Peter Ferrara
In President Obama’s now notorious December 6 Hugo Chavez speech in Osawatomie, Kansas, he characterized the alternative to his redistributionist Obamanomics as, “The market will take care of everything. If only we cut more regulations and cut more taxes – especially for the wealthy – our economy will grow stronger. Sure, there will be winners and losers. But if the winners do really well, jobs and prosperity will eventually trickle down to everyone else. And even if prosperity doesn’t trickle down, they argue, that’s the price of liberty.”
But this is just shadow boxing with strawmen. Free market economics is not about a few winners doing really well and then prosperity trickling down to everyone else. President Kennedy understood what the miseducated Obama doesn’t. As Kennedy explained the American experience since the early 1700s, “A rising tide lifts all boats.” The booming economic growth of the free market is the only means of benefitting working people and the poor, far more effective than counterproductive redistribution, which only retards the prosperity of working people, and consigns the poor to a lifetime of dependency.
But Obama says of the free market, “It doesn’t work. It’s never worked. It didn’t work when it was tried in the decade before the Great Depression. It’s not what led to the incredible post-war boom of the 50s and 60s. And it didn’t work when we tried it during the last decade.”
So America suffers with a President who completely misconceives the foundation of the world leading prosperity of his own country, and the very source of its superpower standing, now rapidly declining under his misleadership. Exactly to the contrary, the free market is exactly what worked for over three hundred years to make America the richest, most prosperous nation in the history of the world, a veritable workers’ paradise in fact, until Obama came along, carrying the misconceptions of his father’s overt Communism, and his mother’s hippie anti-Americanism.
Why It Worked
As Brian Domitrovic explained in his highly insightful economic history Econoclasts, “The unique ability of the United States to maintain a historic rate of economic growth over the long term is what has rendered this nation the world’s lone ‘hyperpower.’” How that was achieved is well-explained, among many other places, in Jude Wanniski’s highly readable book, The Way the World Works.
The key to understanding the impact of taxes on the economy is to focus on tax rates, particularly marginal tax rates, defined as the tax rate that applies to the last dollar earned. The tax rate determines how much the producer is allowed to keep out of what he or she produces. For example, at a 25% tax rate, the producer keeps three-fourths of his production. If that rate is increased to 50%, the producer keeps only half of what he produces, reducing his reward for production and output by one-third. Incentives are consequently slashed for productive activity, such as saving, investment, work, business expansion, business creation, job creation, and entrepreneurship. The result is fewer jobs, lower wages, and slower economic growth, or even economic downturn.
In contrast, if the tax rate is reduced from 50% to 25%, what producers are allowed to keep from their production increases from one-half to three-fourths, increasing the reward for production and output by one-half. That sharply increases incentives for all of the above productive activities, resulting in more of them, and more jobs, higher wages, and faster economic growth.
Moreover, these incentives do not just expand or contract the economy by the amount of any tax cut or tax increase, as a Keynesian stimulus purports to do. For example, a tax cut of $100 billion involving reduced tax rates does not just affect the economy by $100 billion. The lower tax rates affect every dollar and every economic decision throughout the economy.
That is because every economic decision is based on the new lower tax rates. Indeed, the new lower tax rates affect every dollar, or unit of currency, and every economic decision throughout the whole world regarding whether to invest in America, start or expand businesses here, create jobs here, even work here, because all these decisions will be based on the new lower tax rates. Tax rate increases have just the opposite effect on every dollar and economic decision throughout the economy and the world.
In addition, marginal tax rates do not just affect the incentives of those to which the rates currently apply. They also affect those to which the rates may apply in the future. For example, consider a small business owner. If he invests more capital in the business to expand production, or hires more workers to increase output, that may result in higher net taxable income. It is the tax rate at that higher income level, not at his current income level, that will determine whether he undertakes the capital investment, or hires more workers.
These are the reasons why reductions in tax rates promote economic growth and prosperity, and why increases in tax rates retard economic growth and prosperity. Contrary to Obama’s Brave New World memory hole, experience follows the logic, as sharp rate reductions produced dramatic prosperity in the 1920s, the 1960s, and the 1980s through the mid 2000s.
Sometimes, there is a full Laffer curve effect, and cutting tax rates actually leads to higher tax revenues. That is why every time the capital gains tax rate has been cut in the last 40 years, capital gains revenues have gone up, not down (and every time the capital gains tax rate has been raised, capital gains revenues have gone down, not up). Such a Laffer curve effect will be seen more the more years after a rate cut, the analysis goes. In other words, more rate cuts will be seen to lead ultimately to higher revenues than otherwise several years after the cut, as the resulting economic growth effect gains momentum.
