Economic Stimulus For the Long Haul
By Robert Samuelson
No one should be surprised that a powerful political steamroller has developed for a second economic "stimulus" package. Federal Reserve Chairman Ben Bernanke has blessed the idea, and even President Bush has provided vague support. Some congressional Democrats urge a $300 billion plan; some private economists propose up to $500 billion. The case for "stimulus" seems obvious. It's extra insurance against an economic free fall. No one wants a perverse cycle of falling confidence, production, jobs and stocks leading to more loan losses and financial failures -- which then depress confidence, production, jobs and stocks.
Still, the case isn't airtight. The first $152 billion stimulus earlier this year had only a modest effect. Americans saved perhaps three-quarters of the personal tax cuts that were the centerpiece of the stimulus. The same might happen with new tax cuts. One popular idea to aid states and localities with money for roads and other infrastructure improvements might take so long to begin that it would provide little immediate economic boost. Moreover, the economy does have self-correcting mechanisms. Lower home prices already show signs of spurring more buying. Falling oil prices now provide some support for consumer spending.
But if Congress and the White House do proceed, they should rise above self-indulgence. The great danger is that a new stimulus will become an excuse for politically pleasing tax cuts and spending programs that have only a modest economic effect and do nothing to improve the long-term outlook. What we really need is a package that also addresses the future.
Herewith, three proposals.
First, let's not let lower oil prices permanently filter through to consumers. We've seen this movie before. A surge in oil prices produces calls for conservation, less dependence on imported oil and more fuel-efficient cars. Then oil prices drop, and we revert to our energy-wasting habits. This sets us up for the next price surge or any politically motivated cuts in foreign oil production.
My suggestion: Raise fuel taxes the equivalent of one cent a gallon per month for four years (total: 48 cents). For now, consumers would benefit from most of the lower prices, but they'd also be on notice that prices won't permanently stay down. To offset any depressing effect of higher fuel taxes, we could lower other taxes in lock step. But the signal of higher long-term prices should affect Americans' driving habits and vehicle purchasing preferences. Congress has increased fuel economy standards for new vehicles from today's 25 miles per gallon to 35 mpg by 2020. But it must also create a market in which buyers favor fuel efficiency.
Second, we should increase the earliest age that workers can qualify for Social Security from 62 to 64. This change (again) should be phased in over four years. When people retire early, they take a cut in their Social Security benefits to reflect the fact that they'll receive benefits longer. At 62, benefits now average about 75 percent of benefits at the normal retirement age (today, 66 years). Many retirees later regret that, by starting benefits so early, they crimp their monthly payments.
Raising the minimum eligibility age wouldn't save the government much, if any, money on the assumption that the monthly payments at 64 would be higher. Although people would work longer, their retirement would ultimately be made easier by higher monthly benefit checks and by delaying by two years the need to rely on savings. This change would also indicate Congress's willingness to tackle the larger problems of Social Security and Medicare.
Finally, Congress should explicitly authorize offshore drilling for oil and natural gas in the Atlantic, Pacific and Gulf of Mexico. Last month, Congress let lapse the long-standing bans against this drilling. But Congress might try to reimpose some type of ban, citing lower prices. This would be a mistake. Exploration and production can be environmentally safe. At best, it will take years before new projects begin producing and thereby limit dependence on insecure foreign oil. Why wait? America's huge foreign oil bill weakens our economy but also destabilizes the world economy. Oil producers don't spend all they earn, dampening worldwide demand.
I am not naive. These are all controversial ideas. The odds against their enactment are perhaps 100 to 1. But wouldn't it be refreshing if politicians disproved the conventional wisdom that they will do only (a) what's popular or (b) what crises compel them to do? Wouldn't it be a pleasant surprise if the president-elect -- whoever he is -- could work with the present Congress to produce a package that addressed both the present and future? Now that would be real change. Heck, it might even improve confidence.
Spitzer and Sarbox Were Deregulation?
