Biden’s massive spending bills will lead to lower growth and more risk.
President Joe Biden’s $1.9 trillion Covid-19 stimulus and the $2 trillion American Jobs Plan aim to change that, by funneling corporate earnings to the government, so that it, rather than the private sector, can choose what to invest in—either directly or via subsidies to favored industries. In other words, this is industrial policy. If history is any guide, the result will be lower growth and more risk.
Innovation sparks economic growth, but it is also inherently risky. Many new ideas fail or cannot find a market. In the private sector, founders and investors shoulder the burdens of failure, but they also reap the benefits of success. When the government takes on innovation directly, however, we often assume that no risk exists; when government subsidizes the private sector, we assume that investors face less downside risk. But transferring risk to the government doesn’t make it disappear. Unlike investors, government officials don’t realize the risks that they have incurred. Instead, future taxpayers bear those risks, in the form of higher debt.
True, future generations might get potential upsides: better roads and bridges, modernized airports, perhaps a cleaner environment. But they’ll only enjoy this upside if government chooses the right projects that enhance growth. That’s the hard part. If it were easy, no one would ever lose money in the private sector. And just like the private sector, sometimes the government makes the wrong bets (such as Solyndra).
In the private sector, moreover, a multitude of investors and participants determines how capital is invested, but when government gets involved, those decisions become concentrated in fewer hands. For private actors, the risk of failure encourages discipline, forcing companies to respond quickly to information about what products work and what the market will pay. Government decision-makers largely lack these incentives, and in the case of government-subsidized markets, prices convey less information about which investments are really working. That’s why industrial policy has failed more often than it has succeeded.
We can see evidence of the market distortions that government subsidies cause in the market capitalization of electric-car maker Tesla—currently about $650 billion, or more than five times that of General Electric. Tesla benefits from many subsidies already, and the Biden infrastructure plan aims to divert even more to the electric-car industry. And by increasing the corporate tax rate to pay for part of these subsidies, the Biden plan will further distort the market by making the unsubsidized private sector even less attractive to investors.
The pandemic forced many businesses to adopt new technologies that could boost productivity for decades. Productivity gains don’t always come so fast. It took more than 100 years for the steam engine, a transformative technology, to show up in productivity estimates, for example. The pandemic’s acceleration of this process of technological adoption means that we could be poised for a big burst of follow-on growth and innovation. But government interventions on the scale of the Covid stimulus and infrastructure bill threaten to divert these energies into less productive investments.
True, the added government spending will provide short-term benefits to workers in the form of new jobs building roads, bridges, and airports or retrofitting buildings with green technology. But using industrial policy to create jobs can also generate long-term risks for those workers, by steering them away from gaining the skills and experience the market may need in the future. Research has shown that workers for the Depression-era Works Progress Administration were less likely to take higher-paying private-sector jobs when they became available because they preferred the security of a government guarantee. In the long term, that can lead to wage stagnation and a population less competitive in the global market.
Some infrastructure investments enhance growth. As we saw with Operation Warp Speed, the government’s vaccine-development effort, sometimes the government can support and enable private-sector innovation. This was clearly a smart risk to take since the need for a vaccine was clear. It’s one thing to subsidize vaccine manufacturers in an effort to get everyone back to work quickly; it’s another to assume control over a massive share of the economy’s investment decisions, just as we’re coming out of a pandemic and recession.
Biden has argued that his infrastructure plan will ensure that the U.S. can compete with China. China’s growth over recent decades makes its model of heavy state intervention seem tempting, at least at first glance. But China’s success owes more to how it opened up its low-wage labor to the global market and quickly adopted proven technologies to make that labor more productive. Industrial policy largely worked out for the Asian Tigers for similar reasons: their governments invested in technologies that had already found success in the market.
When it comes to innovation, the private sector remains the better bet.
Allison Schrager is a senior fellow at the Manhattan Institute and a contributing editor of City Journal.
Photo: photoman/iStock
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