Friday, August 09, 2002

An interesting bit off the MaxSpeak blog: MARY HAD A LITTLE SCAM. My friend Jim C. at the excellent Rittenhouse Review wants me and DeLong to come down on VP Cheney's counselor Mary Matalan for claiming that "every single economist agrees” that the recession of 2001 would have been “longer and deeper” were it not for the Bush administration’s tax cut and “stimulus package.” Ho hum. At this past May's meetings of the National Tax Association, a panel presented three different papers claiming the opposite -- that the tax cuts were harmful to growth. DeLong blogged one of them here a while ago. The other papers were by Douglas Elmendorf and David Reifschneider of the Federal Reserve Board of Governors, not exactly a hotbed of left-wing thought, and Eric M. Engen of the American Enterprise Institute, ditto. Kevin Hassett, also of AEI, was a discussant on the panel and took no exception to the findings. How could a tax cut reduce growth? Because higher long-term deficits could increase long-term interest rates, thereby discouraging investment in the here and now. I happen to doubt the importance of this, but Mary's claim of unanimous acclaim among economists for the tax cut is beyond ludicrous. 10:05:43 PM    comment []

I almost fell out of my chair when I read the second paragraph of this recent David Broder piece: For most of his presidency and, indeed, his political career, George Bush has enjoyed the reputation of saying what he means and meaning what he says. The man who described his give away to the rich as "a middle tax cut" says what he means and means what he says?  The man who talked on and on about bipartisanship but has torpedo every bipartisan idea to come out of the Senate?  The man who promised a "responsibility era" but blames his predecessor for everything bad that happens during his watch?  If there is one person is says what he doesn't mean and means what he didn't say, it's George W. Bush. 9:17:04 PM    comment []

As kind of a follow up to my last post, here is Dubya's comments on his tax cut from his July 15th economic speech: And if you're interested in recovery -- if you're interested in recovery of the job base, it is important for us to remember who creates most of the jobs: and those are the small business owners in America. And that's why I fought so hard for a tax cut for the American people. I believe when you cut taxes, it spurs economic growth, particularly in the small business sector. (Applause.) Most entrepreneurs are not incorporated. Most small businesses are what they call sole proprietors or limited partnerships. And so they pay tax like an individual pays tax. And so when we reduce the taxes on the individuals, we reduce the taxes on small business growth. It was important to do that. I remember the outcry, of course, because if you want more money in Washington, you don't want to let the people keep their own money. So they started quoting these textbooks that said, when times are slow, raise taxes; when times are slow, don't let the people keep their money. The textbook I read says that if we let you have your own money, you'll decide to spend it on a good and service. And if you decide to spend it on the good and service, somebody will produce the good and service. And when somebody produces the good and service, it means somebody is going to find work. In the tax relief plan, we reduced the marriage penalty. (Applause.) We reduced the alternative minimum tax which affects many small business owners. And we did something else that's important -- it's important for all small business owners -- and that is we eliminated the death tax. (Applause.) I say we eliminated the death tax. By a quirk of the Senate rules, the death tax, however, isn't eliminated after 10 years. That's a hard one to explain. (Applause.) We eliminated it, but didn't eliminate it. So for the good of long-term planning, for the good of the entrepreneurial spirit, for the good of allowing people to pass their business, farm, or ranch to whoever they want to pass it to, we need to make the tax cuts that we put in place permanent. (Applause.) Dubya says that cutting the taxes on the profit small business owners make will result in small business owners hiring more people.  Now, if I am a small business owner who is making $60K a year profit and my taxes drop from $15K to $13K, why would I hire another person in my business?  There is no direct link between the two. Dubya next says that cutting taxes will result in increased demand and that increase demand will result in more jobs.  That is true, but by the same token, the government could spend the same money and the same spending will increase jobs.  Now if the government creates jobs through spending, the people who are going to most benefit are those formerly without jobs.  If it is done through a income tax tax cut, it will most benefit those in the top 60% of incomes (they are the ones who pay income tax).  So Dubya's method of increasing demand is less equitable than the alternative of increasing spending. The "allowing people to pass their business, farm, or ranch to whoever they want to pass it to" is also bogus.  The Republicans will talk on and on about the need to eliminate the "death tax" to "save the family farm", but no one instance can be found of a family having to sell the farm in order to pay inheritance tax.  For small businesses, the same holds true. 8:18:00 PM    comment []

