By Mariana Mazzucato and Anna Hope Emerson
Published: October 26, 2026
Section: Economics / Global Policy
Introduction: The Modern Illusion of Fiscal Constraint
LONDON — In contemporary economic policymaking, a pervasive narrative has taken root across capitals from Washington to Canberra: governments have run out of room to act. As citizens grapple with deepening wealth inequality, volatile labor markets, and a relentless cost-of-living crisis, political leaders routinely plead exhaustion. Fiscal space, the public is told, is strictly limited. The state’s ledger is overdrawn, and therefore, its hands are tied.
Yet, this pervasive squeeze is, in many instances, entirely self-imposed. It is the direct consequence of a rigid, outdated ideological framework that equates fiscal responsibility almost exclusively with the short-term reduction of budget deficits and national debt. This narrow definition mistakes the balance sheet of a sovereign government for that of a household or a private corporation. In doing so, it ignores a fundamental truth of macroeconomic reality: true fiscal health is not measured by the absence of debt, but by an economy’s underlying capacity to grow, innovate, withstand systemic shocks, and fulfill its social obligations over the long term.
When governments blindly adhere to arbitrary deficit targets during economic downturns, they frequently trigger a counterproductive spiral. Austerity measures contract aggregate demand, choke off vital economic activity, and—ironically—leave the debt-to-GDP ratio higher, not lower. Moreover, when rigid fiscal rules bite, public investment is invariably the first item cut. Infrastructure projects are shelved, green transition funding is delayed, and research and development budgets are slashed. This starves the very engines that generate future tax revenues and sustainable growth.
As a growing number of governments worldwide begin to recognize the urgent need for greater public intervention to correct market failures, they face a critical strategic choice. However, as the debate shifts toward state intervention, industrial policy, and public ownership, policymakers must exercise extreme caution. The core issue is not simply who holds the title deed to an enterprise or a sector; what ultimately matters is the state’s dynamic capacity to steer economic activity purposefully toward strategic objectives in the service of the common good.
Main Facts: The Anatomy of State Capability
The contemporary debate surrounding state intervention is frequently mischaracterized as a binary choice between unfettered free-market capitalism and heavy-handed, Soviet-style central planning. This false dichotomy obscures the reality of how modern capitalist economies actually function. Markets are not natural, self-correcting phenomena that exist independently of government rules; rather, they are outcomes of legal frameworks, regulatory structures, and public-private ecosystems shaped directly by state action.
Several core facts define the current economic landscape:
- The Myth of Neutral Regulation: Every market has rules governing property rights, labor standards, intellectual property, and financial transactions. When governments pretend to remain "neutral," they are merely endorsing the status quo—often one that favors entrenched corporate monopolies and speculative capital over productive investment and wage growth.
- The Public Origin of Innovation: From the internet and GPS to modern biotechnology and artificial intelligence, virtually every foundational technological breakthrough of the past century has been heavily underpinned by direct public sector risk-taking. Private venture capital rarely funds foundational, high-uncertainty research; it steps in much later to commercialize technologies already derisked by the state.
- The Ownership Trap: Simply nationalizing industries or acquiring equity stakes in struggling corporations does not automatically translate to better economic outcomes or public benefit. Without clear directional goals, internal institutional competence, and accountability frameworks, state-owned enterprises can easily replicate the worst behaviors of private monopolies—becoming bureaucratic, risk-averse, and unresponsive to public needs.
- The Fiscal Policy Blind Spot: Standard macroeconomic models used by many treasury departments routinely underestimate the multiplier effects of public investment. Spending directed toward green energy infrastructure, public health, and education yields compounding economic returns that far outweigh the initial capital outlay, crowding in private investment rather than crowding it out.
Chronology: From Neoliberal Austerity to the Return of Industrial Policy
To understand how the global economy arrived at its current crossroads, it is necessary to trace the evolution of macroeconomic governance over the past half-century.
The Neoliberal Consensus (1980s – 2008)
- Early 1980s: The ascendancy of supply-side economics, deregulation, and privatization transforms global economic policy. Governments systematically dismantle industrial policies, sell off state assets (utilities, railways, telecommunications), and outsource core public functions to the private sector under the ideological assumption that markets are always more efficient than governments.
- 1990s – 2000s: Fiscal rules are institutionalized globally. Mechanisms such as the European Union’s Maastricht Treaty criteria codify strict limits on government deficits (3% of GDP) and public debt (60% of GDP), effectively tying the hands of fiscal authorities regardless of economic cycles.
The Crises of Confidence (2008 – 2020)
- 2008 – 2009: The Global Financial Crisis exposes the catastrophic failures of unregulated financial markets. Governments are forced to intervene with multi-trillion-dollar bailouts, temporarily resurrecting the state as a lender of last resort. However, rather than restructuring the financial system for public benefit, the post-crisis era quickly returns to austerity, particularly in Europe, leading to a lost decade of sluggish growth and rising inequality.
