Strengthening Communities in the Internet Era: Theory and Practice

Posted: March 5, 2012 | Author: | Filed under: Communications, Macroeconomics, Sociology | Tags: , , , , , , , , , , , , , , , , , , , , , , , , | Leave a comment

The problems facing American communities are as varied as the definition of community.  While in the midst of recovery from the greatest economic downturn since the Great Depression, local communities are struggling to promote a sense of community and increase civic engagement.  The need for community renewal arises from a desire to improve quality of life and to build community-based platforms to address a variety of social issues including urban growth, rural flight, economic growth, sustainability, inequality, and public health to name but a few.  In contrast, Fernback (2007) notes that some “social observers have documented the perceived decay of communal life in post-industrial nations” (p. 50). Indeed, dystopian views of the both the postindustrial revolution and globalization often cite the perceived erosion of community and loss of civic engagement as a serious concern for western society (Putnam, 2000; Saguaro Seminar on Civic Engagement, 2001).  In addition, Smith (2001) argues that impact of globalization “is a drive towards encouraging people to view themselves as consumers of services, rather than participants, and an associated move towards individualization from more collective concerns” (p. 1). However, postindustrial life also abounds with new capabilities including a global transportation network, global telecommunications infrastructure, the World Wide Web, and electronic social networks that offer new opportunities for community development.  How then, can communities take advantage of the capabilities inherent in a networked, globalized, world to increase civic engagement and address persistent social challenges?  The basis for answering that question lies in Putnam’s (2000) work on social capital, what Putnam considers the “features of social organization such as networks, norms, and social trust that facilitate coordination and cooperation for mutual benefit” (Claridge, 2004, p. 1).  The formation of social capital relies on two distinct strategies, that of bridging and bonding; where bridging uses outward looking networks that connect different kinds of people, and bonding use inward-facing networks that connect similar types of people (Knudsen, Florida, & Rousseau, 2005).  Traditional American civic engagement in organizations like the Kiwanis Club, the Knights of Columbus, or even local bowling leagues, operated largely on bonding strategies, as like-minded individuals engaged in community activities.  Whereas in a networked world, bridging strategies are far easier to implement, given low barriers to entry and that communities can be disconnected from the traditional boundary of space or place.  Indeed, the many-to-many communication paradigm inherent on the World Wide Web, offers new opportunities for communities to prosper by bridging place-based communities to the wider world to increase economic prosperity and improve quality of life.  Strengthening communities in the Internet era is a matter of using technology to harness the multitude of weak ties within a diverse community towards collective actions that benefit everyone, in essence, reimagining community by discarding old boundaries and creating new ones based on community engagement.

Background

In order to describe how communities can take advantage of the capabilities inherent in a networked and globalized world to increase civic engagement and improve community outcomes, this paper will delve further into the theoretical underpinnings of the thesis.  In addition, the opportunities and benefits of a connected community will be explored.  Next, this paper will highlight what a connected community needs in order to be viable.  Finally, the role of local government is explored in forming the required policies, practices, and infrastructure to build civic engagement online.

Theory

Communities and Cyberspace

A review of the literature on sociological theory of community might reveal that a functional definition of community does not exist given the wide variety of contentious theories of community.  Indeed, Cohen (1985) recognized the difficulty, noting that community “has proved to be highly resistant to satisfactory definition in anthropology and sociology” (p. 11).  In turn, Cohen (1985) noted that the symbolic nature of community is “essentially enshrined in the concept of boundary” (p. 14); for a boundary implies that participants have something in common and at the same time that the commonalities are also a basis for how members are understood to be different from others.  It is relatively easy to apply the notion of boundary to traditional geographical interpretations of community, as geography played a central role in the formation of societal differences in language, culture, and sense of affiliation.  In Cohen’s (1985) view, it is no surprise that community has eluded definition for so long, given that people construct the social meaning of community participation based on fluid notions of boundary and affiliation.

The advent of the Internet and the World Wide Web provides additional support for the social construction of community, given the explosive growth of online communities.  Baym’s (2010) observations of early online newsgroups suggested the development of rich community-based structures. While Fernback (2007) “advocates a symbolic interactionist perspective on cybercommunity that focuses on the process of community building as an active human endeavor” (p. 50).  Communities on the Internet are built on a variety of different technological capabilities based on computer-mediated communication, from bulletin boards, to ecommerce sites, to social network sites.  boyd[RR1]  and Ellison (2007) “define social network sites as web-based services that allow individuals to (1) construct a public or semi-public profile within a bounded system, (2) articulate a list of other users with whom they share a connection, and (3) view and traverse their list of connections and those made by others within the system” (p. 1).  Thus, the ability for users to construct a personalized online community and determine boundaries is consistent with Cohen’s (1985) ideas on the symbolic construction of community.

In some respects, online communities can offer potential members more choice than their geographic counterparts, given the sheer volume of interactions on the Internet.  However, dystopian observers are often concerned with the social cost of computer-mediated communication.  Baym (2010) notes that “historical changes occurring in conjunction with and facilitated by communication technologies have led many to worry that people are losing meaningful connections to their local communities (p. 73).  Rather than view online community as a threat to traditional place-based communities, a more refined view might consider how placed-based communities could prosper by integrating with the wider world using computer-mediated communication, and in particular social network sites.

Internet access and social networking sites can increase both civic and political engagement (Baym, 2010).  Hampton and Wellman’s (2003) early study of a Toronto neighborhood that was wired for high-speed Internet access is notable insofar as “Internet use was associated with larger neighborhood networks, more recognition of neighbors, greater frequency of communication (on-and offline), and participation in the public and private realms” (p. 305). Internet use enhanced the local community and increased social capital.  In addition, a Pew Internet study found that “those who use blogs and social networking sites as an outlet for civic engagement are far more active in traditional realms of political and nonpolitical participation than are other internet users [and] they are even more active than those who do not use the internet at all (A. Smith, Scholzman, Verba, & Brady, 2009).  Indeed, Putnam’s (2000) dystopian warning of the loss of social capital rings hollow in light of recent research, perhaps relating to the differences in the types of social capital afforded by the Internet and social network sites, as compared with the bowling leagues of yesteryear.

