Is Government the Key to Prosperity?

Jacob Hacker, Stanley B. Resor Professor of Political Science and director of the Institute for Social and Policy Studies at Yale, co-authored American Amnesia: How the War on Government Led Us to Forget What Made America Prosper with Paul Pierson, John Gross Professor of Political Science at the University of California at Berkeley.

Q: What is the mixed economy and how did it develop?

The mixed economy is the effective combination of government authority and private markets. Both capitalism and government power predated the mixed economy, but in the late 19th century, we first saw them joined in a way that led to broad prosperity. It emerged when the U.S. and other rich countries began using government to invest in public goods and in activities that have high positive externalities, such as education, and to regulate the economy in ways that limited negative externalities.

The mixed economy made us not just richer in terms of material wellbeing, but also vastly richer in terms of health and education. A graph of life expectancy would be essentially a flat line until the late 19th century. Then it shoots upward. In rich democracies, we saw more transformation of stature, health, and life expectancy over the course of the 20th century than we saw in all of prior human existence. That was because of the mixed economy.

In the early 20th century, for example, cities were places of destitution and death, where one in three children died before their first birthday. Effective government intervention transformed them into thriving metropolises with high levels of economic productivity and health. The United States led the world in massively increasing educational levels with the creation of universal high school and then the encouragement of college degrees. Additionally, there was the investment in science and research that began in the 1930s and really blossomed during and after World War II. These investments made the United States the most technologically advanced and sophisticated economy the world had ever seen.

The combination of the right political conditions and the development of science and knowledge, in part because of the increased public investment, allowed private actors and public leaders to capitalize on the opportunities created by an increasingly prosperous and interconnected society. The capacity to bring government authority and private markets together is the dividing line between mass prosperity and widespread poverty, illiteracy, and poor health. Alas, there are many countries today that still lack this social innovation.

We use an analogy from the Yale political economist Charles Lindblom, who described the mixed economy as a hand. While the nimble fingers of the market are very capable, to grasp the possibilities of modern society they must work together with the strong thumb of government. The thumb is crucial because there are market failures that government and only government can effectively address.

Q: A great deal of public discourse today lauds the private sector and criticizes government. What is the role of each and why is one seen so positively while the other is often demonized?

I think part of the reason why it’s often hard to recognize the powerful and vital role of government is that it’s just a very complex terrain. Markets are amazing systems for coordinating decentralized activities around the central signal of prices. The benefits are clear and easy to understand. On the other hand, the market failures that make public authority an essential part of the mixed economy are complex, multifaceted, and not as easily summed up.

Another problem is that too many people think of government as only about redistribution—the progressive tax system or government benefits like Social Security. Those are important policies, but much of the government’s role in the mixed economy is to create the preconditions of a successful capitalist society. We vastly understate the importance of government when we fail to think about those preconditions—from private property, to the regulation of finance and commerce, to the way labor markets operate, and on and on.

Q: Which market failures require government involvement?

There are three fundamental market failures that the mixed economy responds to. The first is negative externalities. Private market actors don’t have incentives to take into account the external effects of their behaviors. Pollution is the classic negative externality. Externalities are perhaps the most fundamental reason why public authority is necessary to create prosperity.

The second set of market failures are newer and less well understood. Early capitalist societies didn’t have to deal with the complexities of contemporary finance, insurance, and technology. Indeed, we’re learning from behavioral economics how much most human beings struggle with complex economic choices. We consistently fall prey to very straightforward behavioral biases that lead us to make suboptimal decisions. There’s a role for government where information asymmetries between buyers and sellers are so prevalent it’s quite possible for people to be systematically confused about the best product or course of action.

The third kind of market failure is not one that economists talk much about, but as political scientists, Paul Pierson and I are very aware of it—namely, that powerful economic elites can skew markets and government policies if there isn’t effective countervailing power. That is, market actors don’t honor the scholarly boundary between the economy and politics. As they gain market power, they try to use their power to shape public policy. That was the problem that prompted the initial reforms that created the mixed economy in the early 20th century. Presidents of both parties pressed for active federal policies to control the power of concentrated wealth and reduce the influence of economic actors who clearly dominated the political system.

It’s quite relevant to look back to the formative period of the mixed economy to think about the present challenges because over the last generation we’ve seen a return of some of these same pathologies, as market actors have, more and more, translated their economic resources into political power. At the same time, we’ve seen a big rise in inequality.

