Why should Mitt Romney and the fabled "one-percent" pay only a 15%
marginal tax on investment income ... half the rate charged to a dentist
or auto mechanic on wages earned from work? This was not the case
until recent Republican Congresses
slashed taxes on passive, unearned dividends and capital gains.
The
rationale for that immense tax cut for (mostly) rich investors was
simple and alluring - that super-low rates would entice more of the rich
to invest in companies within the U.S., helping them to increase their
productive capacity and hire more workers. Moreover, the resulting boom
in economic activity would then result in so much new tax revenue, even
at low rates, that deficits would disappear.
Let's put this in
context with a term you may have heard. "Supply side" economic theory
maintained that this flow of investment capital would pump up the
factory end of things, increasing the supply of goods and services,
offering them cheaper, thus stimulating demand.
In contrast, the
standard Keynsian "demand side" model was to fight recession by ensuring
that poor and middle class folks had enough cash ("high-velocity"
money) in their pockets to buy - or "demand" - goods and services.
Whereupon producers would be drawn into greater production.
For a more detailed description of the differences between these two economic models, see my earlier missive
A Primer on Supply-Side vs Demand-Side Economics.
(It really is one of the top issues of our day and an informed citizen
should know about it.) Here in this place, I'll try to be brief.
Who
was right? Blatantly, the Keynsian approach worked in the 1940s, when
massive government spending on WWII resulted in a boom that ended the
Great Depression. A boom that then continued for 30 years, till Vietnam
crushed it against a wall. Throughout that period, high tax rates and
stimulative spending seemed to work, whenever the economy needed a
little help. Moreover, during that era, a very flat social structure -
(CEOs earned only a few times what factory workers did) - combined with
the most rapid growth of the middle class and the most vibrant era of
startup capitalism in human history.
That
does not make Keynsianism perfect! Critics like Friedrich Hayek, have
indeed exposed some faults and blunders that later Keynsians, like
Paul Krugman, openly admit and have striven to correct. Still, the Demand Side approach can point to many clearcut successes.
In
particular, it is plain that during recessions, when economic activity
lags and deflation looms, what you want is "high velocity" money in
circulation - money that will pass from buyer to seller and then to
another seller and so on. Not money that just sits.
Does Supply Side have a similar track record? Not even remotely. Not even once. Simple charts - and hard conclusions from the
Congressional Research Service
- show that the Supply Side assertion was... and is... utter
mythology. None of its predicted effects ever happened. And let me
reiterate. Not ever, even once.
Specifically, cuts in tax rates
for dividends and capital gains have never had any long-term effects
upon capital investment, since records were kept in the United States.
(See this
cogent article putting the myth to rest, once and for all. Also my article:
A Primer on Supply-Side vs. Demand-Side Economics.)
In fact, this is no surprise, for several reasons:
1) Supply Side assumes that the rich have a zillion other uses for their cash and thus have to be
lured
into investing it! Now ponder that nonsense statement. Roll it around
and try to imagine it making a scintilla of sense! Try actually asking a
very rich person. Once you have a few mansions and their contents and
cars and boats and such, actually spending it all holds little
attraction. Rather, the next step is
using the extra to become even richer. Naturally, you invest it. Whatever the tax rates, you invest it, seeking maximum return.
Instead
of enticing the rich to invest, these super low dividend and capital
gains rates simply used money taxed from middle class wage earners to
give bonuses for speculations wealthy folks were doing anyway. If
anything, the only major effect, other than budget deficits, was a
pumping up of asset value bubbles.
2) Now to be sure, some of the
rich ... a few... put a fair amount of their wealth into truly bold and
risky new enterprises. I know such men and women, who engage in Venture
Capitalism or starting up creative new enterprises. And just so you
know that I'm no socialist I believe this kind of investment truly
should be encouraged by taxing it at a very low rate! Not only because
of the risk, but also because equity shares that are bought
de novo directly from a new firm actually deliver nearly all of that value directly into capitalization and company development.
In contrast, most exchanges through the NYSE or NASDAQ are purchases from
other stock-owners
who happen to disagree with you about prospects for future capital
gains and dividends. It is just as much a betting/gambling system as any
Vegas casino, Your trades may marginally raise or lower the posted
price, allowing the company to raise a little capital on the side, but
almost nothing from your stock transaction actually goes to the company
itself, or into new products or plants and equipment.
(Hence, that
kind of investing - by far the largest portion - helps industry only at
appallingly low levels of efficiency, but diverts management into
spending nearly all its time trying to bribe stockholders with short
term benefits, ignoring long-term company health.)
No wonder Adam
Smith himself expressed contempt for passive investments that he called
"rents"... compared to investments in which the owner actually gets
involved in starting up or entrepreneurial development of long term
company or enterprise health.
3) So what about "targeted
investing"? The towering hypocrisy of supply side tax cuts for the rich
is that they are claimed (without a scintilla of evidence) to help
create jobs. But then, why treat investments overseas equally to those
made in domestic companies? President Obama proposes narrowing the
super-low rates to U.S. companies that are (a) startups, or (b)
demonstrably adding jobs, or (c) investing directly in new equipment or
R&D. For this he is derided for "picking winners and losers"...
even though the list of targeted tax breaks for GOP-favored industries
like coal and oil are myriad. (and outrageous.)
4) In fact, we
spoke earlier about how stock and equities markets have lately become
the tail wagging the dog. Instead of serving the capital needs of
companies, firms like Mitt Romney's Bain Capital show that productive
corporations making goods and services are now like cattle, farmed by
Wall Street, to be bled or dissected at whim. Nor is the whim even
human anymore! Most trades are now propelled by hyper-aggressive,
parasitical "
flash trading" computer programs that vastly amplify volatility, sap investor earning potential, and threaten our entire economic system in a dozen ways.