JAMES FREEMAN
In this fall's first presidential debate, Barack Obama analyzed the causes of the credit meltdown. "Now, we also have to recognize that this is a final verdict on eight years of failed economic policies promoted by George Bush, supported by Senator McCain, a theory that basically says that we can shred regulations and consumer protections and give more and more to the most, and somehow prosperity will trickle down."
In the second debate, Mr. Obama offered a similarly vague diagnosis: "I believe this is a final verdict on the failed economic policies of the last eight years . . . that essentially said that we should strip away regulations, consumer protections, let the market run wild, and prosperity would rain down on all of us."
Could Mr. Obama really believe that the era of Sarbanes-Oxley was about letting "the market run wild"?
One had to look far and wide in the spring of 2002 to find anyone who thought the Sarbanes-Oxley law was an experiment in cowboy capitalism. For example, on its front page of April 25, 2002, the New York Times reported: "House and Senate negotiators agreed . . . on a broad overhaul of corporate fraud, accounting and securities laws aimed at curbing the rampant abuses that have shaken Wall Street . . . Some lawmakers called it the most sweeping securities legislation since the 1930s." The Times added that "business and accounting industry lobbyists had tried in recent days to soften the measure, but they got nowhere."
Of course, in the years since this sweeping securities legislation was enacted, its costs -- borne by public companies, and therefore by investors -- have been many times official estimates. And with the benefit of time, even liberal Democrats such as New York Sen. Charles Schumer came to realize that the regulatory monster created by Sarbanes-Oxley had to be tamed.
Mr. Schumer was so concerned about the migration of business from Wall Street to London, Hong Kong and even Dubai that he joined New York City Mayor Michael Bloomberg in commissioning a study of the problem and potential solutions. When the study was released in January 2007, Messrs. Schumer and Bloomberg wrote in an accompanying note that "our regulatory framework is a thicket of complicated rules." They warned that without reform, "we will no longer be the financial capital of the world."
As heavy as was Washington's hand upon the financial markets beginning in year two of the Bush era, New York Attorney General Eliot Spitzer may have imposed even greater costs on Wall Street. Dusting off the 1921 Martin Act -- an antifraud statute so broad that it does not even require prosecutors to demonstrate criminal intent -- Mr. Spitzer forced a series of costly settlements that made Wall Street's traditional business of underwriting stock offerings much less profitable.
The excesses Mr. Spitzer sought to prevent were clear at the time; only later did the collateral damage to America's markets become manifest, as New York lost business to London and elsewhere.
In a 2004 Slate column, Daniel Gross described the initial impact when Mr. Spitzer targeted the insurance industry. "In response, the stocks of the biggest players implicated, Marsh & McLennan and AIG, have tanked, losing a combined $38 billion in market capitalization. More alarming for the insurers, Spitzer signaled this was just the beginning of an industry-wide investigation. For when he finds a few bad eggs, Eliot Spitzer cleans out the entire coop and changes the way it is run, as Wall Street's investment banks and mutual funds have learned to their dismay."
Mr. Spitzer would ultimately drive the CEOs of both Marsh and McLennan and AIG from office, with disastrous consequences for shareholders. In the case of AIG, the staggering extent of the disaster has lately been revealed.
The combination of Mr. Bush's enactment of Sarbanes-Oxley and Mr. Spitzer's Wall Street prosecutions contributed to America's significant market-share loss of initial public offerings -- and the U.S. is yet to return to pre-Bush levels. While government reduced the profit-making potential in Wall Street's traditional bread-and-butter business, it was simultaneously encouraging investment in the housing sector. Neither activity constituted deregulation.
Perhaps Mr. Obama is looking beyond the financial markets and taking a broad view of the economy in concluding that Mr. Bush was a deregulator. If so, it's hard to find evidence to support this conclusion.
Wayne Crews of the Competitive Enterprise Institute tracks regulation across the entire federal government. He reports that the Bush administration set an all-time record in 2004, when it published more than 75,000 pages of proposed and enacted rules in the Federal Register.
