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. MARCH/APRIL 1991 a 4 Ia I

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Ratner (1983), and later, Aschauer (1989a, b) ists. 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). The net stock series de- private capital goods and are used to produce goods and duct depreciation from gross stock measures that cumu- services similar to private sector output. These similarities late gross investment less discards or assets that are are ignored below, however; all public capital goods are scrapped. The depreciation estimates use straight-line assumed to produce public goods and services. 9 depreciation for service lives equal to 85 percent of those According to public choice theorists, the use of an given in the U.S. Treasury Department’s Bulletin F. The economic efficiency criterion to determine an optimal stock use of constant prices, instead of historical or current cost of public capital may be a poor guide to actual public valuation, results in a measure of the quantity of capital. policy decisions. The quantity of public capital goods may ~ L The focus on net capital stock measures follows the not be determined on purely economic grounds. Never- literature on the public capital hypothesis. Tatom (1989) theless, the prices of resources used in the public sector discusses the tendency of these data to understate the and the benefits of the goods and services produced with rise in the quantity of private capital, especially in the first these resources to consumers and firms are important, half of the 1980s. even in public choice models. Thus, efficiency-based con- ‘These descriptions are based on Krueger (1990). Similar siderations of an optimal public capital stock offer some in- discussions of public goods and public choice models are sight into the causes and implications of recent trends in found in Musgrave and Musgrave (1984) and other public public capital formation. finance8 texts. There is a vast and growing “public choice” literature that questions the existence of these public goods. See

MARCH/APRIL 1991 S 6 I a the capital good is derived from the value of the determined prior to drawing any conclusions goods and services produced directly or indirect- about whether to raise public capital spending. ly. Some examples include the public capital I that produces publicly provided gas, electric, water or sewer services used in the home or in The Quantity of Public Capital the production of other goods and services. Could Affect Private Sector I Highways and roads are used to facilitate the Pei’formance acquisition of raw materials, labor and other capital services for private sector production Proponents of raising public capital spending argue that public capital increases private sector I and distribution, as well as for recreational and output both directly and indirectly. The direct other consumer purposes. Public capital pro- effect of public capital on private output depends vides educational services with both immediate on whether public capital provides important in- I and future consumer benefits and affects the termediate services to private sector firms. If so, productivity of labor services. Lock and dam an increase in public capital would raise private systems provide conservation and recreational output just as an increase in the use of private benefits as well as intermediate services to capital (or labor) would raise output. I business by lowering the cost of transporting goods and services. The indirect effect arises, according to pro- ponents of this argument, because the use of a The demand for public capital goods, their larger quantity of public capital raises the rate I present value, is the sum of the values placed of return on private sector capital, providing an on the services of the asset by both business incentive for firms to increase private capital and consumers.1° Suppose that, initially, the pre- formation. Therefore, private sector output and I sent value of the services of a unit of public productivity, measured as output per worker or capital equals its price. Given the current stock per hour, rise further. In this case, public and of public capital, a decline in the value placed private capital are said to be “complements.” I on public capital goods by consumers will Thus, according to the public capital hypothesis, reduce the total demand for public capital so a decline in public capital reduces private sector that the value of a unit of public capital is output (direct effect), productivity and the rate ii lower than its price. If government decision- of return to capital in the short run. Given time makers are concerned with promoting an effi- to adjust, firms would reduce the amount of cient allocation of the nation’s resources, they private sector capital per workw- and this would further reduce private sector- output (indirect will reduce the quantity of public capital accor- 1 effect) and productivity.” dingly. This decline would lower the quantity of public capital available for use by firms even though their demand for public capital has not TRENDS IN THE GROWTH OF changed. PUBLIC CAPITAL SPEND1NG In addition, the optimal quantity of public Figure 1 shows the real (constant cost) net capital would decline if business sector demand stock of public capital (1982 prices) at the end II for public capital falls. Therefore, if the public of each year from 1947 to 1989. The capital capital stock has fallen (either absolutely or stock displays a strong positive trend until 1970, relative to some measure of private firms’ de- when, as the critics of public sector performance mand), the reason for the decline must be point out, the growth of public capital slows. ‘°SeeMusgrave and Musgrave (1984), pp. 47-69, or other could also be available from private producers. If this is 1. I public finance texts for a more extensive discussion of the the case, a rise in the quantity of such public capital differences between public, or social, goods and private would lower the value, or rate of return, of acquiring new goods. The extreme assumption of non-exclusivity for private capital goods. As a result, less private capital in- public goods can be relaxed without affecting the analysis vestment would take place. In this event, public and here. In particular, there are “mixed goods” which are private capital are “substitutes.” Public capital formation private but yield external benefits or costs, and public would “crowd out” private capital formation by lowering its goods whose use can entail congestion or other costs for rate of return, instead of “crowding in” private capital for- others. In either case, the analysis here applies so long as mation by raising its rate of return. Aschauer (1985), for the services of the public capital goods are not exclusive. example, argues that public and private sector spending Al ‘‘While public capital may provide valuable services to are generally substitutes. private firms, close substitutes for these same services

