Former Federal Reserve Bank Chairman Alan Greenspan, in a Financial Times interview, reveals that he believes the Bush tax cuts should be allowed to expire as planned.

Greenspan, still referred to as “the Chairman,” is still the same laissez faire advocate familiar to those who take the time to watch the Federal Reserve.  Although his sterling reputation has been seriously damaged by the financial collapse of 2008, he seems unconcerned about that in this interview — at 84 years of age such setbacks apparently dim in importance.

Here’s the relevant quote in the FT article:

“The other part of his record seized on by critics, especially Democrats, is his support for two rounds of tax cuts. One came in 2001 at the beginning of the administration of President George W Bush and one two years later. The week before we met, with an eye to the US’s huge fiscal deficit, he told an interviewer that he supported reversing those tax cuts, a remark seized on by his detractors to argue that he was irresponsible to have backed them in the first place. Here, too, he has a carefully worked-out response. One, both administration and congressional forecasts back then predicted huge fiscal surpluses, so a tax cut was quite sensible. Two, he argued at the time that a second round of cuts should be made conditional on how the economy and the public finances developed, which they were not. Three, he underestimated how his words would be seized on to justify reducing taxes willy-nilly, and he has already admitted that mistake in his 2007 memoirs, The Age of Turbulence. “Criticisms are wholly deserved when you’ve done something wrong, I grant you,” he says. “But I still prefer when I’m criticised that it be accurate.”

Beezer’s long argued that the obsession over tax cuts, and truthfully over monetary tools in general, has prohibited public discourse about other more important dynamics for maintaining robust economies.   Sensible, progressive tax tables that are kept unchanged, provide an all important stability in planning and additionally help pay down government debt accumulated in recessions, while providing surpluses when times are good.  Constant fiddleing with tax rates are a waste of time, in other words.  The more important issues are balanced trade, tariffs, currency manipulation, industrial policies aimed at full employment, innovation and capital investment, among many others.

That Greenspan, the icon of regulatory forebearance (blind regulation), thinks a return to the Clinton tax tables is interesting.  What’s amazing is that the media completely ignores his viewpoint now.  Republicans, to a man and woman, still maintain tax cuts are the cure to all evils.  Despite their guru acknowledging they aren’t.

No wonder we can’t get out of our own way.

As per usual, thanks to Mark Thoma’s economist’s view blog for highlighting this interview.

New York Times economics columnist Paul Krugman, a Nobel prize winning economist, has a knack of quickly and oh so clearly, skewering many of the shibboleths so favored by conservatives.

In this post, Krugman tidely dispenses with the tax cuts produce more revenue by pointing out that all tax cuts REALLY do is lower the trend of revenue growth.  Economies do expand and revenue does increase, eventually, even after tax cuts.  The point is that they resume growth at a lower trend level than what existed before.

Which is why, as Beezer has pointed out before, tax cuts correlate 100% of the time with greater deficits.  And why Beezer has pointed out that the real dynamics behind sustainable economic expansion usually have nothing to do with tax rate changes, up or down.  We’re looking at the wrong data and, as a result, asking the wrong questions and, as a result, getting the wrong answers about what we should be doing to enjoy sustained economic expansions.

From the post:

Carter, Reagan, Revenue

One common reaction of conservatives, when you point out that the experience of the last 20 years offers zero support for the idea that tax cuts pay for themselves, is to start shouting “Jimmy Carter! Reagan! Supply side roolz!”

So I thought it might be worth presenting a bit of evidence from an earlier 20-year stretch. Here’s real federal revenue, in 2005 dollars, from 1970 to 1990. I’ve plotted the log, because it’s easier to look at trends:

BEA

A couple of points. First, the Carter years, contrary to legend, were not a period of economic stagnation and falling revenue because high tax rates were strangling the economy; there was a nasty recession starting in 1979, largely thanks to an oil shock, but overall growth was respectable and revenue growth reasonably high.

Second, the revenue track under Reagan looks a lot like the track under Bush: a drop in revenues, then a resumption of growth, but no return to the previous trend.

This is exactly what you would expect to see if supply-side economics were just plain wrong: revenues are permanently reduced relative to what they would otherwise have been.”

Beezer again.  Instead of dithering over keeping the Bush tax cuts, we should let them lapse and start concentrating instead on developing a full employment plan that includes a strong industrial policy and a real concentration on lowering our huge trade deficits.

