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Should Government Spending on Capital Goods Be Raised?

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Should Government Spending on Capital Goods Be Raised? I 3 U I John A. Tatom John A. Tatom is an assistant vice president at the Federal Reserve Bank of St Louis. Kevin L. Kliesen provided research I assistance. I I Should Government Spending I on Capital Goods Be Raised? I I A GROWING BODY of public opinion and national commitment to improve infrastructure analysis argues that government spending for that could double spending on public works by capital formation is deficient and should be in- the year 2000.~ 1 creased. Such spending is largely for goods called infrastructure. Adam Smith (1937) referred to The dearth of infrastructure spending has also spending on infrastructure as the third rationale been noted by others. For example, Benjamin I for the state (behind the provision of defense Friedman argues that the relatively large federal and justice).’ Today, these capital goods include budget deficits of the 1980s created pressure to highways, mass transit systems, airports, electric reduce infrastructure spending. He stresses the and gas facilities, wastewater treatment ways in ss’hich infrastructure investment affects I facilities, water supply and distribution, in addi- the business sector: tion to the facilities and equipment used in “Government investment in roads, bridges, air- I governmentaland fire protectionand judicialand healthadministration,and educationalpolice ports, port facilities, and other kinds of infrastruc- institutions. ture also has a direct bearing on how easy or dif- ficult it is, and also how cheap or costly, for many In 1988 the National Council on Public Works companies to do business.” I Improvement concluded in its final report to Congress and the President that “the quality of In Friedman’s view, the economic policies of the America’s infrastructure is barely adequate to 1980s created a situation in which “we have fulfill current requirements, and insufficient to been cheating our future in all these respects— meet the demands of future economic growth not just in business capital formation but in 3 and development” (1988, p. 1). It recommends a government infrastructure and education too.” 2 ‘See Smith (1937), Book V. part 3, especially p. 682. The National Council was established by the U.S. Con- gress in 1984 to assess the state of the nation’s infrastructure. 3 KruegerKrueger’snottagejustof governmenttrends(1990)focusinattributesistheontoUnitedglobalits theprovision trendsStates.principalofinSheinfrastructure.governmentcomparativeargues that activityadvan-the See Friedman (1988, p. 202 and p. 204, respectively). Friedman includes educational spending in infrastructure failure of government to promote economic development and argues that reduced educational spending lowers the quality of labor and, hence, income and productivity. The stock of human capital is not included in the analysis of has turetionaltoresultedandactivitiesadministrativefromin thewhichdiversionresourcesgovernmentof specializedthat doesprovidenotorganizahaveinfrastruca - - public capital accumulation conducted here. Public educa- comparative advantage (e.g., manufacturing, regulating tional facilities are included in the physical public capital I markets or licensing). measures analyzed below, however. 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This article examines recent trends in public and Munnell (1990) provide evidence that the capital formation and some of the factors that I services of the public capital stock affect private might be responsible for these trends.~This ar- sector output. Aschauer and Munneil argue that ticle concludes that the decline in public capital the slowdown in U.S. public capital formation formation can be explained, in part, by funda- I accounts for the slowing of U.S. productivity mental economic influences. Thus, while there and general economic growth since the early may be convincing reasons to boost public capital 1970s. Their arguments and evidence have fos- formation, they are not found among those ex- tered the view that there is a “third” deficit amined here. I (over and above the trade and government bud- i~ get deficits) that threatens this nation’s future HOW MUCH CAPITAL DOES THE standard of living.~As Malabre (1990) notes, PUBLIC WANT? Aschauer attributes up to 60 percent of the “productivity slump” to the “neglect of our core Table 1 provides a breakdown of the types of infrastructure.” public capital held by federal, state and local I governments in 1989. The data are the constant This is the first of two articles focusing on the dollar (1982 prices) net stocks of capital of vari- issue of whether a public capital deficiency cx- ous types estimated by the Bureau of Economic ~Thischaracterization is described in Malabre (1990) and °Thesecond article will focus on the empirical evidence contained in Aschauer (1990). Reich (1991) expresses a that links public capital formation with private sector similar view of the critical role of public capital formation in performance. both accounting for past shortcomings in U.S. economic performance and in facilitating future economic growth. FEOERAL RESERVE SANK OF St LOUIS a I 5 U Analysis, U.S. Department of Commerce,°Since derived from the value placed on the assets’ ser- the public capital formation debate focuses on vices by its users. The present value of an asset’s I non-military capital, military capital goods are current and future services is the maximum reported separately. These goods make up more that government would pay for the capital if it than 60 percent of the total federal capital stock seeks to promote an efficient allocation of the I and more than 20 percent of the total govern- nation’s resources. The principle of diminishing ment capital stock. Public capital includes returns indicates that, as the quantity of an highways and streets, educational buildings, asset and its services rises, the value of a unit hospitals, water supply and sewer facilities, of its services declines, so that the price of these I other structures (electric and gas production services and the maximum price of the asset and distribution facilities, transit systems, air- declines. The optimal quantity of capital goods fields, etc.), conservation and development occurs when the price of public capital assets I structures (e.g., locks, dams) and non-military equals this present value of current and future equipment. Most non-military public capital is goods and services.9 ovvned by state and local governments; the largest categories are highways and streets and When “too little” public capital exists, the value of the goods and services provided by the I educational structures. asset is worth more than its price. Conversely, Public capital goods produce “public” goods or when there is “too much” public capital, the services that are typically provided on a large supply price exceeds the present value of the I scale to many consumers. The use of these goods asset. More importantly, the optimal quantity of or services is generally described as “non-rival- public capital will decline if the supply price of rous” or “non-exclusive,” indicating that use by public capital assets rises or if the demand for I: one consumer does not impinge on the ability of these assets declines. Proponents of the public others to use the same product.’ In addition, the capital hypothesis suggest, however, that the goods or services yielded by such capital goods quantity of public capital has fallen simply due I are sometimes considered insufficiently profitable to neglect or budget pressures. to be provided by the private sector. Therefore, in the absence of government provision, these goods or services would be produced in relative- The Sources of Demand For Public I ly small quantities or, perhaps, not at all.~ Capital The Optimal Quantity of Pub 1k There are two types of goods or services pro- duced by public capital goods: final goods or Ga pita! 1 services which yield valuable benefits directly to consumers or final users, and intermediate goods or services which assist in producing other final Howcapital,ment tomuchlikeaccumulate?thatcapitalfor privateisThe it optimaldemandcapitalforforgoods,governpublicis - goods or services. In either case, the value of 6 ‘ The net capital stock data used in this article were pro- Musgrave and Musgrave (1984) and other public finance vided by John Musgrave, U.S. Department of Commerce; texts for a discussion of this issue and these models. these data are described in U.S. Department of Commerce Moreover, many public capital assets are quite similar to (1987) and Musgrave (1988).
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