We have to be able to manage the tension between private-sector activities that are conducive to prosperity and those, like lobbying, that might be at odds with prosperity. We can debate what form government policy should take to best promote growth, but the historical evidence demonstrates you need to have a strong, effective, and responsive government if you're going to have a rich society. There are no examples of countries that have had small governments and have grown dramatically richer, or at least that have done so without sitting on huge pools of oil—and resource extraction isn’t a good way to build a vibrant, diversified economy.

Q: For many people, the problem is that government is too big and too involved. How do you respond to that?

Many on the right recognize at least some of the pathologies I described; they talk about crony capitalism. Unfortunately, their remedy is usually that we need to limit government so it can’t be taken over by private interests. But that’s a cure worse than the disease. The key issues we face arise not from government being too large and too active, but from government not being effective and active in the core areas where markets routinely fail.

If you look at the biggest economic event of the last generation, the financial crisis, people who look at the evidence objectively recognize that it was really about too little and too ineffective government, not too much. The big problem was the failure to update and enforce regulations to tame the unfettered heads-I-win, tails-you-lose approach on Wall Street.

Or look at the risk that most threatens our planet today, climate change. Virtually every card-carrying economist who understands the science thinks that you need to impose a price on carbon because the market won’t reach the optimal level of carbon emissions if people are not forced to bear the externality cost of the use of fossil fuels. This is another major example where too little government has meant that the fossil fuel industry, and those who use fossil fuels intensively, are getting a huge subsidy, while everyone else pays the price.

There’s an impression that government is forever getting bigger. While there are a number of ways to measure the size of government, by one significant measure, public-sector federal employees as a share of the civilian workforce, the size of government has declined dramatically. Core public functions like R&D and infrastructure are being starved of necessary funds. Public spending has remained relatively stable as a share of the economy, despite our failure to use government more aggressively to control health spending, which is the big driver of federal expenditures. Much of government is being squeezed, and the reason is in part the growth in anti-government sentiment. But this decrease in government’s capacity didn't come with a corresponding decrease in the demands on government.

Ultimately, we’re not arguing for more government, but for more effective government. Using the power of government to regulate and restrain healthcare prices would lead to significantly slower growth in public spending. I think we should be moving towards allowing every young American to go to college without going deeply in debt. Arguably we could do that without a significant increase in the amount we're investing in higher education, if we used those funds effectively.

Q: Can cost-benefit assessments play a role in assessing the value of regulatory choices?

There’s been a big push for greater cost-benefit analysis in federal regulatory policy. I think that’s a good thing. If you look at some of the major regulatory policies of the last 40 years, the net benefits are really large. According to recent analyses, the Clean Air Act has benefits that exceed costs by a ratio of 30 to 1. Some analyses show that improved air quality since the original Clean Air Act in the early 1970s has increased life expectancy by as much as two years in the United States. In some particularly polluted cities, it’s closer to four to five years. We talk about the Koch Brothers in the book—one of those places where life expectancy has increased dramatically is Wichita, Kansas, home of Koch Industries.

A more recent example is the lead poisoning crisis in Flint, Michigan. People talk about it as another example of how screwed up government is, when in fact it was the result of an anti-government mentality, namely Michigan’s Republican governor’s desire to save money by switching from the safe water source Flint was using. But the deeper story of Flint, the real tragedy, is that we have actually made tremendous progress in reducing lead exposure. This is an area where government once played an enormously positive role, but anti-government sentiment is stalling those gains.

Not that long ago, many cities had lead levels that are far higher than those in Flint, Michigan. We should see the problem in Flint not as an example, of how government always screws up, but as a troubling departure from the enormous progress that we’ve made in cleaning up our cities. We could look at the situation and say that we’ve been massively underfunding lead abatement and cleanup measures, and that spending tiny amounts of money, relative to our total budget, could push us toward an even healthier future. It would also save us money overall because we will have more people without long-term health needs and probably also lower crime rates because kids won’t be as likely to have their cognition and impulse control adversely affected by lead.

But you can’t just offer vague slogans about making people’s lives better; you have to use government to make a positive difference and point out that it was government action that led to that positive outcome.

Q: How did we get to this point?

Perhaps nothing captures it better than the inaugural speeches of Dwight Eisenhower, in 1953, and Bill Clinton in 1993. Both presidents were effectively governing as representatives of the out party, so they were both trying to steer the country toward a different track—in Eisenhower’s case, towards a more conservative philosophy, and in Clinton’s case, towards a more liberal one. Yet Eisenhower talked much more positively and extensively about government. Even though the debt was obviously very high because of the war, he hardly talked about it. He didn’t talk much about taxes and didn’t talk about them negatively. He had a stirring recognition of the important role of unions, comparing the rights of workers to the rights of free people in Eastern Europe, which was resonant in the Cold War context.

