We all know the republican talking heads are spewing the BS as hard and as fast as they can that "the quickest way to get money into the hands of ordinary Americans is to cut taxes". We also know that its wrong. But why exactly? Well, I'm not an economist, but here are some points I use when talking about it.
(Full disclosure: I'm an engineer, and I talk to engineers, so there is a little math built in here, but that makes the analysis more rigorous). Here is as thorough a breakdown, with raw numbers and sources, why FoxSpews and the Repugnantcrats are dead wrong about tax cuts. The political game of chess that got the debate where it is has been quite clever. They follow a simple, elegant formula that frames the debate. Begin with the statement: "We need money now". Accept the fact that the only two ways to spend money "now" is either with "shovel ready" projects or through tax cuts. Attack a large number of the "shovel ready" projects as "pork". The only alternative to this then seems to be that there needs to be a lot of tax cuts.
This is bunk. My analysis of why is below the fold:
First,
http://www.data360.org/...
http://www.bea.gov/...
In Apr 1986 the GDP was 6.2 Trillion
In Apr 1993 the GDP was 7.5 Trillion (17% rise)
From Apr 2001 the GDP was: 9.9 Trillion (32% rise)
In Oct 2008 the GDP was: 11.6 Trilliion (17% rise)
And from:
http://research.stlouisfed.org/...
Looking at the two datasets together shows something interesting: The US personal savings rate had been hovering between 0 and 1% for the past 10 years, with the marked decline in savings rate being really traceable to the beginning of 1993, with a 50% drop. It also indicates that American workers who are at an average age of 33 or less (those who entered the workforce since 1993) have an average life savings of almost nothing. What is interesting is that this low savings rate (down from 7 - 10% since the 50s) exceeds our GDP growth for every single year in more than the past 15, even taking into account the tech boom; or, put bluntly, this is our economy shifting to a consumption culture rather than one that engages in long term savings. Put another way, every year since 1993 an increasing proportion of our GDP has been fuelled by spending what should have gone into our long-term savings.
The problem with having no long term savings (and consequently relying heavily on credit) is that when credit becomes expensive (like is happening now), personal problems as small as buying new tires for a car become much more expensive, and bridging between jobs becomes worse as well. Even more importantly, when corporations follow this model to avoid becoming targets for leveraged buyouts and maximize profits (which the shareholders want to spend, rather than save and leave invested in the economy), corporations balnce near the edge of collapse even when seeming to be quite sound. This combination makes layoffs more likely even when individuals are less able to weather them due to narrow spending margins.
What this low, low savings rate means is that since 1993, an increasing proportion of Americans have necessarily loaded themselves up with debt to maintain their lifestyle. With a low savings rate, even flat tires add to the total debt load. Now take a look at this, the US per capita income and CPI:
http://www.census.gov/...
http://www.bls.gov/...
Notice that the US per capita income has actually been stagnant since 2000, compared to inflation, which has been positive. This means that the real purchasing power since 2000 has actually been constant since 2001. I'm not even going to take into account the distribution of wealth, which has shifted the income disparity and exacerbated the problem (because I can't find any easy to read graphs or data sets to interpret, since its a 3D surface and I don't feel like doing discrete integrals over it by hand)
What does that have to do with tax cuts?
Everything.
Here's why: The stagnant wages and low savings rates, combined with a government which openly encourages people to spend translates into one thing: debt. We all know this, and the results of the stimulus checks demonstrate that too. Cutting taxes is functionally the same as sending out everyone a check. With personal debt loads so high and savings rates so low, any money from the US government to the taxpayer, either in the form of a rebate check or a tax cut, will be used predominantly for either necessities, or to pay down debt. This won't stimulate the economy at all.
What about this: "the main purpose of the tax cuts and tax credits is to help repair consumer balance sheets, just like the TARP is helping repair bank balance sheets"?
