On Saturday, Chris Edwards spent three-quarters of an hour discussing Cato’s Downsizing Government project on C‑SPAN’S Washington Journal program. Click here to watch the video.
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Tax and Budget Policy
The ‘Consumer Spending’ Myth
Journalists talk endlessly these days about the need for more consumer spending to revive the economy, and for government programs to juice consumer spending. Economist Steven Horwitz takes on the assumption that spending is the key to economic activity:
One of the most pernicious and widespread economic fallacies is the belief that consumption is the key to a healthy economy. We hear this idea all the time in the popular press and casual conversation, particularly during economic downturns. People say things like, “Well, if folks would just start buying things again, the economy would pick up” or “If we could only get more money in the hands of consumers, we’d get out of this recession.” This belief in the power of consumption is also what has guided much of economic policy in the last couple of years, with its endless stream of stimulus packages.
This belief is an inheritance of misguided Keynesian thinking. Production, not consumption, is the source of wealth. If we want a healthy economy, we need to create the conditions under which producers can get on with the process of creating wealth for others to consume, and under which households and firms can engage in thesaving necessary to finance that production.…
Putting more resources in the hands of consumers through a government stimulus package fails precisely because the wealth so transferred ultimately has to come from producers. This is obvious when the spending is financed by taxation, but it’s equally true for deficit spending and inflation. With deficit spending the wealth comes from producers’ purchases of government bonds. With inflation it comes proportionately from holders of dollars (obtained through acts of production) whose purchasing power is weakened by the excess supply of money. In neither case does government create wealth. Nor does consumption. The new ability to consume still originates in prior acts of production. If we want real stimulus, we need to free up producers by creating a more hospitable environment for production and not penalize the saving that finances them.
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Encouraging Polling Data on Spending Restraint vs. Deficit Reduction
When big-spending politicians in Washington pontificate about “deficit reduction,” taxpayers should be very wary. Crocodile tears about red ink almost always are a tactic that the political class uses to make tax increases more palatable. The way it works is that the crowd in DC increases spending, which leads to more red ink, which allows them to say we have a deficit crisis, which gives them an excuse to raise taxes, which then gives them more money to spend. This additional spending then leads to more debt, which provides a rationale for higher taxes, and the pattern continues — sort of a lather-rinse-repeat cycle of big government.
Fortunately, it looks like the American people have figured out this scam. By a 57–34 margin, they say that reducing federal spending should be the number-one goal of fiscal policy rather than deficit reduction. And since red ink is just a symptom of the real problem of too much spending, this data is very encouraging.
Here are some of the details from a new Rasmussen poll, which Mark Tapscott labels, “evidence of a yawning divide between the nation’s Political Class and the rest of the country on what to do about the federal government’s fiscal crisis.”
A new Rasmussen Reports national telephone survey finds that 57% of Likely U.S. Voters think reducing federal government spending is more important than reducing the deficit. Thirty-four percent (34%) put reducing the deficit first. It’s telling to note that while 65% of Mainstream voters believe cutting spending is more important, 72% of the Political Class say the primary emphasis should be on deficit reduction. …Seventy-four percent (74%) of Republicans and 50% of voters not affiliated with either of the major parties say cutting spending is more important than reducing the deficit. Democrats are more narrowly divided on the question. Most conservatives and moderates say spending cuts should come first, but most liberals say deficit reduction is paramount. Voters have consistently said in surveys for years that increased government spending hurts the economy, while decreased spending has a positive effect on the economy.
I wouldn’t read too much into the comparative data, since the “political class” in Rasmussen’s polls apparently refers to respondents with a certain set of establishment preferences rather than those living in the DC area and/or those mooching off the federal government, but the overall results are very encouraging.
Oh, and for those who naively trust politicians and want to cling to the idea that deficit reduction should be the first priority, let’s not forget that spending restraint is the right policy anyhow. As I noted in this blog post, even economists at institutions such as Harvard and the IMF are finding that nations are far more successful in reducing red ink if they focus on controlling the growth of government spending.
In other words, the right policy is always spending restraint — regardless of your goal…unless you’re a member of the political class and you want to make government bigger by taking more money from taxpayers.