Leftists might assume that many of these rules were actually watering down earlier standards -- but where's the evidence of declining compliance costs? Lafayette College economist Mark Crain estimates more than $1.1 trillion in federal regulatory costs for 2004, up an inflation-adjusted 16% from 2000. Overall agency enforcement budgets have increased each year since 2004.
A recent report, "Regulatory Agency Spending Reaches New Height," from Washington University's Weidenbaum Center puts Mr. Bush's regulatory activity in historical context. Co-authors Veronique de Rugy and Melinda Warren say that when it comes to spending on regulatory agencies, our current president is almost in a class by himself, with an increase of almost 68% during his two terms. In constant dollars the Bush regulatory budget increases vastly exceed those of predecessors Clinton, Bush, Reagan, Carter, Nixon and, yes, Lyndon Johnson.
Looking at regulatory spending in percentage terms, Mr. Bush's staggering 2003 increase of more than 24% was the largest in the last 50 years. If Mr. Obama considers this a record of deregulation -- and if current polls hold -- America's economy could be in for a very long four years.
Diana Furchtgott-Roth, former chief economist at the U.S. Department of Labor, is a senior fellow at the Hudson Institute. The opinions expressed here are her own.
“The Buck is Back,” proclaimed a Wall Street Journal headline on Tuesday. But even if it is, and that’s a big if, a strong currency is a mixed blessing.
True, in spite of the financial crisis, over the past six weeks the dollar has strengthened substantially against the euro and the British pound, although Wednesday’s half percentage point Federal Reserve rate cut caused the dollar to slip. But the dollar has lost value relative to the Japanese yen.
What’s really happening is not that the dollar is strengthening on its merits, but that European currencies are weakening.
“For the dollar to depreciate, it has to depreciate against another currency. America isn’t looking great, but Europe is looking even worse,” explains American Enterprise Institute resident fellow Desmond Lachman.
Europe’s worsening economic problems — greater than America’s — are causing some investors and the army of regular foreign exchange speculators to prefer dollar assets, what foreign exchange traders call a “flight to quality.”
Approximately 40 percent of America’s subprime loans are held abroad; the British housing market is deteriorating; the British government is bailing out the City of London’s famed banking sector; and European banks hold risky investments in slowing Eastern European economies, especially Russia.
As a result, the European Central Bank is likely to cut interest rates soon, further dimming the attractiveness of the euro, and the Bank of England may well follow suit.
Although a stronger dollar might appeal to Americans’ patriotism and pride, it will have mixed consequences. It makes exports more expensive and imports cheaper, which implies lower economic growth and a loss of jobs in export industries.
The relative weakening of European currencies versus the dollar could hurt America more than Europeans.
America’s 2.8 percent annualized second quarter GDP growth rate was supported by exports, and third quarter GDP would have declined by more than three tenths of a percent without them. As consumers reduced spending, rising exports helped employment.
With a weaker currency, Europeans will see more Americans visiting for vacations and shopping trips, and it will be easier for Europeans to sell their products in American stores for Christmas — if the recession doesn’t completely empty the stores of shoppers.
Japan, with its strong currency, is the country that may be in real trouble. With interest rates in Japan only at 0.3 percent, reduced on Friday from 0.5 percent, the Bank of Japan has little room to cut to let the yen fall against the dollar and the euro. In addition, its low interest rate makes the yen the currency of choice for hedge funds, which borrow yen and invest in euro- or dollar-denominated assets.
No wonder, then, that, shares in export-oriented Sony have fallen 68 percent this year, and that the Nikkei stock market index has declined by 56 percent.
Some, such as Encima Global President David Malpass, criticize Washington for not doing more to promote a stronger dollar. The weak dollar, according to Malpass, was one of the major causes of the financial crisis, resulting in inflation, the asset price bubbles in commodities and housing, and withdrawal of capital from America. Although America benefited from exports, this was outweighed by damage done to other sectors of the economy.
Yet with the economy in recession, the Fed won’t raise interest rates soon to strengthen the dollar. Domestic considerations trump the dollar in determining economy policy.