The standard Republican lies about the economics of tax cuts I wrote this at the end of May and posted it as a comment to a weblog.  The stock market's recent plunge makes it really apropos today. Tax cuts encourage investment The Truth Part 1 - Tax cuts always decrease investment For example, let's say the government gives a wealthy person a $100 tax cut.  Now, the wealthy person will spend some of the $100, put some of it in non-investment financial instruments like cash and his checking account, and he will invest some of it.  Say he invests $50.  The Republicans then proudly say, "Look, the tax cut created $50 of investment."  But were did the $100 come from?  The government had to borrow it from someone.  Say the government borrowed it from the same wealthy person.  Were is the wealthy person going to get the $100 from?  From selling his other investments.  So in this case, the amount of money in our simple example that the weathy person has invested decreases by $50.  Because the government has to borrow from investors to make up for the reduced amount of tax revenue, a tax cut will always decreate the total amount of money invested. The Truth Part 2 - Tax cuts discourage long-term investment What has happened recently (the 90's and later) is that bond investors respond to a decreasing government deficit by decreasing long-term interest rates and respond to an increasing government deficit by increasing long-term interest rates.  There are economic theories that suggest why this should happen and there are economy theories that suggest this shouldn't happen, so I am going to go on recent experience. Long-term interest rates are a major factor in whether corporations make long-term investments.  Let's say a corporation is considering a project that, when the rate of return is adjusted for risk, pays back 7% over 30 years.  If the long-term interest rate is 6%, the company will make the investment.  If the long-term interest rate is 8%, the company won't do it.  Part of the reason there has been little business investment in 2002 is that the long-term interest rates are up. The Truth Part 3 - Tax cuts discourage foreign investment This is weak, but could become important.  Foreigners invest in the US because they think the economy is well run and will produce better long-term returns than other countries.  If the US government does things that give foreign investors more confidence, then more foreign investment will come into the US.  The amount of foreign investment money dwarfs the amount of money involved in a tax cut. Now here is the weak part - one could argue that foreign investors will be spooked by a government that seems to have lost control of the deficit.  There are lots of other factors that drive foreign investor confidence such as the reliability of company financials.  But according to a recent Krugman column, all of the factors are pointing in the wrong direction and foreign investors have started pulling their money out of the US. Tax cuts for high-earners encourage them to work hard and longer The Truth - Tax cuts encourage high-earners to work less Let's say I am a consultant who works 48 hours a week at a $100/hour, with an effective tax rate of 30%.  That means my net pay is $3,360 per week.  Let's say that my effective tax rate drops to 20%.  I can now earn the same net pay in 42 hours a week.  By economic theory, because I value free time, I will substitute some of the hours I was working for free time.  With the new tax rate, I will work somewhere between 48 and 42 hours per week based upon how much I value free time. Tax cuts for the wealthy encourage entrepreneurship The Truth  - Tax cuts for the wealthy discourages enterpreneurship The Republicans say that tax cuts for the wealthy encourages entrepreneurship because people will work harder to hit it rich.  The number one thing that keeps people from starting their own company is a lack of initial capital.  I have already discussed how tax cuts decrease the amount of investment money, and that will make raising initial capital harder.  I have already discussed how tax cuts drive up long-term interest rates, and higher long-term interest rates make starting a new company more difficult.  Now part of that initial capital usually is the entrepreneur's own money.  To raise that money, they have to save it while working their current job, which is probably not over $100K per year.  By shifting the tax burden away from the wealthy (which is what tax cuts for the wealthy does), it slows the rate of capital accumulation of the non-wealthy and therefore decreases their ability to raise the initial capital they need to start a new business. Reduced capital gains tax encourages entrepreneurship The Truth - Reduced captial gains discourages entrepreneurship Capital gains tax applies to all investments, risky or not.  Most entrepreneurs draw their money out of the business in a form that is taxable as salary, not capital gains.  The only way an entrepreneur can draw money out of their business in a form that captial gains would apply is if they sell their business or if they take their business public and then sell part of their stock in the business.  So, let's say you have $1,000,000 and could invest it in stocks or start your own business.  The stocks earn a 6% appreciation and a 28% capital gain.  You could pay yourself a $60,000 salary (6% of 1,000,000) which would taxed at 40%.  The stocks would earn you a net $43,200.  The job would earn you a net $36,000.  The larger the spread between captial gains tax and salary tax, the greater discouragement to entrepreneurship. Tax cuts for the wealthy is the best way to grow the economy The Truth - Tax cuts for the poor is the best way to grow the economy Republicans say that tax cuts for the wealthy is the best way to grow the economy because they will wisely invest the money and therefore create new jobs.  I have already discussed how tax cuts decreases the amount of money invested.  I have already discussed how tax cuts for the wealthy actually discourages entrepreneurship and encourages high-earners to work less.  Another problem with giving money to the wealthy is that they don't need anything so they are slow to spend it.  Give it to someone who is poor and they will spend it immediately.  As most people spend their money in their neighborhood and Americans tend to live in areas according to their wealth, the poor will spend their money in poor neighborhoods where the people who receive it will in turn immediately spend it.  This means that the amount of economic activity generated by a tax cut to the poor is much greater than the economic activity generated by a tax cut to the wealthy.  Increased economic activity means more jobs and more tax revenue.  So tax cuts for the poor will generate far more jobs than the equivalent tax cut for the wealthy. I am not an economist and have only taken economic classes while getting my MBA.  But most of this is common sense. 8:07:52 AM    comment []

I Am Somebody!  I Have Been Linked To! I have been linked to by Scott Rosenberg and Radio Free Blogistan.  Thanks for the traffic! 6:52:15 AM    comment []

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