So we know what to do. The only question is whether we can get the folks in Washington to do what’s right. Unfortunately, the American people are not very optimistic. Here’s one more finding from Rasmussen.
Most voters are still not convinced, even with a new Republican majority in the House, that Congress will actually cut government spending substantially over the next year. GOP voters are among the most doubtful.
Killing Obama’s ‘Build America Bonds’ Is a Big Reason to Like the Tax Deal
There are plenty of reason to like and dislike the tax deal between President Obama and congressional leaders. On the plus side, we dodge a big tax increase for the next two years. We also replace a goofy and ineffective “make work pay” tax credit with a supply-side oriented reduction in the payroll tax rate (albeit only for one year, so there probably won’t be much economic benefit).
On the negative side, the deal extends unemployment benefits, which has the perverse effect of subsidizing unemployment. The deal is also filled with all sorts of corrupt provisions for various interest groups such as ethanol producers.
Then there are provisions such as the 35 percent death tax. Is this bad news, because it is an increase from zero percent this year? Or is it good news because it is much lower than the 55 percent rate that was scheduled to take effect beginning next year? That’s hard to answer, though I know the right rate is zero.
But here’s one bit of good news that has not received much attention. The tax deal ends the “Build America Bonds” tax preference, which was one of the most destructive provisions of Obama’s so-called stimulus. Here’s an excerpt from a Bloomberg report.
Senate Democrats backing the subsidy, which has helped finance bridges, roads and other public works, fell short in a bid to get the program added to a bill extending the 2001 and 2003 income-tax cuts. That failure was the latest in efforts to keep the Build America program alive beyond its scheduled end on Dec. 31. …While Obama and Democrats have supported prolonging the program, they have run into opposition from Republicans critical of the stimulus package. Extensions have twice passed the Democratic-controlled House only to stall in the Senate, where the Republican minority has sufficient power to block legislation. The U.S. government pays 35 of the interest costs on Build America bonds. …State and local governments, the U.S. Chamber of Commerce and representatives of the construction industry are among the program’s advocates.
Build America Bonds are a back-door handout for profligate state and local governments, allowing them to borrow more money while shifting some of the resulting interest costs to the federal government.
But states already are in deep trouble because of too much spending and debt, so encouraging more spending and debt with federal tax distortions was a very bizarre policy.
Moreover, the policy also damaged the economy by creating an incentive for investors to allocate funds to state and local governments rather than private sector investments.That’s a very bad idea, unless you somehow think (notwithstanding all the evidence) that it is smart to make the public sector bigger at the expense of the private sector.
In one fell swoop, Build America Bonds increased the burden of the federal government, encouraged a bigger burden of state and local government, and drained resources from the productive sector of the economy.
That’s stupid, even by Washington standards. So whatever we think of the overall package, let’s savor the death of this destructive provision.
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This Week in Government Failure
Over at Downsizing the Federal Government, we focused on the following issues this week:
- Unfortunately, the president’s Fiscal Commission appears to have operated on the premise that the federal government should continue to do everything it now does.
- Getting Rep. Jeff Flake on appropriations is a step in the right direction, but his appointment can’t be a token gesture.
- A new study finds that policymakers needn’t fear spending cuts.
- House Republican leaders’ support for “Prince of Pork” Hal Rogers to chair the chamber’s appropriations committee is a slap in the face of voters who demanded change in November.
- Michigan Gov. Jennifer Granholm, whose state’s unemployment rate is almost 13 percent, has advice for Washington on how to create jobs. No, it’s not April 1st.
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Bad Advice from Gov. Polar Star
In 2006, Michigan Gov. Jennifer Granholm told citizens, “In five years, you’re going to be blown away by the strength and diversity of Michigan’s transformed economy.” When those words were uttered, Michigan’s unemployment rate was 6.7 percent. It’s now almost 13 percent.
Although Michigan’s economic doldrums can’t entirely be pinned on Granholm, her fiscal policies have not helped, such as her higher taxes on businesses.