Speaking of which, another economist, Tim Duy, writes about the trade deficit that bedevils our economic growth on his blog Tim Duy’s Fed Watch..

“The US trade deficit rose on the back of an import surge.  From Bloomberg:

The trade deficit in the U.S. unexpectedly widened in May to the highest level in 18 months as a gain in imports outpaced an increase in shipments abroad.

 

The gap expanded 4.8 percent to $42.3 billion as U.S. companies imported more automobiles and consumer goods, Commerce Department figures showed today in Washington. The deficit was projected to narrow to $39 billion, according to the median forecast in a Bloomberg News survey. Imports and exports rose to the highest level since 2008.

As noted by Calculated Risk, you can’t blame this one on oil – the petroleum deficit actually improved in both real and nominal terms.   Overall, the goods deficit widened in real terms as well:

 

International trade looks likely to detract from overall growth for a fourth consecutive quarter.  So much for the rebalancing.  The Obama Administration can continue to prattle on about export growth, but trade is a game with two sides – if you lose more jobs to imports than you gain from exports, doubling exports is not a particularly effective stimulus.

 

It is important to recognize that as the global activity rebounded from the depths of the recession, the improvement in the US external balance came to a screeching halt and then reversal.  The reason is simple – we have offshored so much production capacity that it becomes impossible to grow without an expansion of the trade deficit.  Policymakers have not allowed for sufficient currency adjustment or relative growth differentials for any other outcome to occur.  Indeed, the picture is likely to deteriorate further in the months ahead:

The increase in trade flows shows how the global expansion lifted sales at companies like Alcoa Inc. Export growth may cool in coming months as the fallout from the European debt crisis limits overseas demand and a recent strengthening of the dollar makes American goods less competitive.

The challenges of addressing what is a structural trade deficit are magnified when one recognizes that manufacturing capacity is now shrinking in the US:

 

 

This makes the US more reliant on foreign production in the future, and also raises questions about the ability of the US economy to generate the output necessary to return those goods at some point in the future.

 

Also, this is relevant to the corporate cash debate.  Are firms sitting on cash because of weak demand or distress over the implication of deficit spending?  I find myself in the “weak demand” camp, but with a twist:  When firms begin to deploy that capital, where will they put it go?  To expanding capacity in the US?  Or China? And will China ultimately just absorb the capital inflow, swelling currency reserves further?

 

What I fear is the latter.  As production facilities in the US depreciate, firms are looking to replace that capacity with Chinese production.  The owner of a chemical manufacturing firm explained it to me quite succinctly:  When all of his customers moved to China, he really had little choice but to do the same.  The tiny – although officially exalted – renminbi adjustment does nothing to change this trend.  Simply put, only very large currency adjustments would be sufficient to deter US firms from continuing to pursue a China strategy.

 

One can continue to hold the fantasy that an army of well paid massage therapists or clerks at Trader Joe’s can offset the impact of not just absolute declines in manufacturing employment but also absolute declines in manufacturing capacity.  Holding onto that fantasy is much easier than recognizing that maybe, just maybe, the economic consequences of trade with China have been much more severe and long lasting than officialdom is willing to acknowledge.”  

 

Beezer once again.  Some day someone will listen.

 

The incessant repetition that broad based tax cuts are the best way to create jobs, and thus will increase government revenues because more jobs are created, simply isn’t supported by history.  It’s a classroom construction that doesn’t play out that way in the real world.

From a September, 2008 report by Michael Ettlinger and John S. Irons, part of which was published in the Center for American Progress website here.

“The first supply-side era in modern economic history began in earnest in 1981 with huge tax cuts for the wealthy and corporations. Although there were modest steps back from these tax cuts in the ensuing years in response to fiscal deficits and tax-sheltering, this first supply-side era didn’t end until the tax hikes of 1993. This respite from supply-side policies ended in 2001, however, when a new set of supply-side tax measures were enacted. Today, as budget shortfalls mount and the economy weakens, the supply-side approach to economic policy is once again up for debate. This paper reviews the theory underlying supply-side tax cuts and examines their results.

The term “supply-side” comes from the idea that economic policy, and tax policy in particular, can influence private-sector production decisions by changing the incentives to work or to invest. Like many ideologies pushed to an extreme, supply-side theory does contain a kernel of truth: In certain circumstances lower tax rates can lead to additional economic activity and can lead to additional government revenue. This is a standard incite in public economic theory. But, it is equally true that in other circumstances lower tax rates do not lead to additional economic activity or government revenue.

