An expert’s prayer

One of Nevada’s leading economists is warning that the Nevada Legislature is headed toward making the state’s recession worse.

In an upcoming article in the Nevada Review, Elliott Parker wrote, “In a state with few resources, in the high and dry desert of the Great Basin, investment and people are likely to flow out of the state, not in. The budget crisis that the crash created is leading Nevada to do the wrong thing. In an economy in which productive people are the primary resource, Nevada is on the verge of significant cuts to education that could lead to a brain drain and an economic downward spiral. The proposed cuts to higher education are only likely to worsen the crisis, leading to a decline in the attractiveness of an in-state college education for Nevadans, and pushing firms out instead of pulling them in.”

In an interview, Parker spoke of “productive resources”—once defined by economists as factories and equipments, in today’s economy defined as education and skills, something that is particularly true of a state like Nevada without heavy industry. And Nevada lacks those productive resources.

“And so Nevada needs to build a workforce that will attract businesses, or we have no prayer.”

That grim assessment has been a consistent message for Parker in recent years. A contributor to The Reformability of China’s State Sector and other volumes, he believes the expected outcome of the 2011 Nevada legislative session will follow political nostrums instead of economic strategies that have proven themselves in the past. “[M]any Nevadans misunderstand the role government has played, and must play, in the state’s economic development,” his article says.

Parker has been doing substantial missionary work in Nevada, trying to disperse folk wisdom about the economy and government. His articles have appeared in newspapers in Northern and Southern Nevada and he has spoken before groups like the Rotary and the Chamber of Commerce. The Nevada Review piece is lengthier and more substantial than he can do in daily newspapers.

After studying “the relationship between Gross State Product and state and local government production for all 50 states plus the District of Columbia, for all years from 1963 to 2009,” he reported that government spending—contrary to folk wisdom—has a positive effect on state economies that usually shows up in the year following its expenditure. This spending can’t match the impact of private sector spending, but it is there—and it becomes more important in hard times when the private sector becomes more cautious about expenditures. Cutting state spending in a recession when businesses are holding back will help worsen rather than relieve economic troubles, though politicians usually call for cuts. But that can hurt recovery.

“On average, a dollar cut from state and local spending reduces the total economy by $2 in the following year, and the deeper the recession, the more significant the effect,” Parker wrote.

Most economists believe that hard times call for tax cuts and greater government spending. “Free and private markets are efficient under certain conditions, but those conditions—perfect information, perfect competition, and complete markets in which sellers pay all the production costs and buyers receive all the benefits—are often not met. When they aren’t, governments may be able to address some of these market failures.”

But conventional wisdom among many activists and lawmakers is that government spending is an evil—a necessary evil sometimes, but an evil nevertheless. As a result, when economic conditions call for it to keep the economy stable at times when the private sector is holding back, legislators tend to make the problem worse with cuts.

In addition, state governments often have institutional restrictions that force them into policies that backfire.

“They are prohibited from saving adequately and find it difficult to borrow,” Parker wrote. “Following booms they have an incentive to spend too much, while in recessions they are forced to cut spending or raise taxes, albeit with a lag. Since state and local governments together purchase more goods than the federal government, and employ far more people, cutbacks by states during a recession can overwhelm the efforts of the federal government to stave off a deeper recession.”

Parker acknowledges the problems Nevada government faces in trying to support the state’s economy.

“By most measures, Nevada has one of [the] smallest governments in the country. Whether measured by the average tax burden, or the size of the general fund relative to the overall state economy, Nevada’s state government is the smallest in the nation even though the general fund includes spending on items that other states assign to local governments. … According to the Census Bureau, Nevada has the lowest number of state and local [public] employees in the nation as a share of population.”

Weakness in education, particularly in higher education, hurts the state’s ability to supply skilled and knowledgeable employees to companies looking to relocate. Nevada’s reliance on a casino/construction economy, Parker wrote, undercuts incentives students have to graduate—“many young people without a degree could earn above-average wages working in casinos or construction”—which has further exacerbated the state’s inability to provide a skilled workforce for new businesses.

Parker uses the work of Harvard economist Robert Barro to argue that there is a tradeoff in the effects of government spending on economic growth, “that the relationship between economic growth and the size of government is shaped like an inverted U, so that there is potentially an optimal size. Too little government, like too much, leads to slower growth.”

He also recommends restoration of higher education spending to aid economic development, which would require more revenue. “Now that the state has lost its gambling monopoly and the California-driven housing bubble has burst, Nevada must find a way to begin the accumulation of productive resources if it is to return to growth.”

Arguing that the state must “find a way” puts him in the position of recommending both tax cuts and more spending. With taxes already low—Nevada currently has the second-lowest tax burden in the nation, after Alaska, according to the Tax Foundation in Washington, D.C.—the state barely stayed afloat over the past two years as it was. And because it is in such dire straits, state government is in a poor position to provide much expenditure to take up the slack for the private sector. Asked in an interview what the state should do, Parker answered: Borrow.

He acknowledges that there are two obstacles to this—the institutional restraints on incurring debt and the folk wisdom that says government debt is odious. But he says both businesses and families borrow—for homes, cars, expansions—without being perceived as morally flawed. At this point in its history, he believes, debt for Nevada would be an investment.

The damage done to Nevada’s higher education system by repeated cuts, Parker believes, undercuts its ability to grow out of the recession by providing a workforce. The state was already limping along—“Nevada has the lowest proportion of college students in the nation, and with an open admissions policy and a significant number of part-time working students, graduation rates were relatively low. … Graduation rates in public K-12 were among the lowest in the nation, and K-12 had 25 percent fewer employees than the national average, as a share of population.”