Hooray, the grand compromise (actually a total Republican surrender to Obama and Statism) has been reached. The stock market apparently endorses the deal, as it appears to be in a melt-up this first trading day of the New Year. The euphoria of it all is enough to make H. L. Mencken marvel.
In reality, no problem has been solved. Government spending still rages out of control (early analysis of the composition of the agreement suggests that there were $41 of tax increases for every $1 in spending cuts). You don’t solve a spending problem by raising taxes. That never works! Cutting spending always works — ALWAYS — although there is little empirical data on such a claim since governments never do so!
Another sad and cruel joke has been played on the American people and the media play along with their political masters.
Put this disgrace in terms of a family. Let’s say that the Jones family earns $40,000 per year, but spends $56,000 per year. Mr. Jones decides that all he has to do is cut some spending and earn more income. Let’s go to the extreme where Mr. Jones intends to truly solve his problem in the manner that Congress has acted. Because Mr. Jones likes to spend, he will cut his spending by $1,000 and raise his income by $41,000. Surely no individual would try to solve such a problem in this manner.
But Congress doesn’t even pretend to be as wise as Mr. Jones (who is incredibly dumb). What they are doing is the equivalent of dropping spending by $50 and claiming that they will raise income by $2,000. Under a different shell in this scam are spending increases which they don’t want you to know about.
Congress is much like Mr. Jones. If Mr. Jones could raise his income to $81,000, he would spend more than $100,000. There is no amount of money that Congress cannot and will not spend. Sending them more is akin to providing an alcoholic with more booze.
Here is a summary of the agreement, courtesy of the Wall Street Journal via the US Senate:
You believe there is nothing to worry about because that table doesn’t affect you. Your taxes are not going up (actually they are in many different ways that have nothing to do with “fiscal cliff” negotiations), so everything is just fine. Only the rich who can “afford” to pay will pay.
In truth, we all can afford to pay. And just as true, none can afford to pay. Just what does “afford” mean? It is a politically-abused term thrown around for political advantage just like “fair,” “fairness,” “for the children” and other meaningless but emotionally-laden terms.
In order for you to believe that taxing the rich doesn’t affect you, you have to believe the rich provide no benefits to society. P. J. O’Rourke explored that issue in a book entitled “Eat The Rich.” If there were a title to describe this fiscal cliff agreement, Mr. O’Rourke anticipated it long before the agreement. Envy is no substitute for sound economic or fiscal policy. Nor is it a solution to irresponsible government.
Penalizing the rich will not work. You see, the rich are just like you and me except maybe smarter and wealthier. They have feelings. They have needs. No matter how rich someone is, he has things he would like but cannot afford. These things might be of a much higher order than our “affords,” yet they are as important to this person as our “affordables” are to us, at least on the margin.
Other than being richer and smarter, most of the rich work longer and harder than the rest of us. They, like you and me, have other things they would rather be doing than working. When you lower the returns to work, you get less of it (from the rich and everyone else). Ditto, when you lower the returns to capital or investing. The agreement outlined above does both. Anyone affected by it will respond accordingly.
Ordinary folks have limited response mechanisms to government diktats. We don’t have enough wealth to engage high-priced attorneys to find loopholes or ways around new pain. We don’t have the luxury of changing the form in which our income is produced. We would if we could. No one takes a pay cut and continues to put forth the same effort unless the alternative is worse.
The rich have alternatives that most of us don’t. They can shift the form in which they take their income. If taxes on ordinary income go up and you own your own company, reduce your salary and pay more out in dividends. If taxes on capital gains go up, don’t engage in behavior where you incur capital gains, i.e., hold rather than sell. All of this behavior is rational from the standpoint of an individual, although not necessarily so from the standpoint of society. Taxes impede the free-functioning of markets which in turn impedes the efficiency at which an economy operates.
More importantly, the rational response of the rich to being “eaten” redounds upon the rest of us. In pursuit of their own self interest rich people create jobs for the rest of us. When we discourage this behavior the number of jobs shrinks. So too does capital formation. Wages are ultimately a function of capital. The more capital a society creates the more productive its people. Wages cannot grow without capital formation. Penalizing capital is the same as penalizing the working man.
As I sign off on this article, the stock market is euphoric. It is early in the trading day, but the Dow is up over 2%. Hooray for government!
As an aside, the stock market ultimately reflects the underlying economy. Harm has been done to the economy. Enjoy this rise while you can.