Social Network Sites and Bridging

A recent study of Facebook, the world’s most popular social network site, found “a robust connection between Facebook usage and indicators of social capital, especially of the bridging type” (Ellison, Steinfeld, & Lampe, 2007, p. 1).  Not only were Facebook users able to accumulate bridging social capital, but Ellison, et al., (2007) also found that Facebook use helped maintain bridging social capital.  Moreover, “bridging social capital—which is closely linked to the notion of “weak ties”—seems well-suited to social software applications…because it enables users to maintain such ties cheaply and easily” (Ellison, et al., 2007, p. 1).

The emphasis on bridging is important, because much of the social capital literature finds that bridging is associated with higher economic growth, while lower growth is associated with bonding (de Souza Briggs, 2003; Knudsen, et al., 2005; Putnam, 2000).  de Souza Briggs (2003) describes the value bridging has for participants, by “connecting persons and other social ‘sites’ with distinct traits, ties often constitute bridges across roles, status differences, material and symbolic interests, space, norms, and even worldviews” (p. 2).  Not only do social network sites appear to help users accumulate and maintain bridging social capital, but also, accumulated bridging social capital may translate to economic growth, and perhaps most importantly, result in the exchange of ideas between diverse groups.

The Economy of Ideas

Neoclassical economic theory holds that trade can make everyone better off despite which trading partner holds an absolute advantage (Mankiw, 2012).  Known as the principle of comparative advantage, “trade allows people to specialize in activities in which they have a comparative advantage” (Mankiw, 2012).  Ridley (2010) considers specialization and exchange to be at the heart of human prosperity, suggesting that humans are the only species that grow more prosperous as the population grows.  The uniquely human processes of communication and cooperation are the basis for trade and extend beyond the realm of objects, into the realm of ideas; where Ridley (2010) suggests that the exchange of ideas is responsible for technological progress and prosperity.  To the extent that specialization, by its very structure, defines humanity in terms of their differences, social capital from bridging may result, in part, from the exchange of ideas between heterogeneous sources.  Indeed, a recently published studied explored the role of both bridging and bonding social capital in innovation, finding that “social capital is an important predictor of innovative performance after controlling for the ‘traditional’ knowledge inputs” (Crescenzi, Gagliardi, & Percoco, 2011, p. 31).  Moreover, Crescenzi, et al., (2011) found that “bridging’ social capital – based on weak ties – can be isolated as the key driver of the process of innovation while ‘bonding’ social capital is generally negative for innovation” (pp. 31-32).  The results are perhaps unsurprising given Ridley’s (2010) view that technological process, and hence prosperity, is based on the exchange of ideas, given that bonding groups would share similar information, while bridging groups would have different knowledge and experiences, resulting in Ridley’s notion of “ideas having sex”.

Shirky (2009) contributes to the proposition that social media may be transformational because of the many-to-many communication paradigm; when coupled with the notion of billions of connected human beings, one wonders at the possibilities.  Shirky (2010) further observes that there are existing trends that hint at future possibilities, describing how humanity’s ‘cognitive surplus’ or excess brain cycles are generously being put to use in online communities, citing notable examples like development of open-source software or Wikipedia, unexpected open market innovations that turn the traditional profit notions upside-down.  What future developments and ideas are possible when another billion people come online?  More importantly, what impact will the world’s ‘cognitive surplus’ have on economic growth and prosperity when their ideas have sex?

In the field of economics, Romer (2008) departed from neoclassical economic models with the development of endogenous growth theory, arguing that the level of technological change can be impacted by policy decisions, such as policies that promote openness, competition, encourage education, and protect intellectual property.  Notably, Romer’s model reflects the notion that ideas do not reach a point of diminishing returns like other resources, rather ideas build upon one another (Cortright, 2001; Romer, 1994).  Therefore, it appears clear that modern economic theory supports the notion that rate of growth for ideas is driven from a policy perspective.

Conceptual Model for a Connected Community

It certainly appears that Cohen’s (1985) view of community in the context of boundaries had deep implications for strengthening communities, for boundaries both bind and differentiate community members.  Where Putnam (2000) described the value and positive externalities associated with both types of social capital, numerous scholars have extolled the economic and other benefits of bridging social capital, the social capital that arises from differences (Crescenzi, et al., 2011; de Souza Briggs, 2003; Ellison, et al., 2007; Knudsen, et al., 2005; Putnam, 2000), confirming Granovetter’s (1973) perspective on the strength of weak ties.  Ridley (2010) goes a step further, envisioning all of humanity as a collective brain, connected through the Internet and social networks, observing continued innovation and technological process based on the exchange of ideas.  Whereas Crescenzi, et al., (2011) confirmed that bridging social capital is an important driver of the innovation process, again owing to differences.  In addition, the notion that innovation and technological progress are outcomes of policy decisions gives rise to the idea of what Romer (2008) calls a meta-idea, or an idea “about how to support the production and transmission of other ideas” (p. 1); in this case, driven from a local community context.

The meta-idea, is the notion that local community developers can improve community outcomes through a connected community, focused on the issues of economic growth, sustainability, public health, inequality, and urban growth/rural flight.  A connected community enables the flow of bridging social capital via exponential growth of weak ties, enabled by cooperation and communication between diverse community constituents and trading partners in the globalized world.  The exponential growth of weak ties and resulting flow of bridging social capital requires the low barriers to entry inherent in social network capabilities.  In addition, a connected community requires forward-thinking policies that promote openness, transparency, diversity, and investment in infrastructure, higher education, and R&D.  The conceptual model for the connected community is constructed visually in Figure 1:

Figure 1.  The figure presents a conceptual model for a connected that highlights how technology, public policy, and both local and global community constituents can improve community outcomes.  The model encourages diversity, investment, the growth of weak ties, and flow of social bridging capital to improve community outcomes related to economic growth, sustainability, public health, inequality, and urban growth/rural flight.

The conceptual model for the connected community is not necessarily a new meta-idea, insofar as there are several communities in the United States and elsewhere that already have some form of the model in place.  Rather, this may be one of the few times the idea is expressed with a sociological and economic theoretical foundation.  In the next section, the paper will explore the practical application of the meta-idea using existing communities as the basis for exploring the benefits and requirements of implementation, as well as risks. 

