The Policy Puzzle

The Obama Administration is on the move—but do the pieces add up?

July 21 2010 by William J. Holstein

The Obama Administration is moving on many fronts in what appears to be a classic attempt to craft an industrial policy. Among many steps, it has greatly expanded funding to smart electricity grids and renewable energy technologies, supported new entrants into the auto industry, proposed an expanded role for private companies in space programs, launched a new broadband Internet policy, announced a plan to build high-speed train service between American cities and proclaimed that it will double exports, in part by easing technology controls. Other parts of the federal government—the Pentagon, National Science Foundation and National Institutes of Health, for example—continue to spend heavily in ways that spill over into civilian technology.

Those steps arguably are different from Obama's huge macroeconomic stimulus efforts and from plans to reform the healthcare and financial sectors because they are aimed at specific technologies and could affect America's competitiveness in the world. Coming at a time when the U.S. needs to create a minimum of 10 million jobs to move the unemployment rate into an acceptable range and when the fundamentals of U.S. competitiveness have eroded, many analysts agree that there is some merit in these efforts.

But even though huge sums of money are being poured into these projects, most observers doubt that the administration has a coherent, integrated policy, at least not yet. "This strategy is just firefighting," says Gary Hufbauer, a senior fellow at the Peterson Institute for International Economics in Washington. "The coordination between these different agencies is pretty limited because each of them has its own constituency. You would think that some sort of czar might coordinate them. But that's not contemplated at this point."

"Industrial policy" has been an explosive term in Washington ever since Jimmy Carter tried it. Not so elsewhere. Every major nation other than the U.S. has adopted strategies to target technologies and industries, and American cities and states have long concentrated on regional technology clusters. But Washington has sought to portray itself as remaining above the fray. "For ideological reasons, there is a disinclination on the Republican side to get involved with industry strategies," says Andrew Reamer, a fellow in the Metropolitan Policy Program at the Brookings Institution in Washington. "And Democrats have had a fear of being called socialists."

Yet the fact remains that U.S. government spending is so huge and its policies so powerful that, like it or not, Uncle Sam has an impact on American industries and does reward some companies and some sectors. "We like to maintain this myth that the government is not involved as a player in the marketplace but we need to own up to that fact that it is," Reamer adds. "Both parties do it but they won't say that's what they're doing."

Some of the current calls to "get government out of the economy" come from politicians and pundits whose states gain enormously, for example, from Washington's long term failure to shift American energy consumption patterns away from dependence on foreign oil. Large defense budgets are necessary to defend oil lanes. The de facto industrial policy followed by several presidents, both Democrats and Republicans, has thus benefited the interests of Big Oil and Big Defense. In the view of Reamer, it's not a question of whether Obama should have an industrial policy but whether he should do it better and focus it on advanced industries that might be more important to America's future.

Clearly, industrial policies supported by previous administrations are yielding results today. Both the Internet and Global Positioning System (GPS) satellite services are direct outcomes of military spending. Spending by the National Institutes of Health is widely credited with giving the U.S. an advantage in medical equipment, biomechanical devices and genetic technology. "You have to give credit to the NIH for spawning that," says Hufbauer. Moreover, years of funding from both the Bush and Obama administrations have allowed an American- owned company, A123 Systems of Watertown, Mass., to emerge as a serious contender in lithium ion batteries. (See "The Next American Economy," May/June 2010.)

It won't be easy for Obama to craft a smart new industrial policy, however, because of all the political and economic land mines. One great risk is simply wasting taxpayer money. Another is crowding out smarter, private- sector money that wants to invest in competing technologies. Michael Sekora, who headed up Project Socrates in the Reagan Administration's Defense Department and has championed national technology strategies ever since, says the Obama camp is at the beginning of a steep learning curve. "Gentlemen, you are where we were back in 1983," says Sekora, now president of Quadrigy, a consulting firm based in Austin, Tex. Even if Obama is able to improve the efficiency of the government's industrial policy, it might have scant impact. "If you have 5 percent efficiency and go to 6 percent, so what?" says Sekora. "What we need is 80 percent efficiency.

The Obama strategy is pursuing at least three questionable policies:

The Department of Energy is providing a $528.7 million loan guarantee to revive a General Motors auto plant in Wilmington, Del., that the company was closing. The money is going to support Fisker Automotive, a company started in August 2007 by Henrik Fisker, a native of Denmark and successful auto designer, who wants to produce a premium$80,000 plug-in hybrid auto in the old GM plant. Vice President Joseph Biden, a former senator from Delaware, engineered the assistance. But it's highly questionable whether a start-up company can perfect a new product and introduce it into a hyper competitive, saturated auto market, where consumers have not displayed a willingness to spend extra for fuel efficiency. Establishing a dealer network alone could take years. "It's a little bit like NASA and the moon shot," says Chief Executive Officer Jeremy Anwyl. "The outcomes of the investment are hard to predict.Do the vehicle and the price point and the volume all add up so that they can be viable in the marketplace?" The fact that Biden was involved makes it less likely that the decision was made on purely economic grounds.

