Category Archives: Is America in Decline?

How Do We Increase Economic Mobility?

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As the Wall Street Journal reported several days ago, “Economic Mobility Is the New Flashpoint”.  “Both parties agree the opportunity gap is widening, but the proposed solutions are starkly different.”  The Democrats want to increase the minimum wage, extend unemployment benefits, and expand access to college.  The Republicans suggest a whole potpourri of approaches such as reforming welfare (including food stamps), extending school choice, cutting taxes, and relaxing regulations on new businesses.
A look at the latest jobs report from the Labor Department should provide the focus which Congress needs to figure out how to increase economic opportunity.  Although the unemployment rate dropped substantially to 6.7% from 7.0% at the beginning of December, only 74,000 new jobs were created in December.  The explanation is that 347,000 left the labor force last month.  The labor force participation rate, the share of the U.S. working-age population employed, age 16 and over, has dropped from 64.5% in 2000, to just under 63% at the beginning of 2008 to near a post-recession low of 58.6% last month (see chart below).
CaptureIn other words, Congress should be totally focused on speeding up economic growth in order to create more jobs.  Since new businesses create the most new jobs, we should indeed relax as many regulations as possible which impede entrepreneurship.  We should lower the corporate tax rate from its very high current value of 35% to get American multinational companies to bring their trillions of overseas profits back home for reinvestment in the U.S.  Moving to a national consumption tax (see the Graetz Plan discussion in my January 7 post), could mean dropping the corporate tax rate to as low as 15%.
Isn’t is obvious that the best thing we can do to give low income people an opportunity to rise up the economic ladder is to just give them a job in the first place?  If they’re ambitious they’ll take any opportunity they can get and run with it!

Fundamental Tax Reform Is the Key to Solving Our Economic and Fiscal Problems II. The Graetz Plan

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The Yale Tax Law Professor, Michael Graetz, has proposed a new tax system “100 Million Unnecessary Returns: A Simple, Fair, and Competitive Tax Plan for the United States” which would do wonders towards straightening out the huge fiscal and economic problems now facing our country.
CaptureHow do we rev up the national economy in order to put more people back to work and, at the same time, raise the revenue needed to operate the government in the 21st century without mountains of debt?  Mr. Graetz’s basic idea is to tax consumption rather than relying totally on an income tax.  Under his plan both savings and investments will be taxed at a lower rate which will encourage more of both.  The Plan has these features:

  • A broad based Value Added Tax of about 14% is enacted on goods and services.  The U.S. is the only advanced economy without a VAT.
  • Families earning less than $100,000 are exempted from the income tax.  For incomes between $100,000 and $250,000, the tax rate would be 15%.  For income over $250,000, the rate would be 25%.
  • The corporate income tax rate is lowered to 15%.
  • The Earned Income Tax Credit (EITC) is used to provide relief from the VAT burden to low-income families by using payroll tax offsets.
  • The plan is designed to be revenue neutral as verified by the Tax Policy Center.

This plan has many advantages including:

  • Taxing consumption and lowering the corporate tax rate to 15% from its current level of 35% would dramatically encourage investment in the U.S. thereby stimulating the economy and creating both new jobs and higher wages for American workers.
  • It would eliminate more than 100 million of the 140 million U.S. tax returns.
  • With many fewer Americans paying income taxes there would be far less temptation for Congress to use income tax exclusions, deductions and credits to try to address social and economic problems.
  • The plan retains all of the progressive features of our current tax system whereby higher income earners pay higher tax rates.

The point of describing the Graetz Plan in some detail is not to suggest that it is the best way to implement tax reform but rather that here, at least, is one attractive way to do it.  The purpose is to move the discussion forward.  We badly need to make changes along these lines!

Fundamental Tax Reform Is the Key to Solving Our Economic and Fiscal Problems I. Why Change Is Needed

