Earn What You Spend

A lot of big news yesterday.  First, another massive bank came to the brink of failure, only to be rescued by the U.S. government.  Citigroup, whose stock price had fallen precipitously in the past weeks, received a capital injection and government guarantee of some of their most toxic debts.  It was not an inexpensive move: 

The U.S. is a partner in the performance of $306 billion in real-estate loans and securities, sharing losses beyond $29 billion on what are likely to be some of Citigroup’s worst holdings.

Taxpayers are likely to be at greater risk from the new template, which may be used to help more companies as debt writedowns continue to climb, analysts said.

The other big news was the official unveiling of Barack Obama’s economic team: 

Former Clinton Treasury Secretary Lawrence Summers was selected as director of the White House’s National Economic Council, making him Mr. Obama’s chief economic aide. Timothy Geithner, the president of the Federal Reserve Bank of New York and formerly an aide to Mr. Summers at the Clinton Treasury, is Mr. Obama’s pick for Treasury Secretary. Both men won praise from the rival party.

The third member of the economic troika introduced on Monday was Christina Romer, a University of California at Berkeley economist known for work as an economic historian, who will serve as chairwoman of the Council of Economic Advisers. Melody Barnes, a former adviser to Senator Ted Kennedy, will run Mr. Obama’s Domestic Policy Council, which handles issues like healthcare and education

The first act of the new administration will almost surely be to sign a massive stimulus package.  Why?  At a time like this - with falling consumer demand, shaky confidence, hard-to-access credit - what the market needs is a jolt, decisive action that can break this crisis of confidence.  A stimulus plan does exactly what the name implies - it makes the government the spender of last resort until the economy has found it’s legs again. A bit more about Obama’s plan: 

While stimulus plans are usually considered targeted, and temporary, relief, the Obama team is looking at much deeper and longer-term spending, reflecting the view that downward pressure on the economy could last for several years. He ticked off a list of priorities that included: creating 2.5 million jobs, and spending on roads, bridges, schools and clean-energy programs. 

There is widespread agreement on the need of a stimulus plan.  Last weekend, the Wall Street Journal convened 100 top CEOs and policy makers for their annual summit to discuss the incoming administration’s policy direction- it was an incredibly impressive list of attendees from Senator Schumer to the Lloyd Blankfein, CEO of Goldman Sachs. There was a broad consensus that one of the top priorities for the country should be a fiscal stimulus:

Quickly implement fiscal stimulus to address short-term weakness and stabilize employment without worsening long-term budget deficit. Emphasize investment in infrastructure and other programs with long-term benefits, including environmental. Avoid tax rebates and expedite more permanent tax cuts. Consider using state and local government as a channel.

Infrastructure investment, then, is a key element of any successful stimulus plan.  We continue to reap the benefits of infrastructure built during the New Deal - just think of all the bridges and dams that are still in use today.  

It’s important to note the distinction between infrastructure investment and wasteful government spending; the former is truly an investment that continues to pay dividends, while the latter is gone once the money is spent. Summers outlines this distinction: 

If I spend a lot of money on an incredibly elaborate vacation, I don’t have that money anymore. If I spend the same amount of money on a house, then I have a house. I am only poorer to the extent that I overpaid for the house. So I think it is very important to distinguish debt issued to finance government spending of one kind or another from debt issued to finance government acquisitions of financial assets of one kind or another

So, yes, we need to spend money to stimulate demand, to employ more Americans.  But at the end of the spending, we should have something to show for it.  A new electric grid would be a good start.