That only makes sense for a narrow group of people. It only makes sense for those people who (A) Still have jobs, (B) are paying enough in taxes to get a meaningful amount back, and (C) Are making a small enough amount of money that they are still middle class. Now, take a quick gander here. Notice that the EITC indicates that around $ 33,000 or so, one actually pays a positive income tax (we'll ignore social security taxes for the time being). Taking into account our current income distribution in the US, notice that about 1/3 of working americans get no benefit from tax cuts of any kind. Even more poigniant, only about 30% of americans make between $50k and $100k per year, which represents the income levels where tax cuts would do the most good. While I agree that middle class tax cuts are in order and will be useful for many Americans, it won't create any jobs, which is the point of the stimulus.
If we assume a 150 million member workforce, and assume 1/3 of them will benefit from tax cuts, and want to provide a $3000 tax cut to each (on average) this totals to no more than 150 billion in useful tax cuts that belong in the stimulus bill. Note that 3000 to 10,000 will completely wipe out most of the tax burden for an individual in this range.
So what about the meme of corporate tax cuts?
The running line goes something along the lines of "if businesses have lower costs from taxes, then they will have more money to make jobs". This assumes that there is a correlation between profits and production
Again, no dice. Here's why:
- Businesses pay tax on profits, not operating expenses. This means that businesses that are not profitable only receive money if they get a tax credit.
- Businesses operate on the principle of maximum profitability. Costs for production of a given good (or service) are basically fixed (materials, labor, etc). When demand is stable, supply and demand effects mean that increasing output (and therefore fixed costs) causes potential revenue to decrease. If demand is constant in the short-term, the per-unit profit of each unit produced goes down as production increases. Since businesses already optimize their production to ride the point on the curve of maximum profits, cutting corporate taxes only cuts the government's share, rather than encouraging a manufacturer to produce more. (If one were to take a bounded constant-demand situation and assume fixed cost per unit produced, profits increase with increased production to a certain point, then taper off, much like the laffer curve) Manufacturers or industries typically will only increase production in response to increasing demand, not the other way around, for exactly this reason.
- More production does not correlate to more jobs. This is due to two reasons. First, most production capacity (and shipping capacity) is elastic to a certain extent. Most manufacturers can accomodate significant swings in production output without hiring many more people. Output must increase by a threshold amound, depending on industry, before a manufacturer is forced to hire more people. Second, the US is no longer a manufacturing powerhouse. This means that most of our goods are produced overseas; increases in demand that meet the threshold will not create jobs for Americans.
- Since corporate tax cuts are a function of the output of the supply/demand/cost equation, and don't apply to any of the inputs, changing the tax rate on a coporation affects only its after-tax profit, not the underlying profitability.
Why would republican talking heads want corporate tax cuts? Read a little bit about the relationship to corporate profits and dividends, and then think back on the fact that the republicans (in particular those talking heads) are normally well off, well compensated, and own stock in many of these companies.
We are entering a fundamental realignment of our economy back to a more rational savings rate. Consumers have cut spending by almost 5% of GDP, and we really should cut another 5% of GDP to bring us back to the historical (and sane) level. Things that will attempt to 'encourage spending' are exactly what we don't need. Instead we need to do two things:
- Extend government benefits for two to four years to cushion the fall of the collapsing economy.
- We need to take a good, long, hard look at what the new equilibrium of this economy will be, and then carefully craft a stimulus package that puts people to work, and puts them to work in ways that will transition smoothly, and helps people elevate themselves into the middle class. Gathering the necessary information and designing a stimulus will take time, perhaps a year. The economy doesn't need a jump-start, it needs a complete engine change. I reject on its face the idea that we need shovel-ready stimulation; what we need is deep-reaching infrastructure improvement that will prepare us as a nation for the second half of the 21st century. We need deep improvement to our power system, a major overhaul (and even rebuild) of our national railway system, deep improvements to how we manage water and sewage. The last thing we need is excessive tax cuts.
Next time I'll talk about why deep seated infrastructure improvement will actually benefit our economy. I hope some of you find this useful.