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I have been writing this blog for just over a year.  It addresses what I consider to be the two biggest problems faced by our country at the present time.  First is our enormous national debt, now over $17 trillion, and the huge annual budget deficits which are continuing to make it worse.  The second problem, of equal magnitude, is our slow rate of economic growth, about 2% of GDP annually, ever since the Great Recession ended in June 2009.
CaptureThese two problems are closely related.  If the economy grew faster, federal tax revenue would grow faster and the annual deficit would shrink faster.  Not to mention that a faster growing economy would create more jobs and lower the unemployment rate, which is still a high 7%.
The impediments to solving these problems are huge.  Our public debt, on which we pay interest, is now over $12 trillion or 73% of GDP.  Although it may stabilize at this level for a few years, it will soon begin climbing much higher, without major changes in current policy.  This is primarily because of exploding entitlement spending for retirees (Social Security and Medicare) who will increase in number from about 50 million today to over 70 million in just 20 years.  As interest rates return to normal higher levels, just paying interest on the national debt will become, all by itself, a larger and larger drain on the economy.
The impediments to faster economic growth are increasing global competition, such as inexpensive foreign labor, as well as rapid advances in technology, such as electronics and robotics.  Both of these trends reduce the need for unskilled workers in America which in turn holds down wages and slows down economic growth.
At the same time we have an antiquated tax code to raise the huge sums of money necessary to pay for a large and complex national government.  It worked fine through the post-World War II period, as long as the U.S. had the dominant world economy with little significant competition from others.  But this situation no longer exists.  We now have a tax system which doesn’t raise enough money to pay our bills and at the same time is so progressive that the highest rates (39.6% on individuals and 35% for corporations) are not sufficiently competitive with other countries.  This discourages the entrepreneurship and business investment we need to grow the economy faster and create more jobs.
We have an enormous problem on our hands!  Is it possible to fundamentally change our tax system to turn things around?  My next post will answer this question in the affirmative!

An Optimistic View of America’s Future!

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In the latest issue of Barron’s, Frederick Rowe, the managing partner of Greenbrier Partners Capital Management, asks in “More Than a Sugar High?” , “Can you imagine a country that is managed in an economically rational manner, creating the wealth that’s necessary to take proper care of the citizens who get left behind? … What if our economic recovery is more than a sugar high?  What if there is more here than insanely stimulative monetary policy from the Federal Reserve?  What if the U.S. has already begun to steer an economic course to a period of unprecedented and genuine prosperity, achievement, and problem solving?”
Here are eight factors which Mr. Rowe gives to point us in the right direction:

  • North American Energy Independence (already on the horizon).
  • Sensible Immigration Reform: encouraging our most enterprising and hard-working people to become citizens rather than chasing them away.
  • Repatriation of Corporate Income: if a company domiciled in the U.S. makes money in Argentina and wants to invest it in the U.S. we double-tax the daylights out of it.  It would be hard to imagine a more counterproductive tax policy.
  • Changing Directors and Their Thinking: the once unthinkable mindset of corporate directors acting on behalf of long-term owners (rather than the CEOs with whom they play golf) is actually gaining traction.
  • Lowering Corporate Taxes: the tax-writing committees in Congress are working on this.
  • Increasing Technological Leadership: the most dynamic technology companies in the world are domiciled in the U.S. Technology, in the short run, displaces workers.  But eventually workers catch up because new technology creates new kinds of jobs that were never imagined before.
  • Americanization of the World: more than three billion people around the world will soon be able to afford to live much more like the 300 million Americans do.  So companies which make it big here have an automatic global opportunity.
  • Obamacare:  Even this bureaucratic catastrophe provides a large opportunity for economic opportunity.  Think of Jimmy Carter’s failures which led to Ronald Reagan’s successes.

“Let your imagination run and consider all the things that can be accomplished by an energy-independent, cash-generating, cash-repatriating country that is a hotbed of technological innovation.”
I can’t possibly say it any better than this!

Is the American Middle Class in Decline?

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Many political commentators have been complaining recently about the financial difficulties of the American middle class.  For example, a recent report from Bill Moyers and Company, “By the Numbers: The Incredibly Shrinking American Middle Class”, has a chart showing that the median middle class salary, adjusted for inflation, is now no better than it was in 1989 and not much higher than in 1979:
CaptureBut there is another point of view, very well described by the two economists, Donald Boudreaux and Mark Perry, in the Wall Street Journal just about a year ago, “The Myth of a Stagnant Middle Class”.  They make several pertinent points:

  • The Consumer Price Index overestimates inflation by underestimating the value of improvements in product quality and variety.
  • Wage figures ignore the rise over the past few decades in the portion of worker pay taken as (nontaxable) fringe benefits.  Health benefits, pensions, paid leave, etc. now amount to almost 31% of total compensation according to the Bureau of Labor Statistics.
  • The average hourly wage has been held down by the great increase of women and immigrants into the workforce over the past three decades.  Because the economy was (before the Great Recession) so strong, it created millions of jobs for the influx of often lesser skilled workers into the workforce.

Messrs. Boudreaux and Perry point out several other improvements in the quality of life which Americans enjoy:

  • Life expectancy has increased to 79 years for an American born today, five years longer than in 1980.  And the gap in life expectancy between whites and blacks has narrowed.
  • Spending by households on the basics of food, housing, utilities, etc. has shrunk from 53% of income in 1950, to 44% in 1970 to 32% today.
  • Although income inequality is rising when measured in dollars, it is falling when measured in terms of our ability to consume.  For another example, air travel is now as common as was bus travel in an earlier era.  And another: the latest electronic products are available to even middle class teenagers.

