Memories of development

My comrade the Sandwichman traces the sad devolution of thinking about public investment in the U.S. Check out the signatories to the letter at the top: Henry Wallace, Frances Perkins, Harry Hopkins, Harold Ickes, Wesley Mitchell. Giants! How did we get stuck with Gene Sperling and Rahm Emanuel? Jack Lew?? Oh please.

????One thing that got lost was the idea of taking advantage of economic downturns to launch new public works projects. I think this is still a good idea, and I’m not the only one.

Contrary to one argument in the post, however, I would not include the stimulus resulting from a project in a benefit-cost calculation. The reason is that it is useful to know benefits and costs abstracting from where we are in the business cycle. That should be the principal criterion, in principle. The stimulus piece is worth knowing as an inducement to accelerating investment during downturns, like the one we are still in, so it should figure in the decision, but it’s a categorically different number.

Alas, it is hard to know benefits and costs. There is a sophisticated, finely-wrought methodology for conducting such analyses. Typically the data required is not available. Moreover, the analysis is flawed by virtue of the fact that it is performed by humans who always operate in a political setting. The customer for a study may have a benign view of a project, or a jaundiced one. He will get what he wants, either way. In a political environment that is adverse to new initiatives —  projects, regulations — benefit-cost analysis is routinely deployed as a bludgeon to kill innovation. Nobody did a cost-benefit analysis of welfare reform in 1996, nor have they since. The politicians wanted it and they got it. What they don’t want, they first say should be the subject of cost-benefit analysis. I would not say the practice evolved to preclude new investment; rather, the politics evolved to create a professional environment adverse to progress. I think the Sandwichman is saying that too.

Big projects are risky, but there is a remedy: do lots of big projects. Some will work out well, others will be white elephants, and on average we will be all right. The wisest principle can be found in Tom Cruise’s big debut film, Risky Business.

I was talking about this with the avowed libertarian economist Bill Niskanen before he passed away, and he actually agreed with me. Suppose it was 1870. Should we build a bridge connecting Brooklyn to Manhattan? Would it have been possible to compute a favorable benefit/cost ratio for this project? Quite possibly not. How about the Panama Canal? People died building both of these things. Very great costs.

It’s not so far-fetched in the current context. We think we have a better methodology, but do we have the data and foresight to gauge benefits and costs of new, innovative projects? What’s the benefit of a modern electric grid? I doubt anybody knows, but I still think it’s worth building.

Perhaps the greatest weakness of the methodology lies in the task of measuring costs and benefits occurring over some extended period of time. To this end future flows are discounted by some rate that purports to equate values in different time periods. If the interest rate is ten percent, $1.10 a year from now is worth a dollar today. Put aside that we’re prognosticating future events like crazy people. There is a more interesting thing going on.

Climate change is going to seriously fuck with the human race. You know that, right? So imagine a blow to those living 200 years from now in the amount of $100 trillion. (Assume no inflation.) A discount rate of 3% is pretty modest, as these things go. How much is that $100T worth to us in present value? The answer is less than $271 billion. The implication is that we should be willing to pay no more to eliminate that risk, today, than $271 billion, even though the hit to those living in 2214 would be more than 369 times higher. We are applying a far lesser weight to their well-being than to our own. They might not forgive us, but we’ll be long dead, so what the fuck.

You might be willing to put a price on carbon calculated to bend the curve on emissions, but I hope you won’t be deluded enough to think you can, or should, calculate a price based on the present value of future harm to humanity. The vanity of economists today knows few bounds. But in 1928 one of the greatest economists, by the name of Frank Ramsey, referred to the conduct of such an exercise as “ethically indefensible and arises merely from the weakness of the imagination.”

The better operating principle is to reverse the current and long-standing emphasis in U.S. public policy characterized by the late John Kenneth Galbraith as favoring “private affluence and public squalor.”


Memories of development — 9 Comments

  1. I agree that a stimulus calculation should be a separate part of the analysis but I would argue that not doing one at all violates the spirit and analytical foundation of the whole enterprise — Clark’s analysis of overhead costs.

    Basically what pointed out in his overhead book was that that externalities were not incidental and negligible but were an integral and very consequential fact of economic life. So the market prices are fundamentally distorted by cost-shifting.

    The non-stimulus component of a cost-benefit analysis would thus not be “clean” in the sense of presenting an objective accounting of costs and benefits.

  2. It’s worth pointing out that cost-benefit analyses are incoherent in welfare economic terms. See (of all people) Eric Posner with Matthew Adler here. They ultimately support cost-benefit analysis, but only with caveats, after delightfully demolishing the procedure. They argue it’s a useful and often the best tool in a world without perfect tools, after identifying its flaws.

    Among those flaws that should always concern ethical people is that cost-benefit analysis, by taking observed or estimated market prices as inputs, systematically overweights the welfare of the rich over the poor. Suppose a new road and a new bus line cost the same amount, in terms of tax dollars paid. The road will save people who earn on average $80/hour 100,000 hours per year. The bus line will save people who earn $8/hour 900,000 hours per year. Cost-benefit analysis says the road is more valuable than the bus line. It’s not clear that’s the welfare maximizing choice. (To their credit, one of Adler and Posner’s caveats is that CBA should be treated skeptically when costs and benefits of choices might accrue to people of sharply divergent economic circumstances.)

  3. Right, the neglect of distribution is one of the fatal weaknesses of the procedure. You may know that a long time back Feldstein of all people wrote about including distributional weights. To me the most important thing is the inexactness of the whole shebang, though whatever information is available should be considered.

  4. There are two issues at stake here. One is the coherence or otherwise of cost-benefit analysis. An argument can be made that some comparative analysis between projects, however flawed, is better than none as long as the same criteria are used to evaluate both and as long as the caveats are acknowledged.

    But the second issue has to do with using the metaphor of cost-benefit analysis to evaluate responses to climate change. In the latter case, the “analysis” consists of virtually nothing else but unexamined assumptions embedded in arbitrary but presumably inviolable conventions (witness the indignation when Stern used the “wrong” discount rate).

  5. If you liked Harry Hopkins & Co., you’ll love our project and website: we’re the first to try to document and map the entire public works infrastructure built during the New Deal – most of which is still with us and unrecognized for what it contributed to American life and postwar prosperity.

  6. Pingback: Links 11/12/14 | Mike the Mad Biologist

Leave a Reply

Your email address will not be published.