The Cost of Regulation
Similarly, regulations impose increased costs on businesses and consumers, and sometimes flat out prohibit productive economic activity altogether. See, e.g., the Keystone pipeline. Academic studies estimate the total costs of regulation in the economy to be rapidly rising towards $2 trillion per year, or $8,000 per employee. That is close to 10 times the corporate income tax burden, and double the individual income tax. When the resulting effects on the economy are considered, the total losses due to regulatory burdens may total $3 trillion, or one fifth of our entire economy.
These regulatory burdens increase the cost of production, and consequently reduce the net return to the producers, reducing the reward for production quite similarly to taxes. They consequently also slash the incentive for production, reducing economic growth and prosperity. Alternatively, reducing regulatory burdens reduces the cost of production, increasing the net return to producers, and so adds to the incentives for production. The result is increased economic growth and prosperity.
But Barack Obama does not understand any of this. He dismisses any concern over the costs of regulation by saying simplistically that businesses are always complaining about regulation. But the result shows up in unemployment, declining real wages, increased poverty, and less economic growth and prosperity. Those effects will only worsen the more Obama’s regulatory tsunami is allowed to grow.
Of course, some regulations are necessary, just as some taxes are necessary. Some regulation is essential to protect the public health and safety, or to prohibit some conduct analogous to fraud, theft and invasion of property rights. The point is to repeal unnecessary regulatory burdens, and to minimize regulatory costs, to maximize economic growth and prosperity.
A Sound Dollar
A third component of pro-growth economic policy is restrained monetary policy to maintain a stable dollar without inflation, or deflation. The more certainty that the dollar will be stable, the greater the incentive for investment and increased production, because investors and entrepreneurs know their investment and business returns will not be depreciated by inflation or a declining dollar, or destabilized by wild swings of the business cycle.
Those whom I respect as the best economists argue that this is the most important factor of all in promoting booming and lasting economic growth and prosperity. Failure on this component can consequently undermine the success of the other components. For example, President Bush and his weak Treasury Secretaries promoted a cheap dollar monetary policy in the 2000s, with Fed appointments to carry that out, worst of all being “Helicopter Ben” Bernanke, who seems to think dropping dollars out of a helicopter is a pro-growth policy.
The necessary monetary stability used to be provided by the gold standard. The question now is whether the same stability can be achieved by restricting the Fed’s discretion to following a “price rule” in its conduct of monetary policy. The Fed’s monetary policy would be guided by prices in real markets, particularly the most policy sensitive commodity prices, such as oil, silver, copper and other precious metals, but most especially gold, the most policy sensitive commodity of all given its ancient tradition as a store of value and money in itself.
When such prices start to rise in markets, that signals the threat of inflation is rising, and the Fed should tighten monetary policy and the money supply. When such sensitive prices start to fall, that signals the threat of deflation and recession, and the Fed should ease monetary policy. Following such monetary policies would avoid inflation and deflation, and cyclical bubbles and recessions, and maintain a stable value of the dollar.
But this issue doesn’t even seem to come up on Obama’s radar screen. He is a true believer in the outdated Keynesian discretionary monetary policy of Bernanke, which was thoroughly discredited by the 1970s. But experience with Obama by now should have taught us that Obama does not learn from experience, with a mind totally captivated by pure theory and a priori moralism.
Spending, Deficits and Debt
The final component of pro-growth economic policy involves government spending, deficits and debt, which drain the private sector of the resources for savings, investment and production to provide economic growth and prosperity. Perversely, Obama is locked in an antediluvian, unreconstructed, sophomoric, Keynesian mindset stuck in the delusion that runaway government spending, deficits and debt are the foundation of economic growth and prosperity. That is what he says in his Kansas speech, and what he has been saying since he was elected.
But the truth is just the opposite. Minimizing government spending, deficits and debt to the essentials is what maximizes economic growth and prosperity.
These pro-growth, free market economic policies are the opposite of trickle down economics. They all involve decentralized markets, with prosperity welling up from the people to create a rich and prosperous nation. Trickle down economics is really what Obamanomics is all about, sprinkling government spending across the economy, and expecting that to trickle down to benefit working people and the poor. The fallacy is to overlook that the money has to come from out of the private economy first to finance all that runaway government spending, failing to see the counterproductive effects of drawing that money out in the first place.
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