Practice

Benefits of a Connected Community

In 2004, the City of Riverside, California collaborated with Riverside Community College, to pull together a high tech task force to in order to gain a larger share of the economic prosperity afforded by California’s high technology industry.  Eight years later, Riverside was named one of the top seven intelligent communities by the Intelligent Community Forum, an acknowledgment of Riverside’s ability to build a sustainable, competitive economy and a vibrant society (Intelligent Community Forum, 2012).  The outcome of the high tech task force was a roadmap that “focused on promoting technology businesses and creating the information infrastructure they needed, fostering entrepreneurship in higher education, improving the skills of the population and demanding that city government set an example of tech-based innovation” (Intelligent Community Forum, 2012, p. 1).  Indeed, the initial roadmap included ideas similar to those found in the conceptual model for a connected community, insofar as the roadmap identified government, business, higher education, and community organizations as key constituents (Tillquist, 2004).  In addition, the roadmap targeted policy and investment goals towards strategic use of technology, assurance of advanced Internet access, policy, code and ordinance orientation around high technology, and university system R&D investment transfer into the local community (Tillquist, 2004).

While the roadmap did not call out specific uses of social network technology or include foreign trading partners as key constituents, those elements are found in practice.  For instance, there is evidence of foreign trading partner involvement in key initiatives highlighted by the Intelligent Community Forum (2012), including a testing and implementation partnership “with new technologies like thin-film solar cells with researchers at Tohoku University and rare-earth yttrium batteries with Winston Global Energy in Shenzhen, China” (p. 1).  In addition, Winston Global Energy company, and local Riverside business SolarMax, are collaborating on the development and construction of a 2MW solar generation project at University of California, Riverside, and a comprehensive 20MW solar energy strategy for Riverside Public Utilities (Intelligent Community Forum, 2012).

On the social networking front, there does not appear to be a specific focus on the use of social networking sites to encourage communication and cooperation, but one can easily image how such capabilities are being used by individuals involved in the program, absent a specific mandate.  In addition, there is evidence that the City of Riverside is attempting to engage community members with systems like the “Riverside Resident Connect system for reporting problems by phone, email, or submission of a photo taken with a smartphone” (Intelligent Community Forum, 2012, p. 1).  E-government services are also prevalent with an extensive menu of online government services (Riverside City Government, 2012b).  There remains considerable opportunity for the City of Riverside to encourage the growth of bridging social capital through more far-sight use of social networking capabilities.

The City of Riverside has proven adept at encouraging the notion of a connected community to improve community outcomes, focusing their efforts on economic growth, sustainability, and urban growth.  Their investment and collaboration has resulted in the growth of a high technology community of businesses, higher education institutions, and foreign trading partners, that have spurred economic growth and more than 6,000 new jobs in the last three years (Intelligent Community Forum, 2012; Riverside City Government, 2012a).  Of course, their journey continues with upcoming projects focused on both infrastructure improvements and digital inclusion (Intelligent Community Forum, 2012).

Needs of a Connected Community

There are significant resources available to local governments seeking to build connected communities.  Commercial technology companies like Cisco and IBM both have established business units with expertise in building digital communities and cities.  Cisco’s Smart+ Connected Communities solutions in particular, was central to the City of Riverside’s citywide deployment of Wi-Fi technology.  In addition, there are several forums with ideas to guide investments in connected communities, including the Intelligent Community Forum and the Smart Cities collaboration project.  Ovum, an international consultancy also recently released a strategy paper that provides high level guidelines for developing a smart city based on two primary strategies, a digital cities strategy for the top down development and investment by government, business, utilities, and a digital society strategy for bottoms up engagement from individuals, community groups, universities, start-up firms, and NGOs (Hodgkinson, 2011). Hodgkinson (2011) defines the critical ingredients for successful digital city initiatives:

  • leaders who inspire the pursuits of economic, social, and environmental sustainability,
  • governments, industry, cities, and citizens who collaborate,
  • cities that leverage proven ideas and solutions to build more city for less,
  • cities that consciously nurture a vibrant digital society to strengthen social capital and engender digital inclusion. (p. 3)

The focus on collaboration and the recognition of the need to strengthen social capital and create digital inclusion strategies suggests that industry strategy for connected communities rests solidly on the theoretical backbone of the sociology.

The Role of Government in Developing a Connected Community

Concerned over Putnam’s (2000) observation at the decline of civic and political engagement, leaders in local government might be tempted to direct limited information technology budgets towards increasing the affective commitment of local citizens to their communities, hoping to increase bonding social capital, a strategy at odds with innovation and growth.  Rather, local governments should seek to exponentially increase the number of weak ties to the community and oriented their services to harness weak ties of the crowd, improving the exchange of ideas, and thereby using community engagement to lower government costs.  In addition, local governments should seek to reduce information technology budgets for maintenance, support, and operations and redirect those funds toward the investments congruent with a connected community, including R&D, education, and infrastructure for advanced Internet access.

In order to lower local government IT spend for maintenance, support, and operations, government IT shops need to transform the way IT departments operate, where possible, moving away from commercial applications and technology, in favor of open source software and cloud computing.  Open source software adoption is increasingly a viable option for government entities owing to the free license distribution model and is sometimes supported by major vendors.  For example, the State of California recently authorized the use of open source software (Office of the State CIO, 2010).  In a related effort to reduce government IT costs, the federal government has adopted a “cloud first” strategy, highlighting a preference for applications and technology deployments in the cloud, thereby reducing the need to maintain IT plumbing and allowing IT departments to manage services, rather that infrastructure (Kundra, 2011).  Both the adoption of open source software and cloud computing in local government can free up much needed government IT capital and operating expenditures to fund the development and transmission of government services to community constituents.