The chain of logic for supply-side policies to work requires the following. Lower tax rates on savings (or on those who save more) leads to higher saving rates. Higher saving leads to more economic investments and greater capital accumulation. Finally, more capital leads to greater economic growth. At each of these steps, however, there is reason to doubt the theory—there are other possible outcomes and conflicting theories.

The efficacy of supply-side policies thus becomes an empirical question: Do they work? As importantly, do they work better than alternative approaches of greater public investment to stimulate our economy? The two supply-side eras that sandwich the period from 1993 to 2001 offer us an opportunity to assess the impact of supply-side policies. The claims for these policies have been great, yet the results have been meager. Specifically:

• Real investment growth after the tax increases of 1993 was much higher than after the tax cuts of 1981 and 2001. The yearly growth rate after 1993 was 10.2 percent versus 2.8 percent for the first supply-side era beginning in 1981, and 2.7 percent in the period of the second supply-side era beginning in 2001. Without better investment growth being associated with supply-side policies, a critical link in the theory of supply-side economics is broken—and it is difficult to draw any plausible connection between supply-side tax cuts and any observed positive economic performance.
• Economic growth as measured by real U.S. gross domestic product was stronger following the tax increases of 1993 than in the two supply-side eras. Over the seven-year periods after each legislative action, average annual growth was 3.9 percent following 1993, 3.5 percent following 1981, and 2.5 percent following 2001.
• Average annual real median household income growth was greatest after the 1993 tax increases, at 2.0 percent annually compared to 1.4 percent after 1981 and 0.3 percent after 2001.
• Wage levels also did better after 1993. Average real hourly earnings following 1981 fell at an annual rate of 0.1 percent and following 2001 rose at a rate of only 0.3 percent. Following the 1993 tax increases average hourly earnings grew by 0.9 percent per year.
• Employment growth was weaker during the supply-side eras than during the post-1993 era. Average annual employment growth was 2.1 percent after 1981, 2.5 percent after 1993, and 0.6 percent after 2001.
• Federal budget deficits and national debt increased during supply-side periods and decreased following the 1993 tax increases. In the seven years from 1993 to 1999, the country went from a federal deficit of 3.9 percent of GDP to a surplus of 1.4 percent. After 1981 the deficit ballooned to 6 percent of GDP by 1983. In the year the 2001 tax legislation was adopted, there was a surplus of 1.3 percent of GDP. This turned into a deficit of 3.6 percent by 2004, which fell back to 1.2 percent in 2007 but will undoubtedly be higher in 2008. The national debt has followed a similar pattern, rising by an astounding 14.8 percentage points relative to GDP over the 7 years following adoption of the 1981 supply-side tax cuts, shrinking by almost 10 percentage points relative to GDP following 1993, and moving back up by 3.8 percentage points relative to GDP after the 2001 tax cuts.

Of course, the reason for the failures of the supply-side periods to deliver as strong an economic performance as the 1993 to 2001 era may not have anything to do with tax policy. Other short-term factors and long-term trends influence the economy as well. The evidence that supply-side tax cuts help economic growth is, however, weak at best and much contradicted in the economic literature. As the data we present in the pages that follow shows, economic policies with tax cuts for corporations and the wealthy as their centerpiece have simply failed to produce strong economic growth by a variety of measures.”

Beezer here:  Which doesn’t mean that tax cuts aren’t useful in certain situations.  For example, right now we have a lack of demand due to high unemployment and indebted private balance sheets.  And the Federal Reserve can’t use the tool of lowering interest rates because rates are already zero.  In that kind of situation it might be wise to eliminate a payroll tax to funnel money directly into family households, which can be used to pay down debt and increase demand — even though it would aggravate short term deficits.

But short of special situations like today’s, cutting taxes simply doesn’t have the classroom predicted effect.  Other factors, history shows, are far more important drivers of job creation and strong economies.

We’re asking the wrong questions, so we’re getting the wrong answers.  Until the public understands that much of what they hear (particularly from politicians) is simply not true, the nation will never get about the real efforts that need to be made for a strong economy. 

This from a Voxeu.org post about timing fiscal stimulus.

