We need a new supply-side economics.

We Need a New Supply-Side Economics. Here Are 8 Things We Can Do.

We Need a New Supply-Side Economics. Here Are 8 Things We Can Do.

Business Insider
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Jan. 18 2014 11:00 AM

We Need a New Supply-Side Economics. Here Are 8 Things We Can Do.

The real estate industry, for one, is far over-regulated.

Photo by Tim Boyle/Getty Images

This post originally appeared in Business Insider.

For the last five years, the top goal of economic policy has been stimulating demand. This has been the right goal, and because conservatives don't believe the government can do anything productive in this area, the left has held most of the right policy answers.

Demand stimulation remains the right goal today, but it's not going to be the right goal forever. As the economy returns to "normal," the special rules of the last five years won't apply: the labor market won't be so slack that it doesn't matter if you pay people not to work; the federal government won't be able to borrow and spend without crowding out private activity.


We're going to need a new supply side economics that encourages people to work, invest and innovate.

That doesn't mean conservatives' agenda of tax cuts and federal deregulation, which aims at problems that were addressed in the 1970s or never existed at all. But it also doesn't mean an agenda of small-bore and meddlesome initiatives designed to promote specific industries, particularly manufacturing, as often described by President Barack Obama.

Instead, it should mean an agenda like the following. These are policies that would would encourage more investment and job creation while supporting rises in standards of living for people with low and moderate incomes. In most cases, these policies don't have to wait: They could be implemented today, alongside demand-side policies that are still needed for now, such as emergency extended unemployment insurance.

1. Invest in smart infrastructure, ideally without building much. Republicans show little interest in infrastructure spending. Democrats favor it, but have fallen into a bad habit of talking about it as a demand-side measure that creates construction jobs.

A good infrastructure project should mainly produce benefits on the supply side by making it easier for people to get to jobs, go to school, and start companies. And while a demand-side approach to infrastructure policy favors spending lots of money, a supply-side infrastructure agenda should favor high-efficiency improvements, ideally ones that increase the usefulness of existing facilities with minimal construction.

Stephen Smith's ideas about better using existing facilities at New York Penn Station are one example of an infrastructure improvement that would require little construction. Congestion pricing for roads, especially in Manhattan, is a second. Smarter airport facilities allocation (through advanced air traffic control technology and market pricing of takeoff slots) is a third.

Sometimes, we really will need big construction projects as part of the infrastructure agenda. To that end, we should figure out what allows continental European countries to build rail infrastructure so much more cheaply than we do—and emulate their practices so we can build more of it. And we should focus on providing transit connections between low-income neighborhoods and job centers, because transit access is a key driver of income mobility.

2. Reform means-tested entitlements without soaking the poor. Today, the key driver of high unemployment and low labor force participation is employers' lack of interest in hiring. That was even more true in 2009. When there are three applicants for every job opening (like now) or six (like at the depth of the recession), it doesn't matter very much for aggregate employment if a few people are content to collect unemployment checks until their benefits run out. Means-tested entitlement policy is not a very important driver of unemployment today.

That's going to change. As the labor market continues to tighten, it will become a larger problem that means-tested entitlement programs penalize poor and near-poor people for earning more income. In some cases, the working poor face effective marginal tax rates near 100 percent because of benefits that phase out as they earn more wages. This is a disincentive to work, and in a normal economy it raises unemployment and depresses market incomes.

The talking point that "people want a job, not a handout" is not just wrong, it's insulting. We wouldn't impose a tax rate near 100 percent on people with moderate or high incomes and expect them to work anyway. Most low-wage jobs are not intangibly rewarding; people do them because they get paid. Except, if your marginal tax rate is near 100 percent, you don't really get paid at the margin. Why would a poor person do such a job (or work more hours at it) when doing so adds little to his or her income?

We haven't been able to have a productive conversation about this poverty trap issue because conservatives mostly raise it as a pretext for cutting benefits to the poor, even at a time when jobs are scarce and economic distress is high. But it is a problem for which there are constructive policy solutions that do not involve soaking the poor. You just have to be willing to spend money to make them work.

One such solution is already being implemented: Under Obamacare, unemployed people who take low-wage jobs will no longer be faced with the prospect of losing health insurance. This is a pro-work reform. In this spirit, we should adjust means-tested programs holistically so their benefits phase out as gradually as is feasible and nobody feels like they worked more and got little in return. This may involve raising benefit spending overall.

Some of Michael Strain's ideas about reforming unemployment insurance (such as wage subsidies for the long-term unemployed and bonuses for unemployed people who go back to work) would encourage work and raise family incomes. We should also reform our disability insurance system to encourage firms to accommodate workers with disabilities and encourage the disabled to remain in or re-enter the workforce if they can; David Autor and Mark Duggan have a proposal along these lines.