FEDERAL RESERVE BANK OF St LOUIS a I 7 I I Figure 1 Net Stock of Nonmilitary Public Capital

Ratio Scale Ratio Scale I Billions of Dollars (1982 Prices) Billions of Dollars (1982 Prices) 1750 1750

I 1500 1500

1250 1250

I 1000 1000 I 750 750 II

II 500 500 1947 53 59 65 71 77 83 1989 II NOTE: End-of-year data.

(if any) to the growth of the Au. S. standard of theThecivilianquantitylaborofforce,publicreferredcapital perto asmember“per of living disappeared after 1971; its contribution (if worker” below, is useful for assessing the trend any) since then has been negative.

The figure also shows that this trend shift in publicpubliccapital capitalstockformation.”per workerGrowthis plottedof thein figure 2; the amount of public capital available was concentrated in state and local government capital spending. The trend in the stock of net federal capital per worker has been nearly flat eachstateistenceyearandat localisthemeasuredendcomponentsof thebyprevioustheof amountpublicyear.capital inFederal,ex-per or slightly declining throughout the whole period. worker are also shown. In particular, it declined slightly from 1967 to 1989 reaching about the same level as in the ii early 1950s. Moreover, since federal capital Public Capita! Stock Per Worker stock is a small fraction of the total stock of public capital, relatively large changes in the pace of federal capital formation would have lit- I perFigureworker2 showswas sharplythat thedifferenttrend ofafterpublic1971capital tle effect on the trend in the total amount of than it had been previously. From 1948 to 1971, capital per worker. Therefore, if the decline in public capital per worker rose at a 2.6 per’- public capital per worker indicates that there is totalcent annual rate. Since 1971, the amount of a problem with public capital formation, its capital per worker has declined. Figure 2 sug- source is not at the federal level, hut rather at gests that public capital formation’s contribution the state and local level. I l2The capital stock is measured relative to the civilian labor cle. Removing cyclical variations smooths out the resulting force instead of employment to remove transitory varia- series for capital per worker, I tions in capital per worker associated with the business cy- MARCH/APRIL 1991 a 8 I

Figure 2 I Real Nonmilitary Government Capital Stock per Person in the Civilian Labor Force I

Thousands of Dollars per person Thousands of Dollars per person (1982 Prices) (1982 Prices) I 17.5 17.5

15.0 I

12.5 -I 10.0 I

7.5 5.0 .1 2.5 ii 0.0 1948 54 59 64 69 74 79 84 1989 1

It could be argued that a decline in federal local spending did not begin until 1979, well financing might account for a decline in state past the time when the growth of capital per and local capital per worker. But this ignores worker began to decline.” the evidence of substitutability between federal Public Capital Stock Per Person and state and local financing of state and local I government spending.” Moreover, despite federal The trend in public capital relative to the funding, the decision to invest in federally labor force measures the relative availability of assisted spending (e.g., highways) depends on capital for both private production and final the willingness of state and/or local govern- goods and services only if the population and ments to meet federal matching requirements. labor force grew at about the same pace. How- Also, the decline in federal gm-ants to state and ever, the baby boom created a disparity between local governments relative to overall state and the growth of the labor force and the popula- “See CBO (1988) or Eberts (1990) for a discussion of these from 50 percent to 70 percent in 1970 and to 75 percent issues. The CBO (1986), p. 81-83, reviews 11 studies that in 1978. He also argues that, despite relatively high mat- show a large degree of substitutability between federal in- ching rates (the interstate highway matching rate is 90 vestment grants and state and/or local spending. It is percent), “at the margin, states and localities are paying shown below that much of the decline in capital growth is the full costs of investment” because federal capital pro- concentrated in highways. Even in this case, CBO (1986) grams are “closed-end” matching grants where sharing shows evidence of substitution between federal and state occurs up to a maximum dollar amount which is generally spending. less than almost all state and local governments spend. “Peterson (1991) notes that the matching rate on what are Also see Oramlich (1990). referred to as non-interstate federal aid highways rose

