5:42 PM Sep 6, 1995

NEEDS PUBLIC INFRASTRUCTURE INVESTMENT

Geneva 11 Sep (Chakravarthi Raghavan) -- The UN Conference on Trade and Development has again advocated change of course in the North and coordinated stimulation of demand, through public sector infrastructure investment, needed for private sector investment, growth and jobs.

Analyzing current policies and stance in the North, UNCTAD says in its just published Trade and Development Report that there is a good possibility of convergence in terms of growth performance and price stability, but the convergence is towards a rate of expansion no higher than the ceiling set by the central bank's perception of the potential growth rate of 2-3 percent. "At this rate of growth there is little hope of any further boost to employment in the US and UK, or of a halt to rising unemployment in continental Western Europe or to the steady progression of unemployment in Japan to a historically high level," the TDR says.

The solution to the employment crisis, UNCTAD argues, lies in the main in raising the tempo of investment and growth. These should be coupled with some supply-side policies -- in particular training and skill formation -- to ensure that expansion does not run into bottlenecks, and use of employment subsidies, rather than unemployment benefits, which may involve a small charge on government budgets, but would increase output, preserve skills and prevent loss of morale.

There should be internationally coordinated policies to increase employment, secure low and stable interest rates and avoid exchange rate instability, the TDR advocates.

Monetary policies should be used to bring interest rates down from their unprecedentedly high levels and keep them stable thereafter. The instability emanating from financial markets should be contained; and public investment (especially in infrastructure) should be stepped up.

And the problem of accumulated public debt, absent during the Golden age, has to be addressed if fiscal, as well as monetary policy, is to play a constructive role in managing the economy.

These policies need international coordination to ensure that financial markets don't impose undue constraints on implementation: countries can't realistically hope to achieve full employment, price stability and open markets on their own. But, unemployment is reaching politically menacing levels, threatening to bring social disintegration and beggar-my-neighbor policies and jeopardizing stability of the international trading system.

The TDR notes that while job creation has to be primarily through private investment, public sector investment for public services is indispensable to encourage such private investment.

As in earlier reports, UNCTAD once again challenges the current orthodoxies and policy advises flowing from the IMF, World Bank and the OECD (who are all fighting the inflation battles of the 70s in a situation of deflationary tendencies), questions the continued emphasis about inflation and reining in growth when it approaches the 2-1/2 to 3 percent annual growth rate, and argues for stimulating demand and public expenditure to build infrastructures.

Just like private enterprises and corporations, UNCTAD argues, such infrastructure spending should be borne on capital account of government budgets (which should be separated by current expenditures to be balanced by revenues), and funded through borrowings to be liquidated over time through earnings on such investments. These coupled with stable and low interest rates would give the right market signals to promote investment and growth, and create jobs.

The unsatisfactory growth and employment performance of industrialized economies since mid-70s has been accompanied by slow growth or stagnation in public investment.

A return to more normal levels of provision of public infrastructure services, whether by public or private providers, is needed not only to create new job opportunities directly, but also to foster acceleration of private investment and activity. On conservative estimates the US would need to spend atleast $45 billion a year, or 0.8% of GDP, on infrastructure investment to meet transportation, environmental and social needs. Other studies put the figure much higher.

Such spending as a permanent commitment has to be carried out yearly, given the need to maintain infrastructure and expand it along with increased private sector growth and employment. In Europe too such infrastructure spending is ever more pressing, as in the UK.

Public investment is needed not only in traditional infrastructures, but also to promote technological dynamism and innovation in areas like telecommunications, computers and information processing -- industries currently in the process of developing benchmark technologies that would emerge as industry standards. Such services are also needed to create new technologies that would create jobs to replace those eliminated by creative destruction associated with technological revolution.

But these cannot take place without a minimum of government involvement to ensure necessary infrastructure investment -- just as motorways and roads were needed for expansion of automobile production and airports were needed to accommodate vast increase in air travel.

Given these links, a large and permanent increase in both traditional and technology-related infrastructure investment by the public sector can be expected to provide a major stimulus to both level and quality of private investments.

Such outlays would create productive assets, generating a stream of goods and services over time. They should be subject to project evaluation and planning just as in private investment.

The total outlay should not be assigned to the current budget, but should be spread over the whole period during which it contributes to output of goods and services. Such investment financed by borrowing should not also be treated as "deficit" spending -- just as firms wouldn't treat such capital spending as part of current expenses.

Save in Japan, fiscal policy has not been used by the industrialized countries for macroeconomic management and use of fiscal policy for counter-cyclical purposes has been eschewed in the belief that once deregulated the economy would not need management of this sort, since the private sector would generate the requisite level of demand.

