The Perils of Public Capital


Most discussions of our slow economic growth includes a seemingly compulsory demand for increased public capital spending, so-called infrastructure spending or simply “roads and bridges.”  Both Donald Trump and Hillary Clinton promise increased public capital spending on their websites.   Larry Summers made perhaps the best case for public spending when he claimed that our failure to invest in public capital creates the “worst and most toxic debts.”

I’m not buying it.

Interest rates are low as is investment, by all types of entities.  This implies that the return on investments is low.  Why should government investments be any different?

There are many reasons to believe that government investment provides a low return in the best of times.  Government investment decisions are the outcome of a political process.  One result of the political process is that one senator’s low-return project is funded in order to obtain concurrence for funding another senator’s high-return project. 

The Bridge to Nowhere is an excellent example of the political process forcing low-return investments.  Fortunately, that project was abandoned due to widespread ridicule, but just as worthless projects are funded.  I just Googled “wasteful government projects” and had 538,000 results in 0.45 seconds.  You find things like spending hundreds of thousands of dollars on running shrimp and mountain lions on treadmills, $387,000 for Swedish massages for rabbits, and $18 million to renovate the airport for Sun Valley Ski Resort’s airport, and $800,000 to develop a food-fight video game.  These are hardly our most pressing issues.    

The existence of low-return projects leads to a higher required return on the profitable projects in order for the average project to be profitable.

Then, there is the problem of fads.  Governments tend to make popular investments and popular doesn’t mean profitable.  After the success of the Erie Canal in 1825, other states started building canals.  Eventually eight states defaulted on their debt because of those canals.

More recently, Californians voted in 2004 to provide $3 billion they didn’t have to support stem cell research that private industry was already pursuing. 

Government investment may be appropriate for projects where the return can’t be realized by the investor, or for investments that private firms won’t make because they lack information.  Neither condition applied to the stem cell research.  Stem cell research’s potential was a well-discussed topic in 2004.  The many private firms that are investing in stem cell research will have no problem capturing the returns.

Any project well known enough to carry an election fails to meet the second condition for government investment.  If it’s well known enough to carry an election, private firms know all about it.

Government projects have other costs because of the approval process.  These include the costs of lobbying, selling the project to the public, and sometimes elections.  These costs, and the uncertainty associated with them, increase the required return for profitability.  It may be that costs of approval are so high that a net-positive return is impossible.

Consider harbor expansion.  California’s ports are major import-export facilities.  Huge amounts of goods are imported through these ports, with final destinations throughout the United States.  Large amounts of goods from throughout the United States are exported through these ports.

Because of a lack of investment, California's ports are destined to become increasingly less important.  It’s been consensus for years that these ports need larger and more efficient breakdown and distribution centers, but serious hurdles may prevent any significant improvement.  

More importantly, California’s ports cannot accept the largest tankers or container ships, and there is no will to expand the ports to accept these very large vessels.  Canadian and Mexican Pacific port expansions and a widened Panama Canal will handle traffic that traditionally would go through California’s ports, if the ports could accommodate the ships.

At this point, I believe that the political costs of significant harbor expansion, and in fact any large infrastructure project in California, are so high that profitable investments are impossible.  

There is also the question of government competency.  Can government still build things efficiently?  There are lots of examples that suggest maybe not: 

  • The American Recovery and Reinvestment Act of 2009 was to fund almost a Trillion dollars of “shovel ready” projects.  Some roads were repaved, but nothing of real significance was built.
  • In August 2015, the EPA released three million gallons of toxic waste into the Animus River while trying to clean the site of the Gold King Mine near Silverton Colorado.
  • The eastern span of California’s San Francisco-Oakland Bay Bridge was damaged in the 1989 Loma Prieta earthquake.  Reconstruction was originally expected to cost $250 million and be completed by 2007.  It finally opened in September 2013 at a cost of $6.5 billion, and it’s still plagued with very serious problems.
  • Solyndra received a $535 million federal loan in September 2009.  It filed bankruptcy in August 2011.

There was the I35 Bridge collapse in Minneapolis.  California’s High Speed Train is an ongoing disaster.  Americas publicly run, once very successful, manned space program has been abandoned because of accidents.  We built an airport security system after 9/11 that is ineffective, hugely disruptive, and very expensive.  The list could go on and on.  Even public capital’s most prominent proponent, Larry Summers, has come to see this as a challenge to public capital.

Even if government was efficient and competent at building capital, it’s not clear what to build.  Proponents of more government capital look longingly back to the 1930s.  They talk about bridges, roads and dams.

Good luck building a major dam today.  Environmentally motivated resistance makes it impossible, which is good.  Dams are not an appropriate investment today.  Dam building in the 1930s was critical in bringing electricity to millions of Americans and reducing the frequency of major floods, but those gains have mostly been realized.  The return on future dams is far less. 

Most of the gains from new roads have also been exploited.  Slowing population growth implies that fewer new lane miles will be needed, while drone technology and autonomous vehicles may increase efficiency of existing roads.

Dams and roads are the technology of the 20th Century.  We don’t know what the technology will drive the 21st Century, but it appears that private industry will provide it.  There have been attempts to make wireless internet service a government-supplied good, but markets seem to be providing it just fine.  Is there a coffee shop in America that doesn’t provide free wireless?

Perhaps worse, governments are essentially prohibited, because of political pressures, from some potentially very profitable projects.  Call them taboo projects.  Taboo projects cannot be built no matter how profitable they may be.  These include nuclear facilities, coal or oil based energy projects, and canals.

So.  Governments are self-prohibited from some profitable projects.  The political process requires the funding of worthless projects.  And when they have a good project, governments appear incompetent at actually building it.  I’d ask why more government projects are in the platforms of the two major presidential candidates, but I’m still trying to figure out why the two major parties selected such flawed presidential candidates.  Still, those candidates provide an excellent example of how our political process leads to far-from-optimal decisions.

Bill Watkins is a professor at California Lutheran University and runs the Center for Economic Research and Forecasting, which can be found at