Noah Smith, "The New Progressive Economics: A Little Constructive Criticism" (July 29, 2024)

We need a progressive approach to economics that doesn't rely on aggregate demand deficiency

Matt Yglesias has written a series of very interesting articles about "neoliberalism" and the American progressives who want to change it. In the first article, Yglesias argues that while many progressives seem to think the neoliberal policy revolution was overwhelming and far-reaching, it was actually much more limited (Yglesias's point is correct). His argument in the second article is that the biggest problem with America's old trade policy toward China was that it weakened national security (this point is also correct). I look forward to the next article in this series.

However, while it is somewhat interesting to debate what we should mean by "neoliberalism" and whether America's old policies were "neoliberal," it is more interesting and fruitful to think about what the next paradigm should be. There is a group of progressive intellectuals who pride themselves on having very firm ideas about "what the guiding economic philosophy for America should be." There are also many Democratic politicians among them. Their various ideas are new and well-developed, so we can start by examining and evaluating their ideas.

Here are some of the key players leading this movement:

• Roosevelt Institute. A progressive think tank that focuses exclusively on issues such as macroeconomics, industrial policy, labor, corporate power, racial issues, and climate change.

• Hewlett Foundation. A very large think tank that also includes people working on various progressive ideas and philosophies, including building a successor to "neoliberalism".

• "Employ America". A small think tank that focuses exclusively on macro-fiscal policy.

• The Washington Center for Equitable Growth. A small, evidence-based think tank that focuses on various progressive policy ideas.

There are many others. Most of them are not affiliated with think tanks. However, if you check the work of the four organizations I just mentioned, you can get a reasonable overview of the people who are currently building a new progressive economic paradigm. You should go to the websites of these organizations and read through the papers, press releases, white papers, blog posts, and so on that are posted there.

I should add that the people involved in this are, by and large, my friends. I know many of them, I talk to them fairly often, and I occasionally attend their events. I like them personally, and I think they have their hearts in the right place. However, that said, I have some criticisms of the paradigm they are currently trying to put together. It might be useful to write them down and summarize them.

I've been trying to summarize my criticisms of the various flaws I've found into a single simple form, and I've hit on what I feel is the central flaw of the new progressive paradigm. I think the new paradigm is a program designed for an economy facing a lack of demand—in short, a program for a recession or a situation where macroeconomic sluggishness continues for a long time. However, the current U.S. is in a situation that is far from a lack of demand—it is an economy with various supply-side constraints, where demand stimulus programs and job creation programs easily increase inflation, while failing to build many of the things progressives want to create. The approach of "just provide jobs, jobs, jobs"—which is both a legacy of the New Deal and a legacy of the Great Recession of the early 2010s—is not the ideal strategy in the current macroeconomic environment.

This is a major flaw in progressive thinking, but I think it's a fixable one. The new progressive paradigm movement also contains the seeds of another important idea: the idea of state capacity. This idea seems capable of addressing the problem I just mentioned.

The "Provide Jobs" Paradigm and the Legacy of the New Deal

The American progressive movement first made a major legislative breakthrough during the Great Depression. At this time, progressive policies were realized as part of Franklin D. Roosevelt's New Deal. Progressivism didn't start with Roosevelt. But it was the Great Depression that enabled it to actually achieve various victories. When Roosevelt took office in 1933, the unemployment rate was 25%—a number that is hard to even imagine today.

Getting Americans back to work was the overwhelming supreme command across the nation.

"Why were so many people out of work in 1933?" The full picture of the reasons is complex, and there are reasons that are not fully understood. However, a simple reason you can use when thinking about the Great Depression is something called "aggregate demand."

Demand is the degree to which people want to buy a certain thing at a certain price. Aggregate demand is the degree to which people want to buy everything—the demand for all goods and services combined is called aggregate demand. There are only two things people can do with the money they have—save it or spend it on something, it's one or the other. Aggregate demand is how much people want to spend their money.

