Can Infrastructure Really Save Us?

Yesterday I attended a luncheon at the Peterson Institute for International Economics to hear Dr. Justin Lin, chief economist at the World Bank, discuss the current economic crisis and its impact on emerging markets.  Dr. Lin took the opportunity (which he noted was his first outside speaking engagement since assuming the position of chief economist) to posit some ideas of how the world might effectively get out of its downward growth spiral.  Dr. Lin proposed something he termed a "Global Recovery Fund" in which developed countries would allocate a percent of their resources intended for stimulus purposes domestically to a fund which would be used to provide stimulus in those less developed countries that could not afford to take such measures themselves because of fiscal constraints.  He further argued that the less developed countries should follow China's model (I will note here that Dr. Lin is a Chinese national), and use the stimulus funds to address infrastructure deficits and bottlenecks so that when the world begins to recover, the LDCs will have more efficient economies and more capable export resources.  Here is a link to USA Today's coverage of the talk: "World Bank Economist Urges New Marshall Plan."

Leaving aside the political impracticalities of Dr. Lin's proposal (I have a hard time believing that anyone in Congress, the White House, Beijing, or Riyadh for that matter would listen to the proposal for more than 1 min), I was struck that Dr. Lin focused on infrastructure development as a panacea to all that ails the global economy.  Infrastructure is everywhere these days.  Beyond the widely discussed portions of the stimulus package in the US which devotes funds to infrastructure, China, Saudi Arabia, little Bahrain, Egypt, and multitudes of other countries have all announced their intentions to use budget resources to fund infrastructure projects in their domestic markets.  The fact that so many policy makers of so many stripes across the globe have focused on infrastructure makes me deeply wary that we're pushing ourselves into another bubble situation at best or wasted money at worse.  Here's why-

As Dr. Lin pointed out in yesterday's talk, infrastructure can only get you some bang for your buck if you have actual structural inefficiencies that can be remedied by adding the road or improving telecommunications.  In much of the developed world, this is rarely the case.  As much as people in Minnesota would cringe to hear this, totally rebuilding the bridge that collapsed won't bring you much in terms of extra efficiency unless it was somehow rebuilt in a way that would allow for more than just automobiles and trucks to take advantage of it.  Connecting two cities in Africa through rail or road links would bring much more tangible benefit, however.  I would agree with Dr. Lin that money used towards "green" technology might be the exception to this since it offers a way to re-industrialize much of the world in a way that is more environmentally sustainable.

Beyond what you do with your infrastructure investment capital, it makes no sense for everyone to pursue the same kind of development at the same time.  First off, you risk creating massive redundancies- do all countries need to rehab their air and sea ports and if everyone develops super efficient export capabilities to whom will you export?  If your infrastructure improvements help stimulate domestic demand because goods can be shipped cheaper and faster internally, than good for you.  But if you only look to improve your export capabilities, we're looking at another situation of global imbalances.

Second, let's face it, there is only so much material in the world that can be devoted towards infrastructure development.  In 2007, long before infrastructure development became the "du jour" option it is today, the world was looking at a shortage of construction cranes because Dubai and China had sucked global supply dry.  That's right- China and Dubai.  Not China, the US, Saudi Arabia, half of the rest of the Middle East, and the developing world.  Imagine how desperate and expensive the situation could get if everyone with some cash is looking for cement, electricity, engineers, and architects?  Here's an interesting little article on looming shortages:  Materials industries face a "perfect storm" of long term challenges  

Finally, I think it's very possible to overdraw lessons from what China accomplished between 2003-2008.  Dr. Lin argued for infrastructure development by citing China's incredibly strong growth rate of more than 10 percent annually during this time frame (up from averages of 8 percent in the previous decade) and posited that this growth improvement came about because of infrastructure development.  I say that this is a bit of hooey.  Dr. Lin's argument ignored two critical factors- rising US demand for Chinese products during this time frame and China's own domestic spending on the Olympics.  Both led to improvements in infrastructure (particularly in the latter case) but this was an extraordinary circumstance.  Time will tell if these infrastructure investments will actually pay off in the long run for China.  I think the only way it could is if it stimulates internal domestic demand.  Most of the time, infrastructure, while constituting necessary spending, only marginally contributes to growth.  Dr. Lin himself used the example of Japan repaving roads in the 1990s.

All this being said, I don't think spending on infrastructure is a bad thing.  In fact, it is necessary in the same way that having your teeth cleaned twice a year is necessary if you want to prevent cavities.  It doesn't get you much in the short term, but if you want to prevent long term system failures, it needs to be done.  The idea of infrastructure as a panacea, however, needs to be taken with a grain of salt.

I wish someone would come up with another idea...