5)
The reduction of dividend and capital gains tax rates almost to zero
has coincided with the rapid ending of the relatively flat social
structure that we inherited from the Greatest Generation of the 1950s
and 1960s. Back then, the rich managers of major corporations earned
only ten or twenty times what factory workers got, a situation that
still exists in Japan. Only now, American wealth disparities are
approaching levels not seen since the American Revolution.
The
last thing that the GOP or Fox wants you to do is look across the last
6000 years. The class that they call "job creators" used to have
another name. Lords.
6)
The outrageous inherent unfairness of passive dividend-clipping getting
far better tax treatment than earned wages is inherently suspect.
It is exactly what you would expect rich and powerful men to lobby for,
whether or not their supply side rationalizations were true! It
should be no surprise that, in our money-drenched political system,
those with such power and influence have benefited immensely.
But are the arguments and rationalizations valid
at all?
At minimum, supply-siders should bear some burden of proof. Their
experiment has been run, now, for more than three decades, and never
once has their core predication come true... that cutting taxes on the
rich will result in increased overall revenues and a vanishing federal
deficit.
Yes, reducing deficits would be good! Indeed, under Clinton they vanished. The middle class, according to all opinion polls at the time, wanted any surplus to go to buying down debt. It was the upper caste who used the surpluses as an excuse to demand immediate tax cuts. So where does maturity reside?
The results are utterly conclusive.
Supply side is disproved, top to bottom.
What we need in this depression - and by most of the metrics it
has been a depression, not a recession* - what's needed is what ended the last one. The circulation of
high velocity money
that goes hand to hand very quickly, generating economic activity with
every transaction. Not the exact opposite, money that sits in
portfolios, not helping capitalize industry but simply fostering the
aggrandizement of a parasitic caste. One the the founding father of
free enterprise - Adam Smith himself - quite despised.
"All
for ourselves and nothing for other people, seems, in every age of the
world, to have been the vile maxim of the masters of mankind. As soon,
therefore, as they could find a method of consuming the whole value of
their rents themselves, they had no disposition to share them with any
other persons."
Smith is not talking about charity, but
the vigor of trade. In this case, we "share" by buying from one
another. The middle class is very good at that. It is the middle class
that - assisted prodigiously by technology and science - propelled our
economy to be the wonder of the world.
It is the middle class who
should get whatever tax benefits can be doled out. They'll use it to
make small startups. They'll use it to educate bright, competitive
kids. They'll spend it!
They are the real "job creators."
====
Addendum: November 3, 2012 -
R.I.P. "supply side economics"
In a November 1 report we learn that that Senate Republicans applied pressure on the nonpartisan Congressional Research Service (CRS) in September to withdraw a report finding that lowering marginal tax rates for the wealthiest Americans had no effect on economic growth or job creation.
"The pressure applied to the research service comes amid a broader Republican effort to raise questions about research and statistics that were once trusted as nonpartisan and apolitical," the Times reported. Democrats in Congress resurfaced the report. Republicans objected that it underminde the governing fiscal philosophy of the party, that tax cuts for the wealthy will spur growth and benefit everybody.
Changes over 65 years in the top marginal tax rate and the top capital gains rate do not correlate with economic growth. Reduction in top rates appears to be uncorrelated with saving, investment, and productivity growth. However, top rate reductions do associate with increasing divergence of national income going to the top 0.1%
This is important... and was always obvious. Even in 1776 Adam Smith described what the rich actually do with sudden cash infusions. They put it to work in "passive rent seeking" and only rarely into capital equipment or risky new products and services. (Risk taking can be rewarded in other ways.) And that cash flow to the rich reduces the velocity of money. If there were ever a time not to do that, it is during a recession, when we want high money velocity, put cash in middle class pockets! (In fairness, during runaway inflation, largesse to the rich - reducing money velocity - actually makes some sense.)
George H.W. Bush called Supply Side "voodoo economics. It was and is.
Michael Lewis's new book, Flash Boys: A Wall Street Revolt, has certainly gathered tons of well-deserved attention. He was on the Daily Show and his interview on NPR is an absolute must-listen podcast in which you'll painlessly (except for an angry gut reaction) learn an awful lot about how Wall Street is (surprise) cheating the rest of us.
Lewis's article appears to have a relatively happy ending, with the creation of a new trading center that corrects some of the grotesque advantages of behemoth banks and super-empowered Hugh Frequency Trading (HFT) operations. And I hope the sunny optimism of the final paragraphs comes true! (Failure to correct the cheating will lead us to French Revolution levels of anger, with tumbrel-riding lords losing much more than their "genius" predatory gains.)
Indeed, the hoo-row over this one book appears to be affecting markets! It has prompted a few traders to bet against shares of the Nasdaq OMX Group, the parent of the NASDAQ exchange. One analyst estimates that about 25% of Nasdaq's revenue, and about 33% of earnings, are attributable to high-frequency trading. The Wall Street Journal offers: The Responsible Way to Rein in Super-Fast Trading. 
Rationalization and excuse-making for the predatory depredations of a monopolistic cartel of financial "wizard" parasites.
I have also offered another, more science fictional but chillingly plausible reason to fear the many billions of dollars that major trading firms are pouring into the HFT versions of artificial intelligence (AI). It is a failure mode that grown more credible by the day. It could wind up wreaking devastating harm.