If you turn the Great Depression into a simple story, it's a story about "people not wanting to spend much money." People were afraid—they were terrified of bank failures everywhere, the collapse of stock prices, and above all, the fear that their unemployment would last forever or that they would lose their jobs in the future. As a result, Americans tried to do nothing and hoard their money. Consequently, factories didn't run, offices were left unused, and workers were left hanging around without jobs. This is what is called a "lack of aggregate demand."

Standard macroeconomics—most of which was developed in response to the Great Depression—assumes that the government can basically do two things to correct a shortfall in aggregate demand. First, the government can spend money—this is called "fiscal stimulus." Second, it can make borrowing and debt cheaper. This allows businesses and the self-employed to borrow money more easily to invest or expand their operations—this is called "monetary easing."

To tell the story in a simplified way, the U.S. broke the Great Depression by doing both monetary easing and fiscal stimulus. First, Roosevelt took the U.S. off the gold standard. This removed a major constraint on business lending. This helped a great deal. Next, the New Dealers devised infrastructure programs like the Tennessee Valley Authority (TVA), and various job-creation programs—the Works Progress Administration (WPA), the Civilian Conservation Corps (CCC), and so on [n.1]. These programs worked reasonably well as fiscal stimulus, but most of them were shut down in 1937 because Roosevelt started to fear budget deficits and implemented austerity. It wasn't until the U.S. joined World War II in the 1940s that it finally became willing to borrow and spend on a truly massive scale. That huge fiscal stimulus wiped out the remnants of the Great Depression and returned the U.S. to full employment.

Because the 1930s were spent trying to get Americans back to work, the New Dealers were able to reshape American society in a way that progressives liked. New legislationmassively strengthened American labor unions, and the production efforts of World War II made them even stronger. Although there was still plenty of racism, New Deal government programs like the WPA and CCC provided many jobs to Black Americans and strengthened their economic status. That status did not collapse even after the Great Depression ended. The CCC helped protect the environment, and the WPA gave work to artists. This was, by and large, the progressive dream—not only was the economy saved by government action, but progressive policy priorities were further advanced in the process.

The legacy of this great success left a deep mark on the progressive movement in America. The problem during this period was a lack of jobs. The solution was to give people jobs. If you listen to Democratic politicians giving speeches in America, you can see that words like "jobs" and "work" are still extremely prominent. For example, here is a word cloud from Obama's 2011 State of the Union address:

Of course, 2011 was a year when the U.S. was particularly focused on jobs. The U.S. was in the midst of the Great Recession that followed the 2008 financial crisis. The broadest measure of unemployment was around 16%—not quite at the level of the Great Depression, but definitely very bad.

The need to get Americans back to work in the early 2010s gave progressives momentum, just as it did during the Great Depression. The Fed cut interest rates to zero and implemented a massive quantitative easing program, but it wasn't enough. Obama and Congress passed a significant stimulus in 2009—a much larger stimulus than what was done in Europe—but it couldn't be any larger because it was constrained by concerns about budget deficits. Progressives are still resentful of the hesitation at that time. They learned this lesson: "Push for the biggest stimulus possible, as hard as possible."

The ideas of fiscal stimulus and monetary easing are deeply embedded in the new progressive economic program. If you look at the "Employ America" website, you can see that they are very worried that Fed interest rate hikes will hurt the labor market. They also argue that one way to improve productivity is to use monetary and fiscal policy to keep aggregate demand high (see the article Preston Mui contributed to Noahpinion for more on this topic).

These macroeconomic policies are indirect ways to increase labor demand in the U.S. But many progressives also like the idea of the government providing jobs directly. For example, the Roosevelt Institute supports a federal job guarantee in a statement, and in another statement, it supports industrial policy that encourages care work. The Washington Center for Equitable Growth strongly believes that childcare jobs should be encouraged for both direct benefits and job programs [n.2]. Also, these think tanks generally point out that industrial policy is beneficial in terms of providing jobs.