Conclusion: We should stop complaining about inequality and thank our lucky stars for the free enterprise system which has been so successful in improving our quality of life.

Inequality III: Is the Game Rigged?

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The economist Joseph Stiglitz has an Op Ed column in today’s New York Times, “In No One We Trust”, blaming the financial crisis on the banking industry.  “In the years leading up to the crisis our traditional bankers changed drastically, aggressively branching out into other activities, including those historically associated with investment banking.  Trust went out the window. … When 1 percent of the population takes home more than 22 percent of the country’s income – and 95 percent of the increase in income in the post-crisis recovery – some pretty basic things are at stake. … Reasonable people can look at this absurd distribution and be pretty certain that the game is rigged. … I suspect that there is only one way to really get trust back.  We need to pass strong regulations, embodying norms of good behavior, and appoint bold regulators to enforce them.”  
CaptureMr. Stiglitz is partially correct.  Although the housing bubble, caused by poor government policy – loose money, subprime mortgages, and lax regulation – was the primary cause of the financial crisis, nevertheless, poorly regulated banking practices made the crisis much worse.  But this is all being fixed with Dodd-Frank, a just recently implemented Volker Rule, and a soon coming wind-down of Fannie Mae and Freddie Mac. 
Mr. Stiglitz concludes, “Without trust, there can be no harmony, nor can there be a strong economy.  Inequality is degrading our trust.  For our own sake, and for the sake of future generations, it is time to start rebuilding it. 
But how do we reduce the inequality in order to restore the trust which is necessary for a strong economy?  Mr. Stiglitz doesn’t say!
What we need is faster economic growth in order to create more new jobs.  The last four years have demonstrated that the Federal Reserve can’t accomplish this with quantitative easing.  It needs to be done by private business and entrepreneurship.  Tax reform and the easing of regulations on new businesses is what we need.  It’s too bad that ideological blinders prevent so many people from understanding this basic truth!    
    

More on Inequality: How Bad Is It and Why?

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A recent article in Bloomberg View by Cass Sunstein, “How Did the 1 Percent Get Ahead So Fast?“, discusses the significance of new research by the economist Emmanuel Saez, ”Striking it Richer: The Evolution of Top Incomes in the United States”.  Referring to Saez’s table and chart below, the conclusion is that income inequality has been getting steadily worse since the early 1980s and has been especially pronounced since June 2009 when the Great Recession ended.
Capture1Capture2In particular, 95% of all income gain in the last four years has gone to the top 1%.  This is a much greater disparity than during the so-called Clinton Expansion, from 1993 – 2000 (45% to the top 1%) or during the Bush Expansion, from 2002 – 2007 (65% to the top 1%).  According to Mr. Sunstein, “one point is clear: through 2012 the gains from the current recovery were concentrated among the top 1 percent, and that pattern, extreme though it is, fits with a general surge in economic inequality over the last 40 years.”
CaptureBut there is more to the story!  Looking at the final chart, just above, it is clear that the economy grew much faster during the Clinton Expansion than during the Bush Expansion, and, in turn, much more slowly during the Obama Recovery.  In other words, the way to reduce inequality is to speed up economic growth.  There are tried and true ways to speed up growth (e.g. tax reform with lower rates, emphasis on deregulation, boosting entrepreneurship, etc.).  It is unfortunate that too many in Congress, as well as the President have ideological blinders which prevent them from moving in this direction!

The Mess in Detroit: A Stern Warning for the Whole Country

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An article in yesterday’s New York Times, “Detroit Ruling Lifts a Shield on Pensions”, reports a ruling by bankruptcy judge Steven W. Rhodes that Detroit “could formally enter bankruptcy and that Detroit’s obligations to pay pensions in full is not inviolable.”
The article goes on to say “that most here agree that the city’s situation is dire:  annual operating deficits since 2008, a pattern of new borrowing to pay for old borrowing, miserably diminished city services, and the earmarking of about 38 percent of tax revenues for debt service.  A city that was once the nation’s fourth largest has dropped to 18th, losing more than half of its population since 1950.  The city was once home to 1.8 million people but now has closer to 700,000.”
The parallels and analogies between what has happened in Detroit and what is now happening in the U.S. are striking.  The U.S. has had huge annual deficits for five years in a row and the accumulated debt is enormous, the Federal Reserve is holding interest rates down to make borrowing cheaper, and our country’s infrastructure is deteriorating much faster than it is being repaired.
Right now interest on the national debt is small ($223 billion in 2013, or 8% of federal revenues).  But interest rates will inevitably return before long to their average historical rate of about 5%.  Right now the public debt (on which we pay interest) is just over $12 trillion.  This means that in the near future interest on the national debt will be at least $600 billion per year and probably much larger because the debt is still growing so rapidly.  This will take a huge bite out of revenue and leave far less of it for other purposes.
This problem will continue to exist even if the budget were to be miraculously balanced from now on but it would at least lessen over time as the economy continues to grow.  Without budget restraint the problem will never go away and will be a perpetual drag on our national welfare.
This is, of course, exactly the condition in which Detroit finds itself at the present time.  Detroit has the option to declare bankruptcy and make its creditors and pensioners take big losses.  Once it does this it can make a fresh start and perhaps recover its former status.
But are we prepared to let the whole country suffer a similar fate?  The consequences would be enormous.  If the U.S. goes down, the whole western world could come down with it.  Democracy and human progress would be severely threatened.  This is really too terrible a tragedy to even contemplate.  Let’s turn things around before they get any worse!

