Wednesday, December 2

Tax Fantasies

I didn't sleep well last week. A small compensation for my insomnia was this image of the moon setting over the Rockies.

President Obama gave a major speech on the economy last night to a joint session of Congress. As speeches go, it was all right, as long as one doesn't compare it to the speeches of, say, Franklin Roosevelt. In the continuing battle between liberals and conservatives over FDR's legacy, Roosevelt's speeches have been sadly neglected. The man possessed a gift for moving, eloquent, intelligent oratory that few others in American history can match. A single example from his 1932 nomination speech is enough to show the grace with which he spoke.

"The greatest tribute that I can pay to my countrymen is that in these days of crushing want there persists an orderly and hopeful spirit on the part of the millions of our people who have suffered so much. To fail to offer them a new chance is not only to betray their hopes but to misunderstand their patience. "

To find more of this eloquence go to the Roosevelt Institute website.

Roosevelt was referring to a nation that was, as he famously described it later, "ill-housed, ill-clad, ill-nourished." It's difficult to imagine today the condition of the people who listened to these words. Comparisons of today's economic perils to the deprivation that gripped the nation during the Great Depression are inadequate. The most important thing to bear in mind is the possibility that, without effective action, we and our families might actually learn what it was like through bitter experience.

Both before and after Obama's speech the networks broadcast interviews with various politicians, which meant, of course, that we were subjected to the usual "damned lies" about taxes. How often have you heard the claim that Ronald Reagan’s tax cuts stimulated the economy to such an extent that federal tax revenue increased? A dozen times? A hundred? It doesn’t matter. The assertion is false. In the first place, it doesn’t make sense. Here’s a typical example of conservative economic reasoning:

Economic growth requires four main factors:
1) a motivated, educated and trained workforce;
2) sufficient levels of capital equipment and technology;
3)a solid infrastructure and
4) a legal system and rule of law sufficient to enforce contracts.
High tax rates reduce economic growth because they make it less profitable to work, save and invest.

Tax Rebates Will Not Stimulate the Economy – Brian M. Riedl, Heritage Foundation

What's missing from this analysis? In a word, demand! The four factors that Mr. Riedl identifies may be necessary for production of goods and services, but they do nothing to stimulate demand! What assurance is there that anyone will buy new goods and services, when these become available? The writer says nothing about this, apparently assuming that if goods and services are offered, consumers will magically appear in sufficient numbers, with sufficient resources, and with the desire to buy. Is there any guarantee that this will occur, because of a tax cut? Absolutely not, especially when the tax cut is slanted toward the wealthy!

This is the epitome of “supply side” economics, the reigning philosophy of the far right since the days of Ronald Reagan. It's doubled our national debt several times - most recently under George W. Bush - and propelled our economy into the worst recession since the 1930s. Tax cuts benefit primarily those who pay the most taxes – that is, the rich. By channeling the nation’s wealth into the coffers of those who are already well off, these policies have decimated the American middle class and cut the heart out of the vibrant economy that we enjoyed in the mid-twentieth century. When there aren’t enough buyers and not enough spending money to purchase goods and services, sales fall, inventories rise, businesses cut back, and the economy spirals downward. We're watching it happen right now!

Supply siders would have us believe that, when the wealthy receive a tax cut, they immediately run out and start new businesses or expand existing ones; but this violates basic business economics. Well run companies employ just enough workers to satisfy demand for their product. They expand, when changes in the marketplace create more demand than they can currently satisfy, and they don't require a tax cut in order to do this. They can borrow needed capital in the assurance that they will enjoy increased sales and therefore increased profits over the long term. On the other hand, if there's no market for the added productivity, it makes no sense for them to hire additional workers, even if they receive a cash windfall in the form of reduced taxes. They will lose that money and more, because they will be unable to sell the added goods or services that their larger workforce produces. The same applies to business start-ups.

Let's look at the other side of this coin. Republicans claim that increased taxes invariably lead businesses to lay off workers. This is absurd. Remember, an efficient business employs just enough workers to satisfy existing demand for its product. Suppose the CEO of a business learns that he must pay a higher corporate tax. He can accept a smaller profit or reduce dividends to shareholders. He can seek economies of one type or another to offset the tax. But if he lays off workers, he will no longer be able to satisfy current demand for his product. Sales will drop and he will lose even more money! Well run businesses don't do this!

So much for theory. Let's examine the facts. Republicans boast that Bush’s 2001 and 2003 tax cuts stimulated the economy. According to the Congressional Budget Office they did nothing of the sort! In fact, the CBO reports, 2007 should have produced a surplus; instead, thanks to those tax cuts, it produced a large deficit. In the year 2000 (before Bush!) federal revenues amounted to 20.9% of the country's Gross Domestic Product. By 2005 this had fallen to 16.8%, lower than at any time since 1960. According to the CBO half of that decrease was due to the Bush tax cuts!

As for Reagan the decreases in marginal tax rates that he promoted caused such massive federal debt that Congress had to pass an even larger tax increase - the largest in American history up to that time - in order to prevent an economic meltdown. This tax hike was disguised as an increase in FICA withholding, which had a number of advantages: it allowed Reagan and the Republicans to continue promoting their economic fantasies; it boosted an ailing Social Security trust fund; and, best of all from the viewpoint of conservatives, it benefited the wealthy at the expense of the the poor and middle class, for whom FICA is a larger fraction of total taxes.

One of the most comprehensive sources for information about tax policy is a September, 2006 report entitled: "REVENUE EFFECTS OF MAJOR TAX BILLS" from the Treasury Department’s Office of Tax Analysis. Here’s a summary of the report's analysis of Reagan’s 1981 tax cut. During the four years following its enactment the "Economic Recovery Tax Act of 1981" produced the following decreases in federal revenue:

Years Revenue loss
1 -$54.9 Billion
2 -$123.7 Billion
3 -$178.9 Billion
4 -$217.2 Billion

If that’s not enough, a more detailed discussion of the tax cut myth can be found in this report, which analyzes all three of the tax cuts that conservatives like to tout: Reagan’s, Kennedy’s, and Bush’s. As you’ll see, none of these measures produced the increases in revenue that the right wing politicians and talking heads assert.

Okay, what about job creation? During 25 of the first 31 months of Bush's administration, in spite of the massive tax cuts that he sponsored, the country lost jobs! By the end of his second term, Bush had racked up the worst record in 34 years, creating less than a tenth as many new jobs as Bill Clinton had. In fact, job growth under Bush wasn't even enough to keep up with the growth in population!

This is not to say that the Bush tax cuts helped no one. According to the CBO, families earning more than $1 million per year made out handsomely. Of course, middle income families saw their incomes fall (assuming they had any!) and most of them wound up paying higher taxes. But who cares about them?

Will these tax myths ever disappear? I doubt it. By now they’ve become part of conservative Gospel, immune to criticism. But at least you'll know better. The next time you hear someone holding forth about how wonderful tax cuts are, how they stimulate job creation, boost the economy, and make Americans bettter off, check you bank book. If you're raking in seven figures per annum, then clap that fellow on the back and say, "Right on, brother." But, if you're like the rest of us, maybe you should ask some tough questions.