As the global economy works its way out of a recession, Japan, with its strong yen, has more to lose than Europe, with its weak euro. As for the buck, it is not back, but it is fine where it is.
Ego and Mouth
By Thomas Sowell
After the big gamble on subprime mortgages that led to the current financial crisis, is there going to be an even bigger gamble, by putting the fate of a nation in the hands of a man whose only qualifications are ego and mouth?
Barack Obama has the kind of cocksure confidence that can only be achieved by not achieving anything else.
Anyone who has actually had to take responsibility for consequences by running any kind of enterprise-- whether economic or academic, or even just managing a sports team-- is likely at some point to be chastened by either the setbacks brought on by his own mistakes or by seeing his successes followed by negative consequences that he never anticipated.
The kind of self-righteous self-confidence that has become Obama's trademark is usually found in sophomores in Ivy League colleges-- very bright and articulate students, utterly untempered by experience in real world.
The signs of Barack Obama's self-centered immaturity are painfully obvious, though ignored by true believers who have poured their hopes into him, and by the media who just want the symbolism and the ideology that Obama represents.
The triumphal tour of world capitals and photo-op meetings with world leaders by someone who, after all, was still merely a candidate, is just one sign of this self-centered immaturity.
"This is our time!" he proclaimed. And "I will change the world." But ultimately this election is not about him, but about the fate of this nation, at a time of both domestic and international peril, with a major financial crisis still unresolved and a nuclear Iran looming on the horizon.
For someone who has actually accomplished nothing to blithely talk about taking away what has been earned by those who have accomplished something, and give it to whomever he chooses in the name of "spreading the wealth," is the kind of casual arrogance that has led to many economic catastrophes in many countries.
The equally casual ease with which Barack Obama has talked about appointing judges on the basis of their empathies with various segments of the population makes a mockery of the very concept of law.
After this man has wrecked the economy and destroyed constitutional law with his judicial appointments, what can he do for an encore? He can cripple the military and gamble America's future on his ability to sit down with enemy nations and talk them out of causing trouble.
Senator Obama's running mate, Senator Joe Biden, has for years shown the same easy-way-out mindset. Senator Biden has for decades opposed strengthening our military forces. In 1991, Biden urged relying on sanctions to get Saddam Hussein's troops out of Kuwait, instead of military force, despite the demonstrated futility of sanctions as a means of undoing an invasion.
People who think Governor Sarah Palin didn't handle some "gotcha" questions well in a couple of interviews show no interest in how she compares to the Democrats' Vice Presidential candidate, Senator Biden.
Joe Biden is much more of the kind of politician the mainstream media like. Not only is he a liberal's liberal, he answers questions far more glibly than Governor Palin-- grossly inaccurately in many cases, but glibly.
Moreover, this is a long-standing pattern with Biden. When he was running for the Democratic Party's presidential nomination back in 1987, someone in the audience asked him what law school he attended and how well he did.
Flashing his special phony smile, Biden said, "I think I have a much higher IQ than you do." He added, "I went to law school on a full academic scholarship" and "ended up in the top half" of the class.
But Biden did not have a full academic scholarship. Newsweek reported: "He went on a half scholarship based on need. He didn't finish in the 'top half' of his class. He was 76th out of 85."
Add to Obama and Biden House Speaker Nancy Pelosi and Senate Majority Leader Harry Reid, and you have all the ingredients for a historic meltdown.
Commentary by Caroline Baum
Oct. 31 (Bloomberg) -- The 2008 presidential election campaign is coming to a close, and for most Americans, it's good riddance. We won't miss you when you're gone.
Whether financial markets will be happy with the outcome is a different matter.
Everything points to a Democratic sweep of the executive and legislative branches on Nov. 4. So why isn't the U.S. stock market euphoric instead of wallowing near five-year lows?
According to the New York Times, which ran the numbers and a graphic on Oct. 14, the Standard & Poor's 500 Index has outperformed under a Democratic administration, with average annual returns of 8.9 percent compared with 0.4 percent under the GOP. Even excluding Herbert Hoover, the Dems win hands down.