FEDERAL RESERVE BANK OF St LOUIS a L 9 I Figure 3 1 Real Nonmilitary Government Capital Stock per Person

Thousands of Dollars per Person Thousands of Dollars per Person (1982 Prices) (1982 Prices) I 7 7

1 6 I 5 I 4 3 3 I .1 2 2 I

0 0 I 1950 55 60 65 70 75 80 85 1989 NOTE: End-of-year data.

tion. In the 15 years following World War II, relative to population.” While the trend growth U.S. population growth was quite rapid relative for both the state and local stock and the total II to the growth of the labor force. As the baby- stock per capita slowed after 1970 (similar to boom generation matured and entered the labor the measures in figure 2), the stock available force, the growth rate of the latter accelerated per person at each level of government did not II sharply, while population growth slowed. Final- decline. Instead, the per capita stock rose until ly, after the bahy-boomers had fully entered the about 1975 and then leveled off. The public capital stock per person has remained nearly unchanged for about 15 years.’°The patterns in labor-force,sharply. Thesegrowthmovementsof the laborin the forcesize ofslowedthe labor force r’elative to the general population figures 2 and 3 differ because of differences in imply that the public capital stock per person the growth of the labor force relative to that of will show a different pattern than public capital the population. Since the early 1970s, these dif- measured relative to actual or potential ferences reflect the faster growth in the labor employment. force relative to the population due, in part, to Figure 3 shows the nonmilitary real net stock the aging of baby boomers. The slowdown in I of capital and its components when measured population growth associated with the end of

would be inversely related to the number of persons with tm access to these public facilities. In this case, the capital ‘ End-of-yeareach year. Thus,populationthe dataand showncapitalarestockcomparabledata are usedto thefor data plotted one year later in figure 2, because beginning- stock per person should fall over time as the population of-the-year capital stocks are measured relative to the an- grows.

nual‘elf“socialgovernmentaverageoverheadlevelcapitalcapital,”of the or infrastructurecivilianso thatlabora fixedwereforcequantityconsideredin figureis re-2. quired for virtually any size population, then the quantity of such capital per person, like other overhead measures,

MARCH/APRIL 1991 a 10 I Figure 4 State & Local Net Capital Stock per Person I

Thousands of Dollars per Person Thousands of Dollars per Person (1982 Prices) (1982 Prices) I 6 6 I 5 5 I 4 4 I 3 3 I

2 2 I

1 I 1950 55 60 65 70 75 80 85 1989 NOTE: End-of-year data. I the baby boom is also one reason for the slower the trend shown in figures 2 and 3 is heavily pace of capital formation shown in figure 1. concentrated in these two sectors. As shown in figure 4, the growth in the rest of the capital I Trends in Components of State stock per capita (labeled “other”) slowed after and Local Capital Stocks 1970, but remained positive. From 1970 to 1989 this category grew at a 1.7 percent rate. While I Further insight into the changing trends of this growth was down from its 3 percent rate state and local government capital can be oh’ from 1950 to 1970, it nearly matched the 1.8 tamed by a closer inspection of the stocks’ com- percent growth rate of real G?’JP per capita over I ponents. Table 1 indicates that nearly half of the period. Thus, the slowdown in growth for this capital consists of highways, streets and real non-military public capital stock is largely educational buildings. ‘I’hese two types of capital concentrated in the quantities of highways, goods have been influenced by demographic streets and educational facilities per person. I factors and trends in transportation. Demographics have played a role in the Figure 4 shows the state and local govern- decline in the stock of per capita state and local ment capital stock per person, its two major educational facilities. Figure 5 shows the stock I components, (highways and streets, and educa- of these facilities per person and the share of tional buildings) and the total excluding these the school-age population (aged 5 to 24) in the two components (labeled “other”). The break in total population. “ Due to the baby boom, the 7 ‘ Rubin (1990) has also noted the relationship between the growth about as well as those in the public capital stock. decline in school-age population and the slowdown in the She argues that this use of the demographic variable has growth of public capital. She uses movements in the no conceptual basis, however, and suggests that either population aged S to 15 to measure the demographic relation is spurious. variable and indicates that it fits movements in productivity