The Floundering of America

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In yesterday’s Wall Street Journal, columnist William Galston talks about “The Floundering of America”.  Based on recent reports from the Congressional Budget Office, Mr. Galston says that “Today we are hurtling toward a less dynamic economy, a meaner society and a riskier world.”
His argument is based on these observations:

  • For the past 40 years, 1970-2010, the labor force expanded at an average rate of 1.6% per year.  It will soon slow to only .4% annual growth, because of more retirements and a plateauing of women’s labor-force participation. This means that growth in GDP will slow down to about 2% annually from its historical average of over 3%.
  • America is aging very fast.  Today there are 57 million Social Security beneficiaries which will increase to 76 million in 2023.  Obviously this will rapidly increase entitlement spending on retirees.
  • America already spends 18% of GDP on healthcare costs and the CBO projects that this will grow to 22% by 2038.

“In sum, current trends and policies will yield lower rates of economic growth, painfully slow gains in real incomes, huge increases in outlays for expenses related to an aging population, and a health sector that devours more and more of the national product”, he says.
These trends are all contributing to an explosion of the national debt.  The only current strategy to keep this debt even roughly stable during the next decade, let alone reduce it, is to shrink discretionary spending through sequestration.  This will lead to a decline in discretionary spending to 5.3% of GDP by 2023.  This means roughly 2.6% of GDP for national defense with an equal share or all other domestic purposes.
“This is pure folly”, says Mr. Galston. “The country needs a new national strategy for a viable future.”
How do we achieve a new strategy?  Immigration reform will increase the size of the workforce.  Tax reform could boost the economy by encouraging business expansion, risk taking and entrepreneurship.  True (consumer-driven) healthcare reform could dramatically lower the cost of healthcare.  In other words there are potential policies out there that address our national floundering. We simply need leaders who are capable of going beyond partisanship in order to help create a better future!

A Pessimistic View of America’s Future V. When Wealth Disappears

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Several of my recent posts have been pretty gloomy.  “Average is Over,” “What, Me Worry?” and “The Age of Oversupply,” for example.  Here’s another gloomy one.  The British economist, Stephen King, has an Op Ed column in last Monday’s New York Times, “When Wealth Disappears.”, based on his new book, “When the Money Runs Out.”
Our GDP grew at 3.4% per year in the 1980s and 1990s, then dropped to a growth rate of 2.4% from 2000 – 2007.  Since the Great Recession ended it has averaged barely 2% per year.  The Democrats say we just need more fiscal stimulus and monetary easing to boost the growth rate.  The Republicans say deficit reduction including entitlement reform, slashing regulations and tax reform is what is needed to revive the economy.
“Both sides are wrong,” says Mr. King.  “The underlying reason for the stagnation is that a half-century of one-off developments in the industrialized world will not be repeated.”  These one-off developments are: the unleashing of global trade after World War II, financial innovation such as consumer credit, expansion of social safety nets which reduces the need for household savings, reduced discrimination which has flooded the labor market with women and, finally, the great increase in the number of educated citizens.
What Mr. King recommends is “economic honesty, to recognize that promises made during good times can no longer be easily kept.  What this means is a higher retirement age, more immigration to increase the working age population, less borrowing from abroad (by holding down deficit spending), less reliance on monetary policy that creates unsustainable financial bubbles, a new social compact which doesn’t cannibalize the young to feed the boomers, and a further opening of world trade.”
“Policy makers simply pray for a strong recovery.  They opt for the illusion because the reality is too bleak to bear.  But as the current fiscal crisis demonstrates, facing the pain will not be easy.  And the waking up from our collective illusions has just begun.”
It is obviously time to bite the bullet, lower our expectations, and start doing the hard work needed for even incremental economic progress.