Keeping tabs on the best indicators for quality of life among 12 advanced democracies

US deficits are a result of massive tax cuts, huge increases in military spending, the new Medicare drug benefit, and a serious recession caused by poor use of tax cut funds, crazy mortgages, and a massive housing and financial derivatives bubble. First: taxes. American politics is awash with the idea that lower taxes will help the economy; however, higher taxes properly spent will, in fact, help the economy. Advanced democracies (such as many of the subjects on internationalcomparisons.org) all have significantly higher tax rates than the US while maintaining a higher standard of living. In modern US economic history, higher tax rates are usually associated with higher growth rates. The last tax reform in 1986 increased taxes on business and was followed by years of increased investment. When taxes were lowered during a boom in 2001, it was followed by the biggest bust since the Depression. The danger is posed not by taxes, but by debt, speculation, and excessive money growth.

Under-taxation causes deficit spending, which increases borrowing. Money in Treasury bonds may or may not be invested in growth. The borrowing can be redeemed if the spending it supports is productive, that is, longer term and causes more growth than the burden of debt. Otherwise, taxes that are designed to pay interest on debt become a dead weight on economic growth. Unfortunately, in recent years most of the deficit has not been invested in growth. At the end of the Clinton years, the US budget moved into the black, a rare event, followed by the biggest tax-cut deficits in US history under Republican G. W. Bush. Tax cuts have gone to increase upper incomes with devastating results for the deficit, jobs, and growth. Job growth, in fact, slowed down and the economy went into the worst crisis since the Great Depression. On top of tax cuts, doubling down on bad policy, for the first time in American history, the elite decided to fight wars without paying for them, ballooning debt even more. Over comparable six year periods, Clinton’s tax increase was followed by a 16.2 percent jobs growth; Bush’s tax cuts were followed by a 4.8 percent job growth. For GDP growth, the score was Clinton, 26 percent; Bush,16 percent. For median income, Clinton, up 14.7 percent; Bush, up 1.6 percent. Bush claimed his policies would decrease national debt by $3 trillion; the debt went up by $1.7 trillion over the six years. Continuing the cuts raised the debt by $2.5 trillion over 10 years.

I have been unable to find any audit of where the tax cut money actually went. I only found: “Moody’s Analytics Chief Economist Mark Zandi estimates that making the Bush income tax cuts permanent would currently generate only 35 cents in economic activity for every dollar in forgone revenue.” A lot seems to have gone to personal consumption by the wealthy. One corporate mogul bought a bigger boat in Italy, for example. A lot must have gone into purchases of assets without increasing their productivity, that is, into houses, collectibles, and housing speculation. Unqualified buyers bought homes they could not afford and gullible investors trusted corrupt bankers, insurance companies, and bond rating agencies who pushed the Ponzi bubble higher and higher. Some of the money that went abroad came back from Asian exporters into US treasuries, an unproductive investment. Some of the money probably went into US growth and jobs. (If you know of a good quantitative analysis, let me know.)

The underlying reality is that, within some limits, taxes usually create more jobs and growth than does private spending, so long as the taxes are progressive and the money is wisely spent. Government does a better job because the private sector has a higher cost per job than government. Taxes shift money from high-cost jobs to a larger number of low-cost jobs, creating more jobs for the same amount of money. Consumer demand shifts from serving high income consumers, who spend less and save more as a percent of income, to average incomes who spend more of their income.

Keynes was right: slack economies can recover very slowly or government can prime the pump of demand for growth. Adequate taxes and anti-cyclical spending combined solve the problem. The late W. Bush and early Obama bailouts to the bankers and AEG who caused the problem, the stimulus, and the rescue of GM prevented a deeper recession. Recent Fed policy, however, seems misguided: lower interest rates do little good when businesses won’t borrow because consumers can’t buy because of unemployment.

The value of taxes for the economy is very well understood by the banks themselves who received government funds to maintain liquidity during the recession. The banks also forecast that lack of federal spending and its spillover into lower state and local spending will be a drag on the economy through 2021. California alone gets $79 billion per year, 40 percent of the General Fund, from the federal government.

