Tax Pandering is the Problem

So, now there’s a bunch of polls showing that the public basically approves of most of the tax cuts. yhe village chattering class (e.g Kevin Drum of Mother Jones)sees this as a sign of potential support for Obama and the Democrats.

To me, that’s about like polling on the question: Would you look a gift horse in the mouth? Of course, every one likes some change in their pockets.  But at what cost?  The polls aren’t asking that question.  The one part of the tax deal that came out with a disapproval was the cut in payroll taxes.  But, that’s the big Obama win, right?  So, the villagers have to explain why EVERY one should just love that.

The explanation given by Drum is that every one is really dumb and thinks this will bankrupt social security because no one will pay into to it for a few years.  He’s thinking people don’t see the promised government IOU.    He’s got a list of how dumb he thinks we are about this and you’ll see it at the bottom of the post.   So, now we do economic policy on polls?  Can I get a witness that just because people like something doesn’t mean it’s good or wise policy?  It doesn’t even mean that if they see the hamburger today, they’ll be willing to pay for its cost on Tuesday either.  My guess is when the tab comes, there  will be some unhappy polls then.

The major economic argument for this package is basically that you don’t raise taxes in a weak economy.  That is basic Keynesian thought and it’s odd to see the entire Republican party joining hands and singing “We’re all Keynesians now”.  A secondary argument is that any thing bartered away at this point is worth it because we extend long term unemployment benefits.

What you don’t see is a larger discussion of this all in terms of the economic situation and what is called for in these circumstances except in economist circles.  This really worries me.  Did you notice this ABC poll doesn’t ask people how they feel about giving cash subsidies to corn growers or the deal on equipment write offs?  Those are also components of this tax giveaway.  The poll also doesn’t ask people about what they think this will do to the deficit in the future and the cost of government borrowing.  (Even Moody’s is threatening to downgrade our debt on the merits of this plan.)   This poll  basically asks, “Would you like more money in your pocket or not?” I can only image the naysayers like me either know their economics or they’re like me and not getting anything from this tax bill but the bill.

So, rather than listen to the failed lawyers who make up our policy decision=making class and the spoiled,  rich little nitwits that write the punditry blogs in the MSM, let’s check out what some economists have to say.  We’re going for three of them here.  There will be four if you count me.

I linked down page on the morning reads thread to a blogger named Chevelle who was a government economist who now works at an asset management firm. She has a very good short piece up on why these tax cuts are a very “dumb” idea.  Her basic analysis actually sounds a lot like Larry Summers’ parting shot in Time Magazine.  Another similar voice can be read in the WSJ and comes from Nobel prize winning economist Joseph Stiglitz who calls for a second stimulus package that’s not tax cut loaded.  The tax cuts may be politically popular but they don’t really take care of our problems right now.  The money used for the tax cuts would be a lot more powerful and useful if it was targeted at the problem in the form of Government Expenditures. That’s what all three of them say in their commentary and that’s what I’m arguing for here.  It’s your basic expenditure multipliers stuff from Economics 101.

We’ll start with Larry Summers who answers the question “what is holding the economy back?”. I’m actually beginning to think this parade of economists out of the West Wing door is ominous.  This article just gives me more of those willies.  Here’s the problems per LaLa.

•    When unemployment has been above 9% for 19 straight months,

•    When the job vacancy rate is at near record low levels,

•    When 8 million houses and countless square feet of office and retail space sit empty,

•    When capacity utilization in the nation’s factories and on its railways and highways is nearly as low as it has been in any period since the Second World War,

•    There cannot be any question that the constraint on our economy now and for the next several years will be lack of demand.

I am under no illusion that increased demand alone is sufficient to restore America’s economic health, but it is an unquestionably necessary component of a full recovery.

Unfortunately, the approaches we have become used to over the last fifty years for supporting demand in a market economy are not open to us today.

Base interest rates cannot fall below their current level of zero.

And, in the face of excess capacity and excess debt, it is not clear that, even if they were possible, falling interest rates would be effective in convincing consumers and businesses to spend more.

That sounds a lot like what Stiglitz wrote too.

“The first stimulus package had too much emphasis on tax cuts. Those were relatively ineffective and not enough aid for the states,” Stiglitz told reporters on the sidelines of a seminar in Chile’s capital.

A new stimulus package should include a revenue-sharing program to make up for a shortfall in state revenue and should pick up the states’ investments that had to be stalled. Also, there should be a special focus on human capital, in particular on education and training, he said.

“We have to believe that the economy will eventually recover…[W]hat kinds of jobs will we want to have in five years…[W]e need to have people trained for that,” Stiglitz said.

Additionally, Stiglitz argued the U.S. Federal Reserve’s quantitative easing bond-purchasing program is creating an excess of liquidity, which is flowing into emerging-market nations.

