of course, as we slide into recession, Canadian governments will likely shift from surpluses to deficits simply by not cutting spending as much as revenues fall in line with shrinking employment and GDP. They should, of course, not let deficit-phobia get in the way of running a cyclical deficit and should let the so-called automatic stabilizers operate (to the limited extent that they still exist on the spending side here in Canada after cuts to EI, and the end of 50/50 federal-provincial cost sharing of social assistance.)

The need to run a cyclical deficit is actually now the mainstream economics view, reflected in statements by bank economists, the IMF and the OECD, articles in the Economist etc. Even Flaherty has hinted broadly at his acceptance of this view, though I have not yet heard the Liberals or New Democrats strike even this timid note. Parts of the mainstream are even calling for modest fiscal stimulus, which could, in principle, come in the form of tax cuts or government spending.

By contrast, I think we need a large deficit financed public investment program to be maintained over several years.

The case for major investments to rebuild crumbling public infrastructure, to promote energy efficiency and a shift to new forms of energy, and to raise skills existed long before the immediate crisis. We need these investments for basic public good purposes, and also to raise business sector productivity. A properly conceived public investment program also has the potential to stimulate new industries.

We need a major medium-term public investment program because the old growth model has collapsed. It is simply inconceivable, even in a best case scenario, that Canada or the US – to whose fate we are inextricably linked – will soon return to growth based mainly on debt-financed household spending. Globally, the main growth dynamic will have to come from surplus countries , whose demand is for commodity and capital goods imports. That might provide some stimulus to Canadian exports, but the fact remains that household retrenchment in North America will remain with us for a long time due to the collapse of the housing bubble, the collapse of the equity bubble, the deleveraging of the financial system, and the shock and after shocks of the major and potentially self-feeding rise in unemployment which we are about to experience. I find it hard to believe that a slump in consumption can be offset by much higher net exports, or by an increase in private investment.

The recession we are just entering has its origins in the collapse of speculative housing and other bubbles, and a banking crisis. Typically such downturns last much longer than average. This is a profoundly different situation from the last two Canadian recessions of the early 1980s and early 1990s, which were in large part the product of tight monetary policy. The key risk today is of deflation, not inflation.

In a deflationary situation, especially one accompanied by a banking crisis, monetary policy has little purchase and needs to be accompanied by a fiscal stimulus. Once that point is accepted, attention has to shift to the most economically efficient form of stimulus. Work by Informetrica and other shows that there is much more bang for the buck from public investment (and even more for direct spending on public services) as opposed to personal income tax cuts (and business tax cuts have an almost trivial macro economic impact.) The impact on GDP of a given increase in government investment is 60% – 100% more than equivalent personal income tax cut since public investments are generally fairly labour intensive, have a low import content, and do not disappear into savings.

The lack of an inflation risk means that the Bank of Canada and other central banks can, already have and likely will again push interest rates down, perhaps to levels just above zero as has been the case in Japan for an extended period. This – combined with a newly found strong aversion to risk on the part of banks and investors – means that even a very ambitious public investment program could be easily financed at a very modest cost.

Investors have become so risk averse that they are unwilling to fiinance private investment, as indicated by huge spreads between government and corporate bond yields. If overall investment is to be maintained, there simply has to be a major shift from private to public investment.

The other major point to be made is that public investment in the context of a serious recession is self-financing to a non trivial degree. If it generates significantly higher GDP via the multiplier, the tax base rises and some costs are recouped through higher revenues.

Finally, for those who worry unduly about large deficits, we can and should allocate long term public investments which produce future returns to a separate capital account.

In sum, we should stop making defensive arguments in favour of modest deficits, and stake out ground for a large, medium term investment program.


  • I agree and may claim to have been slightly ahead of this curve.

  • yes, most definitely, for all social needs, core services- *welfare, EI, public housing and water/sewage, as well as infrastructure projects-wind farms (Canada has some of the greatest potential in the world along coastlines- almost completely unused), other alternative energy, retrofits, transit, etc.

  • I agree, however I also think we need to have a debate on what accounts for public investment and infrastructure.

    Here is an example.

    The auto sector.

    The US government is now thinking about making an investment within the auto sector. It started at $25 Billion and now seems to have doubled to $50 Billion since the election. However with one key caveat and I am sure a host of others, but the key one for the public good perspective, is the auto sector must restructure with this investment towards fuel efficient and alternative fuel powered cars.

    One could argue this caveat is moot as the probability is high that this direction would have occurred regardless of this request.

    It also must be argued that public investment into the auto sector is key to the nation’s economy and without this investment we are going to see the heart of the economy ripped out. Cash starved auto companies do not have the ability of making necessary long term adjustments.

    When we look at what the Harper government has proposed for the auto sector we see a paltry outlay of cash for a sector that is the number one generator of wealth in our country.

    One could argue that public investment should focus on roads, bridges, schools, training and a host of other. However these are indirect wealth generators supporting the heart of the economy. Without an auto sector we may not have much of a need for roads and many other public services as the population will have no alternative but to move where the wages are.

    Again one could argue that the auto sector as it slowly fades away in Canada will be replaced by some other major industry. So okay I will give a Conference Board policy wonk personally $100 (Canadian or American dollars; hard to say where these two will be from day to day) to name one industry that can come in and have the impact the auto sector has had on the Canadian economy.

    I am not talking short run either, name one legitimate industry that has a chance in hell of lighting our Canadian economy on fire they way the auto sector has.

