Monday, December 22, 2008


Gross Domestic Product = C + I + G + (X – M).

We all learned this basic accounting identity in school. C stands for household consumption expenditures. I stands for gross private domestic investment. G stands for government spending whether for consumption or investment . X – M stands for exports minus imports, or net exports.

If you want to increase national production and income – as we all do – you have only four choices: increase C, I, G, and/or X - M.

The Congress and the new administration seem largely focused on expanding consumption, even though excessive reliance on consumption-led growth helped bring about the current calamity in the first place. Until the rest of the economy recovers and credit becomes available again on reasonable terms, there is reason to question the efficacy of measures aimed at expanding household spending. Let’s hope they rethink this before pulling the trigger on the next “recovery” package.

They also seem agreed on a sizable increase in government spending. I’ve got no problem with funding “shovel-ready” infrastructure projects. Many are long overdue. However, realistically even such projects will take years to start and finish. Moreover, we need to do than just repair and rebuild our broken-down roads and bridges if we want to restructure our economy. We need to commit to massive new spending on intercity rail, electricity distribution, and broadband service, among other major public investments.

I’ve written and spoken a lot about expanding net exports without yet hearing any echo from the Congress or the next administration. But let’s face the facts: we owe the rest of the world a huge sum that grows daily by several billion dollars, even in this recessionary period. Replacing imports (especially energy) with domestically produced goods and expanding exports (particularly capital goods) are essential if we are to avoid settling our unbalanced accounts through a massive inflation.

The more “bail-out” money we throw around, the greater the risk of inflation and the sooner the day or reckoning. This is not so much an argument against doing what’s needed to stabilize the financial sector and key industries like the automotive sector (and don’t overlook escalating cuts in state and local government services and employment). Rather, it is a plea to use the recovery to rebuild the productive capacity of the United States.

Like government infrastructure projects, private investment projects produce jobs immediately, even before the new plant and equipment becomes operational. How to prime the private investment pump?

In my last post, I promised to propose a way to do so. Thanks to an op ed piece in this morning’s Financial Times, today I’m not alone in suggesting that the answer lies in the US tax code. Fred Smith,ceo of FedEx, urged that we use the leverage of expensing, that is, allowing private investors to write off their full investment in the tax year in which they incur the expense without any dollar limitation. Quite naturally, he sees spending $150 million on a new Boeing 777 is a “big risk.” “The best way to mitigate that risk,’ he argues, “is to allow the company to get that money back quicker. It reduces risk and encourages investment more quickly in equipment, facilities and jobs.” Smith cites tax experts Ernie Christian and Gary Robbins on the multiplier effect of expensing: for every dollar of tax cuts for expensing, the economy gains nine dollars of GDP growth.

Why not go one or two steps farther? Add bonus depreciation for investments made earlier as a means of accelerating the private sector’s decision-making. Instead of just 100 percent write-off, why not consider an extra 30 or even 50 percent in the first year to be reduced by ten percent in each subsequent year? Then lengthen the period for carrying forward losses so that future profits are sheltered by current losses including the expensing and bonus expensing.

The effects of such a tax approach would stimulate the economy in the short term. They would help restructure the economy in the medium term by expanding our productive capacity with state-of-the-art facilities. They would do so with no up-front government expenditure or borrowing. Government revenues would be reduced in the out-years, but they would grow in the near term and beyond as people returned to work to produce the equipment, components, and materials needed for each new investment. Construction and transportation companies would be revived at the same time. This approach maximizes the reliance on market forces and minimizes the growth of government buy avoiding new subsidy programs.

Finally, such a program would provide an outlet for nervous foreign holders of dollars. Investing in Treasurys that produce a negative real return is obviously only a short-run strategy for those with no other place to run to. Let’s use expensing to give them a reason to invest in America and, by helping us rebuild our productive capacity, to restore value to the dollars they continue to hold.

Charles Blum

No comments:

Post a Comment