Aside from being counterintuitive -- the GOP is the party of big business -- the perceived relationship between the president's party and the stock market is ``meaningless,'' according to Harvard University economics professor Greg Mankiw.
In a recent post on his blog, Mankiw says that if the stock market is the efficient discounting mechanism it's touted to be, prices should incorporate all the information ``on Election Day, or maybe even during the days leading up to the election'' when it becomes clear a Democrat is headed for the White House.
For those who eschew the efficient markets hypothesis in favor of the roll-the-dice/stock-market-as-casino model, Mankiw offers a counterargument. If markets don't anticipate events but instead react to them, why is the market's performance from the first to the final day of a presidential term the relevant period?
Divided We Stand
``Policy influences the economy with long and variable lags,'' Mankiw writes. ``Trying to isolate the difference between the parties using this kind of stock-market data is silly at best.''
Besides, the president isn't the only one making policy. The U.S. Congress, especially with a filibuster-proof majority in the Senate, has a hand in the process.
For those who like their statistics absolute, the make-up of Congress is even more important than the president's affiliation, according to Jeffrey Hirsch, editor in chief of the Stock Trader's Almanac.
``Republican Congresses since 1949 have yielded an average 16.8 percent gain in the Dow compared with a 6.7 percent return when Democrats have controlled the Hill,'' Hirsh says.
This may be meaningless, too, for the same reasons Mankiw cites.
What does make some sense, at least intuitively, is the composition of government -- whether it's divided or unified under a single party -- should carry more weight than the affiliation of the president and congressional majority.
Go for Gridlock
For their tax dollars, Americans prefer gridlock, which is another way of saying they like their government to have a built- in system of checks and balances, with each party canceling out the worst intentions of the other.
Hirsch's data support the idea that gridlock is best for the stock market, with a Democratic president and GOP Congress yielding the maximal results: an average gain in the Dow Jones Industrial Average of 19.5 percent.
Of course, those results are based on only three observations (each two-year congressional term counts as one) -- and one big stock market bubble. From 1995 through 2000, Bill Clinton was in the White House, the GOP ran Congress, the stock market was on the moon and the bubble burst early in George W. Bush's watch. An ``ex-bubble'' adjustment would produce different results.
Outgoing President's Revenge
There's one more element, albeit unseen, that should be considered in an attempt to tie stock-market performance to politics. And that's the pace and cost of regulatory initiatives.
Jim Bianco, president of Bianco Research in Chicago, has long used the number of pages in the Federal Register, the government's daily rule book, as a proxy for the regulatory burden imposed on the economy and the markets.
To the extent that divided government curtails the growth in regulatory activity, it's better for bond and stock markets than one-party control, Bianco says.
And one more thing: Lame-duck presidents ceding the White House to the other party don't go quietly into the night, according to a study by Veronique de Rugy, a senior research fellow at the Mercatus Center, a free-market think tank affiliated with George Mason University in Arlington, Virginia. Rather, they aim to leave their mark through a burst of ``midnight regulations.''
In the last 60 years, the volume of regulation in the final three months of a presidential term is 17 percent higher on average when the president and his party are booted out of the White House, de Rugy finds. These last-minute executive orders, proclamations, administrative directives and regulatory documents are ``systematic and cross party lines,'' she says.
Sitting Ducks
Congress is hardly an innocent bystander.
The more days Congress is in session in the month before Election Day, ``the more regulations will be promulgated,'' de Rugy says.
Just to recap: The U.S. is looking at the prospect of a unified, all-Democratic government (one negative); a complete changing of the White House guard, auguring a burst of midnight regulation (second negative); and a Congress agitating for more regulation (third negative), not necessarily smarter or more effective oversight, to guard against a recurrence of the current crisis.
That doesn't sound like a good combo for the stock market. Then again, if efficient-market theorists are correct, all the bad news is already reflected in the price.
