Stimulating Economic Growth
The current state of the US economy post the Great Recession
(Written: October 5, 2015)
Let’s begin with one simple fact: America is facing a post-crisis adjustment period. And the statistics are quite grim. Surely, one might think, economic weakness is simply the result of something conventional like trade deficits or static conditions of productivity than a feedback loop. Yet, despite low interest rates, investment is not booming. The problem is in people’s minds.
In fact, the labor market is in stronger shape: with a steady 5.3 percent unemployment rate in July, just above the 5 to 5.2 percent range that the Fed considers normal in the long run. But there are still some apparent dismal trends in the US economy. And with investors already in a febrile state of mind about financial markets, the latest news on Federal Reserve rate hike, turmoil in Greece, plunging oil prices, and the unexpected devaluation of the Chinese yuan, only seemed to heighten their worst fears.
Fear hinders economic growth. It causes consumers to cut down on spending and firms to withhold investments; consequently, the economy weakens, confirming nightmare into reality and causing people to further restrain spending. The situation deteriorates, and a malicious cycle of despair transpires. Once the economy is in such a state, it is very difficult to get out of it.
Policy-makers are also engulfed in uncertainty amid recent stock market crashes. The Federal Reserve seems to be in a quandary about whether or not to raise interest rates, and so does the Bank of England. Both are currently trying to raise interest rates for the first time since the 2008 financial crisis. But the IMF revealed that “in most advanced economies, substantial output gaps and below-target inflation suggest that the monetary stance must stay accommodative,” in essence, interest rates need to stay fairly low.
In such circumstances, the people need some sort of inspiration — something revolutionary. Prudent government spending on infrastructure, say, a new high-speed rail (HSR) network, is an ingenious way to inspire economic growth. Yes, it may sound rather peculiar to be advocating for more gov’t spending right now, but if GDP growth rate is about 2.5% annually, and real (inflation-adjusted) interest rates and inflation continue to stay low, it’s a worthwhile investment. The benefits, once quantified, are significant. Hence, if a HSR line will cost 10 million dollars per km, project a high traffic density of 45 million passenger trips per annum, and yield a net benefit of $100 million per annum, a long-term real interest rate of 1 percent would make it feasible: the net benefit to society will surpass the interest cost.
In addition, it’s worth noting that government spending has a higher economic multiplier effect than simple tax cuts, for it creates more jobs and increases economic activity. And also, intrinsic issues like overpopulation, and congestion will forever necessitate innovative passenger and freight transportation. The question is, are such projects too expensive and unnecessary?
A HSR project will certainly be risky and expensive. How expensive? Well, that depends. For instance, the cost of HSR in China is one third lower than in other countries, averaging about $17–21 million per km, compared to $25–39 million per km in Europe. Without a doubt, as HSR manufacturers continue to compete over time, the cost of construction will become commercially viable. It’s not an issue of money, the gov’t is perhaps indifferent about such investments, for now.
Moreover, human psychology has more of an impact on the economy than one might think. Yale professor and renowned economist Robert Shiller gave an example of this phenomenon in an interview, paraphrasing John Maynard Keynes, saying, “If you’re about to start an investment, how do you know that it’s going to succeed? It all comes down to some sort of intuitive judgement, for no one can tell you those probabilities. And this kind of intuitive judgement varies over time, and it consequently leads us to bubbles when we’re overly-enthusiastic, and reverses when we become unenthusiastic.” In essence, human psychology drives economic activity.
The lack of enthusiasm in people today could be the result that they think that other people are pessimistic about the future, or just simply, they think that the business environment is unhealthy due to unprecedented complexity that’s beyond human comprehension (i.e. High-Frequency Trading (HFT) in global markets — a financial system that no one seems to truly understand.).
Some believe that investor sentiment today is looking like it did before the dot-com bubble burst, and that could be a sign markets are in a bubble. In fact, a new index known as the Home Purchase Sentiment Index (HPSI), by Fannie Mae, suggests that people are increasingly worried about the economy. The index was constructed from answers to a questionnaire that solicits people’s assessment of housing market conditions. The questions ask consumers whether they think it is a good or bad time to buy or to sell a house, how concerned they are about losing their jobs, and whether their incomes are higher than they were a year ago. The figure below shows that the index has dropped from 84.7 to 80.8 in the last couple of months, indicating a decline in consumer confidence.
On the contrary, rapid advances in technology are creating unprecedented benefits and efficiencies, which somewhat highlights the zeal for economic growth. American companies like Apple and Google have truly inspired growth in the digital economy: with inventions like the IPhone, Project Soli, face computers, and high-tech contact lenses. Similarly, another recent innovation is the benefit corporation, a new class of corporation that creates a material positive impact on society and the environment while maximizing profits for shareholders — these are all American innovations.
The economy has improved since the recession, no doubt. But we are still stuck in the emotional cycle that has been triggered. Higher government spending could help us escape from this muddle, however, what’s imperative is for such projects to effectively communicate an inspiring vision.
