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Archive for October, 2011

I’ve posted other cartoons about Obama’s class-warfare fixation, but this one seems appropriate for today.

To close on a serious note, folks on the left genuinely seem to think the economy is a fixed pie and one person’s success necessarily means another person’s failure. We need to figure out ways of educating them about growth, as I try to do in this interview.

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In what will probably become an annual tradition, here is the Halloween tax video I posted last year.

The last 30 seconds of the three-minute video actually contain some very good economics, roughly akin to this classic cartoon. Yes, incentives matter.

And since it is Halloween, these two parodies of The Candyman song (here and here) are rather appropriate.

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Here’s an absolutely horrifying video of President Franklin Roosevelt promoting a “Second Bill of Rights” based on coercive redistribution.

At first, I was going to post it and contrast it with this superb Reagan video and compare how one President’s policies kept America mired in a depression while the other implemented policies that triggered an American renaissance.

But there’s a much more important question, one that also applies to modern leftists. Do they actually believe this nonsense?

In other words, are people who push for bad policy misguided or malicious?

In the case of FDR, did he really think that the government could guarantee “rights” to jobs, recreation, housing, good health, and security?

If so, he was horribly misguided and blindly ignorant to the realities of economics.

But if he didn’t believe that government magically could provide all these things, then would it be fair to say he was maliciously lying in order to delude people and get their votes?

I don’t know Roosevelt’s motives, Like most politicians, he probably listened to both the angel (however misguided) on one shoulder and the devil on the other shoulder.

But if he was listening to the angel and trying to do what he thought was best, at least FDR had an excuse. Communism had not yet collapsed. Socialism had not yet collapsed. And Greek-style redistributionism had not yet collapsed.

So it was possible seventy years ago for a well-intentioned person to believe that government was some sort of perpetual motion machine of prosperity.

I’m not sure there is a similarly charitable interpretation for the motives of modern-day statists.

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A couple of weeks ago, I proposed a “Golden Rule of Fiscal Policy” that was probably a bit too wordy.

Good fiscal policy exists when the private sector grows faster than the public sector, while fiscal ruin is inevitable if government spending grows faster than the productive part of the economy.

In some recent speeches, I’ve been experimenting with how to discuss this concept, and I’ve decided to be more concise.

I’ve also decided to be self-aggrandizing and call this Mitchell’s Golden Rule.

In some sense, this Golden Rule is a way of trying to help people understand why it is important to limit the growth of federal spending. And based on my recent speeches, it appears that linking government growth and private sector growth is very helpful.

Especially when I point out that the fiscal crises in nations such as Greece are the result of the opposite approach – letting the public sector grow faster than the productive sector of the economy.

Another advantage of the Golden Rule is that it doesn’t matter whether a nation has a budget deficit or a budget surplus. As I’ve explained on several occasions, the fiscal problem in most nations is that government is too big. Deficits and debt are just a symptom of that problem.

Following the Golden Rule doesn’t prohibit tax increases, but it certainly means they will be far less likely. Simply stated, tax revenues tend to track economic performance. So if the private sector is growing faster than the government, that means tax revenues will be growing faster than government spending. So why raise tax rates?

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P.S. Regular readers know that I’ve already tried to create a legacy with the not-so-famous Mitchell’s Law, which points out that politicians often propose to expand government to ostensibly solve the messes created by previous expansions of government.

But there’s nothing new about Mitchell’s Law. Great economists such as Mises wrote about how one misguided government intervention often becomes the excuse for another foolish government intervention. I simply coined a phrase in hopes of helping to popularize the notion that one government mistake is often a precursor for another government mistake.

I’m not aware, however, of anybody that has stated that the key to good fiscal policy is restraining government spending so it grows slower than the private sector. Hence, my narcissistic decision to label this concept Mitchell’s Golden Rule.

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I’ve posted a couple of cartoons (here and here) about Occupy Wall Street, so now it’s time for a photo.

But I’m posting in this in my humor category because I’m 99 percent convinced this is a doctored image.

