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J. Bradford DeLong

Intelligent Design for the US Economy Stephen S. Cohen and J. Bradford DeLong U.C. Berkeley October 20, 2010

Design or Evolution? Over the past thirty years the United States redesigned its economy. It did this deliberately: it did not spring up as the emergent outcome of numberless individual behaviors aimed at other goals, but as the result of decisions made by powerful individuals with their visions of how the economy ought to change. It did this intelligently--to the extent that "intelligence" is a necessary attribute of "deliberate." But it did not do so smartly. Thus now--if we want to leave our descendants and successors the patrimony and matrimony we would wish--we have to do it again, to intelligently design the American economy once more, and this time to do it smartly. That over the past thirty years the United States redesigned its economy is not something that should come as a surprise to anyone. Governments and societies are always redesigning their economies. Economic growth and change does not always happen by itself--and even when it does happen by itself it is only because the key political and social players have decided that now is a moment for laissez faire. But almost all the time economic redesign is not the the unguided result of purposeless, unbridled evolution. There is an Invisible Hand. But the arm to which the Invisible Hand is attached can be and was repeatedly lifted up at the elbow by the


J. Bradford DeLong

Visible Government--which then rearranges things and replaces the Hand in a new position from which it can go on to perform its magic. After some years and some iterations of this process, the effect is to reshape the economy.

A Little History The Founding Fathers were first. They were keen on redesigning the infant American economy. Alexander Hamilton was very clear on the primacy of commerce, industry, and banking and on the importance of providing infant industries with space to grow. The other Federalists believed equally strongly in infrastructure. When the Federalists were replaced by the small-government Democratic-Republicans, they learned that their smallgovernment principles had been an out-of-power luxury. Wars of conquest, territory acquisition, canal subsidies, and then railroad subsidies. Admittedly government spending as calculated by the accountants remained small, but a government that first acquires gives away title to land on the scale of the nineteenth-century U.S. government is a big government indeed. Add steep tariffs on imported manufactured goods-rammed through over the angry protests of farmers and southern planters-and you have the policies that redesigned that nineteenth and early twentieth century American economy. For, after all, America kept tariffs higher than other North Atlantic nations right up to the interwar period. After World War II it was again government that led the reshaping of the US economy: housing and highway programs that enabled the huge and rapid suburbanization that drove the economy and reconfigured the landscape.: financing the large-scale development of the world's leading research universities; financing the millions of young Americans who went to them them; directly funding, mostly through the defense budget, the most important new technology industries of the post-WWII era, from commercial jet aviation to computing extending back into semiconductors and forward through software and applications up to the internet.


J. Bradford DeLong

These were all big-time exercises in direct, hands-on, winner picking. And they were all very big winners for the United States. And when push came to economic shove, America’s government has even deliberately devalued the dollar in the interest of economic prosperity: Franklin Delano Roosevelt in the Great Depression, Richard Nixon in the early 1970s, and even whoever was the decider during the second Reagan administration. Infrastructure development, tariff protection, direct winner-picking, devaluation, mammoth tax incentives, regulatory mandates, and even in the first Reagan administration bare naked quotas in the form of "voluntary" export restraints.

Losing the Path But this proud and successful history of intelligent design of the American economy has, we now recognize, taken a turn we regret over the past generation. We now have a--permanent, structural--trade deficit of more than 5% of GDP, as we have decided via our "strong dollar is in America's interest" policy that we will let other countries grow their manufacturing sectors while we shrink ours. We have filled in the hole thus created by moving our economy into FIRE--finance, insurance, and real estate, close to doubling the share of those sectors in GDP. However, we did so not by creating lots of new high-paying middle-class jobs for the modern equivalent of past generations' engineers, technicians, and skilled bluecollar craft and assembly workers, but instead by more-or-less doubling the profit margins and the pay of our financiers. The legions of bank clerks and back office workers did not see rapid pay increases nor achieve high incomes. It all went to the top. And finance went to the top of all industries. By 2005, at its peak, over 40% of corporate profits were in finance. And the many of the most lucrative parts of finance were not structured as


