Taxes, Stimuli, and Recessions

There are three ways to stimulate an economy heading into or already in a recession: increase consumer spending, increase business investment, or increase government spending. In my opinion, government spending is by far the worst way to stimulate the economy. Government bureaucracies are notorious for being wasteful, and increasing government spending also increases the size of the bureaucracies involved. Furthermore, our economy is driven largely by the private sector. If government is leading the way in stimulating the economy, our economy will then become more dependent on it for further stimulus.

Stimulating consumer spending and business investment can be done through several means. On the monetary side, when the Fed lowers interest rates, it hopes to spark either or both. On the fiscal side, the Federal government lowers taxes to stimulate each. In order to stimulate consumer spending, the government normally lowers income taxes which of course leaves consumers with more of the money they earn. (which the government then hopes they will spend) In order to stimulate, business investment the most likely tax to lower is the capital gains tax.

This brings me to the current debate regarding the current economic slowdown. Now, I am on record saying that the only stimulus we need is to simply make the Bush tax cuts permanent. Without using those exact words, John McCain has largely the same perception as me.

The Democrats on the other hand see stimulus in a much more complicated manner. Here is what Barack Obama recently said about capital gains taxes...

Currently, the capital gains tax rate is 15 percent.

"When I talk to people like Warren Buffett, or others, and I ask them, you know, how much of a difference is it going to be if it’s 20 or 25 percent, they say, ‘Look, if it’s within that range then it’s not going to distort, I think, economic decision making,” said Obama in an interview on March 27 on CNBC’s Closing Bell program.

Hillary Clinton, as well as most Dems, also favors raising the capital gains tax. Furthermore, the Democrats also favor raising the income tax of the highest tax bracket at least. The problem is that raising income taxes on the wealthy in the beginning of a recession was tried once before: 1930

Hoover, “undid the Calvin Coolidge-Andrew Mellon tax cuts, raising the top marginal income-tax rate to 63% from 25%” and there fore, “the recession became a Depression.”

These tax increases will be combined with significant government spending. Here are some of the spending proposals that Obama has proposed.

Obama's investment would be over 10 years as part of two programs. The larger is $150 billion to create 5 million so-called "green collar" jobs to develop more environmentally friendly energy sources.

Sixty billion would go to a National Infrastructure Reinvestment Bank to rebuild highways, bridges, airports and other public projects. Obama estimated that could generate nearly 2 million jobs, many of them in the construction industry that's been hit by the housing crisis.

Hillary Clinton proposes to spend somewhere in the neighborhood of 100 billion dollars to create jobs.

Now, it is ludicrous on any sort of logical policy level to ever simultaneously lament a weakening economy and also propose billions of dollars in tax increase. Going through three weeks of economics' classes will teach anyone how counter productive that is. Of course, I don't believe that policy has anything to do with these proposals, but rather this is part of a larger and evolving campaign of class warfare.

Capital gains taxes are largely perceived as those that wealthy and businesses pay. The highest tax bracket speaks for itself. The spending the Democrats plan on can be perceived as favoring the middle class. Whether or not this is a good political strategy remains to be seen. On policy, this is an unmitigated disaster. The Democrats would have us stunt two of the three stimulu while aggressively increasing government spending, the worst stimuli by far. What this will create is an economy nearly totally dependent on government spending.