Back to Basics: The Financial Crisis Requires a Paradigm Shift

It’s tempting to look at the current financial meltdown – and the proposed bailout – with a Bolshevik mentality. Let’s line up the investment bankers, hedge fund managers up against a wall and spray them with an odorous substance.
If it were only so easy. Rescuing Wall Street may not solve many problems but letting the investor class implode won’t help many people either.

What we really need is not a revolution against capitalism, but a paradigm shift within it. We need to move away from fads and quick bucks, and towards productive investment. If we don’t make that shift, the current bubble will simply recreate itself again, perhaps in ill-thought out speculative ventures painted “green” but motivated by the same shortsighted greed.

Instead let’s stop the whole bubble cycle and get back to basics. That means shifting our investments towards productive activities such as manufacturing and basic infrastructure– and training the critical skilled workers that a ‘real’ economy needs. It means shifting investment priorities by providing incentives for entrepreneurs whose main interest is to build companies, not flip them.

Over the past decade we have seen a repeated pattern. Americans innovate, start new companies and bring a moribund economy back to life. This takes place primarily in the suburbs and the expanding growth regions. Then the markets heat up and there’s rapid asset inflation. This happened in the late 1990s with dotcom stocks, and more recently in real estate creating a huge wealth effect, particularly in elite cities. Both instances ended with a dispiriting crash.

Breaking this pattern is an important issue for all of us, but most importantly for our children. America’s robust population growth necessitates rapid long term, and widespread, economic growth. That means moving away from a financially oriented economy to a production oriented one.

Most Americans cannot sustain themselves trading paper. We also need robust growth in a host of productive industries – energy, fiber, food, manufacturing goods and high-end business services – that can provide decent employment for someone other than Wall Street bankers, well-placed developers and dotcom entrepreneurs.

For these broader based industries to grow, we need to improve basic infrastructure for moving goods, providing energy and educating skilled workers. American firms in fields from farm equipment and aerospace to textiles still compete with China and India. In an era of high-energy costs, we can drive more of our manufacturing closer to home, if we can provide them with better technological, transportation and human resources.

Tragically we have ignored both infrastructure and industry. This can be seen from the largest cities to the smallest towns. “One looks back at that map ‘Landscape by Moses,’” writes the noted sociologist Nathan Glazer in looking at the legacy of New York City’s “master builder” Robert Moses, “and if one asked what has been added in the fifty years since Moses lost power, one has to say astonishingly: almost nothing.”

Indeed, despite the staggering private wealth generated by the stock market and real estate in New York, the city’s public infrastructure has been largely neglected. Its industries are dying and new ones have trouble expanding. There are billions for new stadiums and other elements of Mayor Bloomberg’s “luxury city” but not much for the diverse entrepreneurial firms particularly in the outer boroughs.

The city controller’s office has estimated that infrastructure spending levels in the late 1990s and early 2000s were barely half of what was required to maintain the city’s streets, main roads, and railways in “a systematic state of good repair.” Subways and rail lines in America’s richest city are frequently shut down after heavy rains due to flooding caused by poor drainage. Brownouts and blackouts, in part caused by underinvestment in energy infrastructure, have become common during summer high-use periods.

Similarly, California’s once envied water-delivery systems, roadways, airports, and education facilities are in serious disrepair. In the 1960s, infrastructure spending accounted for 20 percent of all state outlays, but as the technocratic perspective took hold in Sacramento, infrastructure spending fell to just three percent of all expenditures, despite the rapid growth of the state’s population.

Many communities have decided that instead of attending to basic needs, to invest in spectacular new convention centers, sport stadiums, arts and entertainment facilities, hotels, as well as luxury condos. Some have poured money into projects that they think will attract a few big corporate executives with luxury boxes or opera tickets. Others have poured their resources into ways to lure “creative” professionals with edgy museums, jazz clubs and cultural centers.

These approaches are built around the deluded notion that Americans can thrive simply by being more clever and creative – even more self-fulfilled – than our competitors. China, India, or other low-wage nations won’t be content to concede higher-end economy activity to us. Software design, special efforts, high end legal services, architecture, fashion and even hedge funds all migrate to places where wealth is being created.

In the coming years, for example, Mumbai, Dubai and Shanghai will employ their enormous wealth – gained in such unfashionable pursuits as writing computer code, drilling oil or making steel – to break into the lucrative businesses formerly dominated by Wall Street, Hollywood or Silicon Valley. You cannot give up productive, wealth-generating enterprises without consequences. Over time this also will hit all but the most elite workers.

In contrast a policy that focuses both on old fashioned and new, green infrastructure would spur positive impacts on employment across a broad spectrum of activities. We could use new bridges, roads, trains, energy transmission facilities to help resuscitate the Great Plains as well as the beleaguered Great Lakes so they sustainably exploit the natural resources and logistical advantages that made them productive hotbeds in the first place. We can turn our cities, both old and new, into ideal spots for the nurturing of hosts of growing industries by providing adequate skills training, new transportation systems and updated power grids.

Governments at every level can and should play a critical role in this great project, both in financing physical infrastructure and providing critical skills training. But given the financial realities today, we also need to take advantage of private capital available both here and abroad for such investments.

So rather than simply rescue Wall Street, or let it hang out to die, let’s figure out how to redirect it. We need to shift incentives away from mindless speculation and the creation of ever more obscure financial instruments. Instead let’s find ways of encouraging investors to make their profits in ways that spur production and widespread wealth creation.

Joel Kotkin is the executive editor of Newgeography.com.