3. Move the deregulatory agenda down to the state and local level. In the 1970s, the big deregulation fights were properly at the federal level. Then the government deregulated airlines and trucking. Though technological change, regulation has become less important in broadcasting and telecommunications. Bank deregulation has been a mixed bag over this period; people talk about it as a cautionary tale, but some of the deregulations (such as ending the limit on savings account interest and allowing interstate banking) have served consumers very well.

The big federal regulatory fights that remain are in mostly areas where the federal government properly uses a heavy hand: banking and securities, and environmental protection.

The next round of big deregulation fights should be at the state and local level. Governments impose pro-incumbent regulations on a variety of industries from barbering to interior design to medicine to restaurants. These rules raise incomes for existing practitioners, but they make it difficult for new practitioners to enter the fields, and they raise consumer prices.

State and local governments should stop doing this.

In the interest of promoting interstate commerce, the federal government should pre-empt many of these regulations. For example, states should be forced to allow a broad scope of practice for nurse practitioners so they can serve as independent primary care providers. This would reduce doctors' incomes, but it would reduce the cost of health care, raise patients' real incomes and help to control government expenditure.

4. Deregulate America's most overregulated industry: real estate. In some ways this is a subset of (3), but it's important enough to get its own bullet. Local governments destroy economic value by preventing the construction of buildings in the places where they are most demanded: Already-dense urban neighborhoods. There is enormous economic value to be unlocked simply by letting people live near where they work and work near where other people work.

Tight real estate regulation also leads to urban inequality and gentrification: New York and San Francisco are highly desired places, and when you use public policy to limit how many housing units can exist there, people of the greatest means will bid up their price. The best thing Bill de Blasio can do to alleviate the problem of "two New Yorks" and make this city less economically polarized is to allow the construction of many more apartments in Manhattan.

Deregulating the land will have positive effects on both the supply side and the demand side. One problem with the government trying to stimulate the economy through construction is it often builds things that aren't very useful. Upzoning of urban land (and of land that should be urban, in places like Silicon Valley) can unlock a construction boom without requiring the government to figure out exactly what to build.

5. Reform intellectual property—by weakening it. IP laws are arbitrary: By deciding what inventions can be made exclusive and for how long, the government decides what share of the benefits of innovation will accrue to inventors and what share will accrue to users. In some cases, IP laws divert creative energy from developing new ideas into figuring out how to exploit existing patents.

In the last decade, we've enjoyed a natural experiment where the IP protections for news and entertainment content have been weakened not by policy but by technological change. The result has been a rise in standards of living. Yes, content producers are distressed, the affected industries are undergoing rapid change, and some people are making less money. But content itself is better and cheaper than ever. That's meant a rise in real incomes for people who consume content, which is great.

Entertainment firms have generally sought stronger IP protections in response to these technological changes. Policymakers should instead see that the sky didn't fall and look for ways to strategically weaken IP protection in other areas of the economy.

Patents and copyrights generate rents for owners of capital. For decades, the labor share of GDP has been declining and capital's share has been rising. Weaker IP is one way the government can lower the capital share of GDP and raise the labor share without redistributive fiscal policy.

6. Improve education, somehow. This bullet is really a placeholder. Education is a sector with surprisingly low innovation and we could probably do it better. But I don't really know what to do about it.

American expenditure on education is already extremely high. We spend more per pupil on K-12 education than any OECD country save Norway, Luxembourg and Switzerland, and by far we spend more than anyone else on higher education. This makes me wary of throwing more money at the problem. Efforts to improve educational outcomes through competition and choice have produced disappointingly mixed results. The for-profit sector, which might theoretically be an engine for innovation, has mostly produced a lot of ripoffs.

I'm optimistic about the Common Core curriculum standards. Some state university systems are starting to do good things with providing cost-effective degrees that are better tailored to the job market. But overall, it seems like there should be bigger ways to improve educational outcomes, and therefore long-run income growth.

7. Admit more high-skill immigrants. There are lots of well-educated people elsewhere in the world who would like to come here and work. Immigration is a boon to the economy overall, but high-skill immigration is especially valuable and has more clearly positive distributional effects. It could negatively impact wages in some high-skill fields, like medicine and engineering, but by lowering consumer prices and promoting economic growth it would raise real wages for people with low and moderate incomes.

8. Make taxes more progressive. This isn't a supply-side reform; in fact, it is likely to discourage investment and economic growth at the margin. But it's the most effective way to offset rising pre-tax income inequality, and a revenue source will be needed to pay for some of the above reform ideas, especially (2) and (3). The necessity of raising taxes at the top over time, and the negative economic effects that will have, make it all the more important to pursue a broad agenda of promoting investment and growth through non-tax policies.