“To take one example, the Reagan tax cut of 1981 (the Economic Recovery Tax Act of 1981) introduced new depreciation guidelines and major cuts in personal marginal income tax rates and corporate tax rates. Signed by President Reagan in August 1981, it included changes in taxes that were phased-in from August 1981 until the first quarter of 1984. In fact, the largest change in tax liabilities was the cut of more than $57 billion in 1983, dwarfing the $9 billion tax liability cut of 1981. Therefore, the Economic Recovery Tax Act of 1981 was associated with major anticipation effects. According to our estimates, these expectations of future tax cuts actually contributed to the recessionary impact of the Volcker disinflation that took its course during the early 1980s. Once the economy was back on track in the mid-1980s, the tax cuts were being implemented and therefore further stimulated the uptake in aggregate activity.”

Basically, the authors argue sensibly that many sectors of the economy do change their behaviour when tax cuts are pre-announced:  For the worse.  Which is why both the Reagan tax cuts and the Bush tax cuts actually depressed economic activity for two or more years. 

But what would be the effect of pre-announcing tax hikes?  Presumably (and never presume) economic activity would increase for two or more years. 

So if you’re going to raise taxes, pre-announce them.  But if you’re going to cut taxes, make it a surprise.

While the Obama team is apparently going to recommend something on the order of $800 billion in fiscal stimulus, a whopping 40% of it could come in the form of a middle class tax cut.  As politically popular as that might be, it’s really not a stimulus that rates that high in effectiveness.

Go to this page and information provided by the Economic Policy Institute for a “top 13″ list of fiscal stimulus tools.  The top three are increasing food stamp subsidies, increasing unemployment benefits, and infrastructure projects.   Aid to states ranks fourth, and not until the fifth item–a payroll tax holiday–does a tax reduction measure show up.

A big problem with tax cuts, rebates and the like is that for every dollar sent back in one form or another, a good proportion of it goes into savings and is not recycled into the economy.  This reduces the effectiveness of a program designed to compensate for lack of spending that accompanies all recessions and can become hugely debilitating in a severe recession that teeters on becoming a depression.

Senator John McCain last night had the Republican Party faithful cheering and hollering in approval as he promised change in Washington, more drilling for domestic fossil fuels, and tax cuts.

“We need to change the way government does almost everything: from the way we protect our security to the way we compete in the world economy; from the way we respond to disasters to the way we fuel our transportation network; from the way we train our workers to the way we educate our children. All these functions of government were designed before the rise of the global economy, the information technology revolution and the end of the Cold War. We have to catch up to history, and we have to change the way we do business in Washington,” McCain said.

As for energy, McCain said “My fellow Americans, when I’m President, we’re going to embark on the most ambitious national project in decades. We are going to stop sending $700 billion a year to countries that don’t like us very much. We will attack the problem on every front. We will produce more energy at home. We will drill new wells offshore, and we’ll drill them now. We will build more nuclear power plants. We will develop clean coal technology. We will increase the use of wind, tide, solar and natural gas. We will encourage the development and use of flex fuel, hybrid and electric automobiles.”

McCain then criticized Obama for not supporting more oil and gas exploration (a position Obama has moderated recently). ”Senator Obama thinks we can achieve energy independence without more drilling and without more nuclear power. But Americans know better than that. We must use all resources and develop all technologies necessary to rescue our economy from the damage caused by rising oil prices and to restore the health of our planet. It’s an ambitious plan, but Americans are ambitious by nature, and we have faced greater challenges. It’s time for us to show the world again how Americans lead.”

As for taxes, McCain only mentioned one specific tax cut, that involving a doubling of the child tax exemption from $3500 to $7000.   He also indicated he’d like to cut “the second highest business tax rate in the world,” to help American companies compete and staunch the flow of jobs overseas.

Here again, McCain said Obama’s policies would hurt the economy.  “I will keep taxes low and cut them where I can. My opponent will raise them. I will open new markets to our goods and services. My opponent will close them. I will cut government spending. He will increase it.”

“My tax cuts will create jobs. His tax increases will eliminate them. My health care plan will make it easier for more Americans to find and keep good health care insurance. His plan will force small businesses to cut jobs, reduce wages, and force families into a government run health care system where a bureaucrat stands between you and your doctor,” McCain said.

A theme of the McCain campaign is that he is a Maverick, someone who works for the people first, not any particular party.