Emerging-market economies such as Chile’s are growing at a much faster pace than the U.S. and have comparatively higher interest rates, making them attractive destinations for investors looking for higher returns.

According to Stiglitz, the $600 billion bond-purchasing program has created a large amount of “liquidity looking for relatively safe high returns” that aren’t found in the U.S. but can be found in many emerging-market nations.

As many emerging markets are trying to discourage capital inflows, “the liquidity goes to the places where they haven’t yet put barriers for the inflows,” Stiglitz told reporters.

Okay, now to blogger Chevelle from Models & Agents. She begins by explaining how most people are back on their life time budgets as measured by the PCE or Personal Consumption Expenditure/per employed person.  It’s back to the lackadaisical pre financial crisis level.  We actually all have a life time expenditures patterm that tends to be consistent over our lifetime.  Some times we borrow  and over spend a little. Other times we panic and save.  Eventually, we get back to the mean.  Employed people are at that now.  It’s the unemployed that aren’t anywhere near their usual budget.  This package does nothing about that.

That the problem with the economy is not that (employed) Americans don’t consume enough; it is that we have too many unemployed people who can’t consume, not even the basics. And this is my first reason why giving a tax gift to employed Americans is a completely dumb policy: Not only is it unfair to the unemployed; it is questionable whether those Americans with jobs and with comfortable cash positions are going to spend this tax gift, if they are already close to reaching their long-term consumption growth. So much for a “targeted”, “efficient” fiscal “stimulus”.

She also argues that we do face a potential government debt problem in the intermediate future and doing more dumb tax cuts is just going to exacerbate the problem down the road.  That also has disturbing implications.  Then, there’s the payroll tax cut.  That’s what Kevin doesn’t grok.

What does the cut in the payroll tax do? If anything, it reduces labor supply. This is because employed workers could work fewer hours and still end up with the same amount of disposable dollars as before the tax cut. So, at the margin, they would reduce the hours they offer to work. (To throw a bit of jargon, the labor supply curve shifts to the left: i.e. less labor is offered for a given wage).

Now, this might (temporarily) close part of the labor supply-demand gap—i.e. reduce unemployment. But that’s a reduction for the wrong reason! What we really need is for unemployment to get reduced due to an increase in labor demand (ie policies to shift the labor demand curve to the right!). So, in theory, *if* the government had cash to spare, and *if* companies’ reluctance to hire were driven by a liquidity constraint, the appropriate policy response to raise employment (and thus, consumption, GDP growth and so on) would be to give a temporary cut in the employers’ portion of the payroll tax, not the employees’.

What she’s saying here is that a payroll tax cut is likely to make employed people work less hours, but it is unlikely to cause employers to hire more people.   She also continues to explain the impact on long term borrowing for the government of doing this kick-the-can-down-the-road policy.

So, while Kevin Drum is excited about is that warm tingling leg feeling he gets speculating that if people like the policy that might make people like Obama and the Democrats a bit more now. Then, he can feel good about himself again as a Progressive (TM).  What he’s really missing is that it’s going to make the situation worse that’s got people peeved at Obama and the Democrats now.  It’s not even robbing Peter to pay Paul.  It’s borrowing money from both Peter and Paul.  It’s giving money to people who will most likely put it into places where it will go stimulate the economies of emerging markets.  It’s not going to do much here at all.

What we’ve got going is a long term unemployment problem with all that implies, and as Larry Summers said, a long term consumption problem.   The people who get this tax cuts aren’t going to change their spending behavior at all and that’s not going to help the economy. If anything, the money going to the rich will head off overseas quicker than a credit card call center.  It’s going to add to the deficit which will create long term debt problems.  It does nothing to ensure the long term unemployed will maintain marketable job skills and their ability to eat and stay in their homes.  It does nothing to really stimulate buying where it possibly could help.  It’s an expensive gesture and that’s about it.

The one thing good that came out of the Reagan years was that we learned that the shot gun approach to tax cutting is just not that effective in doing anything but increasing the deficit.  Former Congressman Jack Kemp actually showed that some targeted tax cuts and targeted expenditures could actually make a difference.  This is what led to the go-zones we see now in rural and urban places that were difficult to develop in the past.  It showed that if you want to kill a big beast, it’s best you get a sharp shooter and the best rifle.  The targeted approach is best.  So, in this sense, even the Republicans are dooming us all to repeat their past mistakes instead of the few successes they actually delivered.  The Democrats have forgotten the past altogether.