Nov. 2 (Bloomberg) -- U.S. employers probably eliminated jobs in October for a 10th consecutive month, while manufacturing contracted at the fastest pace since the 2001 recession, economists said before reports this week.
Payrolls shrank by 200,000 workers, according to the median estimate of economists surveyed by Bloomberg News before the Labor Department's report on Nov. 7. The unemployment rate may jump to its highest level in more than five years.
``It should be another lousy report,'' said Joshua Shapiro, chief U.S. economist at Maria Fiorini Ramirez Inc. in New York. ``This'll be another nail in the consumer's coffin.''
The loss of almost one million jobs, falling property values, slumping stocks and frozen credit may cause consumers and businesses to keep retrenching. The state of the economy gave Democrat Barack Obama a lift over Republican rival John McCain as Americans, who will elect a new president in two days, perceived the Democrat from Illinois had a better grasp of the issue.
The projected drop in payrolls would be the biggest in five years and follow a decline of 159,000 in September. Factories probably cut 62,000 workers from payrolls, according to the survey median.
The jobless rate last month probably rose to 6.3 percent from 6.1 percent in September, the survey also showed.
``Unemployment is likely to rise sharply over the next several months as repercussions from the credit crisis ripple through the economy,'' said Russell Price, senior economist at H&R Block Financial Advisors in Detroit. ``The economy is the most important issue on the minds of voters.''
Economy, Election
The report will be released three days after Americans choose between Obama and McCain. The faltering economy and imploding financial markets helped push Obama ahead of McCain of Arizona in polling in key battleground states in recent weeks.
On the question of which candidate they trust most on the economy, voters in Florida picked Obama over McCain by a 9-point margin, and in Ohio, the Democrat led by 12 points, according to a Bloomberg/Los Angeles Times poll issued last week.
Manufacturing, which accounts for about 12 percent of the economy, probably shrank for a seventh time in nine months, the Institute for Supply Management's factory index may show tomorrow. The gauge probably fell to 41.5, the lowest level since October 2001, from 43.5 the prior month, according to economists polled. A reading less than 50 signals contraction.
``Downside risks to growth remain,'' the Federal Reserve said last week as it lowered its key rate by a half point to 1 percent. ``Business equipment spending and industrial production have weakened in recent months, and slowing economic activity in many foreign economies is damping the prospects for U.S. exports.''
Automakers
Automobile and car-parts makers are leading the downturn in manufacturing. ArvinMeritor Inc., a Troy, Michigan-based maker of auto and commercial-truck parts, said last week it's cutting 1,250 jobs.
``Swift and decisive actions are necessary in response to today's global economic conditions,'' Chief Executive Officer Charles ``Chip'' McClure said in a statement.
Service industries, which range from homebuilders to mortgage lenders, retailers and restaurants, and account for almost 90 percent of the economy, also probably contracted in October, economists forecast another report from the Institute for Supply Management will show on Nov. 5.
The group's non-manufacturing index fell to 47.2 last month from 50.2 in September, according to the median of economists' forecasts in a Bloomberg survey.
The economy shrank at a 0.3 percent pace in the third quarter, with consumer spending dropping by 3.1 percent, the biggest decline since 1980, the Commerce Department reported last week. Business investment in equipment and software fell at a 5.5 percent rate. Economists surveyed by Bloomberg forecast the economy will contract at a 0.8 percent rate in the fourth quarter.
