Inclusive Growth: Strategies for Moving People into the Economic Mainstream

July 01, 2007
By  Robert Weissbourd

This article is a summary of information presented during the "Into the Economic Mainstream: Bipartisan Strategies for Inclusive Economic Growth" session at the Exploring Innovation in Community Development Finance conference.

While public debate about economic development seems stuck in an unproductive conflict between supply-side and demand-side economics, private discussions among practitioners and policymakers reveal considerable common ground. It turns out that the poverty alleviation goals of economic development-to move people "into the economic mainstream"—are converging with broader economic growth goals. As a result, more opportunities are arising to align business and development interests toward an emerging common goal of inclusive prosperity.

Ends: Inclusive Economic Growth

If millions of poor people become more economically productive and enter the middle class, net economic growth occurs. This expansion of the economy results in growing markets and production of new goods and services. Economic growth creates a bigger pie with broad benefits. One fundamental goal of economic development must be to create the most productive, efficient, high-growth economy possible. Two ways to improve the economy particularly deserve attention: growth through increasing productivity and growth through inclusion of underutilized assets.

Economic growth primarily occurs by increasing the productivity of individuals, businesses and institutions. Productivity growth, particularly in the knowledge economy, flows from investment in research and development, technological infrastructure, knowledge institutions and networks, and human capital. Human capital is especially important, as it is the knowledge and skills embedded in the labor force that combine with new technologies to enable growth. Increasing the productivity of individuals and institutions (including government) is a critical point of alignment of business and development goals.

Economic growth can also occur by increasing the resources input into the economy-through inclusiveness of underutilized people, assets and places. Currently, we have wasted assets and economic opportunities: underemployed labor, underdeveloped land and underserved markets. Increasing participation and productivity of people in economic activity entails education and skills development, as well as increasing the efficiency of labor markets through addressing inefficiencies such as market bias or higher measurement and other transaction costs, and other transaction costs in lower-income communities. In addition to improving overall productivity, a skilled workforce contributes to the tax base and reduces social and economic costs of poverty.

A growing body of research similarly suggests that reincorporating distressed central cities and communities of concentrated poverty into the economy is not just good for the communities, but good for the economy overall. Generally, places with less inequity prosper more. Inclusionary policies with respect to place seem to increase regional economic efficiencies, leverage market linkages and avoid the costs of concentrated poverty.

Recapturing these assets into the economy is good for business. The experiences of companies reinvesting in emerging urban markets, of developers recapturing real estate near older downtowns, of Community Development Financial Institutions lending to rehabbers and small businesses, all confirm that there are economic growth opportunities on the margins of the economy. We seek inclusive growth not because it is fair or meets public welfare objectives or is the moral thing to do (though all are also good reasons); we seek it because it causes overall economic growth.

So far, we are primarily addressing deployment of market-ready assets (ones that lay dormant largely because market imperfections have prevented their deployment). However, many people and places are not yet employable or attractive even to efficient markets. It turns out that developing these assets is also good for overall economic growth. Economic arguments on addressing poverty and inequality often presume a trade-off between equity and efficiency—that moving people to the mainstream will require redistributive policies, which arguably reduce efficiency or hinder economic growth. In fact, at least in urban economic development, it appears that inclusiveness and growth tend to go together. Taking steps to move more people and places into the economy, even those requiring some specialized help, makes good economic sense.

Rather than policies that transfer wealth without leading to economic growth, this approach means focusing on asset development and markets whenever possible. Not coincidentally, the economic development field has made great strides in understanding the importance of asset development and ways to achieve it. We have expanded home ownership markets, created new savings products such as Individual Development Accounts, and developed incentives like the Earned Income Tax Credit. We have more targeted programs, particularly with respect to labor force assets, that try to maximize this convergence of asset development and economic growth goals, such as business-led job training programs or regional affordable housing programs to alleviate the jobs/housing mismatch.

In short, to move people "into the economic mainstream," we can move the stream by growing it overall through increasing productivity; we can move or grow the stream in targeted places through inclusionary growth strategies; or we can move the people to the stream by getting assets ready to participate in the economy.

