The Top 15 Things That Governments Do for the Economy

These days, there are a lot of people who hate the government.

These are also people who love capitalism and who love economic prosperity.

They assume if they got rid of big government, they would be able to keep the capitalism and keep the economic prosperity.

    

This is like saying “we could knock all the roof supports off of this house and the ceiling would still stay up there floating by itself”.

    

Capitalism exists and economic growth exists only because the government performs a huge number of vital functions. Some of them are so obvious we totally take them for granted. Keep the government from being able to do these effectively and both the ceiling and the roof come crashing down on your head.

    

Here are my top 15 things that the government does.

 

The Ones You Knew About Already

 

1. The Military Defense of American Economic Interests. Protecting American citizens overseas. Protecting American investments and production facilities overseas. Protecting American access to vital raw materials. Protecting American territory from foreign invasion.

2.  Protecting Private Property from Crime. Yes, many Americans have firearms in their homes. They know how to use them. Yes, the wealthiest Americans could afford private security forces. It is a lot cheaper and safer to be able to just call the police.

3. Protecting Business from Fraud and Reneging on Contracts. Business deals would not be worth the paper they are printed on if supplies and vendors could routinely lie to their partners and refuse to follow through on their commitments. There has to be some legal mechanism for to prevent rip-off artists from victimizing other businesses by lying and cheating.

4. Providing an Educated Workforce. Capitalist economies can not survive without skilled workers. Free public education is essential to guaranteeing that employers have workers with the technical abilities they need.

 

5. Underwriting Scientific, Technological and Medical Research. Scientific progress does not come from “laboratories that are just out there”. These laboratories have to be paid for. Most of the basic research in the United States is underwritten by the federal government. The primary funders are the National Science Foundation, the National Institute of Health and the Pentagon. That work is done at universities. Yes, corporations do have R & D programs. However, these tend to take pre-existing technologies and add supplementary features or make them cheaper to produce. The basic discoveries tend to come from the University side. The internet was financed by the Department of Defense and developed by a consortium of universities trying to speed up the transfer of datasets across phone lines. Silicon Valley entered the game once federally funded scientists figured out how to make the transfer protocols work.

 

6. Providing Basic Transportation Infrastructure. Goods don’t move without highways, airports and ports. Highways, airports and ports are rarely built by the private sector because they don’t make money. Without transportation infrastructure, the economy bogs down in logistical difficulties. Brazil’s economy has long been held back by miserable highway connections between the Southeast and the Northeast, poor road connections between their main soybean fields and their ports, and limited airport capacity in São Paulo and Rio de Janeiro. America’s boon in the 1950’s was supported by Eisenhower’s construction of the interstate highway system.

 

The Background Stuff No One Thinks About

 

7. Creating and Maintaining the Integrity of Money. Money does not grow on trees. It is created by sovereign nations. Dollars bills are accepted as currency because they are guaranteed by the full faith and credit of the United States Government. If you think that government does not play a role in the preservation of monetary value, consider cryptocurrencies such as bitcoin. Those are not guaranteed by any sovereign government. Bitcoin was going to be the next great thing. Where is it now? At the same time, disaster theorists of a conservative persuasion have been arguing that the dollar is going to crash, the dollar is going to crash, the dollar is going to crash, you need to buy gold. All of this was supposed to happen because the United States ran deficits or because it provided welfare spending. These claims have been made continuously for the last fifty years. Bitcoin and gold are doing well now. They have crashed multiple times losing vast amounts of value. The dollar held more or less steady; it continues to be the dominant currency of world trade.

 

8.  Preventing Bank Failure. In the nineteenth century, the United States had multiple financial wipeouts. These were generally caused by collapses of banks. The Great Depression was accompanied by a spectacular wave of bank failures. Generally, in the last eighty years, since the 1940’s, American banks have been solid and healthy. This has been because government regulation has prevented the types of speculation that wiped out the earlier generations of financial institutions. The one exception proves the rule. We did have a set of bank failures in 2008 after a relaxation of the normal rules against reckless behavior by banks. Under normal conditions, government regulations have kept banks stable and solvent.

 

9. Promotion of Innovation Through Patent Protection for Inventors. Without government, technology pirates would rule. Technology raiding still exists. But it is more common across international lines where the influence of direct government is more limited. Within individual nations, flagrant technology theft is punished.

 

10.  Protecting Local Firms from Foreign Competition. Governments use tariffs and import restrictions to protect their own national businesses from being flooded by low cost competitors.

 

11. Protecting Local Workers from Competition from Foreign Workers. Many of the same people who want to shrink the state also want the government to restrict immigration. In a no-government purely laissez-faire situation, borders are completely open. Workers are free to work in whatever country offers the highest wages. Most advocates of free markets are happy to see capital free to flow to whatever country offers the highest rate of return. They are less happy about seeing workers flow to whatever country offers the most attractive jobs. In my view, immigration creates more employment than it destroys – because the more successful immigrants start companies that employ other people. However, if you view immigrants as an economic threat rather than a benefit, then a strong government is needed to keep the outsiders away.