Bloomberg Survey
=================================================================
Release Period Prior Median
Indicator Date Value Forecast
=================================================================
ISM Manu Index 11/3 Oct. 43.5 41.5
ISM Prices Index 11/3 Oct. 53.5 48.0
Construct Spending MOM% 11/3 Sept. 0.0% -0.8%
Factory Orders MOM% 11/4 Jan. -4.0% -1.0%
ISM NonManu Index 11/5 Oct. 50.2 47.2
Initial Claims ,000's 11/6 Oct. 25 479 477
Cont. Claims ,000's 11/6 Oct. 18 3715 3745
Productivity QOQ% 11/6 2Q 4.3% 0.9%
Labor Costs QOQ% 11/6 2Q P -0.5% 2.8%
Nonfarm Payrolls ,000's 11/7 Oct. -159 -200
Unemploy Rate % 11/7 Oct. 6.1% 6.3%
Manu Payrolls ,000's 11/7 Oct. -51 -62
Hourly Earnings MOM% 11/7 Oct. 0.2% 0.2%
Hourly Earnings YOY% 11/7 Oct. 3.4% 3.5%
Avg Weekly Hours 11/7 Oct. 33.6 33.6
Pending Homes MOM% 11/7 Sept. 7.4% -3.7%
Whlsale Inv. MOM% 11/7 Sept. 0.8% 0.3%
Cons. Credit $ Blns 11/7 Sept. -7.9 -0.4
=================================================================
Saturday, November 1, 2008
The Heritage Foundation recently published an evaluation of the candidates’ tax plans. This analysis assumed the tax reductions of 2001 and 2003 expired on schedule, or at the end of 2010, and that each tax plan reacted to what would be a very large tax increase if Congress and the president do nothing. Our paper finds that John McCain’s tax plan, which makes all of the tax reductions permanent (among other things), produces more than twice as much economic activity as Barack Obama’s plan, which makes those tax reductions permanent only for taxpayers with incomes below $250,000.
The current law baseline that we used in this recently published analysis is not the only baseline that analysts employ to study the effects of policy change. Many, including other members of Heritage’s budget team (see JD Foster’s work here and here) and analysts on the Obama campaign staff, sometimes use a “current policy” baseline. That baseline assumes that current policies, like the Bush tax reductions, continue forward. Obama assumes “current policy” on spending and “current law” on tax policy.
I frequently have been asked since that publication what difference it would make to both plans if an alternative assumption is made about the fate of the Bush tax cuts. Specifically, what would be the likely economic effects of Obama’s tax plan if one assumed the current policy baseline, or that the Bush tax reductions were made permanent, say this year? For McCain, that alternative assumption means the principal remaining change to tax policy is his massive reduction in the corporate profits tax, from the current level of 35% to 25%. That tax reduction alone raises employment by an annual average of 182,000 and economic output by an average of $35 billion. However, the rest of his tax plan is, in fact, making the Bush tax cuts permanent, which the alternative scenario assumes that Congress already has done.
For Obama, however, the effects are quite different. Some of his current plan is covered under the alternative assumption: most of the Bush tax reductions are made permanent for taxpayers under $250,000. However, Obama raises ordinary income tax rates for taxpayers above $250,000 and also raises the tax rates on dividend and capital gains income as well as federal death taxes. In addition, he creates a number of new and expanded credits and deductions for taxpayers below that income level that are not contained in the Bush tax program.
The tax increases, however, overwhelm the expanded credits and deductions. The upshot is much slower output and employment growth than in an economic world where the Bush tax reductions are the permanent law. For example, over the 10-year forecast period, 2009-2018:
- Inflation-adjusted Gross Domestic Product falls by an annual average of $90 billion below what it would be without the combined effects of Senator Obama’s tax increases and tax credits;
- Total employment falls by an annual average of 589,000;
- The after-tax, inflation-adjusted disposable income for a four-person family declines by $1,565;
- Inflation-adjusted personal consumption spending drops by an average of $66 billion per year, and personal savings drops by an annual average of $54 billion;
- Business borrowing costs rise, even though we allowed the Federal Reserve to react to this worsening economic situation by cutting the Fed’s federal funds rate.
The Obama tax increases hit capital costs particularly hard, which reduces investment and creates significantly higher borrowing costs for businesses at all levels. These effects combine with declines in savings, consumption, and labor effort to produce significant economic consequences outside of the targeted class of taxpayers. Thus, families whose incomes exempt them from the higher Obama taxes still feel the pinch of these taxes through a slower job market an increasingly sluggish income.
Don't Just Do Something. Stand There.