But despite this anti-Keynesian rhetoric, the supply side policies in the US of the early 1980s has left a legacy of large public debt and large budget deficits.

In Europe, the objectives of convergence of fiscal and monetary policy to control inflation and reduction of government borrowing and debt to lessen crowding out of private investment have been formalized in the Maastricht treaty. Yet the budget deficits and government debt have continued to increase and at the end of 1994, only Luxembourg and Germany appear to have met the Maastricht criteria. As a percentage of GDP, the budget deficits for the EU countries as a whole have risen from 4.6% in 1991 to 6.6% in 1994.

For the G-7 countries as a whole, their combined recorded governmental financial deficits were higher in the first half of 1990s than in the 1980s. This rapid accumulation of government debt has been due to a combination of slower growth, increased unemployment and tight monetary conditions. Slowdown in trend growth rates have raised structural deficits, net of interest payments on outstanding debt. Cyclical downswings have widened deficits considerably, while upswings have generated little revenue.

This is because economic upturns are quickly reined in by monetary tightening while downturns have been left to self-adjusting forces. If employment and growth in the 1980s and 1990s had been higher, fiscal deficits would have been considerably smaller.

Also, much of the recorded and structural deficits have been due to interest payments on outstanding government debt and, for the G7 countries taken together, these payments now account for almost entire budget deficit.

Monetary policy has played a major role in widening the gap between budget positions - gross and net of interest payments. Due to high real interest rates, in most major industrial countries the driving force behind government budget imbalances is the interest on government debt, rather than discretionary spending and tax policies.

The logic of the situation, TDR says, suggests that the only way to regain ability to use fiscal policy for overall economic management is to reduce the stock of debt. The increased public debt and reduced public investment suggests that this debt does not correspond to any equivalent buildup of productive capacity.

"It would not be possible to service it without additional debt in a Ponzi-type financing process.. nor can it be reduced by primarily surpluses. This last would lead to further deterioration of public services and introduces a self-defeating deflationary force.

"Real interest rates cannot be allowed to exceed real growth in the long run, since it would imply accumulation of debt that cannot be repaid in real terms. A reduction in real value of debt will eventually be needed. This has been achieved in the past through inflation. But recent efforts on inflation go in the opposite direction.

"Hence, an once-and-for-all capital levy to bring stock of government debt down to sustainable levels represents the most sensible solution. It will also be much equitable, and hence politically more feasible -- than meeting claims of bondholders year after year by increasing and inventing new kinds of taxation on incomes or transactions, and/or cutting welfare spending, thus adding to the already serious social problems."

The generally restrictive monetary policies of the last two decades, have shunted economies into low-growth paths in which low demand growth and low potential output growth feed into one another -- with frequent underutilization of existing productive capacity resulting in slow capital formation, the TDR argues.

This in turn has provided justification for persistence by governments and central banks in policies to limit demand growth to potential output growth, in turn creating a weak dynamic growth and increasing the imbalance between labor force and the capital needed to employ labor productively.

Restrictive monetary policies and financial deregulation together have pushed up interest rates to historically high levels, while the tendency to gear monetary policy to monetary aggregates or price movements have made both interest rates and exchange rates unstable, increasing the volatility of key financial variables.

These have created uncertainty and discouraged private investment in fixed assets, which in some countries has also been discouraged as a result of declining public investments in infrastructure.

The TDR also calls for actions by individual developing countries to discourage such flows of "hot money", while encouraging long-term foreign direct investment international actions to curb or discourage speculative and short-term capital movements including through such long-standing proposals like the Tobin tax on short-term foreign exchange transactions

Forti noted that UNCTAD for several years now had been advocating controls by developing countries on inflows of short-term capital controls and had predicted in their absence the kind of crisis that overtook Mexico. The IMF, in a very recent report, appeared to be now supportive of this.

On the Tobin tax idea, Forti noted that the UN in its World Economic Survey seemed to feel that the tax was desirable but not feasible, while the IMF in an internal (unpublished) study seemed to feel that such a tax was feasible but not desirable! UNCTAD feels it was both desirable and feasible to discourage speculative capital flows and encourage long-term investment flows through instruments like the Tobin tax coupled with others.

Another UNCTAD senior economist, Andrew Cornford, said that while such a tax to discourage speculative hot money flows would need cooperation of all countries, including offshore banking centres, and it faced some difficulties, it was not beyond ingenuity of tax authorities and tax lawyers to devise a workable scheme.