Eisenhower then governed in a way that was really in keeping with the mixed-economy model of the time. He expanded Social Security. He created the interstate highway system. He supported massive increases in federal aid for education. And he did it working with a very supportive business community that was also very moderate.

In 1993, Bill Clinton stood up in a completely different rhetorical context and talked about government less often and, when he talked about it, was more negative. He talked about taxes, the deficit, and the debt in negative ways. In office, almost all of the public investments he wanted to pursue were killed by anti-government Republicans, who generally had strong business support. Between Eisenhower and Clinton, we saw a dramatic shift in the political landscape in ways that made it much, much harder to make a positive case for government.

Q: What happened?

Real-world events including stagflation in the 1970s, and the failures of some of the monetary policies that were taken in that period, played a role. Beyond that, we point to three enabling changes: shifts in business, the Republican party, and the ideology of economic and political elites.

It’s true, of course, that Americans are much less trusting of government than they were in the past. The decline began in the late 1960s, accelerated in the ’70s, and has reached a point, now, where only a small minority of Americans say they trust the government to do what’s right. They have this sense of government as inept, corrupt, and unable to perform even basic functions. But Americans also believe government has an important role to play, and they actually think the government does a pretty good job in specific areas, from environmental protection to retirement security.

So while the shift in public perceptions is important, I think the shift in the broader ideology around government has been led by business and political elites. We went from an industrial economy to a financial economy. As business elites became more tied to finance, they became less tied to particular places, less tied to production, more focused on short-term stock market movements, and less supportive of the mixed economic model that had defined the 20th century.

Business associations moved dramatically to the right. The Business Roundtable moved from supporting the mixed economy along with the larger interests of the business community to being much more focused on CEOs’ bottom lines. The Chamber of Commerce became closely tied to the Republican Party and effectively a lobbyist for hire for narrow business interests. And Charles and David Koch, committed libertarians, created their own network that rivals now the Chamber of Commerce in size. They created a set of advocacy organizations and lobbyists who push for a small-government philosophy. Like the Chamber of Commerce, even as they extol free markets they are quite willing to support the narrow interests of specific sectors of the economy, most notably the fossil-fuel industry.

Q: And the political part?

The story of the Republican Party’s dramatic move to the right has been told by many people. Eisenhower and even Richard Nixon were part of a broad moderate swath of the GOP in the 1950s and 1960s. Moderate Republicans were more conservative than Democrats, but they understood government had an essential role to play in providing the basic fuel of the mixed economy. As late as the early 1990s, for example, George H. W. Bush supported extension of the Clean Air Act, the Americans with Disabilities Act, and a budget deal that looked much like the one that Bill Clinton supported in 1993.

The revolt led by conservative Republican Newt Gingrich and others has changed all that, and it’s not over yet. We have a political system that requires and historically has facilitated compromise. It still requires compromise, but it’s not facilitating it anymore. That’s partly because of the GOP’s shift to the right and partly because the political system has gotten even more congested with interest groups and littered with hurdles to majoritarian policy making, most notably the Senate filibuster.

The negative view of the government among the business and political elites became a self-reinforcing dynamic. Everyone attacks government. No one is willing to say something positive. Politicians run against Washington to get to Washington, then undermine the efficacy of government through attacks on government’s capacity to do its basic job. Which in turn reinforces the negative sentiments both among the elites and the public.

We’re facing real challenges that require that we use government effectively, but we lack the basic agreement among the elite on the need for government and the public trust in government that’s necessary to actually tackle those problems.

Q: Who can make the case for government?

Historically the Democratic Party has been the party of government. There's no question that the Democratic Party has been a less vigorous voice for the mixed economy than it once was. But there are some signs of a renewed recognition of the fundamental need to restore some basic faith in government.

Over the long term, a balanced, centrist approach, built on compromise, is best for the mixed economy and overall prosperity. One of the early heroes of the mixed economy was Vannevar Bush, an MIT scientist who headed a lot of the Defense Department's Advanced Research Programs during the 1930s and 1940s. He spearheaded the Manhattan Project and was the key instigator of the National Science Foundation and the National Institute of Health after World War II. He strongly argued that scientists and not government bureaucrats should be deciding the course of research.

Vannevar Bush was also a conservative Republican who felt the public sector had to spend enormous sums of money to get science going because the private sector wouldn't do it. For a contemporary counterpart, I think, you'd want to look to private-sector leaders, partly because we've so hollowed out the capacity of government, and partly because our public officials have become so much more partisan. Today, it would be so valuable if someone like Bill Gates were willing to stand up and forthrightly talk about the need for effective government. I think there are ways in which he has benefited from distortions of the market, but he is respected as a business leader and has said, again and again, that he doesn't think that the market alone can deal with the challenges we face.