FEDERAL RESERVE BANK OF St LOUIS a II 11 I Figure 5 I Stock of Educational Facilities per Person and the Share of Young People in the Total Population Percent

Thousands of Dollars per Person (1982 Prices) I 1,2 38 I 38 I 34 0.8 I 32

1 0.6 30

0.4 28 1950 55 60 65 70 75 80 85 1989

Population is mid-year data. I ‘YoungNOTE: Capitalpeople arestockthoseis end-of-yearages 5-24. data.

growth rate of the population was relatively I rapidly,perproportionperson.as didofThethethesharepopulationstockofofyoutheducationalin thatin the grouppopulafacilitiesrose- rapid in the 1950s and began to slow sharply in the 1960s. From 1955 to 1960, the population grew at a 1.7 percent rate, and then slowed steadily to a 1.1 percent rate from 1965 to 1970. tionsincepeakedthen. Thein 1971occurrenceand hasofdeclinedthis peaksharplymatches I that of total government real nonmilitary capital The population growth rate subsequently fluc- stock per person in the labor force (figure 2) tuated between about 1.0 and 1.1 percent for five-year intervals. I theandstockleadsof byeducationalfive years thefacilities outrightper declineperson.’3in Other factors also slowed the growth of highway and street capital per person.” The in- ter-state highway system program, funded begin- The baby boom and its associated population I trends influenced the demand for other capital ning in 1956 and which was largely built be- goods, including highways and streets. The tween 1963 and 1975, led to a sharp rise in

‘Private sector educational facilities per person have also educational facilities per person in figure 5 did not arise from a decline in this specific public capital stock per young person. The latter did not decline, only its growth I declined.sonFromafter1972Suchgrowingto itsfacilitieslowestat a 3.7subsequentpeakedpercent in 1972ratelevel,fromatthe$2171950per-capita perto per-1972. rate fell. stock of private educational facilities declined at a 1.6 per- “A CBO study of the nation’s public works (1988) indicates cent rate. From 1986 to 1989, this measure rose about I that “the capacity of the existing malor network is broadly sufficient for its traffic” (p. 5). The study does indicate that some regions have relatively high urban traffic congestion, I personpercent.The stock(5.24) ofrosepublicat aeducational3.5 percentfacilitiesrate fromper1947school-agedto 1969, but suggests that this is matched by a relatively large ex- a 2.6 percent rate from 1969 to 1976 and a 0.4 percent rate from 1976 to 1989. Thus, the decline in the level of cess capacity elsewhere.

MARCH/APRIL 1991 S 12 I U

Figure 6 State and Local Stock of Highways and Streets per Person and the Growth of Miles per Person II Thousands of Dollars per Person (1982 Prices) Percent 2.5 8

4 II 2.0 I I

2 I F 1.5

I

1.0 0 1950 55 1 60 65 70 75 80 85 1989 Compounded annual rate for the five-year period ending in each year. NOTE: Capital stock is end-of-year data. highways and roads per person. As the program capricious, unplanned, or completely induced neared completion, highway spending slowed by the federal budget deficit. The decline was sharply. Changes in the price of fuel also in- at the state and local level, where government I~ fluenced the demand for highways and streets is considered to be more responsive to voter by reducing the growth in road usage. Sharp in- demands, and was largely due to reductions in creases in fuel costs in 1974 and 1979-80 reduced the stock of highways, streets and educational I~ the total miles driven per person. The number facilities per person. The latter reductions were of miles driven per capita grew at a 4.1 percent consistent with changes in demographics and rate from 1968 to 1973 (figure 6).” The 5 year driving patterns. I’ growth rate subsequently declined to a 0.3 per- cent rate from 1978 to 1983. When oil prices began to decline in 1981, this trend was revers- The Relative Price of Public I ed and miles per person grew at a 3.1 percent Capital Goods rate from 1983 to 1989. Highway and street capital per capita bottomed out in 1986. ‘rhe supply pt-ice of public capital goods also is important when determining the optimal quan- I While demographic and driving patterns may tity of public goods. Given the demand for public not fully explain the slower growth of govern- capital, a rise in the price of public capital ment capital, they suggest that the decline in goods and their services will reduce the optimal I the growth of public capital was not inexplicably quantity of such goods and services.

