09 July 2010

Symptoms Of Our Unhealthy Economy

The United States is limping out of the financial crisis and into a recovery. But, symptoms of deep, long term problems remain. We have not yet taken steps bold enough to restore our nation's economy to sustainable prosperity.

The relationship probably isn't a simple cause and effect one, but the notion economic health is a product of low taxes and an economy where the rich can easily acquire and hold onto their wealth, which is close to the Republican vision of economics doesn't jibe with the facts.

Income Inequality Was At A Record High And Will Return

Maule summarizes a new report on income trends:

The Center on Budget and Policy Priorities has released Income Gaps Between Very Rich and Everyone Else More Than Tripled In Last Three Decades, New Data Show, a study of changes in after-tax incomes, by quintile, for the period 1979 through 2007. . . . the CBPP report includes these highlights . . . : the concentration of income in the hands of the richest one percent is higher than at any time since 1928. . . .

3. Though the impact of the recent recession is not reflected in the study, because the data is not yet available . . .

4. After adjusting for inflation, the average after-tax annual incomes of the bottom quintile rose by $2,400, the average after-tax annual incomes of the middle quintile rose by $11,200, and the average after-tax annual incomes of the top one percent increased by $973,100.

5. In 1979, the top one percent had a 7.5 percent share of after-tax income, whereas in 2007, it had a 17.1 percent share; for the middle three quintiles, the share fell from 51.1 percent to 43.5 percent, and for the poorest quintile, it fell from 6.8 percent to 4.9 percent.

6. The Bush tax cuts contributed significantly to the increased inequality . . . the bottom quintile received an average tax cut of $29 from the Bush legislation, the middle fifth received an average tax cut of $760, the top one percent, $41,077, and millionaires, $114,000.

7. Inequality measured not by after-tax income but by pre-tax income also grew, with the top one percent’s share increasing from 9.3 percent to 19.4 percent, whereas the share of taxes paid by this group rose from 25.5 percent to only 28.1 percent, while the effective federal income tax rate for this group fell from 33.0 percent in 2000 to 29.5 percent in 2007.

It isn't a coincidence that income inequality on the eve of the worst recession since the Great Depression was greater than it had been at any time prior to the eve of the Great Depression.

Gross income inequality is an indicator of an unproductive third world economy.

Yes, the Financial Crisis took a temporary bite out of that, although heirs in 2010 benefiting from a temporarily repealed estate tax will still come out ahead in the end. But, little has changed to prevent this concentration of wealth from returning.

Low Taxes Are A Sign Of A Weak And Stagnant Economy

Low taxes are nothing to be proud of, and taxes right now are low. Gas taxes are half what they were in real terms in 1980. Income taxes are at near record lows. Total taxation at all levels of government combined as a percentage of GDP remains low.

Yet, empirically, raising taxes is associated strongly with economic growth (and here). And people in countries with high taxes are the happiest.

It turns out that the public spending that flows form higher taxes usually does more good than it does harm.

There is strong bipartisan rhetoric supporting balanced budgets (at a time when the economy really could use stimulus spending, not Herbert Hoover style fiscal discipline), but nobody is turning rhetoric into concrete action of the federal level.

Incentives To Over Leverage and Employ Too Few People Remain

Excessive leverage in big businesses is one of the key reasons that the financial crisis was such an economic disaster. But, reforming the deep preference in the tax code for debt over equity, which was a major systemic contributor to excess leverage that made our economy fragile and vulnerable to collapse isn't even a part of the discussion.

Similarly, only weak efforts are being made to undo the deep tax bias in favor of unearned income over earned income in the tax code. Carried interest tax treatment reform (which would cease to treat hedge fund manager bonuses of low tax rate capital gains) is the only proposal still on the table to address it, and this is an iffy proposition.

We have a tax code deliberately designed to discourage businesses from hiring workers, and politicians in Washington aren't even talking about the issue. Encouraging businesses to buy new machines when taxes aside it would be more profitable to hire new workers is madness.

We Are Ignoring A Potentially Powerful Economic Engine: Immigration

There are two main ways to immigrate to the United States. You can have family connections, or you can have an employer who claims he can't find anyone in the United States to employ sponsor you. A talented person generally can't simply come to the United States seeking their fortune.

This is a deep economic mistake. Economic prosperity is driven by talented people, and talented people are the ultimate source of jobs and economic growth. The more talented people we have in the United States, the better our economy will be.

Instead of allowing talented people and their families worldwide to move to America, create wealth, and create jobs for Americans, we insist that they live in their home countries, hire their countrymen and export the fruits of their labor to the United States.

We continue to see unemployment as a limited number of jobs which people compete for, instead of recognizing that it is the talents of the people doing the work that determine how many jobs there are in the economy.

Any non-American who is willing to start fresh in the United States who has a college education or a skilled trade or money to invest in U.S. businesses should be welcome to live here, with their families, without having to wade through miles of red tape.

We Make It Very Risky To Innovate

The United States has one of the most anemic small and medium sized business sectors in the world. One of the important reasons that this is the case is that we have a weak social safety net. Innovation entails risk. Most entrepreneurs fail, often multiple times, before they have a big success that expands the economy. But, in the United States, with its weak social safety net, the cost of failure is very high. It may mean going without health insurance and risking the possibility that a treatable injury or illness will become a permanent disability. It may mean homelessness if the economy takes an unexpected turn. It may mean that your children lose the chance to get the educations they need to prosper.

We have an extremely stingy unemployment benefit system that provides meager taxable payments with extreme red tape oversight for short periods in small amounts exclusively to those who are laid off. For those who quit, are fired, are self-employed with greatly reduced incomes, or who are underemployed, we have credit cards and home equity loans (for those who can hold onto their homes).

No nation in the developed world punishes economic failure as harshly as the United States does, and as a result we have a very weak small business sector which in turn reduces the pool of candidates for major economic growth from innovation. In this country, there is an exceedingly strong incentive to play it safe in someone else's proven big business.

Less generous bankruptcy laws in the wake of the 2005 bankruptcy reforms, a small business lending environment that makes it very difficult in practice to get any kind of financing without personal liability, conservative underwriting of small business loans, and thin supply of private equity investors willing to invest in small and medium sized businesses similarly contribute to the very high risks in our economy involved in establishing or expanding new businesses. This discourages innovation and economic growth.

We also have a business mindset that cares to much about reputation and too little about the soundness of particular deals. A credit misstep, or resume gap can have an outsized economic impact in our society which is increasingly about maintaining a reputation rather than being forward looking. Our business mindset is so obsessed with not failing that we've forgotten to think about potential gains.

Part of the blame goes back to our national preference for debt over equity. We tend to set up deals where a slight misstep below our promises is considered a grave failure, but in which any gains are not shared at all, instead of recognizing that business is inherently risky and favoring situations where investors share in the upside and the downside.

In a world where few investors have an upside if a venture goes well, but most have a downside if it goes poorly, there is a tendency to want to shut down ventures that could eventually prosper if nurtured down too soon.

1 comment:

Dave Barnes said...

"Any non-American who is willing to start...should be welcome...without having to wade through miles of red tape."