“You know, I’ve been called a maverick; someone who marches to the beat of his own drum. Sometimes it’s meant as a compliment and sometimes it’s not. What it really means is I understand who I work for. I don’t work for a party. I don’t work for a special interest. I don’t work for myself. I work for you.”

“I’ve fought corruption, and it didn’t matter if the culprits were Democrats or Republicans. They violated their public trust, and had to be held accountable. I’ve fought big spenders in both parties, who waste your money on things you neither need nor want, while you struggle to buy groceries, fill your gas tank and make your mortgage payment. I’ve fought to get million dollar checks out of our elections. I’ve fought lobbyists who stole from Indian tribes. I fought crooked deals in the Pentagon. I fought tobacco companies and trial lawyers, drug companies and union bosses.”

McCain, a third generation Naval officer, spoke passionately of his years in a Hanoi prison as a POW during the Vietnam War, and said those years were life altering.

“Long ago, something unusual happened to me that taught me the most valuable lesson of my life. I was blessed by misfortune. I mean that sincerely. I was blessed because I served in the company of heroes, and I witnessed a thousand acts of courage, compassion and love.

“On an October morning, in the Gulf of Tonkin, I prepared for my 23rd mission over North Vietnam. I hadn’t any worry I wouldn’t come back safe and sound. I thought I was tougher than anyone. I was pretty independent then, too. I liked to bend a few rules, and pick a few fights for the fun of it. But I did it for my own pleasure; my own pride. I didn’t think there was a cause more important than me.

“Then I found myself falling toward the middle of a small lake in the city of Hanoi, with two broken arms, a broken leg, and an angry crowd waiting to greet me. I was dumped in a dark cell, and left to die. I didn’t feel so tough anymore. When they discovered my father was an admiral, they took me to a hospital. They couldn’t set my bones properly, so they just slapped a cast on me. When I didn’t get better, and was down to about a hundred pounds, they put me in a cell with two other Americans. I couldn’t do anything. I couldn’t even feed myself. They did it for me. I was beginning to learn the limits of my selfish independence. Those men saved my life.

“I was in solitary confinement when my captors offered to release me. I knew why. If I went home, they would use it as propaganda to demoralize my fellow prisoners. Our Code said we could only go home in the order of our capture, and there were men who had been shot down before me. I thought about it, though. I wasn’t in great shape, and I missed everything about America. But I turned it down.

“A lot of prisoners had it worse than I did. I’d been mistreated before, but not as badly as others. I always liked to strut a little after I’d been roughed up to show the other guys I was tough enough to take it. But after I turned down their offer, they worked me over harder than they ever had before. For a long time. And they broke me.

“When they brought me back to my cell, I was hurt and ashamed, and I didn’t know how I could face my fellow prisoners. The good man in the cell next door, my friend, Bob Craner, saved me. Through taps on a wall he told me I had fought as hard as I could. No man can always stand alone. And then he told me to get back up and fight again for our country and for the men I had the honor to serve with. Because every day they fought for me.

“I fell in love with my country when I was a prisoner in someone else’s. I loved it not just for the many comforts of life here. I loved it for its decency; for its faith in the wisdom, justice and goodness of its people. I loved it because it was not just a place, but an idea, a cause worth fighting for. I was never the same again. I wasn’t my own man anymore. I was my country’s.

“I’m not running for president because I think I’m blessed with such personal greatness that history has anointed me to save our country in its hour of need. My country saved me. My country saved me, and I cannot forget it. And I will fight for her for as long as I draw breath, so help me God.”

Sprinkled throughout his speech, McCain made reference to his well-known pugnaciousness.  He used that theme to provide a rousing conclusion of his speech that had the arena roaring with pleasure.

“I’m going to fight for my cause every day as your President. I’m going to fight to make sure every American has every reason to thank God, as I thank Him: that I’m an American, a proud citizen of the greatest country on earth, and with hard work, strong faith and a little courage, great things are always within our reach. Fight with me. Fight with me.

Fight for what’s right for our country.

Fight for the ideals and character of a free people.

Fight for our children’s future.

Fight for justice and opportunity for all.

Stand up to defend our country from its enemies.

Stand up for each other; for beautiful, blessed, bountiful America.

Stand up, stand up, stand up and fight. Nothing is inevitable here. We’re Americans, and we never give up. We never quit. We never hide from history. We make history.

Thank you, and God Bless you.”

email wp@beezernotes.com