If you read the websites of these think tanks, you can also see that progressives are very interested in using industrial policy and job-creation programs to achieve various progressive goals—especially increasing workers' bargaining power, strengthening the labor movement, reducing corporate power [in labor relations, etc.], stopping climate change, providing education, encouraging and promoting the arts, protecting the environment, and boosting the economic success of racial minorities (especially Black people).

Roughly speaking—regardless of whether progressives put it this way—this is essentially a call for a rerun of the New Deal. The idea is to use job creation to improve the economy while also using job-creation programs as a platform to achieve many of the same collateral objectives that were achieved in the New Deal.

But there is one big problem with this: the U.S. is not in a Great Depression-like situation right now.

The difficulty of taking a "jobs, jobs, jobs" approach in an era of supply constraints

Aggregate demand is very important. But we shouldn't forget about aggregate supply. The economy's actual ability to produce the things we want is just as important as the economy's willingness to buy those things.

During the Great Depression, aggregate supply was not the problem. At that time, aggregate demand was so insufficient that there were dormant factories and offices everywhere, and workers were idle. The U.S. could have produced much more than it actually was producing—the problem at the time was not a lack of resources, but getting the resources that already existed to actually work.

The U.S. in 2009 and 2011 was in a similar situation—much of the U.S. economy was idle due to the aftermath of the 2008 financial crisis. At that time, implementing New Deal-style demand stimulus programs or job-creation programs would have worked very well, and if that had happened, the U.S. would have emerged from the Great Recession much earlier than it did in actual history.

But now, in 2024, the macroeconomic situation looks very, very different from 2009 or 1933. For one thing, almost every American who wants a job has one. The unemployment rate is as low as it was in the 50s and 60s, and even the broadest measure of unemployment is at a record low:

Also, the percentage of working-age people who are employed is at an all-time high:

In this environment, providing jobs—whether done indirectly through macroeconomic policy or directly by the government—will not result in many unemployed people getting jobs. Instead, in some cases, it will reallocate workers from one type of job to another [e.g., by improving pay and other conditions with government support]. If the government had spent money in 2009 to get someone to become a childcare worker, they could have found someone who was unemployed. Now, it would just mean pulling someone who is already working and getting them to work in childcare.

Well, that might be worth doing! For example, I am a big supporter of industrial policy. That's because the U.S. economy needs more computer chips, batteries, and so on. For that, I think it's a good idea to use the government to pull workers from other sectors and get them to work in those jobs.

Also, even if boosting labor demand doesn't result in increased employment (because everyone is already employed), it can still raise wages. As Autor, Dube, & McGrew (2024) note, American workers at the bottom of the income distribution have seen the most sustained wage growth since the mid-2010s, which is something not seen in recent memory. Part of the credit for this goes to a tight labor market and expansionary monetary and fiscal policy:

So, employment provision policies are not useless—they do raise wages. The problem is that when you provide employment in an era of full employment, various significant costs come along with it.

The first cost is inflation. Fiscal deficits likely increase inflation. And expansionary monetary policy almost certainly increases inflation. Between 2009 and 2012, this wasn't a problem—the shortfall in aggregate demand due to the financial crisis was large, which pushed inflation rates down. This more than offset the inflationary effects of fiscal stimulus and quantitative easing.

But as of 2024, this cost is a major issue. It is wonderful to ensure the economy can maintain full employment. However, once full employment is reached and almost every resource in the economy is being used, further increasing aggregate demand will lead to inflation—giving everyone money just bids up the prices of goods for everyone, without actually producing more goods. If it leads to wage-led inflation where wages rise faster than other prices, that wouldn't be so bad. But that is usually not how it happens. In recent years, we saw high inflation in 2021-22. Even then, as can be seen in the graph above, the real wages of most American workers decreased. Because the prices of goods and services rose so rapidly, wages could not keep up. As a result, purchasing power declined, and most Americans gradually became poorer over the course of a year or two.

