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Sunday, December 7, 2008

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.


Anonymous said...

Corporate Taxes:
Many countries now have lower taxes on business than the USA does -- and are doing very well as a result”

Some things seem stand out:
• Who actually owns a corporation ?
o I know there are several kinds of corporations, but the majority of the corporations that are referred to in the media are publicly traded and therefore owned by the multitudes.
o It brings the question, who is ‘big oil’ ? A conglomerate of ‘teacher’s funds’, retirement funds, millions of single investors etc. And maybe a few millionaires…granted.
o When we tax a corporation, we are reducing the dividends that would be paid to the investors, by itself a betrayal of trust because the investors had an expectation of profit in the first place. We are also reducing the corporation’s ability to improve its business processes through reinvestment which usually includes hiring more people.
o When we tax a corporation, we are making money more scarce in the money market, making it more difficult for it and other businesses to borrow. Interest rates tend to rise.
o The collected tax money is spent by the government in much less efficient ways than would otherwise be in a ‘profit seeking’ market function.
o In essence, the fundamental question: ‘Who pays in the end ?’ is warranted in full. We all do.

• One example, Sarah Palin claims to have imposed a ‘windfall profits’ tax on the oil companies in Alaska, and is proud of this record.
I consider it to be a bad move, even immoral to some extent. It is the breaking of a ‘covenant’. The investors expected ‘unchallenged’ return – once someone starts playing G-d deciding how much is too much profit, who knows where it will end…

• When we tax ‘The rich’, there is a similar situation happening. The rich person uses some percent of their income for consumption but a lot of it ,in the case of the very rich especially, is reverted back into investment in the economy. Again, it makes the money in the economy more scarce and costly – we are really taxing everyone.
• So, in conclusion, using taxation as a form of wealth redistribution also has the side effect of eroding the economy and making everyone poor.

Yechiel said...

Frank is confusing a few different claims and ends up arguing against a straw man. Lower CORPORATE taxes, more than lower top-earner income taxes, are what drive small-business job creation and/or lower consumer prices. (High consumer prices are the ultimate REGRESSIVE tax, and so theoretically should be the mortal enemy of liberals.)
Lower income taxes accomplish this much more indirectly, but the article barely mentions corporate taxes.

mike volpe said...

You know I didn't even notice that corporate tax rates weren't mentioned. Based on the argument Frank makes, I would assume he would say that corporations make investments based on future returns not costs, and so tax rates make no different. Of course, ask the Irish, who saw their GDP explode following a massive reduction in corporate tax rates, that they don't matter. I know the CEO of Fedex said that a five percent reduction in corporate tax rates would mean 50k in new jobs at his company.