What I find dismaying is that the mobilization that we've seen from corporations and business leaders has mostly been around seeking the narrowest possible benefits.

Q: What would change the dynamic?

We need a well-functioning government. Obviously someone will have to come up with a more evocative way of saying that. But to me, the first step toward reversing the spiral of silence is to stop being silent. With this book, Paul and I are trying to speak up as best as we know how.

We need to see government in a much clearer and more forgiving light. There are a lot of examples of government screwing things up, but there are also enormous examples of government making our lives better.

That said, there’s no switch that you can flip. It’s going to take time to change the discourse and the reigning ideas about the role of government. But I think we’re starting to see the stirrings of such a shift. There’s some real pushback at the elite level against the idea that just cutting taxes or deregulating is going to revitalize our economy. More progressive segments of the business community are becoming alarmed about the failure of our country to adopt a problem-solving orientation, at the national level, toward the major issues we face.

The opponents of the mixed economy—from the Koch Brothers to Newt Gingrich to Mitch McConnell—have used every tool in their arsenal. They’ve invested in ideas. They’ve built organizations. They’ve used congressional procedure. They’ve played fast and loose with the facts.

For those of us who favor the mixed economy, we shouldn’t emulate all aspects of that, but we have to understand that we need elite as well as broad public support. I think the pressure both on the right and the left—from Trump and Sanders supporters—could be a powerful spur to start to address the sources of popular discontent. I think there’s an opening for a longer-term campaign to change hearts and minds on the mixed economy, and that’s what it’s going to take.

Q: What would the change look like?

Leaders talking about government in positive ways, leaders employing government in positive ways, and the public reelecting leaders who do those things.

If we can implement a sensible set of policies that respond to issues like global warming, rising inequality, and the strains that families are facing with education, hopefully that would increase the degree to which people feel government can actually do something positive in their lives. That’s even more likely if the solutions are designed in a way that is visible to people, not hidden in the tax code, or implemented by third-party provision.

I’m very positive about the future. Some people argue that because of automation and globalization, we’re consigned to anemic job growth, wage stagnation, and rising inequality. I don’t believe that. But it won’t do to ignore the real costs of the long campaign against government and the current dysfunction of our political system.

The issues facing us are not insuperable. We know that if we’re concerned about climate change, the way to deal with it is by putting a price on carbon. The problem is the politics. If we’re worried about the increased inequality of opportunity that comes with the higher and higher costs of an elite education, we know we need to do more to make sure quality education is affordable for low- and middle-income Americans. If we’re concerned about stagnating wages, we could increase the strength of labor unions or expand the income tax credit. The problem is the politics.

We have to figure out how to make our political system more responsive and more capable of acting when there are majorities of Americans that demand action. We outline an ambitious agenda for reform in the book. None of the ideas involves constitutional changes. They require a lot of public pressure and straightforward changes that would increase voter turnout, decrease the role of money in politics, and make our congressional process more streamlined. The economic and political elites of the mid-20th century didn’t support the mixed economy simply because they were more ideologically sympathetic or saw greater advantage in it. They were pushed to support it by powerful popular forces, including organized labor.

Q: Will the mixed economy model that worked last century work again?

The mixed economy isn’t a fixed blueprint; it’s an adaptable technology. We need vibrant private markets, and effective public authority, but we can’t have the same economic model that we had in the mid-20th century. The hallmarks of the contemporary economy are the increasing role of knowledge, technology, innovation, and the places that are conducive to it.

Economic activity is increasingly concentrated in innovative urban hubs that are bringing together academia, private investment, and good public policy. The 23 highest-output cities comprise roughly half of the U.S. economy now. That’s a pretty remarkable fact. These are cities like the San Francisco Bay Area, New York, Boston, Seattle, and Austin. They’re cities where lots of research and development, patenting, and advanced manufacturing are taking place.

The Achilles Heel of this new economy has been rising inequality. Those who don’t have the geographic proximity or the educational levels necessary to be part of these innovation hubs are feeling increasingly left behind. If we don’t figure out how to harness the vast opportunities of this postindustrial world, for the betterment of large portions of American society, we’re going to face really significant political and social backlash.

What’s in the interests of our nation, in terms of our long-term economic performance, is also what’s necessary to avoid the backlash. But to avoid it, we have to get over this really childish view of government and the market as being always and everywhere opposed to each other. We need to think more constructively about how to use government effectively, and how to change our political system to make that possible.

Interview conducted and edited by Ted O’Callahan