A $10 Trillion Tax Cut-- It’s more serious than you think!
By
Warren B. Mosler and Thomas E. Nugent
As the politicians quibble over a few
hundred million of the proposed $1.6 trillion tax cut, the world economy
continues to implode. Seems the Washington elite have forgotten (or
never knew?) the fundamental economics 101 accounting identity: a
government surplus is NECESSARILY equal to the (same period) private sector
deficit (including domestic business and individuals, and any foreigners
dealing in $US). Therefore, the U.S. surplus of $250 billion reduces
private sector savings EXACTLY by the same amount.
One could argue that, during an expansion,
governments should run a surplus and thereby reduce private sector income
and savings to slow consumption and prevent inflation. But now, during
a slowdown, with consumers choking on debt as their savings hit historic
lows, stock market equity reduced by over $4 trillion, intense competition,
excess capacity, and rising unemployment, continuing this policy only
ensures economic calamity.
There are two choices.
The first is to boldly reverse course and proactively get the Federal
budget into deficit to restore private sector savings.
The second is to let market forces already underway restore savings
through ‘automatic’ deficit spending via rising unemployment
compensation and falling tax revenues during the ensuing economic slowdown.
Obviously, the former makes a lot more sense than the latter.
How much of a fiscal adjustment is
necessary? Given a projected
3.1% economic growth target over the next 10 years, and the current
consensus level of Federal spending, a supportive tax structure would allow
for nominal savings to grow at the traditional 2-3% of GDP annually.
Targeting growth in savings means targeting an equal Federal deficit. Since the current tax structure projects a surplus of $5.6
trillion over that period, targeting the needed deficit would result in a
tax structure that would project revenues over $10 trillion less than the
current tax structure, with the first year's cut amounting to about $500
billion. The important thing is to remember our target is economic
growth, and therefore maintaining a tax structure that supports reasonable
growth.
A little bit of history is in order.
Japan let it’s budget go into surplus in the late 80’s the same
way we did 10 years later in the late 90’s, and so far results have been
quite similar. Their stocks
peaked in 1990 as ours did about 10 years later.
Their policy response was to lower interest rates, just like ours has
been. They kept their budget in
surplus until the slowdown erased it by 1992, and we seem intent on doing
the same. Real estate prices in
Japan peaked in ‘91 and have come down every year since, and our real
estate prices seem to have peaked last year and have begun to fall, too.
After ’91 Japan experienced the destruction of most of the equity
in the banking system due to the falling asset prices and falling income.
We are in for the same fate if we also choose to rely on monetary
policy alone. Fed interest rate cuts, though welcome, can perhaps
encourage a bit more consumer debt, but can't replenish our lost savings.
So don't expect too much from monetary policy, as Japan has learned
the hard way.
Will our politicians recognize the storm
on the horizon soon enough? Not
likely! Our state governments,
corporations, and individuals respond to falling revenues by cutting
expenditures as they must, and when the green eyeshades at OMB begin to
lower their surplus forecasts in the slowing economy our Federal government
seems predisposed to cut spending as well.
Remember, only about 10 years ago Congress not only let the recession
generate the $300 billion deficits (about 5% of GDP) which restored savings
and set the stage for the tech driven expansion that followed, but altered
the tax structure to increase tax collections, and then went on to brag
about the surpluses that are draining the lifeblood from the U.S. economy.
What can be done to avoid a repetition of
the Japanese experience? Just
so happens an immediate, ‘temporary,’ suspension of the payroll tax, at
least until the economy begins breathing on its own, would remove about the
right amount of fiscal drag. It
would also both lower business costs and consumer prices and restore income
to a group with a high propensity to spend.
Unfortunately, the prevailing rhetoric has tied the payroll tax to
the Social Security trust fund, and any politician that dare recommend
suspension of that tax would be accused of raiding the trust fund.
Ironically, however, without a gold standard (dropped in 1971),
careful analysis shows that Social Security payments can simply be declared
direct obligations of the US Treasury, just like the rest of the
government’s payroll. That
simple declaration permanently insures timely remittance of any and all
social security payments. It
would also stop dead forever directing scare tactics toward vulnerable
groups for political gain. And,
of course, once free of the vestigial self-imposed constraints, Congress
would be free to engage in truly responsible fiscal policy.
Warren B. Mosler is principal, AVM; L.P. Thomas E.
Nugent is a vice president of Wealth Management Services
Warren Mosler
Principal, AVM L.P.
250 Australian Ave. So.
West Palm Beach, Florida 33401
Thomas E. Nugent
Vice President, Wealth Management Services
12707 High Bluff Drive, Ste 200
San Diego, CA 92130
858-350-4244
posted 3/29/2001