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Policy and Markets: How, Not If

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The policy vs markets debate makes for good rhetoric but lousy results. It's not if government should play a role in the economy. It's how best to do it.

The long slog of debt deleveraging (we're about halfway through) coupled with the rising risk of a global credit crunch implies the timing is right. From Erskine Bowles' CEO Fiscal Reform Council to the Occupy Wall St. movement, frustration is mounting. The need for market based, government supported, job creating policies is clear; what's missing is the will.

Myths and mood music aside, there's little in our history that is just about the private sector. Soaring speeches aside, there's a lot that's about ineffective and inefficient government programs. But there's also some -- indeed, quite a bit -- about policy-markets synergy as a key part of bi-sectoralism.

American history is replete with examples of how major technological innovation and new industries were catalyzed by government policy. Time and again this has been true for commercially crucial infrastructure. The Erie Canal, initiated in 1817 with $7 million from New York Governor DeWitt Clinton and the state legislature, cut transportation costs by as much as 95%, and provided the link to the Great Lakes that made New York City the young nation's major port. The Blue Ridge Parkway, built as one of FDR's Depression-era jobs programs, today is the backbone of the burgeoning Virginia and North Carolina tourism industry -- a classic "two-fer". Eisenhower's interstate highway system, the largest public works program in history, helped integrate our economy.

Sure, there have been some bridges to nowhere. But that's the essence of the how not approach; we must do infrastructure as a boom not a boondoggle, as the 21st century counterpart to the 19th and 20th century projects so crucial to the economy in their day, for which we laid out some ideas in our previous column.

Infrastructure is job creating and meets private capital's need for long term projects with reasonable risk and return. But there is much more. A number of dynamic technological innovations and new industries would not have been created were it not for major governmental support. For a long time NASA, with its direct technological achievements as well as indirect spin-offs, was exhibit A. More recently it's been the Internet, created by DARPA (the Pentagon's Defense Advanced Research Projects Agency) and much of its further development financed by the National Science Foundation and other federal funding to universities and corporate research centers. There are plenty of other examples, both past (e.g., the jet engine) and current (e.g., biotechnology, green technology).

There are cases like Solyndra. Clearly this was not handled well. Politics may well have entered in. But even if it didn't in a crass electoral sense, the Obama White House did seem to let wishful thinking cloud analytic judgment. But the Solyndra loan amounted to less than 2% of clean energy loans supported by the Department of Energy. This overall program has been having substantial impact. Solar-power electricity more than doubled between 2009 and 2010. Our positive balance of trade in solar industries increased 140%. Initial market gains for electrical cars have been in part due to federally supported advanced battery R&D and the installation of over 10,000 charging stations around the country.

Renewable energy won't singlehandedly fill the jobs void left by the shrinking of many old industries. But it is crucial to the overall effort. With renewables fast becoming one of the world's most competitive industries, and governments in a host of countries fostering their own national technological developments, we "face a simple choice," as Energy Secretary Steven Chu put it, "compete or accept defeat." In many cases that's not something the private sector can do on its own.

At the nexus between government and business is capital. And capital today is very risk adverse. It exists but is mainly to be found on the balance sheets of large corporations and the reserves of our largest banks. As a developed economy, we require the extension of credit to achieve the economic goals of a thriving society. All sectors have a role to play in ensuring that credit continues to flow smoothly. Ad hoc government intervention in the financial markets risks further liquidity erosion and credit withdrawal with severe and negative consequences for growth, employment and social stability. Governments and businesses need capital, investors need clarity.

The nature of 21st century international economic competition writ large is not about who can become the most laissez faire capitalist but who can forge optimal bi-sectoralist policy-market synergies. China's economic strategy is about more markets and less state than pre-Deng Tsiao-ping, but very much still about a strategic economic role for the state. India has been trying to lessen its bureaucratic socialist inefficiencies and foster more entrepreneurialism, also within limits that still maintain a substantial role for the state.

Nor is this pattern just among newly emerging economies. Taiwan is now on its 15th national economic plan, the Plan for National Development in a New Century, "aimed at guiding the direction of national development and raising overall resource utilization efficiency." South Korea leapfrogged the United States in broadband and other telecommunications through government coordinated and managed strategy. And then there's Denmark, "notoriously" welfare-statish and green, yet which has topped Forbes rankings as the best country for business three years in a row.

No one of these bi-sectoralist models neatly fits us. But we do need one of our own to compete. And contrary to the muses of market fundamentalism, we have plenty to build on in our history. Getting beyond the if to the how is where we need to go.