Part of what makes it amusing, however, is that it could be true.

And even though this is a humor post, I suppose it’s worth noting that people should be free to choose any course of study, but they shouldn’t expect taxpayers to pick up the tab and they shouldn’t blame society if employers don’t think certain majors are as valuable as others.

This is why libertarianism is the most ethical philosophy. People are free to make their own choices, but they’re not free to coerce others.

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I’ve criticized the Congressional Budget Office for generating biased and inaccurate numbers. These are the clowns, after all, who say deficit spending stimulates the economy in the short run but they also rely on a model which seemingly predicts 100 percent tax rates maximize growth in the long run.

About the only nice thing that can be said about this collection of bureaucrats is that they’re consistent, though I’m not sure being wrong all the time is something to brag about – especially when even cartoonists start to make fun of CBO’s flawed approach.

This is why I’ve argued it may be best to shut down CBO, and also written that – at a minimum – sweeping reform of the Capitol Hill bureaucracy is a test of GOP seriousness.

I’m not alone in my disdain for CBO. In a column for The Hill, Veronique de Rugy of the Mercatus Center makes two excellent points about the Congressional Budget Office: 1) the general inability of economists to predict (we’d be rich if we knew how to do that) and 2) the use of inaccurate models.

The CBO’s consistently flawed scoring of the cost of bills is used by Congress to justify legislation that rarely performs as promised and drags down the economy. Whether it scores the recent healthcare bill or the cost of the Capitol Hill Visitor Center, an ambitious three-floor underground facility, the price for taxpayers always ends up larger than originally predicted. …Like many economists, its analysts suffer from a misplaced belief in their forecasting prowess. …CBO relies heavily on Keynesian economic models, like the ones it used during the stimulus debate. Forecasters at the agency predicted the stimulus package would create more than 3 million jobs. …But unemployment stubbornly remained around 10 percent. What was wrong with the CBO’s numbers? …the stimulus and the ACA should serve as yet more evidence that Congress should take budget scores and economic projections with a grain of salt. What looks good in the spirit world of the computer model may be very bad in the material realm of real life because people react to changes in policies in ways unaccounted for in these models.

Let’s now move from the general to the specific. Peter Suderman reports from Reason on new research suggesting that costs for just one provision of Obamacare may be far higher than predicted by the jokers at CBO.

The Congressional Budget Office’s official cost estimate for last year’s health care overhaul projected that the law would cost a little less than $950 billion over its first decade. About half of that cost came from the law’s Medicaid expansion, which was projected to enroll 16 million new individuals in the joint federal-state health care program for the poor and disabled. But researchers at Harvard University are now warning that policymakers should be prepared for substantial uncertainty about the true enrollment effects of the Medicaid expansion. In a paper published in the journal Health Affairs earlier this week, a team of health economists estimated that, under the law, new Medicaid enrollment could be as low as 8.5 million people, but also as high as 22.4 million people—with additional costs to match…meaning that a full decade of the Medicaid expansion alone could end up costing nearly $1 trillion—more than the entire law was supposed to cost in its first ten year out of the gate.

The article does note that it’s possible that costs also might be lower than forecast, but Peter explains why the upper-bound estimate is more likely to be accurate because the law creates perverse incentives.

Indeed, CBO’s failure to recognize that new programs will lure people into greater dependency is one of the biggest reasons that the bureaucracy routinely under-estimates the cost of new programs. This is a point I stressed in my video explaining why Obamacare will be far more costly than CBO predicted.

Heck, even CBO is beginning to acknowledge that Obamacare will be more expensive than forecast, and most of the legislation hasn’t even been implemented.

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The Europeans have just agreed to another bailout for Greece. That’s the bad news.

The good news is…well, there is no good news. Sarkozy, Merkel, and the other statists have once again failed to do the right thing and instead have decided to throw good money after bad and dig the debt hole even deeper.

But there is worse news. The IMF is financing part of the bailout and American taxpayers are “shareholders” in the IMF.