This was not only bad for most American workers. Voters were extremely resentful. As a result, voters drove progressives out of power and replaced them with conservatives.

Because of this, most progressive economists became very invested in the idea that "post-pandemic inflation is transitory"—they believed that inflation was driven by temporary supply chain disruptions and oil price shocks, not by macroeconomic policy. According to this narrative, interest rate hikes by the Fed were basically useless in controlling inflation. It even goes so far as to say that the rate hikes were irresponsible because they created risks for the real economy.

Personally, I am very skeptical of the macroeconomic narrative that says "monetary policy has no effect on inflation and only affects the real economy."

Second, the cost of stimulating demand while at full employment includes an increase in government debt. Thanks to a combination of massive borrowing and rising interest rates, the interest costs of the U.S. government have surged to levels not seen since the 1990s, when deficit reduction was a topic of debate. The rapid increase in interest payments threatens to crowd out other government spending.

Of course, the government could just borrow money to pay for the ever-increasing interest costs. But that requires believing that "the government's debt can keep ballooning without any negative consequences." I wouldn't bet on that. There is another option. The Fed could lower interest rates to help the federal government cover the mountain of debt. If you want to do this, you have to believe that "lowering interest rates will not cause inflation to return." I am very wary of that idea as well.

However, many progressives do not seem as worried as I am. In progressive circles, "austerity" is still a dirty word. It seems there is a consensus among them that government deficit spending and low interest rates should continue. I think this is a very risky macroeconomic bet.

On the other hand, the third danger of providing employment under supply constraints is inefficiency. Yes, as I said earlier, I do think it would be better for America if we pulled people working as baristas, sociology lecturers, or IT ad engineers to work on semiconductor or electric vehicle production. But at the same time, I am very cautious about this approach. This is because employment provision can easily fall into the trap of "just looking like you're doing something."

For example, despite pouring effort and billions of dollars into it for many years, the California High-Speed Rail has not yet built a single mile of track for trains to run on. Yet, authorities are claiming the high-speed rail project is a success based on the number of jobs it has created:

Pulling 13,000 people away from whatever jobs they were doing before, only to fail to build the high-speed rail, is not a success. It is a failure. When you are at full employment, doing things just to "look like you're doing something" without achieving anything is worse than useless—because you are pulling people away from other economically productive jobs to work on useless tasks.

In 1933, or even in 2009, this wasn't really a problem. If you ended up producing nothing of value while doing public works, the alternative was just to let those workers sit around idly. If you provide them with employment, at least you are circulating money in the economy. In 2024, when idle resources are almost zero, the cost of jobs that just "look like you're doing something" is much higher.

There is an apocryphal story about Milton Friedman, which says that if job creation is the goal of policy, construction workers should be made to work with spoons. In general, it seems like a good rule for progressive economic policymaking would be: "Ensure that the Milton Friedman quote from the story doesn't apply to what you are actually doing in reality."

In addition to the lack of idle resources that existed in 1933, America is a different country now than it was then. Due to a complicated web of procedural requirements and regulations like NEPA, it is much harder to build anything than it was in the Roosevelt era. Perhaps the biggest failure for the new progressive economists is that they oppose reforms to streamline the permitting process so that government programs can actually deliver results.

In general, every problem associated with new progressive economic policy—inflation, interest costs, and the frequent inability to actually build things—comes down to an obsession with "jobs, jobs, jobs." This approach was perfect in an era when resources were idle. But it is completely ill-suited for an era of constraints.

Solution: State Capacity Liberalism

When supply constraints are in place, progressive policy should focus above all on loosening those constraints. Let's call this "supply-side policy," because it focuses on increasing aggregate supply. Usually, supply-side policy is thought to be the domain of conservatives and libertarians. Both argue that deregulation and tax cuts are the way to increase supply [n.3]. But in fact, there are many ways to combine rapid economic growth with an interventionist government.

