Its the Deficit, Stupid!
by liberaldemocrat08, Sat Feb 04, 2006 at 10:36:50 PM EST
It is unfortunate that the republicans have degenerated into their current level of denial of reality. They are doing the opposite of what the democrats did during the 1930s: taking from the poor to give to the rich. This is based on the junk science, and long-sense discredited, theory of Supply-Side Reaganomics. Supply-side doesn't work. If tax cuts helped the economy, the economy would have grown more than the 1% it actually did last quarter. If tax cuts helped the economy, and tax increases hurt it, Clinton's tax increases should have crippled the economy in the 1990s.
Why is supply-side wrong? Supply-side does not argue that taxes should be reduced across the board. It says that taxes should be cut where the supply of capital in the economy is: in other words, at the top. This is the key here. Capital is not spread in a uniform fashion across the economy. It is concentrated at the very top. Supply-side says that you cut taxes at the top, because this is where most of the capital is. This would release the maximum amount of capital, which would "trickle down" throughout the economy. This is why supply-side is bogus. Focusing tax cuts at the top doesn't affect the economy because there is no trickling down effect. This phenomenon does not exist.
The center of gravity in an economy is based on demand for goods, not supply of capital. You could call this Demand-Side economics. Countries in South America have a very rich upper class with a lot of capital. But there is stagnation because the rest of their economy is too poor to demand the goods that this capital could create. This is why there is no growth in these countries.
Raising taxes can hurt the economy. But Clinton did it and the economy was not hurt. Why? Clinton did not raise taxes across the board, but only on the top. You do this for two reasons. For one, the most tax revenues are raised where the most capital is located: large corporations and rich individuals (the same place supply-side says you cut taxes). Clinton's tax increases didn't hurt the economy, because they were focused on the top, which could absorb them. Clinton's tax increases didn't cripple this segment of the economy, as they were not large enough to. Likewise, Bush's tax cuts have not helped this segment of the economy for the exact same reason. Had Clinton raised taxes on the middle, he would not have raised much revenue, but would have crippled the source of demand. Demand in an economy is located at the middle and the bottom, as this is where most people are.
Cutting taxes on the middle does not have much of an impact on the economy. The amount of capital this releases is minimal. The argument only works due to its emotional qualities. What does have an impact, however, are policies that stimulate demand amongst the middle class. These are policies such as increased Corporate Average Fuel Economy (CAFÉ) standards to increase fuel efficiency in cars and thus allow people to spend less on gas. Any policy must have a multiplier effect. The size of the government and government taxing, spending, and tax cutting, is too small relative to the economy to have an extraordinary effect in and of itself.
But the real way you stimulate demand amongst the middle class is you bring down the federal deficit. I believe that democrats will have to raise taxes when they return to power. This would lower the deficit, bring back surpluses, start paying down the national debt, and have effects that would resonate throughout the economy for a long time thereafter. I advocate this concept of "Demand-Side Economics." The federal government is running $400 billion yearly deficits. These are mostly due to the $2 trillion in tax cuts Bush has passed. The republicans are risking insolvency of the government, and literally, world financial chaos.
Clinton increased taxes, which raised revenues, which lowered the debt. Bush cut taxes, which lowered revenues, which increased the debt. The most ridiculous concept supply-siders believe, is that cutting taxes increases federal revenues. One must think that to believe this you must deny reality. Supply-siders point to the increase in federal revenues during the Reagan administration, and the current increases in federal revenues. But this is a logical fallacy. Two conditions that coexist do not necessarily cause each other. Yes federal tax revenues increased in the 1980s, and are increasing now. However, they also increased in the 1990s, 1970s, 1960s, 1950s, and every decade before then in which there were substantial income tax revenues. Tax revenues always increase during every decade, usually by the same proportion, because the income tax taxes income, or GDP to be more precise. GDP always increases, almost every year. When GDP is not increasing, by definition, you are in a recession.
If you raise taxes on the top, and leave them unchanged on everyone else, you would lower the deficit, start paying off the national debt, and decrease the amount the government has to pay in interest on the debt. Lowering the deficit lowers inflation, which lowers interest rates, which lowers the cost of borrowing, which stimulates the economy. An increase of the national debt requires extra federal borrowing, and thus more competition for capital to finance the debt on the global market. More US debt bonds issued, especially in foreign markets, does several things. For one, since US debt bonds are just about the safest investments on the planet, the rate on the bonds creates a floor on interest rates throughout world markets. It is about the lowest return one can get due to it being just about the safest. An increased supply of US debt bonds requires higher interest rates to attract investors to the increased number of bonds issued. This has the effect of driving interest rates up, across the board. It doesn't just drive up the Federal Funds Rate, but corporate, municipal and nonprofit bonds must also pay higher rates to compete with the federal rates on the bond markets. Corporate et. al. bonds, are, by their very nature, more risky than US government bonds, and thus must pay higher interest rates than federal bonds must. This causes a systemic increase in the cost of borrowing that affects the entire economy, from the top to the bottom. Higher costs of borrowing do exactly what supply-siders say tax increases will due: it takes money out from free circulation in the economy. Taxation is not the only "tax" on the economy. Only, unlike with tax increases, the amount taken out of the economy due to this higher cost of borrowing is enormous. It isn't the government that takes money out of the economy. It is the economy itself that restricts the free flow of its own capital. Thus you have again, this multiplier effect. In the end, all of this increases the price that taxpayers must pay to carry all of this debt, as higher interest rates mean that more interest must be paid. In addition, an increase in the cost of borrowing has the tendency to cause inflation. If a company has to pay more to borrow money, either from the bank or in financing their own debt instruments on the bond markets, it must charge more for its products. When this is happening throughout the economy, the effect is the potential for wide-ranging inflation. And when inflation starts creeping up, the Federal Reserve Bank (as it is doing right now) starts increasing the Federal Funds Rate to contain the inflation. This also causes the cost of borrowing to increase, as this Federal Funds Rate is the lending interest rate for banks. Finally, the deficit is also tied to the value of the dollar, which is tied to high oil prices. Increased national debt makes dollars more risky, which drives down the value of those dollars. Oil is traded in dollars, and a decrease in the value of the dollar means it takes more dollars to buy a barrel of oil. This decrease in the value of the dollar also acts as a tax, as imported goods increase in cost, a sort of inflation you could say.
Supply-side doesn't work due to a law of proportionality. Bush's tax cuts, the largest in all of history, have amounted to more or less $2 trillion over a period of time (10 years or so) in which the combined GDP would add up to $100 trillion or more. The tax cuts are massive, but do not pump a relatively large enough amount of capital into the economy. Demand-Side deficit reduction involves a little centralized government work, which causes the economy to free up more of its own money back into free circulation. The effect of a little federal investment multiplies many-fold throughout the economy. This is why Bush's $2 trillion tax cuts have little to show for other than a 1% increase in GDP last quarter, and why Clinton passed the largest tax increase in history, and the result was the largest economic expansion of the 20th century.