In other words, I’m helping to reward bad behavior and misallocate global capital. This doesn’t make me very happy – especially since the White House supports this misguided approach.

But this is business-as-usual for the IMF, and here’s a first-hand example.

I’m in El Salvador where I just finished two days of speeches, meetings, and interviews to discuss how the country should deal with its fiscal imbalance.

Discussing Mitchell's Golden Rule in El Salvador

My message is simple. El Salvador should reject tax hikes and instead put government on a diet by capping annual spending growth so the budget grows by 1 percent or 2 percent annually.

Ever single reporter responded by saying some variant of “but the IMF says we need to raise taxes.”

During the first interview, I simply said the IMF was wrong. During the second interview, I said El Salvador should refuse to let IMF bureaucrats in the country. After I heard the same IMF message the third time, I suggested shooting down any flight carrying IMF bureaucrats and their snake-oil economic advice.

The last comment was a joke, of course, but it does raise a fundamental question. Why are American taxpayers subsidizing an international bureaucracy that runs around the world urging higher taxes and bailouts?!?

To be fair, the IMF usually includes some good advice in their reports. If you read the fine print, the bureaucrats often recommend reductions in subsidies, red tape, government payrolls, and handouts.

But if you give politicians in any country a set of options, and higher taxes and/or bailouts are on the list, it doesn’t take a genius to realize that the good reforms will get ignored while the bad policies will be adopted.

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Professor Allan Meltzer of Carnegie Mellon University has a must-read column in today’s Wall Street Journal, beginning with what should be an obvious statement.

Those who heaped high praise on Keynesian policies have grown silent as government spending has failed to bring an economic recovery. Except for a few diehards who want still more government spending, and those who make the unverifiable claim that the economy would have collapsed without it, most now recognize that more than a trillion dollars of spending by the Bush and Obama administrations has left the economy in a slump and unemployment hovering above 9%.

He then asks a rather important question.

Why is the economic response to increased government spending so different from the response predicted by Keynesian models?

He gives four reasons, beginning with the threat of higher taxes.

First, big increases in spending and government deficits raise the prospect of future tax increases. Many people understand that increased spending must be paid for sooner or later. Meanwhile, President Obama makes certain that many more will reach that conclusion by continuing to demand permanent tax increases. His demands are a deterrent for those who do most of the saving and investing.

I especially like how he highlights Obama’s actions, which clearly show the link between more spending and more taxes. I also would have added the European fiscal crisis, which has made more people aware of the negative long-run consequences of excessive government.

He then lists the negative impact of having the government distort the allocation of resources, a point that is music to my ears.

Second, most of the government spending programs redistribute income from workers to the unemployed. This, Keynesians argue, increases the welfare of many hurt by the recession. What their models ignore, however, is the reduced productivity that follows a shift of resources toward redistribution and away from productive investment.

He then discusses the impact of red tape, a point which I’ve never addressed, but obviously is very important if politicians use Keynesian spending as an excuse for expanding the scope of government as well as the size of government.

Third, Keynesian models totally ignore the negative effects of the stream of costly new regulations that pour out of the Obama bureaucracy. Who can guess the size of the cost increases required by these programs? ObamaCare is not the only source of this uncertainty, though it makes a large contribution.

He then dings the short-term mentality of Keynesians.

Fourth, U.S. fiscal and monetary policies are mainly directed at getting a near-term result. The estimated cost of new jobs in President Obama’s latest jobs bill is at least $200,000 per job, based on administration estimates of the number of jobs and their cost. How can that appeal to the taxpayers who will pay those costs? Once the subsidies end, the jobs disappear—but the bonds that financed them remain and must be serviced. These medium and long-term effects are ignored in Keynesian models.

The only thing I would change about this argument is that he also could have explained that so-called stimulus spending actually destroys jobs, on net, when you also measure the loss of private-sector jobs that takes place when government diverts resources from the productive sector of the economy.