    We need to have a coordinated investment with the US government into the ailing Auto sector, so when Harper and his band of cronies head south next week, they had better be bringing their oil rich wallet with them and be prepared to right a cheque similar in proportion to what the Obama regime will be writing. Otherwise we as a nation will be facing a bleak future.

    THis is most likely the single biggest danger to our economy in a long long time, and we are at a key crisis point.

    If the aid package coming from our government start sounding of market based solutions and invisible hands, you can bet your ass that Mr. Obama and the auto sector people will be shutting the door on Mr. Harper. If Harper had any brains he would be bringing someone from the auto sector and the CLC with him down to the meetings.

    We need to have the CLC and the Auto sector union to sit down with Harper and ensure he understands the huge crisis point we are at within the autosector. I am speaking in terms of rescue package, if we are not within that package, we will not be in the long term plans of the North American industry.

    Bringing a labour rep to these meetings may just be the token of appreciation that Obama would consider a submissive poster that Harper needs to have in this circumstance.

    They need to be submissive here and listening quite whole heartedly, not shoveling their market based theories around with reckless abandon.

    Watch out people we are in a very dangerous position here.


  • Some very interesting developments in the last few days:
    – Nov. 5: Global social movements call-out for action re: G20 meetings in Washington . Groups want fundamental restructuring and an inclusive process.
    – Nov. 6: IMF announces its new WEO promoting fiscal stimulus on the same day that it releases its program for Ukraine, the specifics of which indicate the IMF is indeed still committed to core belt-tightening prescriptions, with some minor stimulus and some handouts to poor residents. Readers should know that the IMF has historically given far greater punishment to poor countries, particularly in the South, than it has to wealthy countries of the North.
    -updates on proposals from the EU indicate that fundamental directional changes for the IMF are not on the table, although China has been on record calling for some broader IMF governance.
    – Washington meetings are a week away. Canadian movements are pretty much all over the place at present. Can we use some time in the next seven days to call for a truly healthy change for global financial institutions, not just bandaids?

  • Here’s the main disconnect- if the IMF encourages some spending, but gives loans still with conditions that exchange rates be floated, and existing transaction taxes cancelled (as its standby facility for Ukraine promotes), then the IMF is still pushing for a primary control role for private finance. Reviewing its recent WEO and reports on other countries, such as Colombia, it is quite clear that the IMF continues to prioritize global financial speculation over domestic control of the basic needs of people and planet.

    This issue of promoting control by private finance vs. control by diverse structures of elected/participatory representation is really at the heart of the IMF’s directional problem.

  • The IMF Sept 2007 “Poverty Reduction Strategy Paper” for the Democratic Republic of the Congo was explicit that the private sector was to be made the ‘driver’ of the economy. The IMF directed rapid privatization, exploitation and foreign investment in every aspect of the economy, from forests and mining to electricity and agriculture. The IMF even directed seed farms in one province to be privatized.

    It told the government not to use the country’s Central Bank: “To accommodate the monetary policy, the State will refrain from advances from the BCC, which will make it possible to free up liquidity in amounts compatible with demand from the private sector.”p.66

    At the same time the IMF promoted “state
    divestment…strengthening of the incentives for increased private investment; and…improvement in the capacities of the financial intermediation system to guarantee effective support for wealth creation.”p.77 These directives included state divestment from an array of public services so that these services would be provided “on a commercial basis”p.78

    So now in the Congo we can admire the tremendous wealth, service, and stability which the IMF’s advocated ‘financial intermediation system’ and foreign private investment drivers have brought to Congolese civilians. Indeed, the IMF on Nov. 15th should be given a green light to guide the world.

  • The following note posted yesterday shows how the IFIs are attempting to expand global rule on behalf of private finance. Here the World Bank offers Nigeria $3 billion with practically no interest: “The World Bank’s offer is coming at a time the Federal Government is sourcing private sector operators with whom to collaborate under the Public Private Partnership (PPP) in the provision of power, rails, roads, water and other infrastructure facilities…the Federal Government was being encouraged to take more loans ‘as a result of improved governance and economic performance'”.

    The problem of course with P3s is that they are vastly more expensive than direct public spending, cover private ‘partner’ CEO salaries, debt, and profits, and enjoy privacy law so there is no transparency on the financial arrangements for the public taxpayers who are paying the bills. P3s are mechanisms to channel more public money to private pockets, while avoiding real oversight.

    The comments to the linked article are quite revealing, although they don’t address the P3 issue. Nigerians are correctly wary of being drawn further into the grasping clutches of international finance when they have other options.

    We should be wary too when those responsible for the current financial mess propose tightening some aspects of the casino while opening others under the IMF which is making loans conditional on implementation of public-private partnerships. Harper has structured infrastructure funding under P3s, which is perhaps why he is willing to spend a bit of money for infrastructure now.

    Canadians, like Nigerians, can reject this kind of third party involvement of private finance. We need public infrastrastructure, funded cleanly by governments, without further P3 sleight-of-hand.

  • Why do progressive economusts advocate tax cuts as a stimulus measure? Hello, tax cuts will destruct demand (as demonstrated in the US were 70 per cent of the tranfers were not spent but instead ended up in safes and piggy banks). Tax cuts actually take money out of the economy at a time when the state should step in and make up for private consumption. In other words, the state should massively increase taxes, so that it can spend MORE. Anybody calling for tax cuts in the current environment has no understanding of the problem. Tax cuts will actually deepen the recession.

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