Mariana Mazzucato - The Value of Everything - Making and Taking in the Global Economy

Fourth, governments often own productive businesses such as railways, postal services or energy providers. But, by accounting convention, state-owned enterprises that sell products at market prices are counted as private enterprises in the value added of the relevant sector: public railways are part of the transport sector, not the government sector. Even though state-owned corporations earn profits (and in the stats, higher profits means higher value added), their profits are accounted for in the industrial sector they work for, not the ‘government’ sector. So if the state-owned railway makes huge sales and profits (high value added), it boosts the transport sector value added, even if that sector is perhaps only successful because of state ownership. Only government-owned entities that don’t sell at market prices are by definition included in the government sector. In short, from the perspective of national accounting, you don’t count as government if you are doing market production. So, in the case of free public education, while increasing the number of teachers might add to GDP (because they are paid), the value they actually produce does not increase GDP. All of which means that government can only increase its value added with non-market production, thereby obscuring the true importance of government in the economy: value that government businesses do add is not shown in official statistics, nor is the value that education or health generate.

These rules have been made in order to find a straightforward way to account for economic activity. Yet, when you consider the combined weaknesses of accounting conventions – government is lumped with households as a ‘final’ consumer; government cannot make a surplus, earn returns, increase its productivity or raise value added through market production – you can’t help but notice that, while every effort has been made to depict finance as productive, the opposite seems to be true for government. Simply because of the way that productivity is defined, the fact that government expenditure is higher than value added reinforces the widely held idea that ‘unproductive’ government has to take before it can spend. This thinking by definition restricts how much government can influence the course of the economy. It underpins the theory of austerity. And it is a consequence of fables about government told over several centuries.

Multiplying Value

National accounts do not consider the interaction between public expenditure and other components of output, consumption, investment and net exports.

In order to understand this interconnection, economists estimate the value of what is called the ‘multiplier’. The multiplier was an important reason for Keynes’s positive view of government. Developed by Keynes’s Cambridge student and colleague Richard Kahn (1905–1989) and used by Keynes himself, it formalized the idea that government spending would stimulate the economy. Quite literally: every pound that the government spent would be multiplied, because the demand it created would lead to several rounds of additional spending. Importantly, the Keynesian approach also quantified the size of the multiplier, so policymakers – who quickly took up the idea – could support their arguments for stimulus spending with hard numbers. 35

More precisely, the multiplier refers to the effect that an increase in expenditure (demand) has on total production. Its significance lies in the fact that, in the view of Keynes and Kahn, government spending benefits the economy way beyond the amount of demand that spending generates. The company from whom the government purchases its additional goods – let’s say concrete for motorways – pays incomes to its workers, who go out and spend those extra incomes on new goods – let’s say wide-screen TVs – which another company produces, and that company’s employees have more to spend – let’s say on holidays in Cornwall – and so it goes on multiplying through the economy. Additional government demand creates several subsequent rounds of spending, multiplying the original amount spent. Government spending in recession was seen as especially powerful in getting the economy back on track, since its effect on overall output was much greater than the actual amount invested.

This powerful and important idea has inevitably attracted controversy, particularly over the size of the multiplier – that is, how much £1 of government spending generates in the economy. The sizeable literature on the subject can be divided into two schools of thought: the ‘new classical’ and the Keynesian.

According to the ‘new classicals’, the proponents of fiscal austerity measures, the multiplier’s value is less than one, or even negative. 36On this basis they can argue that public expenditure has a non-Keynesian effect on output. In other words, an increase of £1 of public expenditure is supposed to generate less than £1 or even have a negative effect on total GDP because it crowds out private investment. In the case of a negative multiplier they assume that public expenditure destroys value, since the increase of £1 in public expenditure is more than offset by a decrease in the other components of GDP: consumption, investment and net exports.

However, the Keynesian view has been revived recently, since it has been shown that austerity measures implemented in, for example, southern European countries have led to a fall in total output and consequently a rise in unemployment, rather than GDP growth and increased employment. The poor economic performance of these countries calls into question the austerity prescription of the ‘new classical’ authors. Recent IMF studies have also suggested that government spending has a positive effect on output 37and that the value of the multiplier is greater than one – to be precise, 1.5. 38An increase of £1 of public expenditure leads to an increase in total output of £1.50. In short, more credence is being given to the view that government expenditure does not destroy private value but can create value added by stimulating private investment and consumption.

PUBLIC CHOICE THEORY: RATIONALIZING PRIVATIZATION AND OUTSOURCING

The 1980s backlash against government was in part driven by the notion that economies should worry more about ‘government failure’ than ‘market failure’. Government failure emerged as a concept from Public Choice theory, a set of ideas closely associated with economists like the American James Buchanan and the University of Chicago, where Buchanan studied. In 1986 he was awarded the Nobel Prize in Economics.

Public Choice theory argues that government failure is caused by private interests ‘capturing’ policymakers through nepotism, cronyism, corruption or rent-seeking, 39misallocation of resources such as investing public money in unsuccessful new technologies (picking losers), 40or undue competition with private initiatives (‘crowding out’ what might otherwise be successful private investment). 41

Public Choice theory stresses that policy must be vigilant to make sure that the gains from government intervention in the economy outweigh the costs of government failures. 42The idea is that there is a trade-off between two inefficient outcomes: one generated by free markets (market failure) and the other by governmental intervention (government failure). The solution advocated by a group of economists called the neo-Keynesians (people who built on Keynes’s ideas) is to focus on correcting only some failures, such as those that arise from positive or negative externalities. The former might include ‘public goods’ like basic research, which the government needs to fund when the private sector doesn’t (because it’s hard to make profits), while the latter could involve the costs of pollution which companies do not include in their regular cost-accounting, so government might have to add that cost through a carbon tax. 43So while Public Choice theorists worry more about government failures and neo-Keynesians more about market failures, in the end their debates about policy intervention have not seriously challenged the primacy of marginal utility theory.