So, more specifically, how should the money be spent and how should the taxes be increased? First, how to spend: Non-ideological economists agree that using the money for infrastructure, aid to states, temporary payroll tax reductions, and unemployment benefits would have been more productive for short-term demand and long term productivity. The tax cuts, by contrast, were like a quick blood transfusion from the weak to the healthy that in the end reduced the ability of the weak to buy much, undermining the long-term health of the wealthy, themselves. I am not, however, happy with payroll and unemployment ideas. I like what the CCC and WPA did and I’d like to adapt it to current needs. There is a lot of work not being done, and low to middle level skills are still needed. There are a lot of people willing to work for what they used to make or less, which has a low cost per job, is not inflationary and is not enough to keep them when better jobs come along with recovery. It’s a triple play: it gets work done, helps aggregate demand, and provides a social benefit totally superior to giving the affluent even more money.

Another issue is how taxes should be reformed, with five choices:

• reduce taxes by raising fees,
• raise rates above historic levels (tax rate increase),
• restore rates to previously prevailing levels (tax rate restoration),
• close tax loopholes, and
• shift taxes from “goods” to “bads.”

Fees replace taxes: If a state lowers tax support for its colleges and raises tuition, is it a tax increase on students? For a social good like education, the fee approach is regressive. However, for private goods it requires beneficiaries to pay, which makes sense.

Concerning rate increases or restorations, the US is fortunate to not have to raise rates; it only needs to restore rates that prevailed during a better economy.

Concerning loopholes, they need to be understood as a budget expenditure, a tax budget
expenditure, no different from an outlay budget expenditure. Is closing a loophole a tax
increase or a budget cut? It’s both, but it is not a tax rate increase. Closing loopholes has four benefits: it reduces deficits, improves vertical equity, improves horizontal equity, and improves economic fair play. Vertical equity improves because more taxes come from some upper incomes, increasing the amount from all upper incomes. Horizontal equity improves because people with similar incomes are taxed in a similar way. Fair play improves by creating a level economic playing field by not using the tax code to promote market winners.

The tax code does hundreds of favors to vested interests reducing their taxes relative to other high incomes. The Joint Committee on Taxation and Treasury Department disclose the tax expenditure budget but only list the loopholes without adding them up. In 2011 Citizens for Tax Justice estimated $365 billion in subsidies for business and investment.

Tax expenditure budget spending is out of control, perpetuating itself, unlike the outlay budget, without annual review by Congress. Upper income people who do pay their share—and many pay much higher taxes than other high income people—should be more concerned about the unfairness to them and the distortion of markets, undermining market-based growth. Many giant corporations pay little or no tax. Corporate tax incidence is difficult to figure out, but assuming half falls on owners and half on consumers, the result is the same for individuals: corporate tax avoidance equals personal income tax avoidance. In June 2011 the Center for Tax Justice reported that 12 big corporations with profits of $57 billion per year paid taxes of minus $833 million. That is to say, they did not pay takes; on average, they received checks from the IRS.

We should shift taxes from “goods” to bads”: A simple carbon tax, increased gradually, is a tax on “bads” that can easily allow reduction of taxes on “goods” like earned income. This policy will not harm the economy, but, instead, shifts prices at the margin to create an incentive for real growth, improve US competitiveness, and reduce the cost of buying foreign fossil fuels. It will be difficult to catch up with Denmark and Germany; they are decarbonizing and growing sustainably.

“Our addiction to foreign oil is hampering our economic recovery and we desperately need investments in clean energy. We can address these pressing problems, while reducing our budget deficit and pollution, by enacting a simple carbon tax.” –Congressman Pete Stark, Sept. 2011.

Do you know of any other Representative stating the obvious?

Government can promote jobs and growth in the several ways outlined above, but does much more if it does what it is supposed to do. Both private and government investment help economic productivity, but in different ways. Government consumer protection creates consumer confidence, reducing the cost of selling. Government investor protection creates investor confidence, increasing the availability of capital. Government spending on natural resources and reducing pollution provides quality of life services and nature services of great economic value that the private sector is unable to provide. Government spending on health reduces what private business would spend or, absent business spending, increases worker health directly, promoting economic growth either way. Government spending on education has a pay-off in human capital essential for long term growth. Government spending on research provides technological capital used by business for growth. Under-funding government spending on social programs leads to high costs of criminality, jails, and prisons. The US prison population is so big it ,reduces the labor force, increasing the cost. The Advanced Democracies, as reviewed at internationalcomparisons.org, with a fraction of the US crime rate and a fraction of the costs, show how effective education and social programs can be.