 

More Up for Debate

 

12. Stimulating the Economy Through Keynesian Fiscal Stimulus and Monetary Policy. In the 1950’s and 1960’s, there was great confidence in both of these measures. I am still a believer in fiscal stimulus. There is more debate about the effectiveness of monetary policy. The newer economies are more globalized than were the economies of the fifties. There are more kinds of money in existence and they are harder to regulate. At one time, governments with skilled macroeconomists in their Treasury departments produced growth for their countries (think Germany) while governments with weaker macroeconomists produced endless problems with debt and trade imbalances. (Think Brazil.) Economists disagree about whether these old techniques still work.

 

13. Income Protection During Downturns. This is a more compelling variation on the Keynesian stimulus theme. During extreme downturns, the loss of spending power by the general population guts consumer demand and leads to a downward spiral of increasing business closure and increasing unemployment. Income transfers to the poor to maintain their consumption levels during the downturn slows the economic decline, keeps more firms in business and more workers from being unemployed. The stimulus payments provided by the Trump administration to the American public during the COVID-19 recession is an example of the effective use of government stimulation of market demand. 

 

14. Conserving Scarce Natural Resources for Future Economic Use. Many businesses complain about ecological regulations. However, many of these regulations have a legitimate role to play in protecting future economic growth. If a scarce natural resource is running out, it makes sense to slow down consumption of that resource, while companies search for a viable alternative. The most clear-cut example of this is protecting the world’s fish banks from overfishing. There are limits to the extent to which commercial fish farming can replace the natural stocks of the world’s fish population. If that stock gets destroyed from overharvesting, the world’s fishing industry dies with it. Saving now for prosperity in the future requires legal regulation to prevent pirates and profiteers from undercutting the conservation effort for their own short-term gain.

 

15. Providing Incubator Funding for Industries that Require Long Gestation Periods to Develop. The private sector is very good about providing capital and support for investments that will be profitable in the short or middle term. Investors are reluctant to put money into projects that would require ten or thirty years to show a profit. However, some powerhouse industries had gestation periods that were precisely this long. They became powerhouses after the long waiting period. They survived only because of government funding. A miniature version of this occurred in our own economic history. In the United States, in the nineteenth century, railways were huge money losers while they were being constructed. Free government grants of land allowed the railway companies to become profitable more quickly – and got the rail network built in our country. For bona fide long term successes, consider two international economic juggernauts, Japanese automobiles and Brazilian steel. Japanese automobile manufacture was the best in the world in the 1970’s – and it looked like Japan would take over world automobile production. This only occurred after a long, long industrial adolescence in which the Japanese auto companies lost money hand over fist. From the 1930’s to the 1960’s, the Japanese auto industry was a basket case. It survived only because the Japanese government provided extensive funding and protection. That investment produced Japanese auto companies that were super-companies when they matured in the 1970’s. Brazil had a comparable experience. Brazil makes some of the best and most competitive steel in the world. The industry got its start in the 1930’s and was a money loser for the next thirty years. In the 1970’s, Brazilian steel reached full technological capacity. At this point, they were so competitive that the United States and Europe had to impose steel tariffs and restrict imports in order to prevent super-competitive Brazilian steel from wiping out their own weaker metal industries.

 

Is Big Government Always Wonderful for Business?

No.

There are some cases where government is the problem rather than the solution.

    

Here are some of the potential negatives of government getting involved in the economy:

    

A. Corruption. Doing business gets expensive when corrupt officials charge private companies for doing business. It gets even worse if those officials start write copious regulations just to provide more opportunities for them to get paid off for not enforcing the law. The difficulties of dealing with public administration in settings such as Egypt and India are well known.

   

B. Government Alliances with Organized Crime. In some countries, local politicians ally with organized crime in order to win election. When this happens, government will support the gangsters in anything they want to do to local businesses. This does not occur in the United States. This can be a serious issue in countries where there is serious narcotraffic. It is also an issue where the government officials are running their own businesses and are using the gangs to clear out the local competition.  

   

C. Capital Availability. Government borrowing can reduce the supply of capital available to private capital for investment. The usual indicator of such a problem is high interest rates. High interest rates tell you money is scarce. In the United States today, interest rates are at record lows. This indicates that neither government borrowing nor taxation are particularly depriving American firms of investment funds. However, this can be an issue in countries in the Global South, such as Zimbabwe which has a history of hyperinflation.

 

D. Crony Capitalism. Governments can tilt business to political allies of the regime not because of any particular economic viability but solely as a strategy to reward members of their electoral coalition. This can happen in the United States, but it is more common in Eastern Europe and Latin America.

*  *  *

There are pathological countries where the government is so dysfunctional that government involvement in the economy is a minus rather than a plus.

   

However, most of the governments in the developed world are not dominated by drug cartels; nor do they represent flimsy fronts for government officials to ransack private companies for their own personal gain.

    

In the wealthy industrialized nations, the benefits of government involvement in the economy tend to outweigh the liabilities associated with corruption or cronyism. Individual readers may want to argue about the benefits of governments providing seed money for companies with long-term profit potential – or they may want to argue about making welfare payments to the poor. However, most readers will not want to argue against having a national defense, having schools, having roads or having scientific research.

   

These are a lot of benefits for the economy.

Shrinking and smashing the government can do a lot of economic harm.