The Mackinac Center’s Michael LaFaive explains why Granholm’s grandiose proclamation in 2006 hasn’t panned out:
In this case, Gov. Granholm was promoting her administration and the Legislature’s massive expansion of discriminatory tax breaks and subsidies for a handful of corporations. The purpose and main effect of this policy is to provide “cover” for the refusal of the political class to adopt genuine tax, labor and regulatory reforms, which they shy away from because it would anger and diminish the privileges and rewards of unions and other powerful special interests.
LaFaive’s colleague James Hohman recently pointed out that “Michigan’s economy produced 8 percent less in 2009 than it did in 2000 when adjusted for inflation. The nation rose 15 percent during this period.”
Granholm has written an op-ed in Politico on how federal policymakers can “win the race for jobs.” This would be like Karl Rove penning an op-ed complaining about Obama spending too much. Oh wait, bad example.
Granholm advises federal policymakers to create a “Jobs Race to the Top” modeled after the president’s education Race to the Top, which as Neal McCluskey explains, has not worked as she claims. Granholm’s plan boils down to more federal subsidies to state and local governments and privileged businesses to develop “clean energy” industries.
Typical of the dreamers who believe that the government can effectively direct economic activity, Granholm never considers the costs of government handouts and central planning. A Cato essay on federal energy interventions explains:
The problem is that nobody knows which particular energy sources will make the most sense years and decades down the road. But this level of uncertainty is not unique to the energy industry—every industry faces similar issues of innovation in a rapidly changing world. In most industries, the policy solution is to allow the decentralized market efforts of entrepreneurs and early adopting consumers figure out the best route to the future. Government efforts to push markets in certain directions often end up wasting money, but they can also delay the development of superior alternatives that don’t receive subsidies.
Granholm recently received “Sweden’s Insignia of First Commander, Order of the Polar Star for her work in fostering relations between Michigan and Sweden to promote a clean energy economy” from His Majesty King Carl XVI Gustaf. Unfortunately, her prescription for economic growth would be a royal mistake.
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The Barack Obama Tax Reform Plan?
In my fiscal policy speeches, I sometimes try to get a laugh out of audiences by including a Powerpoint slide with this image. Leading up to this slide, I talk about the Armey/Forbes flat tax and explain that it would eliminate the corrupt internal revenue code and replace it with a simple 10-line postcard. But I then warn that simplicity is not the same as low taxes and show the Obama slide.
But maybe jokes about Obama tax reform were a bit premature. According to the New York Times, the White House is giving serious consideration to a sweeping plan to streamline the tax system.
While administration officials cautioned on Thursday that no decisions have been made and that any debate in Congress could take years, Mr. Obama has directed his economic team and Treasury Department analysts to review options for closing loopholes and simplifying income taxes for corporations and individuals, though the study of the corporate tax system is farther along, officials said. The objective is to rid the code of its complex buildup of deductions, credits and exemptions, thereby broadening the base of taxes collected and allowing for lower rates — much like a bipartisan majority on Mr. Obama’s debt-reduction commission recommended last week in its final blueprint for reducing the debt through 2020. Doing so would offer not only an opportunity to begin confronting the growth in the national debt but also a way to address warnings by American business that corporate tax rates and the costs of complying with the tax code are cutting into their global competitiveness.
There’s actually much to like in the Administration’s potential plan. Lower tax rates will help the economy by improving incentives for productive behavior. And getting rid of distortions will further enhance growth since people no longer would have an incentive to make inefficient decisions just for tax purposes. And simplification could have a profound impact on cleaning up the horrible mess at the IRS. Moreover, a plan that trades lower tax rates for fewer tax distortions would be a welcome change from the poisonous soak-the-rich tax policy the White House has been pursuing.
This sounds like good news, but there’s a catch. The White House is looking at this exercise as a way to not only clean up the tax code, but also as a way of getting more money for politicians. This blog post explains why this is the wrong approach from an economic perspective, but politics will be an even bigger obstacle.
The American people want tax reform, but they don’t want more of their money going to Washington. And most Republican politicians have wisely pledged not to support legislation that increases the overall tax burden.
So the ball is in Obama’s court. If he genuinely wants to make America more prosperous and competitive, he should move forward with plans to lower tax rates and eliminate tax distortions, but he needs to tell his staff that tax reform should not a Trojan Horse for a tax increase.