A Liberal's View of Fiscal Policy

Robert Frank writes an interesting piece in the New York Times about the direction that Barack Obama should take his economic stimulus. His basic thesis is that Obama need not wait to increase taxes on the wealthy. The wealthy won't spend any less even with higher taxes and this money can be used to stimulate the middle class. In this case, it would not only be economically fair but stimulating. Here are the most relevant parts.

His apparent concern is that raising anyone’s taxes immediately might worsen the economic crisis. As Mr. Obama’s senior adviser, David Axelrod, said when asked on Fox News about the delay, “The main thing right now is to get this economic recovery package on the road, to get money in the pockets of the middle class, to get these projects going, to get America working again, and that’s where we’re going to be focused in January.”

Of course, the government’s first priority must be to stimulate spending as quickly as possible, deficits be damned. But it’s important to get the biggest possible stimulus for any given deficit. To that end, it would make sense for Mr. Obama to stick with his original timetable. Eliminating the Bush tax cuts right away would make it possible to generate a much larger immediate increase in total spending.

Higher tax rates for top earners wouldn’t appreciably reduce their spending. A robust finding in behavioral research is that people are extremely reluctant to accept cutbacks in their standard of living.

With few exceptions, high-income taxpayers earn substantially more during their lifetimes than they spend, generally bequeathing the surplus to heirs or charities. If these taxpayers faced slightly higher rates, they would have ample resources to maintain their current lifestyles, so most would keep spending as before. The only consequence would be that, years from now, they would leave smaller bequests.

There needs to be a debate desperately involving something that Frank said. Frank said that raising taxes on the wealthy won't reduce their spending appreciably because wealthy folks put their disposable income into charity or to their heirs.

Ultimately, it is important to define spending. To someone like Frank, spending is defined in a very narrow way like clothes, food, furniture, etc. Frank doesn't see what wealthy folks do with their excess money as "spending" because they don't spend on stuff. I see spending in a whole different way. I see a wealthy person spending their disposable income on a second home, an investment property, a building, a business, an investment, or even just by putting it into a bank account. To me all of this is spending that is no different than buying clothes. This is a vital debate because the manner in which we define spending will provide the blue print to our future economic policy.

To folks like Robert Frank, spending is narrowly defined. As such, there is no negative to increasing taxes on the wealthy because folks like Frank don't see those extra taxes as going toward spending. When those extra taxes are then used on the middle class, folks like Frank see that as the bedrock of sound fiscal policy. To me, what Frank refers to is merely consumer spending, and consumer spending is merely one sub category of spending. There is business spending and investment that are also a part of the larger category of spending. Raising taxes on anyone or anything will cut one of these spending sub categories and slow down any economic recovery.

Frank says one more thing that is interesting.

In a nutshell, the claim is that low tax rates for top earners prompt small businesses to create jobs. Although this idea went largely unchallenged during the presidential campaign, it flies in the face of everything we know about the economic logic of hiring decisions.

It rests implicitly on the premise that business owners will hire new workers whenever they can afford to do so. What matters, however, is not whether owners can afford to hire, but whether hiring will increase their profit.

If the goods produced by additional workers can be sold for at least enough to cover their salaries, hiring makes economic sense, no matter how poor a business owner might be. But if additional workers won’t produce enough to cover their salaries, hiring is a losing move, even for the richest owners. The after-tax personal incomes of business owners are irrelevant in hiring decisions.

This idea has some merit but it is also very simplistic. Businesses invest more for a variety of reasons. Many investments take years to materialize. While in the future an investment could pay off, that doesn't mean that a business can afford to take on the expense now. I don't know any business owner that isn't always looking to expand, but often they can't afford to expand. As such, the idea that increasing taxes on a business owner won't decrease their investment in capital like labor is awfully simplistic.

Frank then finishes.

IN any event, the most important barrier to current hiring is not an absence of credit but the fact that not enough people want to buy what companies are selling. To eliminate this demand deficit as quickly as possible, the Bush tax cuts on top earners should be repealed right away, freeing money for more effective use.

Although the first concern of the new administration must be to get the economy back on its feet, economic justice was a central theme of Mr. Obama’s campaign. In the wake of the 9/11 attacks, and with the nation embroiled in two wars, Americans were poised to respond to a call for national sacrifice. Instead, President Bush and Congress enacted huge tax cuts for the wealthiest families.

This is boiler plate liberal economic propaganda. Effective is a nice sounding word, but it is totally meaningless unless it is specific. If there is a more effective place to put the money that now goes to the Bush tax cuts, Frank needs to spell it out. Simply saying it could be used more "effectively" is nonsense.

Then, Frank engages in liberal demagoguery. Once again, he pulls out the tired line about how we should have made sacrifices and instead Bush cut taxes. We were in a recession. The three months following 9/11 saw the economy lose one million jobs. By August 2003, we were once again gaining jobs and that went on until the early part of this year. The Bush tax cuts were enacted to stimulate the economy and that's what they did. The economy is in an even worse state now, and Frank engages in historical distortion in order to propose a very dangerous policy.