The Occupy Wall Street protesters think government has become corrupt. While that's possible, it's not the main reason why government spending fails. Rather, it fails because bureaucrats have no method to distinguish a wasteful expenditure from a valuable one. In the market, profits and losses direct producers to invest only in those projects that create value -- for them and for society. Profits and losses are measured by prices, to which actors in the market must react.
Without these signals, bureaucrats must invent phony, artificial criteria that attempt to mimic this market feedback. They invariably fail.
Consider the primary goal of the U.S. Department of Commerce's Economic Development Administration (EDA), which was established in 1965 as a "Great Society" project explicitly tasked with job creation and economic development. The trouble is that creating jobs does not measure economic development -- in fact, it turns economic development on its head. If increasing the number of jobs were the only thing that mattered, a hotel that needed 1,000 workers to build would be twice as valuable as the same hotel built with only 500 workers.
In the real economy, the opposite is true. As economist Frederic Bastiat long ago noted, economic development "lessens the effort needed to have a given result." When technology reduces the labor required to travel, make a meal, or build a hotel, that's progress. But by the EDA's criteria, such savings in labor are an ill to be tamed.
The EDA's jobs measure leads them to push big-ticket projects that employ more workers, even while losing money. The EDA's recent $35 million grant for a new convention center in Cedar Rapids, Iowa, will create, the EDA claims, "hundreds of jobs." Yet by the town's own estimate, it will lose $1.3 million annually.
As the number of people employed by EDA projects increases, the number of EDA beneficiaries also increases, and more beneficiaries mean more people to defend the agency's spending.
The agency also lists as one of its goals "to stimulate industrial and commercial growth," something government has never been able to accomplish. So what to do? Measure the investment EDA projects attract. More investment, like more jobs, means more defenders of public spending. To qualify for a grant, the EDA requires recipients to match it, which can inflate investment numbers. This incentivizes local and state planners to raise taxes and funnel public dollars into projects selected by the EDA's jobs criterion.
Consider the agency's recent $2 million grant to build a wine tasting room, gift shop, and banquet hall at the Walter Clore Wine and Culinary Center in Richland, Washington. The Center asked Washington's state government to supply the matching funds the EDA requires. The state supplied the center with $1.5 million. Still short $500,000, the center now demands $100,000 more from Benton County, where it is located. By the EDA's reckoning, this whole exercise yielded $3.6 million of value in new "investment," when in fact it is a huge misallocation of resources.
The agency's annual report claims a "return on investment of $6.90 for every federal dollar invested," implying that the EDA is not only self-financing, but reaping exceptional profits that would make any venture capitalist proud. Unsurprisingly, this isn't the case.
In a 2004 review of one EDA program, the Government Accountability Office found that only 17 percent of its projects received any private investment at all. So, most of what the EDA does is redirect taxpayer funds to politically favored projects.
Even if the extra money were 100 percent private, that still would not be an argument for the agency's continuance. Consider what that $6.90 "return" actually means. With just a $300 million budget, the EDA is redirecting almost $2 billion of public and private money into projects its bureaucrats consider worthy. That's quite some opportunity cost. The EDA takes it as a sign of success. But as even the former head of President Obama's National Economic Council Larry Summers recently admitted, government is a "crappy venture capitalist." The EDA wastes a total of almost $8 for every dollar in its budget. Forget bang per buck -- this is fizzle per buck. Yet it's the very model for Obama's job creation policy package.
Bureaucratic efforts to replace profit and loss with other measures have always proven futile -- and always will. Like it or not, profit is the only proven way to measure value creation. Profit demonstrates that consumers -- that is, everyone in society -- values the final product more highly than the resources required to make it. Conversely, loss demonstrates the project's resources could be put to better use elsewhere. Bureaucratic pseudo-measures miss these crucial points and direct resources towards projects society values less.
As the great Austrian economist Ludwig von Mises predicted, socialism was doomed to fail by its attempt to replace price signals with "scientific" measurements and edicts made by state officials. He said, "Because of the absence of economic calculation, what is called a planned economy is no economy at all. It is just a system of groping about in the dark."
While the Soviet bloc may be long gone, the economic fallacies that undergirded it enable agencies like the EDA to go on, to stumble ahead blindly, even as the real American economy struggles to regain its footing. Unfortunately, it seems few of the Occupy Wall Street protesters recognize that.
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