Savvy Cities

Story Highlights:

• Cities in Southern California have begun to swap federal grants in a market-like manner, allocating federal funds to those who need it most—for a price.
• It's not just smart cities that'll spend federal funds in free markets—they'll employ workers who'll spend and re-spend those federal dollars.
• And with fiscal spending worldwide going gangbusters, it's only a matter of time before stocks react positively to the cash infusion—investors should make sure they're there for the ride.

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Q: How do you spend a couple hundred billion dollars quick?
A: Likely, not too well.

But some cities in Southern California have begun to swap federal grants, and if you like free markets, it's a beautiful sight to behold. Here's the gist. The Capitol Hill crew is scared stiff by the financial panic last fall—and well they should be. So the pols consult some egghead economists. Consensus is, let's spend a bunch of cash to fill the vacuum left by the private sector—let's create more jobs! Okay, sounds good. But how? Therein lies the problem. How in the world do you efficiently spread a couple hundred billion dollars? How do you send that money where it's most needed, funding what's most productive? Basically, you don't. No single individual or elite group of individuals can figure out how to direct the economy efficiently—no matter how many abacuses they employ.

Enter the free market. And in this case—hold on to your hats—a free market that's popped up in the middle of the gargantuan federal bureaucracy. In this instance, the feds send money to Southern California for infrastructure—a favorite pet project of politicians everywhere. Great, says Southern California. Let's get this money to all our city governments—let's create jobs! So, regardless of need or ability to utilize funds as directed, Southern California cities get some stimulus dough. Some need it badly. In fact, they have so many urgent infrastructure projects, they don't get enough. Others don't have a single "shovel ready" infrastructure project; however, they do have other urgent needs. Clearly these funds haven't been efficiently or productively distributed, at least initially.

So how are these cities solving the problem? Mutually beneficial trade with price determining allocation—a market. Those with immediate infrastructure needs are buying federal funds at a discount from those whose immediate needs don't include infrastructure. So cash that can be used for any old project is exchanged for federal funds that must be used for infrastructure only. In this case, for example, the city of Bradbury is working out a deal to send the city of Torrance $500,000 in federal infrastructure funding for $315,000 in cash that's free of strings. And other So Cal cities are working out similar deals. That means not only will the infrastructure money go where it'll create the most jobs, but in the reallocation, cities needing money for projects other than infrastructure will benefit too.

Absent federal interference (and that's no guarantee), we like what we see—a free market working its magic. Now don't get us wrong, this doesn't mean all cities will be so smart. But if you don't believe fiscal stimulus can work because of dumb government allocation, think again. This is just one example of why that's not the case. Once funds leave the federal government's hands, they become increasingly productive no matter how Uncle Sam first spent them. Local governments will have to pay workers to get their projects done. In the hands of those workers, federal dollars will be spent and re-spent—those decisions too (in fact, the vast majority of all transactions initiated by the federal stimulus) will be dictated by the free market.

A few savvy cities solving stimulus missteps makes us smile. That money won't go to waste. And with fiscal spending worldwide going gangbusters, it's only a matter of time before stocks react positively to the cash infusion—investors should make sure they're there for the ride.