Most local governments offer a variety of citizen services available on Internet computing technology, particularly those in large urban centers.  Many government services are built in a traditional top-down way intending to cut government labor costs, increase administrative productivity, and make government data available to the public (City and County of Denver, 2012; Riverside City Government, 2012b).  While the menu of government services continues to increase and provide incremental improvements in government services, in this author’s opinion, they fail to capture the imagination of their communities, nor leverage the cognitive surplus of their constituencies.  The City of San Francisco is notable in leveraging the cognitive surplus of the crowd, perhaps owing to the influence of nearby Silicon Valley.  The city is “leading the nation in adapting consumer technologies to improve the way citizens interact with their metro areas” (Feldman, 2010, p. 1).  The city has opened up their data sets, and made them available to the public, spurring the development of innovative new applications, deployed on mobile platforms that connect citizens and government.  The result is “more than 50 privately produced mobile apps, which work on gadgets such as iPhones and Android cell phones, that track everything in San Francisco from restaurant health codes to the most popular biking routes” (Feldman, 2010, p. 1).  San Francisco’s strategy is a live example of Hodgkinson’s (2011) digital society strategy.  The open data sets enable third parties to develop valuable IT services at little cost to the local government, while the developed apps increase the number of weak ties to the community.  Rather than determining what services community constituents want, where possible, local governments can let them build the apps that will improve their quality of life.

Of course, even given open data and crowdsourcing initiatives, local governments still need to consider how they deploy government services in a way that creates more meaningful community engagement.  Hodgkinson (2011) suggests the development of a comprehensive digital strategy that encompasses a variety of digital city services that include digitally enabled transportation, education, healthcare, grids and utilities, and urban planning.  However, local government’s role is not simply to use traditional IT planning processes, but rather to open the door to constituent collaboration to inform the planning process, and understand where the opportunities exist to build social capital and spur economic growth.  The opportunities for collaboration are numerous with a variety of innovative organizations leading efforts to increase social impact in communities, including TED’s City 2.0, OpenIdeo, the Intelligent Community Forum, Smart Cities and Metropolis.org.  In addition, the IT planning process can leverage emerging digital society initiatives including volunteering networks, urban action networks, hyper-local websites, carpooling networks, collective action forums, support networks, and mainstream social networks to “stimulate self-help and co-production behaviors in the community, strengthen social capital, and engender digital inclusion” (Hodgkinson, 2011, p. 2).  Rather than suggest there is a proscriptive approach to determining which government services should be prioritized in a planning process, it is more appropriate to assure that the right stakeholders are engaged in the planning process.  In addition, the final priorities should reflect an awareness of the need to engage constituents to grow the volume of weak ties needed to create the flow of social capital.

Risks

While there is a clear opportunity to reimagine community in the Internet era to promote economic growth, sustainability, and public health, while addressing inequality and improving quality of life, there remain considerable risks.  First, government regulations, ordinances, and legal commitments can inhibit the flexibility of local governments to fully embrace the free flow of ideas across constituents.  Second, given the importance of diversity to bridging social capital and innovation, policies that promote digital inclusion are considered table-stakes.  Yet, even forward-thinking cities like Riverside focus first on efforts that have a more direct connection to economic growth (Intelligent Community Forum, 2012).  In addition, the rise of nativist sentiment across the country has created an environment hostile to immigrants and people of color that negatively impact growth (Immigration Policy Center, 2012).  Local governments need to create an inclusive environment that encourages diversity, a necessary requirement for bridging social capital.  Third, the recent economic challenges, pervasive trade deficits, and outsourcing trends have created anti-trade sentiment in many Americans, in particular towards China.  The possibility exists that anti-trade sentiment could result in protectionist policies that could derail efforts by local governments to strengthen local communities through participation in a globalized world.  Local politicians need to assure that opportunities to communicate and collaborate with foreign trading partners are realized, a requirement of a connected community.

Conclusion

The sociological imagination is alive and well in an era of remarkable transformation, characterized by simultaneous trends of globalization and localization as community leaders seek to strengthen their communities.  Global capabilities like a worldwide transportation network, a global telecommunications network, the Internet, and the World Wide Web offer community leaders an unprecedented opportunity to improve economic growth and quality of life when directed properly.  Contributions from the fields of sociology and macroeconomics guide community leaders beyond the notion of the postindustrial revolution and towards an economy of ideas where social capital is as important as more traditional forms of capital.  In addition, societies use of technology has transformed the World Wide Web, shaping technology into a decidedly social view as a variety of new social network capabilities are brought to market.  Many social networking technologies encourage the accumulation and maintenance of bridging social capital, the type of social capital correlated with both innovation and economic growth.  Accordingly, community leaders can steer their efforts to grow bridging social capital by creating powerful, connected and diverse communities designed with the exponential growth of weak ties in mind, perhaps igniting social and economic processes described by both Ridley and Shirky.

There is no reason to hesitate, given the numerous opportunities to collaborate with forward-looking community organizations, industry, academics, and trading partners.  The roadmap to build a connected community is clear, based on a strong theoretical foundation, and the groundwork of centuries of human progress.  Leaders of vision will embrace the opportunity to drive economic growth and improve quality of life by harnessing the collective efforts of an increasingly connected and diverse constituency.  The creation of a vibrant and connected community will help community leaders redraw the boundaries of traditional place-based communities, to engage a broader, and more inclusive constituency to improve both quality of life and create economic growth.  The community of the future is here.

References

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 [RR1]This is intentional, based on the author’s choice of capitalization.