Means: Market-Based Development

Markets are the primary vehicle for wealth creation in our economy. Undeveloped land, unemployed labor and money in a mattress all become valuable only to the extent they are deployed into markets. Also, markets determine what assets get included or not. If our goal is to expand the economy to be more inclusive, we are talking about enhancing markets.

Markets are shaped by an environment-an institutional context of enabling laws (e.g., property rights), regulations (e.g., Community Reinvestment Act) and extra market incentives (e.g., New Markets Tax Credit). Internal market operations then determine market functioning: who is employed, what real estate is developed, what businesses get financing and what is produced for whom. Internal market operations can be broken into three components-production, consumption and exchange-each with its own levers of change. Growing or moving markets entails changing the conditions of production, exchange or consumption in ways that allow market activity to include new people, assets or places.

The production or supply side of the market is influenced by factors that affect costs and productivity. If we want to expand housing markets toward producing more affordable housing, for example, production can be increased if the costs of materials go down (e.g., manufactured housing), if we can make the land assembly process more efficient or if we reduce regulations limiting productivity.

The consumption component of the market can be influenced through the levers of taste and income. Home ownership counseling or financial literacy programs, for example, affect the market's demand for housing and savings accounts, respectively. Increased employment income increases demand and so affects what goods and services the market produces.

For practical economic development purposes, it is useful to break out a third market component, the exchange function. In basic microeconomic theory, there are no information or transaction costs, so the trading or exchange—where producers meet consumers and demand matches supply—happen automatically. In real life, economists and others are increasingly focused on the ways that information imperfections, measurement and transaction costs heavily influence and often distort market operations. The costs of finding, evaluating and closing a transaction heavily influence who is hired, where investment occurs, what is produced for whom and myriad other economic activities. Moody's rating system, or a credit bureau, improve the exchange function, and so significantly expand market activity. Improving information functions and reducing these costs are among the most powerful ways to expand markets to include more people and places.

Policy Implications: The Roles of Government

What is the proper role and best means for government to enhance market operations toward inclusive economic growth? Examining the power and limitations of markets suggests four distinct roles for government with respect to markets.

First, government creates the environment that enables markets.

Second, because markets sometimes do not maximize utility, having imperfections, externalities and other failures, government has a role in improving markets.

Third, markets are not designed to achieve some goals, either because of other kinds of limitations (e.g., public goods) or because they are non-economic goals (e.g., equity). Our recognition of the power of market mechanisms, however, does imply that government often should be using markets to achieve these goals rather than just doing these things itself.

Fourth, in some instances, the non-market goals cannot be achieved by using markets, but we still want to approach them in ways that recognize the importance of markets by getting assets market-ready.

The role of enabling markets is particularly relevant to the goal of growth through increasing productivity. Improving markets relates to the goal of deploying market-ready assets that have been left out due to internal imperfections. Using markets relates to expanding markets on their margins to include assets further from the mainstream. The last role corresponds to moving assets to market, rather than the other way around. Generally, we are looking for government policies that enable, improve and use market operations, making them more inclusive in ways that increase overall economic growth, as well as policies that develop assets for markets.

Further Exploration

These general principles provide a framework for exploring new approaches to policy and revealing areas where further investigation might be particularly fruitful. That work entails better understanding of how to align inclusiveness with productivity growth in particular industries, markets and places, and with respect to particular assets. It entails exploration of how specific markets are operating and identification of imperfections and opportunities for enhancement. Finally, it entails designing new government programs to enhance productivity and expand markets, addressing imperfections, using markets wisely and moving the most distressed people and places toward the economic mainstream.

This information arises from a project to develop bipartisan economic development policies, sponsored by Opportunity Finance Network and CFED. Special thanks are due to Mark Pinsky and Sandra Kerr of OFN and Andrea Levere and Carol Wayman of CFED, and a diverse group of policymakers, advocates, scholars and practitioners, for making the project possible and for contributing to the ideas summarized here.

Figure 1

Government Roles

Figure 2

Government Roles

Bridges is a regular review of regional community and economic development issues. Views expressed are not necessarily those of the St. Louis Fed or Federal Reserve System.

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