The debate about austerity – and the relationship between public deficits, national debts and growth – has missed a crucial point. Unless countries are on the verge of a bond market strike, the amount of debt or the size of the deficit matter less than what activity the taxpayer is actually funding. If spending supports areas that increase growth rates via increases in productivity and innovation – such as education, skills, research and new technologies – then the long-run ratio of debt to economic output could be lower (and the state in better shape) than if its spending is less productive.
Nations that have achieved innovation-led growth have not only created the conditions for innovation – funding education, training and infrastructure – or fixed market failures by funding basic research. They have also actively provided direct support to innovators. This is true even in red-in-tooth-and-claw capitalist America. The IT revolution did not happen with the federal government on the sidelines. The US backed the microchip, as it did the internet and, more recently, nanotechnology and biotechnology. Each was funded through public agencies such as the Defense Advanced Research Projects Agency, the National Science Foundation and National Institutes of Health.
This spending worked because it was “mission oriented”: the state picked an idea and supported it, from putting a man on the moon to tackling climate change. And when government can pursue missions with big enough budgets, it is easier to hire bright minds and to think big – as Darpa did with the internet. It is just as cool to work at Arpa-E, a research agency run by the US Department of Energy, as at Google. It is no surprise that the DoE was recently run by a Nobel Prize-winning physicist.