A minor oversight, though, in a blistering indictment of Keynesian economics. Heck, Prof. Meltzer should have taken my place at the NYC debate on stimulus.  I suspect, however, that the crowd would have been reached the wrong conclusion even if the ghosts of Milton Friedman and Friedrich Hayek has been resuscitated for the event (yes, I’m still sulking).

In addition to explaining why Keynesian economics does not work, Prof. Meltzer also outlines the policies that should be implemented.

Clearly, a more effective economic policy would aim at restoring the long-term growth rate by reducing uncertainty and restoring investor and consumer confidence. Here are four proposals to help get us there: First, Congress and the administration should agree on a 10-year program of government spending cuts to reduce the deficit. The Ryan and Simpson-Bowles budget proposals are a constructive start. (Note to Republican presidential candidates: Permanent tax reduction can only be achieved by reducing government spending.) Second, reduce corporate tax rates and expense capital investment by closing loopholes. Third, announce a five-year moratorium on new regulations. Fourth, adopt an enforceable 0%-2% inflation target to allay fears of future high inflation.

These are all good ideas, though I would have written that we need a “10-year program of government spending cuts” rather than saying  we need “10-year program of government spending cuts to reduce the deficit.”

After all, the federal government is too big, and the damage to the economy would still exist even if the deficit disappeared because $1 trillion of new revenue magically floated down from heaven.

The problem is spending. That’s the fiscal disease facing America. Deficits and debt are just symptoms of that disease.

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Writing for the Huffington Post, some guy named Jonathan Bines does a good job of poking fun at Republicans with a GOP-to-English dictionary.

His list of definitions is not quite as amusing as this video mocking libertarians (we should all learn to laugh at ourselves), but it’s still worth sharing.

Here are his best entries.

  • Birth Certificate: An official birth record required of all US Presidents, regardless of race, since 2008.
  • Christmas: A holiday commemorating the birth of Jesus Christ, now rarely celebrated due to persecution by atheists.
  • Constitution (U.S.): The hallowed founding document of the United States, the text of which must be interpreted strictly and amended immediately
  • Deficits: 1) Fiscal shortfalls incurred by Democrats that threaten to bankrupt the country. 2) Fiscal shortfalls incurred by Republicans that don’t matter.
  • Hitler: A man to whom it would be inappropriate to compare President Obama in spite of the many uncanny similarities.
  • Jesus: Charismatic religious leader and son of God; born in Bethlehem in the year 0; beliefs include love, charity, enhanced interrogation, privatized healthcare, elimination of the estate tax, and the right to carry concealed semiautomatic weapons.
  • Liberal: A person who should be rounded up and shot but not really.
  • Medicare: A fraudulent, socialistic boondoggle that is sacrosanct.
  • Obamacare: A Federally-mandated policy to address the national oversupply of grandparents through euthanasia.
  • Party (Tea): A grass-roots movement of patriotic Americans fighting for the principle of “No Taxation With Representation.”
  • Racism: A form of discrimination that typically happens in reverse.
  • Social Security: A redistributionist Ponzi scheme that is sacrosanct.
  • Socialism: An economic system invented by FDR.
  • Taxes: Levies imposed by the government that raise more revenue the lower they are.
  • Welfare: A government program to distribute Cadillacs to unwed mothers.

If you don’t like laughing at Republicans, here’s my favorite cartoon mocking leftist economics. And here’s a cartoon that must be funny since it is the most-viewed post in the history of this blog.

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Folks of a certain age, who watched ABC’s Wide World of Sports, will remember the phrase “the agony of defeat.”

Well, that’s what Richard Epstein and I endured Tuesday night at the Intelligence Squared debate in New York City.

We were battling against two Keynesians, Mark Zandi and Cecilia Rouse, in hopes of convincing the audience to reject the proposition that “Congress should pass Obama’s jobs plan.”

The good news is that only 16 percent of the audience were on our side before the debate, and we managed to push that number up to 22 percent.

The bad news, however, is that 45 percent of the audience began the night agreeing with the Keynesian position and that number rose to 69 percent.