In fact, progressives are already fond of adopting some of those methods. The goal of antitrust isn't just to limit corporate power—if done correctly, antitrust should promote corporate investment and supply. Changing financing incentives to prioritize capital investment over stock buybacks and dividends is also a supply-side policy oriented toward economic growth. If actually needed and truly built, infrastructure also counts as a case where the government strengthens total supply. The same applies to research spending. If keeping the labor market a seller's market accelerates the spread of automation and technological progress, then it is both a demand-side policy and a supply-side policy.

So, progressives are already implementing many important measures to boost supply. However, I would like to add one more important item to that list: state capacity.

"State capacity" is a somewhat vague term, but in reality, it just means "the government's ability to get things done." In recent years, progressives, recognizing that they have political room to do more than just defend against attacks from conservatives, have begun to pay more attention to state capacity. Favored at Hewlett Foundation-type events is Jennifer Pahlka, founder of "Code for America." Her book Recoding America is a clarion call to strengthen, modernize, and improve American government agencies. Meanwhile, at the Roosevelt Institute, some are proposing using the Defense Production Act to bypass cumbersome permitting processes and advance industrial policy quickly. "Employ America" has done a lot of thinking about increasing crude oil supply using the Strategic Petroleum Reserve and other tools. Overall, the issue of enhancing bureaucratic capacity is a fairly frequent topic at progressive think tanks and is talked about a lot in industrial policy debates.

In an era of supply constraints, the solutions progressives pursue should focus on state capacity rather than simply activating various resources. If the government improves its ability to build infrastructure and housing and implement industrial policy, it will make job creation more than just a way to "look like we're doing something"—and it will also somewhat dampen American resentment toward inflation and government incompetence. State capacity is the only alternative to deregulation as a way to boost supply—basically, the government must either leave things to the private sector or learn how to do things better itself.

Progressives should focus on building a stronger and more capable bureaucracy. To ensure the government isn't ripped off on infrastructure construction projects, progressives should reform various procurement processes. Instead of outsourcing everything to McKinsey consultants who charge exorbitant fees or useless, phony non-profits, progressives should take steps to return to doing planning in-house, as was done in the past. Progressives should strive to make the U.S. government as effective as the various governments of East Asia.

That doesn't mean I think "state capacity will solve all of America's supply problems." I think deregulation is just as important—especially land-use deregulation. However, deregulation can be bipartisan—for example, permitting reform legislation is currently being debated in the House—but progressives are the only ones trying to strengthen the bureaucracy. Enhancing state capacity is an essential element of the task of renewing America. And no one but progressives can do that.

My advice to those trying to create a new progressive policy paradigm is this: in an era of supply constraints, job creation becomes less important than it once was, and state capacity becomes even more important. If progressive economic policy aims to make America and its people as a whole richer and stronger, it cannot simply redistribute various resources. It must deal with the era we are in now, not the era in which progressive economic policy was designed.

Endnotes

[n.1] New Deal programs and laws often had three-letter acronyms, but new agencies often have four-letter acronyms. I'm not entirely sure why.

[n.2] Note that progressives are not united on this point. "Employ America" proposes reducing some healthcare spending (e.g., Medicare reimbursement rates) to address infrastructure and avoid the need for further interest rate hikes.

[n.3] Or rather, this is why Matt Yglesias has criticized so heavily the fact that the Hewlett Foundation calls neoliberalism an "economic growth at any cost" approach. I suspect a Hewlett Foundation intern cut corners, copy-pasted from the web, and got that phrase from some British socialist's op-ed. However, this reflects the fact that we have been accustomed for decades to the (incorrect) idea that "tax cuts and deregulation are synonymous with growth policy." We need to make that idea a thing of the past.

[Noah Smith, "The new progressive economics: some constructive criticism," Noahpinion, July 29, 2024; translation by optical_frog]