The Federal Communications Commission is attempting to secure regulatory control over the Internet, partly with a goal of insuring that high-speed broadband service reaches remote locations that currently do not enjoy it. The FCC, under Chairman Julius Genachowski, also prefers "net neutrality," a policy that favors allowing Google and other Net users to push video and other large files of data across networks owned by AT&T and Verizon without paying more for those services than regular customers. But the telecom industry argues that these policies are precisely the opposite of what they need to justify spending billions of more dollars to bring America's fixed and wireless networks up to the same standards that prevail in Japan, South Korea, China, Australia and Western Europe. U.S. companies have invested $576 billion in communications equipment and structures in the past five years, according to Entropy Economics. If the FCC prevails in its efforts, they say they will have fewer incentives to improve their networks, which suffer from slow speeds and dropped calls.

• The Department of Transportation has announced plans to spend $13 billion to develop 11 high-speed rail lines throughout the country. One problem is that these links apparently will be built where there is little demand for them. An Orlando- to-Tampa line in Florida will link tourist sites and airports, but there is scarce population living along the proposed route. A proposed Cleveland- to-Cincinnati route through Ohio makes even less sense.

But the biggest problem with the plan is that it will not necessarily stimulate the U.S. technology base. Japanese, Chinese, Korean, Canadian and European competitors are lining up to win deals and may create token partnerships with U.S. companies like General Electric, but Transportation Secretary Roy LaHood is not demanding technology transfer from The Cost Of Obama's Industrial Policy* Department of Energy (clean energy projects) $37.0 billion Tax breaks for businesses that hire unemployed workers 15.0 billion High speed trains 11.0 billion Alternative Energy tax credits 2.3 billion Community College (work retraining, additional funding) 2.0 billion Life/Science (tax credits, grants) 1.0 billion Total Policy Bill: $68.3 billion *Based on samples of Obama initiatives, the costs of which cover multiple years. 60 July/August 2010 CEO Magazine July/August 2010 61 foreign manufacturers or the development of U.S. enabling technologies. "The only thing that we ask of manufacturers is, come to America, find facilities to build this equipment in America and hire American workers," LaHood said on a trip to Japan to inspect that country's bullet trains. But to get the full bang from the $13 billion investment, the U.S. government would have to insist on developing magnetic levitation or other technologies to support the creation of American manufacturers of high-speed trains. That's precisely what China and South Korea have done. If high speed trains are a national priority, then the National Science Foundation, the Department of Energy's weapons labs and other resources should be focused on that goal.

If a serious debate about industrial policy were possible in Washington's hyper-charged environment, what would be the key issues? Here are some suggestions:

  • Should technology priorities be mandated from the top or should the federal government take cues from what's already working in regional technology clusters? As widely acknowledged by both supporters and opponents of industrial policy, the federal government is rarely smart enough to pick winning technologies. One possible solution is that the feds should provide relatively small amounts of money to support Pittsburgh's advanced robotics initiative or San Diego’s genomics cluster, as it is already doing, and allow the winning technologies to bubble up from below rather than charging into large-scale federal programs.
  • How can the federal role be coordinated?According to an April 2008 study supported by Brookings, 14 federal agencies spent $76.7 billion in fiscal 2006 on 250 separate programs aimed at spurring regional economic clusters. But these policies, including small business assistance, workforce training and research and development, "have evolved in a wildly ad hoc, idiosyncratic, and uncoordinated fashion," the report concluded. The addition of big new Obama programs across multiple agencies make this challenge of coordination all the more formidable.
  • Should federal policies be targeted at finished products or be limited to pre-competitive technologies? It's one thing for the government to support lithium ion batteries which could be used by multiple manufacturers in different industries and it's yet another to support the manufacture of a specific finished product, such as cars. Much the same argument can be made in energy—the government should support energy storage devices without tilting its hand toward supporting specific solar or wind technologies.
  • Other issues would include: How can federal programs be concentrated on a relative handful of technologies rather than being so widely disbursed that they have less effectiveness? How can political influence be minimized? And should overall federal R&D spending be tilted away from basic research toward the formation of businesses that create actual products and jobs?

As Hufbauer notes, there are inherent problems in managing any industrial policy. "The reason is that the political force in a democratic country is always to help the losers, not the winners," he explains. "The people who have a big voice in Congress and in the press are the industries that are in very hard times. They tend to get the resources. It's a real effort to shift the resources to industries of the future." Congressional committees with oversight of individual federal agencies, moreover, take a siloed approach to their turf and rarely cooperate to combine programs and shift bureaucratic structures, he adds.

For better or worse, Obama is headed down the industrial policy path. Bookings' Reamer argues that the approach should vary industry by industry. "There is no single right answer," he says. "That's why there is a need for a more comprehensive assessment—what are the industrial areas in which it makes strategic sense for America to be competitive and then what are the barriers to that?" In view of the partisan din in Washington, the big question is whether a rational discussion is even possible.