The U.S. Budget and Economic Outlook: A Cautionary Tale

Posted: March 1, 2012 | Author: | Filed under: Macroeconomics | Tags: , , , , , , , , , , , , , | Leave a comment

Each year, the Congressional Budget Office prepares a report for the U.S. Congress to provide an objective and impartial analysis on the state of the budget and the U.S. economy over a ten-year planning horizon to provide lawmakers an economic foundation for fiscal policy decisions.  The 2012 report, The Budget and Economic Outlook: Fiscal Years 2012 to 2022, was issued in the midst of a sluggish economic recovery from the greatest economic downturn since the Great Depression, known as the Great Recession or the Global Financial Crisis.  The report comes at a time of historic budget deficits and government debt, attempting to inform lawmakers the implications of current and likely fiscal and monetary policy on the U.S. economy and budget over the next ten years.  Unfortunately, the economic situation can only be characterized as grim, as the national debt crowds out investment required for long-run growth and considerable slack remains in the economy for the foreseeable future (Congressional Budget Office, 2012).  In addition, projected slow economic growth will likely exacerbate already historic budget deficits as tax revenues are projected to grow at a slower rate than entitlement spending; a situation that the CBO considers unsustainable (Congressional Budget Office, 2012).  The growth of entitlement spending in the Social Security, Medicare, and Medicaid programs are projected to rise at a considerably higher rate than the Gross Domestic Product, given an aging of the population and rising healthcare costs.  The implications for the future of the U.S. economy is quite serious, given that policymakers must choose between a fiscal policy that improves short-run economic growth through lower taxation and increased debt loads at the cost of long-run economic growth, or long-run economic growth through higher taxation, debt reduction, and lower entitlement spending at the cost of short-run economic performance.  Although unfortunate, it is likely that policymakers will choose to focus on short-run economic problems, given the polarization in Congress and election year politics.  Therefore, U.S. households need to prepare minimally for sluggish growth and the likelihood of additional recessionary periods, brought on by the short-run mentality of the U.S. political system.

Summary of CBO Budget Outlook

The CBO has differentiated their budget and economic outlook based upon two distinct scenarios, a baseline scenario based on current law and an alternative fiscal scenario based on possible changes to the law (Congressional Budget Office, 2012).  The CBO’s (2012) baseline scenario estimates federal revenues and spending “under the assumption that current laws generally remain unchanged” (p. 1); including the expiration of Bush-era tax cuts, the expiration of limits on the Alternative Minimum Tax, and the scheduled drop of Medicare payment rates by 27%.  In contrast, the alternative fiscal scenario assumes the extension of the tax cuts, an Alternative Minimum tax that is indexed to inflation after 2011, and Medicare payments to physicians that remain at current levels (Congressional Budget Office, 2012).  The two scenarios intend to help lawmakers assess the economic and budgetary implications of either maintaining or altering the provisions of current law.

In the CBO’s (2012) baseline scenario, the federal deficit declines from $1.1 trillion in fiscal year 2012 down to $196 billion in 2018, before rising up to $339 billion in 2022.  The decline in deficit through 2018 is because the revenues shoot up by 30%, as the scheduled or recent expirations of tax provisions take effect and taxpayer’s real income increases, moving them into higher tax brackets (Congressional Budget Office, 2012).  In addition, outlays are projected to rise from $3.6 trillion in 2012 to more than $5.5 trillion in 2022.  While discretionary spending is projected to decline, spending for mandatory programs like Social Security, Medicare, and Medicaid are projected to rise significantly; while the accumulation of rising debt and rising interest rates increase the cost of servicing federal debt (Congressional Budget Office, 2012).

Under the alternative fiscal scenario, the budget situation is far worse with lower revenues and higher spending, and a resulting rise in deficits (Congressional Budget Office, 2012).  Although not stated specifically in the report, the higher spending is a likely outcome of higher costs to service accumulated federal debt.  Figure 1 highlights the impact of each scenario on annual deficits:

Figure 1 – CBO annual budget deficit projection comparison between baseline and alternative fiscal policy scenarios from 2012 and 2022.  Adapted from “The Budget and Economic Outlook: Fiscal Years 2012 To 2022,” by the Congressional Budget Office, 2012, p.22.

Another useful way to compare the budgetary impact of the two scenarios is based on the debt-GDP ratio, or the debt of the U.S. federal government expressed as a function of GDP (Mankiw, 2012).  As noted in Figure 2, in the baseline scenario, the federal debt goes from 72% of GDP in 2012, down to 62% of GDP in 2022, whereas under the alternative fiscal scenario, the debt balloons to more that 94% of the GDP by 2022.

Figure 2 – CBO annual total federal debt projection comparison between baseline and alternative fiscal policy scenarios from 2012 and 2022.  Adapted from “The Budget and Economic Outlook: Fiscal Years 2012 To 2022,” by the Congressional Budget Office, 2012, p.22.

Under both scenarios, an aging population and rising healthcare costs push entitlement spending higher, resulting in large deficits and levels of federal debt that are considered unsupportable (Congressional Budget Office, 2012).

Summary of CBO Economic Outlook

In the baseline scenario, the CBO forecasts slow growth of the real Gross Domestic Product, forecasted at 2% for 2012 and 1.1% for 2013 (Congressional Budget Office, 2012).  GDP “is the market value of all final goods and services provided within a country in a given period of time” (Mankiw, 2012, p. 200); whereas the real GDP is “the production of goods and services valued at constant prices” (Mankiw, 2012, p. 205).  Real GDP is an important measure because it only measures growth from production output, rather than growth resulting from inflation.  Moreover, GDP is an identity used to understand how the economy is using resources and include the components of consumption, investment, government purchases, and net exports (Mankiw, 2012).  According to the CBO baseline scenario projections, the economy will grow sluggishly through 2013, experience higher real GDP growth of 4% between the years 2014 and 2017, and growing at 2.5% from 2018 to 2022 (Congressional Budget Office, 2012).

The CBO alternative fiscal scenario illustrates how changes to current law could affect the economy (Congressional Budget Office, 2012).  Under the alternative fiscal scenario, economic outcomes could be quite different, as the GDP would improve slight in the short-run, increasing to 2.2% to 2.8% in 2012 and 1.6% to 4.8% in 2013 (Congressional Budget Office, 2012).  However, GDP projections for the alternative fiscal scenario in the long-run reflects two opposing forces, lower marginal tax rates that will increase incentive to work and save, while higher deficits that will “crowd out” private investment (Congressional Budget Office, 2012).  Mankiw (2012) describes “crowding out” as “a decrease in investment that results from government borrowing” (p. 274).  Crowding out occurs as government borrowing decreases the supply of loanable funds that fund private investment, “the purchase of goods that will be used in the future to produce more goods and services” (Mankiw, 2012, p. 201).

