Crafting More Effective Stimulus Legislation, Part 4: What’s wrong with tax-related fiscal policies?

Sunday, August 13, 2012

Hi. You don’t dare start “Part 4” of anything without a summary. Like they say at the beginning of new episodes when the show’s storyline is complicated, “Previously on Next Contestant, …”

In Part 1, I identified seven principles on the basis of which effective stimulus legislation should be crafted.

1. Our national economy is really an agglomeration of local economies, formed by and determining multi-dimensional markets all sorts of goods and services.

2. The economy is huge and moving, however slowly, with considerable momentum. Government programs, by comparison, are puny by comparison.

3. Everything keys to consumer demand. Supply-side initiatives never work well, if at all.

4. The more tangible and the more immediate the benefit or reward, the greater the impact of that incentive on behavior. This is as true for people and families, as it is for investors and corporations.

5. Optimism encourages consumer demand and investment.

6. The causes of the current recession are not just the usual ones we associate with business cycles. They’re “structural,” having to do with the very foundation of our economy, with problems that take time and very substantial resources to fix.

7. Dilution is the enemy of government spending to affect economic recovery. Carefully targeted expenditures, by comparison, that leverage the greater forces of the economy, can have real impact.

Ever wonder why government economic policies don’t work? The answer is a lack of Presidential and Congressional appreciation of one or more of the seven principles I just listed.

Part 2 argued that monetary policy – FED initiatives to change the cost of money – is, at best, useful for making fine adjustments to the economy. Unfortunately, because changing the price of a resource is a “supply-side” tool, monetary policy is incapable of doing the heavy lifting necessary to fix an economy in as much trouble as ours is currently. If we want government to help the economy recover, it’s going to have to be through greatly improved design and implementation of fiscal policies.

And Part 3 made the point that President Obama doesn’t understand or trust capitalism, but has an unfounded, obsessive, almost religious belief in the role and power of government to solve economic (and other) problems. The result, is that he’s squandered kuh-billions of dollars protecting a few large, troubled companies whose problems the economy, left well enough alone, would have handled better at much lower cost. As for the general business and consumer programs he devised, and Congress passed? They were poorly designed and, no surprise, ineffective.

Please don’t let the President and Democrats in Congress argue that you have no idea how bad the recession would have been if they hadn’t spent the $787 billion approved by The American Recovery and Reinvestment Act in 2009. Three years later, there is no evidence whatsoever that the economy would be any worse off if they hadn’t spent a dime of these funds. Just because you do something and you like the way the world looks a few year later doesn’t mean that what you did is the reason everything turned out okay. More to the point, everything has not turned okay. That’s $787 billion that could have been deployed more effectively to encourage a full recovery. At the very least, it’s over three-quarters of a trillion dollars that didn’t need to be added to our national debt.

Okay, so what? Well, the “So what?” is that we’re going to use these seven principles to design two programs. One has to do with improving the effectiveness of stimulus spending by targeting those dollars to those consumers, communities and industries where they will have the greatest impact. The other program facilitates and subsidizes the matching of unemployed persons with available positions. These are common sense marketing and management programs, not conventional fiscal policies that have, lately, proven to be ineffective.

Neither of the programs I’m going to define has anything to do with giving tax or other incentives to business. Companies don’t invest, won’t expand their operations without tangible indications that they they’ll be able to sell the additional products and services they produce. Would you? Of course not. You create jobs by stimulating consumer demand. Left well enough alone, business will know what to do.

Why not just lower taxes across the board, give everyone more disposable income? They’ll spend it and that increased consumer demand will stimulate a recovery. ..Won’t it? Not necessarily. In fact, I’d argue that it’s not even likely.

However impressive sounding when the President announces his programs, the total dollar amounts of these tax benefits are small, tiny in fact, relative to the size of the economy. More to the point, the diluted impact on individuals and families is unimpressive, to put it politely. (I believe “bupkis” is the term my grandmother would have used.)

Let’s say, for example, that a worker’s taxes go down, saving him $1,000 per year. Impressive? I mean, $1,000 is real money. Not really, despite what President Obama would argue. $1,000 a year would be one thing if the employee received it in a lump sum but, spread out over a year, it’s less than $20 per week extra in his pay check, not enough to take his wife or her husband out for a cheap dinner and a movie. The impact will be nominal. It’s not nothing, but it’s not enough, not individually and not collectively, to affect consumer spending in any meaningful way that will result in companies hiring more people. It may sound bizarre, and certainly politically unacceptable, but it may make more sense to give $24,000 to one family than $1,000 to each of 24 families. Small amounts tend to evaporate into the economy in ways that have no significant, collective impact. This particular form of dilution is one of the reasons government economic policies don’t work as well as the total dollars Congress spends might otherwise suggest.

In a deep recession, people have too much debt and not enough savings. Depending upon the family’s financial situation, a great deal, if not all, of any tax savings will go to reducing credit card debt and keeping the household current in its mortgage and other financial obligations – and to savings. To savings, even if it’s just some extra cash for emergencies they keep in mayonnaise jar. Paying down debt and building savings are essential to any recovery time-line, but they don’t create the consumer demand that triggers growth in employment.

With respect to reductions in corporate taxes, companies tend to behave the same as consumers. In any case, paying lower corporate taxes does not encourage expansion, and therefore hiring, unless management believes demand for the company’s products is going to justify the investment. Without that optimistic outlook, management is just going to use the tax savings to increase profits without generating a single new job. And they’re going to sit on those profits until they feel better about spending them. Playing with corporate taxes is a “supply-side” initiative, and you know what that means. What we need are programs that focus directly on consumer demand.

How ‘bout tax credits? Tax credits are realized too far into the future to impact current consumption. Months and months later, when the credit finally shows up in the form of a reduced tax bill, who knows what the consumer or company is going to do with the extra money? If you want to give people or companies money, give it to them now, and do it in a way that assures you that they’re going to spend it. And we shouldn’t be giving tax credits to companies anyway, certainly not to motivate hiring. Once again, anything you do for businesses is a supply-side program that isn’t going to generate growth until they can almost literally reach out and touch the greater demand for what they sell.

In case, the problem with all current government fiscal policies is that their incidence, the way they impact the economy, is “gross,” meaning “without regard to the points within our diverse economy where their impact would be greatest.” And we need to fix that, in a hurry.

Well, geez?! Monetary policy doesn’t have what it takes. Government spending on special projects doesn’t put enough money into the economy fast enough where we need it most. Traditional tax-related fiscal policies have been ineffective. What’s that leave? ..On the edge of your seat, aren’t you? Well, you’ll just have to wait for Part 5 to find out.

-Next Contestant

The entire series:
Part 1: The Magnificent Seven
Part 2: The Impotence of Monetary Policy
Part 3: Why don’t President Obama’s fiscal policies work?
Part 4: What’s wrong with tax-related fiscal policies?
Part 5: What can we do to encourage a recovery?

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