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Prosperity in a Crisis

The United States needs to recapitalize banks and enact broader tax cuts.

11:00 PM, Feb 11, 2009 • By RYAN STREETER and WILLIAM INBODEN
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What is most remarkable about the public debate about the stimulus bill is not the partisan bickering or even the astonishing price tag of the bill's congressional pet projects. Rather, it is the lack of an open debate among policymakers about what kinds of activity a "stimulus" bill is supposed to, well, stimulate. We are on the verge of committing more than three-quarters of a trillion dollars to "stimulate" the economy with very little explanation by the nation's political leaders about how the bill will jump-start much of anything. At its current price tag, if the bill were divided equally as cash payments among American households, each family would get approximately $6000. Without a clear idea of what needs "stimulating," one cannot say why a healthy rebate check for each family is any less of a good idea than spending vast sums on projects whose dubious relationship to economic recovery members of Congress would rather have us ignore.

President Obama has provided more partisanship than leadership on the matter. Despite fulminations against special interests, he has actually defended dubious pork projects in the bill as job-creating innovations in an effort to justify them. At the same time, he encouraged unionization in federal contracts, even though his chief economic advisor, Larry Summers, has said that unionization is a "cause of long-term unemployment." Obama's rationale on job creation is as contradictory as his description of tax credits for the middle class as "tax cuts." The latter allow people to keep their own earnings. The former transfer earnings of some people to other people.

If the American public is finding it difficult to muster enthusiasm about the stimulus bill, perhaps that is because ordinary taxpayers are growing suspicious that there is little in the bill that will make them more prosperous in the future than they are now. Similarly, international observers are beginning to wonder whether this bill will do much to help the American economy, the recovery of which is necessary to help the global economy.

Obama has done little to make clear to the American people what he considers to be the fundamentals of a prosperous society, even though he is prepared to spend nearly a trillion dollars in its pursuit. The nature of prosperity is a question for our times. Ronald Reagan, Bill Clinton, and George W. Bush all got elected with relatively clear positions on what the underlying factors of a successful economy and society looked like, and they offered policy proposals based on those factors. Obama did not, and as an anxious public worries about its economic future, the new president should carefully examine the key underpinnings of U.S. prosperity, and the prosperity of other nations, as he formulates his core policies.

We have recently completed new research on global prosperity that yields some encouraging insights for the United States. Our study, the Legatum Prosperity Index, defines prosperity to include both economic growth and quality of life, and examines the foundations of prosperity across 104 nations. While Americans understandably feel more anxious than prosperous right now, the truth is that the U.S. is still one of the most prosperous countries in the world. It ranks fourth in our study and is by far the largest of the top 10 countries. No other country with more than 100 million inhabitants ranks in the top 10. Japan ranks 13th, but the next mega-state in our Index ranks 43rd (a tie between Brazil and Mexico). For such a large country, the United States is incomparable in the levels of wealth and well-being enjoyed by so many of its own citizens.

The Prosperity Index ranks nations by how well they foster the practices, institutions, and habits that create competitive economies, stable and free political institutions, and social capital. In other words, it looks at prosperity holistically, considering how both material wealth and quality of life factors contribute to national well-being. This makes intuitive sense. Most people understand that economic progress cannot be sustained at the personal or national level if some basic non-economic factors, such as social trust or government accountability or physical health, are in decline. It would be difficult to consider a nation (such Russia, for example, which ranks 57th) as truly "prosperous" when short-term increases in per capita GDP are accompanied by factors such as the widespread deterioration of civil liberties and life expectancy. The United States, in contrast, has historically flourished because of its ability to foster progress in both economic and non-economic realms of life.

In addition to its historically robust (if not currently weakened) capital markets and entrepreneurship, the United States has flourished because of characteristics such as its citizens' ability to convert knowledge into innovation and social trust into productive activity. To be sure, the nation cannot prosper without healthy capital markets, but if we do not continue to support and invest in the basic drivers of commerce and productive citizens, those capital markets don't mean much. If in the current financial maelstrom Americans abandon the pillars of their success, the future might not be so promising. Unfortunately the stimulus package does not seem designed to reinforce these pillars.

The idea that prosperity is more than money is not merely our theory. It is borne out of the data themselves. The Prosperity Index finds that economic strength and a good quality of life are mutually reinforcing: in general, countries have either both, or neither. When scored along a continuum, only 18 percent of countries are above the worldwide median in one category but not the other. The other 82 percent are either above the median in both categories, or below it in both. This means that nations that protect political and civil rights have strong community life and foster a culture of opportunity are also likely to foster innovation, attract investment, and invest in education. Alternatively, those that do not cultivate economic growth also generally do not enjoy a high quality of life.

The United States outscores the other top 10 countries on personal income by 40 percent, and has few peers in vital areas such as capital investment per worker, citizen engagement, and research and development. The U.S. leads the world, with Japan, in its ability to commercialize innovation through patents, scoring an impressive 38 percent higher than the average of the top ten countries. Only New Zealand has higher scores than the U.S. in its ability to foster opportunity and community through voluntarism and charitable giving. When considered together, these factors propel the U.S. to high scores in both our economic and quality of life rankings.

However, the U.S. has some weaknesses that, if exacerbated during the response to the current financial crisis, might undermine continued American prosperity. When analyzed by 16 commonly accepted measures of economic competitiveness, the U.S. ranks 7th in the world. However, it ranks below average on promoting international trade and investment, suggesting that policies aimed at protectionism and retreat from the global economy (as in earlier versions of the stimulus package) would only make things worse, not better. In addition the U.S. scores second to last among the top ten countries on governance measures such as regulatory quality and the effectiveness of government policy, which means that simplistic attempts by politicians to crudely regulate a fix to our current crisis will only threaten America's standing among the world's most prosperous countries. America also scores only slightly above the global average on the percentage of people who believe it is possible to "get ahead through hard work"--a worrisome finding given the historic role the U.S. has played as the land of opportunity.

What do these findings mean for President Obama and the Democrat-controlled Congress? They suggest that a successful response to the current crisis needs to capitalize on America's underlying strengths and avoid magnifying its weaknesses. Increased trade restrictions, or unmeasured regulatory policies on entities that already operate under substantial layers of regulation, will probably make America less prosperous, not more. Investments in key infrastructure aimed at facilitating American commerce are important, although spending government resources on industries that the government has deemed important will likely yield little and skew the market along the way.

Perhaps even more important than job-creation efforts is the threat of diminished trust among Americans--in each other, in those responsible for large public and private institutions, and in their own ability to get ahead by investing their talent and resources. While the U.S. has strong scores on social capital measures such as reliance on others, religious engagement, and community involvement, it turns in mediocre scores on social trust overall. In other words, Americans trust those with whom they interact on a daily basis, but their level of trust for people they do not personally know is low.

This lack of trust is has bled into the marketplace. The current stimulus "solution" will do little to restore trust and reinvigorate the economy. The American way of life contains the core components of prosperity, and Americans will flourish if given the opportunity. For this reason, the best stimulus would be to recapitalize banks so that businesses can get back to business, and to enact broader tax cuts, which President Obama's chairman of the Council of Economic Advisers, Christina Romer, has said would outperform government spending by a ratio of two to three. Given access to capital and a deeper pool of their own assets, Americans will by their nature resume the path to prosperity. It would be a shame if a euphemistic "stimulus" slowed them down.

William Inboden is Senior Vice President of Legatum Institute, and Ryan Streeter is a Senior Fellow with Legatum Institute. The 2008 Prosperity Index is published in full at www.prosperity.com.