While the lower tax rates of the alternative fiscal scenario will encourage work, saving, and aggregate demand in the short-run, the increased debt will crowd out long-run productivity and economic growth sacrificing roughly 2% of growth by 2022 and beyond, where “the projected impact on GDP would tend to become more negative” (Congressional Budget Office, 2012, p. 29).  Both the baseline and alternative fiscal scenarios highlight Mankiw’s (2012) first principle, that “people face trade-offs” (p. 4).  In this case, the trade-offs are based on government fiscal policy under the baseline scenario that promotes long-run economic health while sacrificing short-run growth, or the alternative fiscal scenario that promotes short-run economic growth while sacrificing long-run economic health.

Another important trade-off noted in the CBO’s economic outlook is the short-run trade-off between inflation and unemployment, echoing Mankiw’s (2012) tenth economic principle. While the labor market has shown signs of recent improvements (Lange, 2012), the unemployment rate remains stubbornly high, a situation the CBO attributes to continuing weakness in aggregate demand (Congressional Budget Office, 2012).  According to the Bureau of Labor Statistics (2012), “persons are classified as unemployed if they do not have a job, have actively looked for work in the prior 4 weeks, and are currently available for work” (p. 1). Mankiw (2012) describes the relationship between inflation and unemployment, noting that higher aggregate demand results in higher prices, which in turn causes firms to hire more employees, reducing unemployment, resulting in an inverse relationship between inflation and unemployment.  Because of continued short-run weakness in aggregate demand, the CBO (2012) expects the unemployment rate to remain above 8% through 2013, followed by a gradual decline to within the 5%-6% natural rate of unemployment by 2017 as the economy gains strength.

During the next several years of continued high unemployment, the CBO (2012) expects prices will rise at a subdued pace, noting “the price index for Personal Consumption Expenditures will increase by 1.2% in 2012 and by 1.3% in 2013” (p. 37).  While after 2012, the CBO’s (2012) expectations are that the inflation rate will rise to 2% as measured by PCE, inline with the Federal Reserve’s long-run goal.

The inflation rate, “the percentage change in the price index from the preceding period” (Mankiw, 2012), is often measured with both the Consumer Price Index and the PCE price index.  The CPI “measures the change in prices paid by urban consumers for a market basket of consumer goods and services [and] the PCE price index measures the change in prices paid for goods and services by the personal sector in the U.S. national income and product accounts” (McCully, Moyer, & Stewart, 2007, p. 1).  Where the CPI is used as an economic indicator, the PCE price index is used for macroeconomic analysis and forecasting (McCully, et al., 2007), hence the focus on PCE in the CBO’s outlook.

The CBO’s (2012) inflation projections are based in large part on the significant excess capacity in the economy for labor, capital resources, and housing. Because high unemployment continues to place downward pressure on wages in the labor market, it is less likely that businesses will need to raise prices to offset labor costs, once again highlighting the trade-off between inflation and unemployment.  The modest improvement in the unemployment rate between 2012 and 2022 will moderate inflationary pressure.  The CBO (2012) inflation outlook does note that there is concern by some economists that the Feds “extraordinary purchase of assets during the financial crisis will push inflation above 2 percent” (p. 37).  The concern is valid given that the Fed’s purchase equated to injecting enormous sums of money into the economy, which creates a new equilibrium price level for the supply and demand of money, lowering the value of money (Mankiw, 2012).  However, the CBO (2012) does not believe the increased money supply will lead to significant inflation because the money is largely in excess reserves, and the Fed has “several other policy tools for restraining borrowing, such as raising the federal funds rate and raising the interest rate paid on excess reserves” (p. 37).  It appears that the CBO has faith in the Feds ability to manage the inflation rate at the 2 percent target over the next ten years.

In short, the CBO (2012), in the baseline scenario, expects the U.S. economy to grow sluggishly over the next two years, with continued slack in the labor market and inflation below the two percent target.  While in the long-run, the economy is projected to grow as much as 4% annually, reach the natural rate of unemployment, and experience modest inflation at the 2% target (Congressional Budget Office, 2012).  Under the alternative fiscal scenario, the CBO (2012) expects very different outcomes for the economy, with higher short-run growth, a lower short-run unemployment rate, but higher interest rates as increase government debt decreases available loanable funds.  In addition, the alternative fiscal scenario could lead to lower long-run growth as businesses defer investment and government debt increase, where rising interest rates cause government interest payments to take up a larger percentage of the budget (Congressional Budget Office, 2012).

Observations

Recent economic news tends to reinforce the conclusion that the U.S. economy is gaining strength, as the number jobless claims remained at a four-year low (Lange, 2012), the GDP grew 3% in the final quarter of 2011, much higher than previously expected (Censky, 2012), and the Dow broke 13,000 for the first time since 2008 (Hauser, 2012).  As a result, many Americans perhaps consider the economic headwinds of the last several years to be in the rear view mirror.  However, the situation described in the CBO report tells a much different story highlighting the grim prospects for the U.S. economy.  The economy remains sluggish and the unemployment rate is projected to remain high for several years, while the 2012 budget deficit is $1.1 trillion (Congressional Budget Office, 2012).  Moreover, despite the Affordable Care Act, healthcare spending will remain the primary driver of federal debt over the next ten years.

What is clear from the CBO budgetary outlook is the simple fact that little has been done to address the growing problem of entitlement spending.  Auerbach and Gale (2012) suggests that the long-term budget outlook is unsustainable and recommends that policymakers address the imbalances soon to allow for gradual adjustments.

In a recent hearing, Bernanke (2012), recognized the economic progress of the last several years, but expressed frustration at modest pace of recovery.  More importantly, Bernanke provided policymakers guidance on the federal budget situation and its impact on the economy, noting that “even after economic conditions have returned to normal, the nation will still face a sizable structural budget gap is current budget policies continue” (Bernanke, 2012, p. 5).  Bernanke (2012) highlighted the economic consequences associated with the federal budget imbalance and the resulting government debt:

  • Reduced productivity growth resulting from the crowding out of investment.
  • A greater share of future income will be devoted to interest payments to foreign debt holders.
  • Policymakers may be impaired in their ability to respond to future economic shocks.
  • Interest rates could soar should investors lose confidence that the U.S. government can manage fiscal policy, spurring a financial crisis. (p. 6)

The economic implications of Bernanke’s warning are quite clear and play themselves out in the CBO’s alternative fiscal scenario.  Of most concern is the real possibility of future economic shocks that policymakers may few options to deal with, given the extent of federal debt obligations or the possibility of a response creating a fiscal crisis.  Both Bernanke (2012) and the CBO (2012) recognize that significant uncertainty exists in the economic and budget projections and suggest that the economy is quite fragile and open to future economic shocks, with the Eurozone crisis and rising gas prices tending to top the list.  There also remains a distinct possibility the U.S. may experience another recession in the short-run.