J. Bradford DeLong

corporations: the growing fortunes of the partners in our investment firms come on top of that 40%. When you think of it, for finance to collect 40% of corporate profits is terrifying. Finance collects savings from households and lends to younger Americans so that they can buy their houses. But mortgage finance is supposed to be a low-margin low-risk business with the government providing a backstop, and the interest payments on mortgages are supposed to flow through with very small subtractions to the interest earned on the savings accounts of other American households. Finance again collects savings from all over the world and underwrites and makes liquid the securities that form their capital base. But it is the operating companies that make the profits. Finance simply aggregates and slices the profits in various ways. It is supposed to take a small commission as it serves as intermediary between the companies that make the money and the households that saved the capital by packaging the money flows to households in safe, convenient, and liquid forms. But how did this provision of safety, convenience, and liquidity--which turned out, of course, to be none of the three in the fall of 2008--ever come to be priced at 40% of the total? Now government did not force the U.S. economy into this new manufacturing-, engineering-, and exports-light and this fiannce-, real estate, and imports-heavy configuration Rather it enabled, and supported it, in ways similar to how it enabled and supported the earlier waves of post-WWII suburbanization through innovative financing programs to make single family home ownership (not apartment rentals or ownership) available to average Americans. In this case deregulation was the instrument of choice. This enabled and supported the movement of the economy in the direction to which policy was opening the gates. And it is not all finance. Our newly redrawn map of the U.S. economy shows two other growing and leading sectors besides finance. First, the administration of our ill-designed health care system, which now costs us about 4% of GDP over and above the costs of administering health care in other comparable countries. This does not count treatment--not even


J. Bradford DeLong

unnecessary and inappropriate treatment. This U.S. spends over 17% of GDP on health care treatment and administration, well over half again as much as a proportion of GDP of other rich, advanced nations such as Germany, Switzerland, France and Denmark. And we have health outcomes worse than theirs--even if we say that "we" includes only white Americans. The reason that our redesign over the past generation has proved to be not at all smart is not because government always gets it wrong. Earlier redesigns were engineered by government action with specific, concrete intent, and most were very successful (though not without occasional irony). This time, however, policymakers took their eyes off the ball of the real economy. An excessive--a more than ideological, a positively religious--belief that finance could find its own proper size, that the trade balance and the exchange rate find their own proper levels, and that a health care administration system run by private insurance companies could find its own proper shape if only the government would get out of the way--blinded the shifting coalitions that have been the deciders in American government over the past generation to the realities of the American economy and to its place in the world. This was the enabling, or pull side. On the push side there are foreign governments of poor countries that seek to promote their people's livelihood and that have painfully learned that they cannot afford the ideological or religious illusions of taking their eye off the ball that is the real economy, and choosing a cat because it is red (or white) and not because it catches mice.

What Comes Next A simple reflation of our flattened economy, pumping it back up to its state in 2007--what we are now trying, not all that successfully, to achieve--will not do. A simple return to the industrial structure of a generation ago also will not do. Time has moved on. And the place at the table the U.S. occupied in the post-WWII international division of labor is no longer open.


J. Bradford DeLong

We need another re-design. And this time, we need a smart and not just an intelligent design. Government again will have to lead. Indeed, government--somewhere-will lead. It might be best if it were the American government. Who is going to select the new design principles –even the new design? A few self-styled smart guys, like us? A blue ribbon committee? Of course not. In the past that was not how it was done. And it won’t be done that way in the future. An effort at redesign is never the result of a single bright idea, with a preset, quantitative plan. No one can ever know the complex configuration that an effort at redesign will eventually yield, let alone its extent. But everyone knows the initial direction: American manufacturing growing to replace imports from Britain; full-bore westward expansion on the railroad; a Cold War buildup of permanent military capacity; suburban houses and roads and building materials and cars, oil, and appliances; jet planes and something having to do with computing and calculating and science. The direction always seemed obvious, and it was. Most Americans, not just a few, supported the shifts in the past. They seemed right and appropriate to them. Even the last round, the massive shift out of manufacturing and into finance and health care administration, seemed the wave of the future-when viewed, as it was, from a particular perspective. Part of the policy shift that enabled the economic shift was, admittedly, sneaky: small, incremental changes in the arcane rules of financial regulations. But the big shift was obvious and generally understood: part and parcel of a move to unfetter the market and fetter government by taking three steps to the right and to dismantle the post-World War II mixed economy. It was a


J. Bradford DeLong

response to a question: what by the lights of dominant American economic theory and a long history of populist political rhetoric makes an economy innovative, flexible and prosperous? The answer is to remove the need--as well as the temptation--for government meddling. This round, some of the directions are, again, obvious and not to just a few: infrastructure repair and upgrading; alternative energy as a way to reduce carbon emissions, create domestic jobs and skills, reduce dependence on oil supplies from troubled regions of the globe; health care system rationalization to bring service up to levels of other rich nations and costs down to something closer to reasonable reality. Compared with a further increase of the role of finance in the economy, or ever-larger employment of clerical workers in doctors' offices trying to get insurers to pay and insurance offices trying to disallow claims, or a permanently lower level of economic activity, this seems like an obvious and broadly acceptable set of starting directions. More and better ones will surely be added. For there will come a long and broad refocusing of policy debate on what to do about the economy, and away from its past preoccupation with the realization of abstract economic principles. October 20, 2010: 2096 words


20101020 Cohen DeLong Intelligent Design 2000 words  
20101020 Cohen DeLong Intelligent Design 2000 words  

U.C. Berkeley October 20, 2010 J. Bradford DeLong 1 J. Bradford DeLong 2 These were all big-time exercises in direct, hands-on, winner picki...