20 The mileage data are prepared by the U.S. Federal published data were obtained from the U.S. Federal Highway Administration and published in their “Highway Highway Administration. Statistics, Summary to 1985.” These and subsequent un-

a FEDERAL RESERVE BANK OF St LOW S a I 13 I I Figure 7 Price and Quantity of Public Capital Relative to I Private Capital Ratio Ratio j 1,20

1.15

I 1.10 I

1.00

I 0.95 0.90

I 0.85 1947 53 59 65 71 77 83 1989 ‘Ratio of the constant dollar net stocks of public nonmilitary capital and private nonresidential fixed capital stocks. 2 I Ratio of the implicit price deflators for public nonmilitary investment and for private nonresidential fixed investment. (1982=1.0) I in the relative price of public capital goods that began in 1961 and became especially sharp I deflatorpublicFigurecapitalfor7 showsgrossto thetheinvestmentimplicitratio ofpriceinthenon-militaryimplicitdeflator pricefor after 1968. There were declines in this price in 1975-77 and in 1981-82, however. A sharp decline in the relative price of public capital I theprivateratioprivateof non-residentialthe non-residentialnon-militaryfixedpubliccapitalinvestmentcapitalstockstockfrom and theto from 1952 to 1960 also was associated with a 1948 to 1989.21 The relative quantity of non- rise in the relative quantity of the public capital stock. While this rise began in 1952, it was I militarydicator ofpublicthe decliningcapital providestrend inanothernon-militaryin- largest from 1957 to 1964. public capital. When assessed relative to private The relative stock of public capital is strongly and inversely related to the relative price of public capital.22 The correlation coefficient for I aftercapital,1972.the declineThis declinebeganfollowed in 1965 anda generalaccelerated rise