Conclusions

The future of the U.S. economy, although in the midst of a modest recovery, remains fragile because of policymaker’s divisions on government fiscal policy.  While the Federal Reserve continues to implement monetary policy designed to help the economy perform relative to its potential, government fiscal policy continues to undermine U.S. economic growth.  In particular, the CBO (2012) highlights the dilemma facing policymakers, given the must decide between the baseline scenario that could stifle short-run aggregate demand with the higher taxation required to reduce government debt, or the alternative fiscal scenario that stimulates aggregate demand in the short-run, but sacrifices long-run growth and increase government debt to unsustainable levels.  Policymakers appear divided on their approach to dealing with the long-term structural problems associated with the federal budget, with Republicans favoring lower taxes and moderate spending cuts and the Democrats favoring higher taxes and few spending cuts.  In addition, because of election year politics, neither party appears interested in actually solving the long-term budget problems, and as a result, may support the alternative fiscal policy for the short-run economic gains it promises.

Of most concern to this author is policymaker’s unwillingness to tackle the most significant problem in the federal budget, the unsustainable entitlement spending that is the primary cause of growing government debt.  The CBO (2012) warns policymakers that “if the  rising level of spending is coupled with revenues that are held close to the average share of GDP that they have represented for the past 40 years, the resulting deficits will increase federal debt to unsupportable levels” (p. xiii).  Indeed, Bernanke (2012) echoes the CBO, warning policymakers that a sustainable budget should be a top priority, arguing that “to achieve economic and financial stability, U.S. fiscal policy must be placed on a sustainable path that ensures that debt relative to national income is at least stable or, preferably, declining over time” (p. 7).  In this author’s opinion, it is unlikely that policymakers will be willing to tackle the structural problems of the federal budget given the short-run focus caused by the U.S. political system.  Rather, it is more likely that policymakers will remain focused on choosing between the two evils described by the CBO, the baseline scenario, or the alternative fiscal scenario.  Because of election year politics, it is likely that neither party has the patience or the appetite to both raise taxes and cut spending, likely resulting in the continuance of bad fiscal policy in the form of the alternative fiscal policy.  Therefore, U.S. households need to prepare minimally for sluggish growth and the likelihood of additional recessionary periods, brought on by the short-run mentality of the U.S. political system.

References

Auerback, A. J., & Gale, W. G. (2012). The federal budget outlook: No news is bad news (pp. 1-26). Cambridge, MA: National Bureau of Economic Research.

Bernanke, B. (2012). The economic outlook and the federal budget situation Committe on the Budget (pp. 1-7). Washington DC: Board of Governors of the Federal Reserve System.

Bureau of Labor Statistics, U. S. (2012). Current Population Survey Frequently Asked Questions  Retrieved January 11, 2012, from http://www.bls.gov/cps/faq.htm – Ques5

Censky, A. (2012, February 29, 2012). GDP: Economy grew faster at the end of 2011  Retrieved February 29, 2012, from http://money.cnn.com/2012/02/29/news/economy/gdp_growth/index.htm?iid=HP_River

Congressional Budget Office. (2012). The budget and economic outlook: Fiscal years 2012 to 2022.  Washington DC: Congressional Budget Office Retrieved from http://cbo.gov/sites/default/files/cbofiles/attachments/01-31-2012_Outlook.pdf.

Hauser, C. (2012, February 28, 2012). Dow Closes Above 13,000: First Time Since 2008  Retrieved February 29, 2012, from http://www.nytimes.com/2012/02/29/business/daily-stock-market-activity.html

Lange, J. (2012, February 23, 2012). Jobless claims hold steady at 4-year low  Retrieved February 29, 2012, from http://www.reuters.com/article/2012/02/23/us-usa-economy-idUSTRE7BM0AB20120223

Mankiw, N. G. (2012). Principles of macroeconomics (6th ed.). Mason, OH: South-Western Cengage Learning.

McCully, C. P., Moyer, B. C., & Stewart, K. J. (2007). Comparing the consumer price index and the personal consumption expenditures price index. Survey of Current Business  Retrieved February 28, 2012, from http://www.bea.gov/scb/pdf/2007/11 November/1107_cpipce.pdf

 

Outsourcing: Symptomatic of the Transition to the Idea Economy

Posted: February 20, 2012 | Author: | Filed under: Macroeconomics, Sociology | Tags: , , , , , , , | 2 Comments

Outsourcing is a concept that has been around for quite a while where a company can pay another company to run a portion of their business.  Carlson was one of the first companies to make a bundle by taking advantage of the opportunity to run the travel departments for large corporations.  Nowadays, outsourcing is commonplace in manufacturing, call centers, and back office functions and often means that work is placed offshore or nearshore, although that isn’t always the case.

Brym and Lie (2007) suggest that outsourced manufacturing to China is the cause of the manufacturing decline in the U.S, based on manufacturing job loss and then go on to note that free trade advocates would describe productivity gains as the culprit.  In their final analysis, Brym and Lie (2007) suggest that offshore and foreign outsourcing results in the loss of good American jobs which are replaced which bad jobs, laying average income decline and class inequality at the doorstep of free trade.  I think Brym and Lie are missing a couple of important points, namely the way in which trade raises everyone’s standard of living, technology’s role in job loss and job creation, and U.S. leadership of the knowledge economy.

