Special Report

How to Save the Global Economy: Spend $1 Trillion on the Future

It may seem obvious, but three years and counting into the economic crisis we need to say it: An economy that's not growing fast enough will struggle to pay its bills and create jobs. And that's exactly what's happening. Growth in the developing world, while still well above that of advanced countries in 2011, was hit hard by the extreme volatility in international financial markets, which in turn hurt domestic demand in many emerging-market economies and also had spillover effects in terms of capital flows and trade. Meanwhile, the International Labor Organization estimated a 2011 global unemployment rate of 6.1 percent -- that's 203.3 million people out of work.

Clearly, something must be done -- and here's an idea that could benefit economies large and small, wealthy and poor: a massive global investment in infrastructure, financed with the creativity required in this age of austerity and aimed at jump-starting growth.

Higher growth can only be realized through worldwide investment, yet as long as factories continue to carry spare capacity and homes and office buildings remain vacant, the private sector is unlikely to lead the way. Governments must play an active role, and the solution could take the form of a global infrastructure investment initiative of at least $1 trillion. A worldwide initiative of this type has not been attempted before. There are, however, proposed infrastructure plans for East Asia, Europe, and the Middle East. We should make these plans real, and global, by building consensus among multilateral development institutions, as well as through the G-20 and other important groupings.

Investments in infrastructure projects create jobs and growth now and enhance productivity in the future. For example, in the United States, just $1 billion in new investment in transportation, school buildings, water systems, and energy could create 18,000 jobs, mainly in the construction and manufacturing sectors, which have been particularly hard hit by the recession.

Infrastructure improvement is needed to keep advanced countries competitive. With government budgets tightening, however, such an initiative would need to rely on self-financing infrastructure projects, such as toll bridges and high-speed trains, or use innovative financing mechanisms that encourage private participation.

It's also vital to promote and facilitate infrastructure investments in developing countries where bottlenecks and low productivity choke off growth. In countries like Nigeria and Tanzania, lack of access to water, sanitation, roads, and electricity not only impinges on the daily lives of hundreds of millions, but also renders firms less competitive. How can you compete if you don't have electricity? Many businesses are never started because the required infrastructure services are not available. A little creative financing could go a long way.

It's time for rich and poor countries alike to join hands to literally build the future. Infrastructure investments in developing countries will increase demand for capital goods such as the turbines and excavators that are often produced in the United States and Europe. Infrastructure investments in developing countries will boost exports, manufacturing employment, and growth in high-income countries, while reducing poverty and enhancing growth in the developing world. It's a win-win solution. So what are we waiting for?

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Special Report

How to Save the Global Economy: Whip Up Inflation. Now.

The American and European debt crises have dragged on for years now. Yet none of the heavily indebted countries -- not the United States, not the peripheral eurozone borrowers -- has been able to use a traditional weapon to fight the debt crisis: inflation. This has been the crucial difference between the current crisis and similar ones in the past.

Recovery from a debt crisis is always painfully slow, for reasons both economic and political. Creditors need to rebuild their balance sheets and are unwilling to make potentially risky loans. Debtors need to boost savings to cover their debts and are unwilling to resume spending. At the same time, debt-ridden countries collapse into political conflict over the question of who will pay to get them out of the red: Should it be taxpayers, bankers, public workers, or investors?

A bit of inflation can help on all these fronts. So long as the debts are denominated in national currency and interest rates are kept low by monetary policy, inflation reduces the real debt burden. This is, to be sure, a forced restructuring that puts some of the onus on creditors -- but that is almost always the outcome of more explicit negotiations in any case. When most of the debts are household debts, as they are in the United States and parts of the eurozone, it is not really feasible to renegotiate millions of mortgages and consumer loans; inflation takes care of that for the whole economy. It mitigates some of the political conflict and lessens some of the economic burden.

So far, though, none of the major debtors has been able to make this option work. The most troubled eurozone debtors -- Greece, Ireland, Italy, Portugal, and Spain -- don't make their own monetary policy, so they cannot inflate away a share of their debt. Indeed, two-thirds to three-quarters of the foreign debts of Greece, Portugal, and Spain are owed to eurozone creditors, primarily in Germany and France. Even Ireland, which has strong financial ties to Britain and the United States, owes about half its debts to other eurozone countries. This means that if the European Central Bank decided to pursue inflation, it would be taking money out of the pockets of creditors that are also members of the eurozone -- and powerful members, too. As politically daunting as this might be, however, some such redistribution would almost certainly be part of any durable settlement of the eurozone debt crisis anyway -- and the apparent inability of Europe's leaders to arrive at such a settlement in anything near a timely fashion has only further confirmed that inflation may be the only politically feasible way forward.

For its part, the U.S. Federal Reserve has run a monetary policy appropriately focused on stimulating the economy, keeping interest rates extremely low, and engaging in "quantitative easing," whereby it twice increased purchases of long-term Treasury securities and mortgage-backed securities. This effort has not, however, been enough to raise prices by more than trivial amounts. The Fed policy should theoretically lead to an export-boosting depreciation of the dollar, but every attempt to moderate the dollar's value so far has been met by countervailing efforts on the part of the big surplus countries, especially China. These policies have also been countered by the dollar's continuing strength as a perceived safe haven in the midst of crisis: Domestic and international investors still think of Treasury securities as the most reliable place to park their money in uncertain times, a view that has maintained the dollar's value in spite of the Fed's interventions.

We're not proposing a lot of inflation -- just enough to reduce the debt burden to more manageable levels, which probably means in the 4 to 6 percent range for several years. The Fed could accomplish this by adopting a flexible inflation target, one pegged to the rate of unemployment. Chicago Fed President Charles Evans has proposed something very similar, a policy that would keep the Fed funds rate near zero and supplemented with other quantitative measures as long as unemployment remained above 7 percent or inflation stayed below 3 percent. Making the unemployment target explicit would also serve to constrain inflationary expectations: As the unemployment rate fell, the inflation target would fall with it.

Today our highest priority should be to stimulate investment, growth, and employment. Raising the expected inflation rate will lower real interest rates and spur investment and consumption. It will also make it difficult for the de facto dollar peggers, such as China, to sustain their policies. The resulting real depreciation of the dollar would stimulate production of U.S. exports and domestic goods that compete with imports, boosting American production. The United States would get faster growth, an accelerated process of deleveraging, a quicker recovery, and a firmer foundation upon which to address long-term fiscal problems.

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