RUSSELL ROBERTS
People ask me if the current mess feels like 1929. But the right comparison is 1932, when Herbert Hoover was desperately trying anything, anything at all, to get the economy going. The stock market had crashed. The economy was starting to follow it down. So what did Hoover and his fellow policy makers do?
In 1930, Congress passed a massive tariff increase, in hopes of protecting American jobs. Hoover signed it. But it simply accelerated the economy's slide. The Federal Reserve contracted the money supply, taking a recession and making it into a depression. By 1932, real GDP was 25% lower than three years earlier.
Hoover increased federal spending steadily, including an increase in real terms of about 40% in 1932. At the same time, fearful that deficits were harmful, Hoover raised income taxes.
Nothing worked. So Franklin Roosevelt came into office pledging stronger medicine. Enter even bigger increases in government spending. Government nationalization. Bigger deficits. Destruction of crops and livestock in the name of raising prices. Government-organized cartels. A greater empowerment of unions. It was a whirlwind of activity without any real plan.
It worked for a while, but then, in 1938, the economy turned sour again. Unemployment, which had been falling, spiked again, reaching 19%. Consumption didn't recover to its prewar levels until 1945.
Today, President George W. Bush plays the role of Hoover, the so-called free market ideologue who is trying anything to avert disaster. He signs a $700 billion bill putting Treasury in charge of buying troubled assets. A week later, the money is used to partially nationalize the banks. Some companies, like Bear Stearns, are bailed out. Others, like Lehman Brothers, are not. Some companies are sold. Some are allowed to fail. There is no plan, no rules, nothing to count on.
It's just like the New Deal: a massive accumulation of power in Washington justified by the need to do something. There is every reason to think this trend will accelerate regardless of whether Barack Obama or John McCain wins the election.
Back in March, Henry Paulson, Ben Bernanke and the experts assured us that Bear Stearns had to be propped up. If not, the whole system could come crashing down. It is crashing down anyway. Just as in the 1930s, there is no evidence that the policy makers have any understanding of what they are doing. They need to make way for the natural forces of repair.
They need to let housing prices fall. They need to let firms go bankrupt. They need to let firms that are healthy thrive. They need to let healthy firms buy the sick firms. It is time to let the imprudent fail and the prudent pick up the bargains.
A recession is coming (or has already arrived) no matter what happens in Washington. The question is whether the attempt to forestall it is going to make it worse and turn it into another Great Depression.
By acting without rhyme or reason, politicians have destroyed the rules of the game. There is no reason to invest, no reason to take risk, no reason to be prudent, no reason to look for buyers if your firm is failing. Everything is up in the air and as a result, the only prudent policy is to wait and see what the government will do next. The frenetic efforts of FDR had the same impact: Net investment was negative through much of the 1930s.
The next administration is unlikely to do any better. Mr. Bernanke is perhaps the greatest living authority on the Great Depression, yet he has failed to stem the damage. Messrs. Paulson and Bernanke are confronted with a sick patient. They have antibiotics. They have a scalpel. But is there any evidence from the last seven months that they understand the underlying cause of the illness, or how to cure it?
Worst of all are the political incentives that are unleashed when Washington promises to spend a trillion dollars (and counting). No one can spend such money wisely even if they want to. The information about who needs to be bailed out and who needs to fail is too complicated. Inevitably, such decisions will begin to be more about politics than economics.
The banks were first. Then the insurance companies. The car makers are getting a cut. Who's next? The governors, probably. Homeowners are waiting. Then there will be the hedge funds. Once the line forms, companies will stop trying to save themselves and focus on being saved by Washington. The resulting spiral will be devastating.
Unfortunately, there is no consensus about a preferable alternative. The economists are almost as clueless as the politicians. At such a time, inaction may be the wisest course of action.
Mr. Roberts is a professor of economics at George Mason University and a research fellow at Stanford University's Hoover Institution. His latest book is "The Price of Everything: A Parable of Possibility and Prosperity" (Princeton University Press, 2008).
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