Specialization has been creating surplus for workers since the beginning of work.  Smith (1776) first articulated the way in which trade benefits everyone, however Mankiw (2012) describes the concept more simply, noting that “trade allows countries to specialize in what they do best and enjoy a greater variety of goods and services” (p. 10).  Because of the law of comparative advantage, each party benefits during a trade, irrespective of who holds any absolute advantage (Mankiw, 2012).  Therefore, the notion of foreign outsourcing or offshoring is economically beneficial for both parties, despite the disruption to the lives of U.S. workers that lose their job.   The economic benefits are of using low cost labor pools is clear, as lower cost labor results in higher margins and lower prices for consumers (Brainard & Litan, 2004).  Of course, neither foreign workers nor greedy multinational corporations are to blame for job loss.  Instead, the culprit is technology.

Technological change is the number one cause of job destruction in the United States.  According to Drezner (2004) more than 22 million manufacturing jobs were destroyed between 1995 and 2002 through improved productivity, the result of improved factory technology.  Even the current ability to take advantage of low cost labor finds its origins in technology, the result of a global transportation network, a global communications network, and information technology.  The process of creative destruction is going to continue as businesses and governments develop new technology to create sustainable competitive advantage, bringing about further changes.  “For many, these changes will be acutely painful and impart serious consequences, while for others; technological change will bring unexpected opportunities and rewards” (Collins & Ryan, 2007, p. 7).   Some even think the growth of technology is changing our economy in fundamental ways.

While Brym and Lie (2007) describe the major economic revolutions as agricultural, manufacturing, and most recently services, each characterized with serious disruptions in the labor force; they do not suggest that the labor disruptions occurring now are part of another revolution.  Reich (2009) recognizes that the nature of skilled work is shifting towards what he calls symbolic analytic work, acknowledging that “a growing percent of every consumer dollar goes to people who analyze, manipulate, innovate and create” (p. 1).  I prefer to think of the latest economic revolution as a shift from the manufacturing and service economy to the idea economy.  Consider that in 2011, the global population grew past seven billion people, the majority of which are educated, and connected to the rest of the world through a global communications network.  What new ideas will be shaped as billions of people connect with each other through the Internet in a many-to-many communications medium?  Shirky (2010) is optimistic that humanity’s cognitive surplus will be put to good use, bringing new levels of creativity and generosity to our economies.  Another way to think about the idea economy is through the lens of symbolic interactionism.  Blumer (1969) noted that “humans act toward things on the basis of the meanings they ascribe to those things [and] the meaning of such things is derived from, or arises out of, the social interaction that one has with others and the society” (p. 2).  It stands to reason, that as more humans begin interacting with each other and society more often, and sharing their interactions, that new meaning will be creating and more human action will occur on the basis of that meaning.  In practical application, consider how quickly the concept of microfinancing spread, with one study identifying more than 750 million accounts in alternative financing institutions, a clear example of a creative idea that caused a shift in human action (Christen, Rosenberg, & Jayadeva, 2004).

In economic terms, the idea economy represents a shift from neoclassical economic theory to endogenous growth theory, diverging “by making technological change a function of economic incentives and behaviors” (Freeman, 2000, p. 9).  Cortright (2001) conveys the notion more succinctly in suggesting that while physical capital is subject to the notion of diminishing returns, ideas suffer under no such constraint.  The implication is that government can create conditions for economic growth by supporting technology innovation (Romer, 2008).

So is offshoring and outsourcing a good trend, bad trend, or a natural trend? And why?

Offshoring and outsourcing are good trends that provide short-run economic benefit and harm to displaced workers.  I believe that the outsourcing and offshoring of manufacturing and service jobs is the beginning of an economic revolution to an economy based on ideas, an area that the United States is poised to dominate because of our history of technological innovation and our leadership of the existing idea industries, like high technology, media and entertainment, healthcare, pharmaceuticals, life sciences, telecommunications, and information technology (Rock, 2011).  Workers displaced as a result of the shift will either find low-skilled service labor and take a pay cut, or obtain an education in the fields based on symbolic analytic work.

References

Blumer, H. (1969). Symbolic interactionism; perspective and method. Englewood Cliffs, N.J.,: Prentice-Hall.

Brainard, L., & Litan, R. E. (2004). “Offshoring” service jobs: Bane or boon and what to do? Brookings Policy Brief(132), 3.

Brym, R. J., & Lie, J. (2007). Sociology : your compass for a new world (Brief ed.). Belmont, CA: Thomson/Wadsworth.

Christen, R. P., Rosenberg, R., & Jayadeva, V. (2004). Financial institutions with a double bottom line: Implications for the future of microfinance (pp. 1-20): CGAP.

Collins, D., T. , & Ryan, M. H. (2007). The strategic implications of technology on job loss. Academy of Strategic Management Journal, 6, 27.

Cortright, J. (2001). New growth theory, technology, and learning: A practitioner’s guide Review of Economic Development Literature and Practice (Vol. 4, pp. 1-36). Portland, OR: U.S. Department of Commerce, Economic Development Administration.

Drezner, D. W. (2004). The outsourcing bogeyman. [Article]. Foreign Affairs, 83(3), 22-34.

Freeman, R. (2000, October 2000). What does modern growth analysis say about government policy toward growth. Paper presented at the HM Treasury Seminar, London, England.

Mankiw, N. G. (2012). Principles of macroeconomics (6th ed.). Mason, OH: South-Western Cengage Learning.

Reich, R. B. (2009). Manufacturing jobs are never coming back. Forbes. Retrieved from Forbes.com website: http://www.forbes.com/2009/05/28/robert-reich-manufacturing-business-economy.html

Rock, R. (2011, February 20). Endogenous Growth: The Future of U.S. Economic Dominance through Technology.  Retrieved from https://journey24pointoh.com/2012/02/13/endogenous-growth-the-future-of-u-s-economic-dominance-through-technology/

Romer, P. M. (2008). Economic Growth. The Concise Encyclopedia of Economics.  Retrieved February 12,, 2012, from http://www.econlib.org/library/Enc/EconomicGrowth.html

Shirky, C. (2010). Cognitive surplus : creativity and generosity in a connected age. New York: Penguin Press.

Smith, A. (1776). An inquiry into the nature and causes of the wealth of nations. London, New York,: Printed for W. Strahan and T. Cadell. A. M. Kelley.

 

 

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