Keystone Kops and Deficient Demand

Domestic capital spending has been very slow to recover in the U.S. following the official end of the previous recession. Why is this the case?

Deficient demand, that’s why. People are pessimistic. Their pessimism leads them to cut back on spending. And because everyone cuts back on spending, there is little incentive to hire new workers or start new capital projects. This means lower incomes for workers, which leads them to cut back even more on spending. Fear has become a self-fulfilling prophecy.

That’s right — all you people in the private sector out there — you’re a bunch of scaredy cats. That’s why the government needs to take your money and spend it for you. You’ll be the richer for it.

The problem with this “scardey cat” hypothesis is that there seems to be plenty of evidence suggesting that the private sector would love to start spending, if only the government would let it.

James Hamilton lists a few examples here highlighting some of the impediments to capital spending in the U.S. energy sector: Making Jobs Priority One.

Here is Hamilton describing the Keystone Gulf Coast Expansion Project in greater detail. He summarizes nicely here (in Shovel Ready):

And TransCanada wants to spend $7 billion of its own currency (no federal dollars asked for at all) to build exactly what we need in the form of the Keystone Gulf Coast Expansion Project. The pipeline would add capacity to transport another 500,000 barrels each day from Canada, North Dakota, and other regions in the U.S. to refiners on the Gulf Coast. At a price differential of more than $20/barrel, that wold generate over ten million dollars in new wealth every day. Beneficiaries of that wealth creation include the estimated 20,000 Americans who would work on construction of the pipeline and the $5 billion in estimated new property tax revenue for state and local government over the pipeline’s lifetime.

Evidently, this project has been “shovel ready” for at least three years now. The project is being held up because of environmental concerns; see here and here (although, see Mark Perry). In fact, just yesterday, the Obama administration once again postponed the critical permitting decision until 2013; see here. Among other things, the following is highlighted:

The delay pushes a decision on the contentious proposal well beyond the 2012 presidential election in November, allowing President Obama to avoid a politically fractious determination in the midst of his reelection bid.

The political calculus is obvious here. And sadly, it’s probably a good political calculation. But I do not wish to criticize the politics behind this (and several other related) decision(s). Not here, at least.

What I should instead like to stress is this: Whatever the merits of the cases made against these large private capital expenditure plans, their effect is to depress private domestic capital spending. This depressive is not some psychologically induced “animal spirit” that so many commentators and policymakers appear fond of ascribing to private sector behavior. It constitutes a real “tax” on private economic activity. And while it may be hard to quantify precisely how much this “regulatory tax” is holding back the recovery in domestic capital spending, the evidence from the Keystone project alone suggests that it is not insignificant.

About David Andolfatto 91 Articles

Affiliation: Simon Fraser University and St. Louis Fed

David Andolfatto is a Vice President in the Research Division of the Federal Reserve Bank of St. Louis. He is also a professor of economics at Simon Fraser University.

Professor Andolfatto earned his Ph.D. in economics from the University of Western Ontario in 1994, M.A. and B.B.A. from Simon Fraser University. He was associate professor at the University of Waterloo before moving to Simon Fraser University in 2000.

His current research is focused on reconciling theories of money and banking. His past research has examined questions relating to the business cycle, contract design, bank-runs, unemployment insurance, monetary policy regimes, endogenous debt constraints, and technology diffusion.

Visit: MacroMania, David Andolfatto's Page

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