- 2020 – 2022: The COVID-19 pandemic shatters existing fiscal orthodoxy. Faced with existential health and economic threats, governments enact massive emergency spending programs. Central banks and treasuries deploy trillions of dollars, proving that fiscal space is largely a political choice rather than a fixed financial constraint. Supply chain shocks further expose the fragility of market-driven globalization, forcing a reevaluation of national economic resilience.
The Modern Pivot to State-Led Growth (2023 – Present)
- 2022 – 2024: Major economies introduce transformative legislative packages, such as the United States’ Inflation Reduction Act (IRA) and the European Union’s Green Deal Industrial Plan. These frameworks mark a decisive return to active industrial policy, utilizing subsidies, tax credits, and public-private partnerships to shape the green transition.
- 2025 – 2026: Governments grapple with the implementation phase of these massive investments. Policymakers discover that deploying capital is only half the battle; the deeper challenge lies in building the administrative capacity, conditionalities, and institutional expertise required to ensure that public money delivers genuine public value rather than corporate windfalls.
Supporting Data: The Cost of Underinvesting in State Capacity
Empirical evidence consistently demonstrates that weak state capacity and misguided fiscal austerity exact a heavy toll on long-term economic vitality.
- Public Investment Deficits: According to recent analyses by international economic monitors, public net investment (gross investment minus depreciation) in advanced economies fell significantly from the 1970s through the 2010s, hovering near historic lows just as aging populations and climate change demanded accelerated infrastructure upgrades.
- The Multiplier Paradox: Economic studies consistently show that during periods of high economic slack and low interest rates, government spending multipliers can exceed 1.5. This means every dollar of public investment generates more than a dollar’s worth of economic output, directly refuting the claim that debt-financed public investment is inherently inflationary or damaging to growth.
- The Administrative Hollow-Out: Decades of outsourcing government functions to private consulting firms and contractors have degraded the internal competence of civil services. Governments now spend tens of billions of dollars annually on external consultants to perform tasks that public agencies were once staffed and equipped to handle directly, creating a vicious cycle of institutional amnesia and dependency.
Official Responses and Perspectives
As governments navigate this complex terrain, viewpoints among policymakers, economists, and international institutions remain deeply polarized.
The Fiscal Traditionalists
Proponents of traditional fiscal conservatism argue that abandoning strict deficit limits courts disaster. Speaking at a recent international economic forum, a prominent central bank governor warned:
"While public investments in the green transition and infrastructure are vital, we must not lose sight of long-term debt sustainability. Unchecked borrowing risks stoking inflationary pressures and crowding out private capital markets. Governments must find ways to achieve their goals within existing fiscal envelopes through better prioritization, rather than expanding the sovereign balance sheet."
The New Economic Consensus
Conversely, advocates for modern state capacity argue that traditional metrics are wholly unsuited to the crises of the 21st century. Economic reformers emphasize that failing to invest in climate resilience or public health creates massive, uncounted liabilities that dwarf any near-term fiscal deficit.
Policy architects behind recent industrial strategies emphasize that public intervention must be paired with strict "public value" conditions. As labor and economic ministries begin to draft stricter oversight rules for corporate subsidies, officials note that public investments should be tied to commitments on domestic job creation, wage floors, technological knowledge-sharing, and reinvestment in research rather than stock buybacks.
Implications: Building the State of the 21st Century
The realization that governments must take a more active role in steering economic outcomes is a welcome departure from decades of neoliberal dogma. However, simply writing larger checks or taking equity stakes in troubled companies is not a silver bullet.
To turn state intervention into sustained, broad-based prosperity, policymakers must focus on three foundational pillars:
- Rebuilding Internal Competence: Governments must reinvest in their own administrative and analytical capabilities. A state that relies entirely on private contractors to design and execute public policy is a hollow state. Cultivating expertise within the civil service is essential for negotiating fair terms with the private sector and monitoring the execution of strategic projects.
- Designing Robust Conditionalities: Public funding should never be granted as unconditional corporate welfare. When the state takes risks—whether through grants, loans, or equity—it has a right and a duty to share in the upside. This includes placing conditions on prices, preventing speculative stock buybacks, and ensuring that intellectual property generated with public funds remains accessible and affordable for the public good.
- Redefining Fiscal Responsibility: Treasury departments must transition away from rigid, arbitrary debt-to-GDP ratios and embrace a framework of functional finance. Fiscal policy must be judged by its ability to deliver on critical societal goals: decarbonizing the economy, reducing regional inequality, ensuring universal access to care and education, and fostering resilient, innovative industrial ecosystems.
Ultimately, the future of democratic capitalism depends not on whether the state owns everything or nothing, but on whether it possesses the vision, competence, and moral clarity to govern in the interest of all its citizens.