21 streets and educational buildings. The correlation between 1hecapitalpricegoodsratiopurchased(1982 = 1.00)by governmentsmeasures therelativeprice toof thefixed the relative quantity of non-military public capital and the fixed capital goods purchased by the private sector. The ratio of state and local highways, streets and educational buildings to private capital is 0.92, while the correlation for the relative price of all public capital and that of only the deflatorofto currentits constantfordollar governmentdollarnon-military(1982 capitalprices)publicis constructedcounterpart.gross fixed asinvestmentthe ratio highways, streets and educational buildings is 0.88. Both 22 correlation coefficients are statistically significantly dif- The patterns shown in figure 7 are nearly identical for the ferent from zero at a95 percent confidence level. relative quantity and price of state and local highways, a MARCH/APRIL 1991 14 II II this relative stock and relative price is —0.88 per person has not been the result of changing (statistically significantly different from zero at trends in federal spending, but rather reflects the 95 percent confidence level). The year-to- decisions by a multitude of state and local II year changes in the relative price and the rela- governments, principally in response to increased tive quantities are also statistically significantly relative prices and to reduced demand for high- and negatively correlated; their correlation coef- ways, streets and public educational facilities. ficient is —0.37 (which also is significant at a 95 II percent confidence level).” Thus, the slowing REFERENCES growth of the public capital stock has also been associated with a rise in the price of such goods II relative to the price of private capital goods. Aschauer, David Alan. “Infrastructure: Spending Trends and Economic Consequences,” paper presented at the Western Economic Association meetings, San Diego, CA, June 30, 1990. CONCLUSION E ______- ‘Does Public Capital Crowd Out Private Capital? Journal of Monetary Economics, (September 1989b), pp. An increasing number of people advocate ad- 171 -88. ditional government capital spending as a means ______“Is Public Expenditure Productive?” Journal of of returning private sector output, productivity Monetary Economics (March 1989a), pp. 177-200. and capital formation to former trend levels.24 ______- “Fiscal Policy and ~ggregateDemand,” American Even if public capital would have such effects, Economic Review (March 1985), pp. 117-27. U the decline in the growth of public capital would Congressional Budget Office. New Directions for the Nation’s not provide a rationale for increasing the pace Public Works, September 1988. of government capital formation. Most com- ______- Federal Policies For Infrastructure Management, ponents of public capital yield direct benefits to June 1986. I consumers as final users. Slower growth of such Eberts, Randall W. “Public Infrastructure and Regional Economic Development:’ Federal Reserve Bank of capital can be justified in a variety of circum- Cleveland Economic Review (Quarter 1, 1990), pp. 15-27. stances, including the reduced growth of con- Friedman, Benjamin. Day of Reckoning (Random I sumer demand for such capital or higher prices House, 1988). for such capital goods. Gramlich, Edward M. “Financing Infrastructure Investment: Should Money Be Thrown at the Third Deficit?” paper Upon closer inspection, it is difficult to argue presented at the Federal Reserve Bank of Boston con- I that the decline in public capital growth per ference on “The Third Deficit: The Shortfall in Public In- worker has been unwarranted and adverse, or vestment,” Howard’s Port, MA, June 27-29, 1990. that it should be reversed, simply because of its Krueger, Anne 0. “Government Failures in Development,” Journal of Economic Perspectives (Summer 1990), I occurrence or because it may have imposed pp. 9-23. some costs on other sectors of the economy. Malabre, Alfred L. “Economic Roadblock: Infrastructure The decline in the quantity of public capital per Neglect,” Wall Street Journal, July 30, 1990. worker has been associated with a rise in the Munnell, Alicia H. “Why Has Productivity Growth Declined? I labor force relative to the population and is Productivity and Public Investment,” New England largely due to a decline, on a per capita basis, Economic Review (JanuarylFebruary 1990), pp. 3-22. in the two largest components of public capital: Musgrave, John C. “Fixed Reproducible Tangible Wealth in the United States, 1964-87?’ Survey of Current Business I highways and streets and educational facilities. (August 1988), pp. 84-87. The reductions in these two components have Musgrave, Richard A., and Peggy B. Musgrave. Public occurred for demographic reasons. The decline Finance in Theory and Practice, 4th ed. (McGraw-Hill, in public capital growth has also been associated 1984). I with a rise in the pt-ices of public capital goods National Council on Public Works Improvement. Fragile Foun- relative to private capital goods. dations: A Report on America’s Public Works, final report of the President and the Congress, February 1968. The view that federal policy should redress Peterson, George E. “Historical Perspectives on Infrastruc- I the purported adverse effects of the decline in ture Investment: How Did We Get Where We Are?” paper presented at the American Enterprise Institute Conference, the public capital stock per worker is misleading, “Infrastructure Needs and Policy Options for the 1990s?’ at best. ‘rhe decline in the public capital stock Washington, D.C., February 4, 1991. I 24 “For just the highways, streets and educational buildings Tatom (1991) examines the shortcomings of existing pro- components, the correlation coefficient for the level of duction function estimates that find a statistically signifi- relative prices and relative quantities is —0.74 and that for cant relationship between public capital and private output I their first-differences is —0.30; again, both of these are and shows that the significant effect vanishes when the statistically significant at a 95 percent confidence level. relationship is appropriately estimated. 1 FEDERAL RESERVE BANK OF St LOUiS a II 15

tion Function for U.S. Private Output,” Economics Letters ance,” this Review, forthcoming.

Ratner,(1983),Jonathanpp. 213-17.B. “Government Capital and The Produc- Tatom,______John“U.S.A. “PublicInvestmentCapital in theand1980s:PrivateTheSectorReal Perform-Story?’ Reich, Robert B. “The REAL Economy?’ The Atlantic Monthly this Review (MarchlApril 1989), pp. 3-15. (February 1991), pp. 35-52.

Rubin, Laura. “Productivity and the Public Capital Stock: . “Two Views of The Effects of Government Budget Another Look?’ paper presented at the Regional Analysis Deficits in the 1980s,” this Review (October 1985), Committee meeting of the Federal Reserve System, Oc- pp. 516. tober 4, 1990. U.S. Department of Commerce, Bureau of Economic Smith,WealthAdam.of Nations,An InquiryEdwinIntoCanaan The Natureed. (Modernand CausesLibrary,of The Analysis.States, 1925-85Fixed Reproducible(GPO, June 1987).Tangible Wealth in the United 1937).

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