I find this very worrisome that we continue to see tax cuts put out by a Democratic administration that play right into that big old VooDoo economics myth.   Kevin Drum just seems to miss that point.  He thinks you’ll be able to head off the Republican hand wringing in the future.  He thinks every one is stupid because this is a good deal for the middle class.  The problem is that it isn’t and it just sets us up for worse things in the future.   This package will fail worse than the first stimulus for many of the same reasons.  Two years down the road, every one will be just as discouraged.  Even Larry Summers sees that.

So, here’s the promised list of why Kevin thinks were all dummies who need skooling.

Possible answers: (a) people don’t really understand that cutting payroll taxes means they’ll see an immediate increase in their take home pay, (b) people associate payroll taxes so strongly with Social Security solvency that they don’t want to cut them, (c) people fantastically overestimate how likely they are to have a $5 million estate when they die, (d) lots of people have a strong instinctive view that people should be able to pass on their wealth to their kids no matter how much it is, (e) people are just generally confused about all this stuff and it’s hopeless to try and figure out what’s really going on.

In any case, I’ll say this again to wavering lefties who have suddenly decided that the tax deal is no good because the payroll tax cut will never be undone and Social Security’s finances will be decimated: yes,
Republicans will engage in their usual Democrats are raising your taxes! demagoguery when the tax cut expires next year, but no, it won’t be very effective. There are lots of good reasons for this, and this poll provides evidence for one of them: the public isn’t all that keen on cutting the payroll tax in the first place. They want Social Security fully funded, and that argument, in the end, will carry the day. Never underestimate the power of AARP.

So, Kevin, the deal is this.  You’re putting the money into the wrong hands and you’re expanding the deficit in the future and probably making it more expensive for the government to keep putting money back into social security.  Afterall, it’s just another government “IOU” to the Social Security Trust Fund.  People haven’t liked the idea in the past. They don’t like it when the government ‘borrows’ from the trust fund and they don’t like it now. The Social Security Trust fund is invested in Treasuries.  You know, those things Moody’s wants to down grade?

It makes no sense to help out people that don’t need it, borrow a ton of money that won’t really accomplish anything,  and still come out with a bad economy two year down the road during the next election season.  I really don’t think people are as confused as you are.    It’s voodoo economics.  It doesn’t make any difference if it’s the Republican or the Democratic brand on it.   No one’s going to look a gift horse in the mouth.  Still, to think anything good will come of any of this is just plain foolish.

11 Comments on “Tax Pandering is the Problem”

  1. Pat Johnson says:

    That “approval poll” is more than likely based on having the unemployment extension tied in with this package. Most people are kind and sympathetic and more than likely wish to have those most effected at least enjoy one day out of the year.

    The Dems have two years to begin to seek and field candidates who are faithful to FDR policies who will step up to the plate and challenge any of these congressional Dems, and even those from the other side, with an eye on restoring democracy and a sense of fair play to this nation.

    It is more than likely that Obama will seek another term and he will need the pushback and the support of a Democratic congress because over the next two years the GOP is about to set an agenda that will lead to more of what they have promised. Without more like minded Dems being elected, Obama will be as free as he is now to backtrack, compromise, and play as a Repub Lite for the next 6 years if the voters send him back probably owing to the worst the GOP has to offer as a replacement.

  2. bostonboomer says:

    It is incredibly rightening to me to know that Larry Summers probably left the administration because Obama wouldn’t listen to him. IOW, even Larry Summers wasn’t Reagan-like enough for Obama.

    I wonder how they got Summers to say that the tax cut had to be passed or we’d get a double dip recession? I wonder if they held him hostage until he agreed to say what they wanted?

  3. bostonboomer says:

    As for Kevin Drum, he’s pretty conservative. It’s hard to believe that Mother Jones wanted him. I see him as a typical Obot like Chris Bowers.

  4. Pat Johnson says:

    My New Year resolution for the year 2011 is to stay as far away from the tv as I can get.

    I call my isolation “Survivor” since it promises to do nothing for my high blood pressure but cause it to rise.

  5. fiscalliberal says:

    So Dak – any idea’s in terms of how long we can keep raising the debt. My understanding is that the debt limit has to be increased 1st quarter next year

    • dakinikat says:

      yup, and I bet it becomes a big stand off extravaganza … and I’m also thinking I know which expenditures will be the first to go. Hint: it won’t be those supporting Halliburton and GE profitability.

  6. Pat Johnson says:

    dak: I just finished reading “Shake the Devil Off” by Ethan Brown that was an investigation into the suicide of an Iraqi war veteran and the murder of his girlfriend. They lived together in the French Quarter. The interesting parts of the book covered his time in Iraq along with the aftermath of Katrina.

    It held my interest since it was essentially a story about the city itself, its politics, and the diverse population of New Orleans itself.

    Excellent book.

  7. Fannie says:

    You nailed it Dak……..I was sick listening to the tv about their polls and that eveybody was doing the happy feet dance over this tax bill.