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Federal and State Deficits – Out of Sync

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this 17 carat gold railroad spike was pounded into the ground by Leland Stanford at Promontory Point, Utah on May 10, 1869, to commemorate the joining of the Union Pacific and Central Pacific Railroads to complete the first Transcontinental Railroad.

This 17 carat gold railroad spike was pounded into the ground by Leland Stanford at Promontory Point, Utah on May 10, 1869, to commemorate the joining of the Union Pacific and Central Pacific Railroads to complete the first Transcontinental Railroad.

America was built on Infrastructure. Take the Railroad Era, for example. Infrastructure represents a short term economic boost and long term economic investment. Just ask your average railroad baron. So If you agree that infrastructure spending is a keystone of economic recovery in the United States, then you’re likely to agree that, a) both the Federal and State Governments are critical to infrastructure spending, and b) that concerns about the deficits have to take a back seat to economic recovery.

That is clearly already true about the Federal Deficit. We’re going to hit a trillion a year pretty soon, and we’re going to be spending way more. The economy is so bad, and deflation such a risk, that printing money seems like a very attractive option. Sheets of the stuff will be churned out. The Mint will be working overtime.

But what about the states? Many States are constitutionally mandated to balance their budgets, including California. And none of them print their own money. States have to raise money from taxes, borrow it, or sell bonds to finance themselves. The first of these is a nasty option politically, especially during an economic squeeze, the second is tough sledding, and the third is deeply unattractive for investors. Which leaves the States in a terrific crisis. Among the many things that suffer are – guess what, infrastructure projects, the very lifeblood of the Keynesian (boy, is he back with a vengeance) recovery.

Problem? Uhh, yeah.

According to the Congressional Budget Office (CBO), Since 1956, around 70-75% of total US infrastructure spending each year has come from the States. In 2004, the last year for which there are figures, the Feds spending of $74 billion on all projects and maintenance was dwarfed by the $238 billion spent by the States, and that doesn’t include Federal grants.

The Obama administration is planning what is rumored to be about a trillion dollars worth of infrastructure spending over a period of years. This will likely result in a massive realignment of public spending priorities between the states and the Federal government, that will make the Eisenhower Highways Projects of the fifties, and the New Deal before that look like petty cash. The Obama plan is likely to be almost exclusively Federally driven, unless we weaken or remove the state balanced budget amendments that are in the constitutions of 49 of the 50 states (Vermont is the one exception).

Unless this happens, and it will be a cold day in hell before Republicans sign off on it in any state, let alone 49 of the 50, there’s likely to be a massive spending mismatch. State infrastructure spending might fall with tightening belts, while Federal Spending on infrastructure will rise to dizzying heights, to boost the economic recovery and compensate for State shortfalls. To put it bluntly, states have old Reagan Revolution ‘deficit hawk’ priorities, hence Republican recalcitrance to change their outmoded fiscal outlooks. The new Keynesian world has a different set of priorities.

The Fed / State spending imbalance makes the sheer scale of Obama’s infrastructure plan, which is already monumental, even greater. And with that scale comes increasing risks. States have a far better handle on their localized needs than the Feds do, so there may be pressure to turn much of this spending into grants to the States. That may well mean a vast and unsightly lobby-driven competition for Federal funds among competing States, and the Pork Barrel problem, which is relatively small right now – as Obama repeated many times during the campaign to McCain’s chagrin – might balloon to a size where McCain would suddenly seem prescient indeed. But not only is there’s ample opportunity for political gamesmanship, but there’s also massive pressure on the Feds to make the right decisions, right down to a local level. They’re not usually that good, so we have to hope that Obama’s administration can wield its power throughout its civil service echelons, and be able to control the States competing for dollars and projects too.

It’s a tall order, indeed. Infrastructure spending is clearly the right way to go for the economy. Saying we should have it is easy. But even when the money’s there (or the political will to print it is there), implementation is completely another matter. The Republicans came to power by scorning the Democrats as ‘Tax and Spend Liberals’. Only effective spending by the Feds and States will ensure that the GOP’s clarion call never gets traction again.

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