Cornelius Vanderbilt is rumored to have said, “the people be damned.” I’m tempted to stamp my feet and say the same thing, but I already did plenty of whining in a recent post, so I guess I’ll just have to suck it up and admit I somehow should have been more persuasive.

Here is some of what Elizabeth Weingarten wrote in her report for Slate.

The audience at last night’s Slate/Intelligence Squared U.S. live debate at NYU’s Skirball Center vehemently agreed with the president: After the conclusion of the debate, 69 percent voted forthe motion “Congress should pass Obama’s jobs bill—piece by piece”; 22 percent voted against the motion; and 9 percent were undecided. …NYU law professor Richard Epstein and Cato Institute senior fellow Dan Mitchell endured hisses and boos, while chief economist of Moody’s Analytics Mark Zandi and Princeton University economics professor Cecilia Rouse won laughter and applause as they took the president’s side. …Mitchell and Epstein began the debate strongly, especially when Mitchell engaged the audience in a clever “quiz” to show that the American Jobs Plan is simply a repeat of failed economic policy. “Let’s divide this room in half,” he began. “Let’s borrow all the money out of the pockets of the people on this side of the room and give it to the people on this side of the room. Now here’s the quiz. Raise your hand if you think there’s more money in the room.” The audience chuckled. This stimulus, he explained, is simply a redistribution of national income. “Our goal should be not to redistribute national income; we want to increase national income,” Mitchell said. “We want a bigger pie so everyone can get a bigger slice; that’s what economic growth is all about.”But soon, Mitchell and Epstein seemed to fall from grace. …After the debate, Donvan reflected on Mitchell’s debate strategy. “Dan Mitchell’s willingness to play the ogre, as he put it, read fun and bold, but I think it didn’t help sell the side,” he said. He even thought Mitchell and Epstein “presented a more comprehensive argument” than the other team. But it “was also the view from 30,000 feet, and less satisfying for an audience asking for a jobs solution right now.” …When I asked Mitchell why he lost after the debate, he told me it was because he was forced to play the villain. “The challenge of defending free markets and limited government is that you’re telling people there’s no Santa Claus,” Mitchell said. “Everyone likes to think that there’s some magic wand the government can wave, and especially if you’re in a position where you can be pigeonholed as somehow defending the interest of the wealthy, it makes it even harder.”

I’m not sure how I should feel about being described as an ogre, but I suppose it’s good that the moderator basically said that Richard and I presented a better argument.

In other words, maybe I should put the blame on the denizens of New York City!

But that’s no excuse. If we’re going to save America from becoming another Greece, we better figure out how to educate people who have been lured into thinking government is Santa Claus.

At some point, the people from Intelligence Squared will post a video of the debate. In the meantime, you can watch this video of me debunking Keynesian economics and this video eviscerating Obama’s faux stimulus.

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The Secretary of the Treasury, Tim Geithner, is infamous for conveniently forgetting to pay tax on $80,000 of income and then getting kid-glove treatment from the IRS when his crime was uncovered.

Not only did Geithner avoid even a slap on the wrist, he was confirmed to head the department that includes the IRS. So you can understand why a clever person came up with this t-shirt mocking the Treasury Secretary.

But it appears that Geithner’s elitist disdain for the law is shared by high-level left-wing political figures in other nations. Here’s a very similar story from the United Kingdom, where a cabinet official got caught for not complying with the value-added tax.

Here are some excerpts from the UK-based Independent.

Mr Cable was hit with a £500 penalty from HM Revenue and Customs (HMRC) after the blunder over a VAT bill of up to £15,000 on his media work. The Business Secretary – who has criticised firms which seek to avoid tax – admitted it was a “bit embarrassing” that his VAT liability “wasn’t spotted earlier”. But he insisted that he “made no attempt to avoid tax” and the “oversight” had happened in good faith. Downing Street said it regarded the incident as “closed”, adding that Mr Cable retained the Prime Minister’s full confidence.

If you recognize Mr. Cable’s name, there’s a good reason. He is member of the parasite class in England most associated with the push for higher tax rates on capital gains – which led to a clever set of posters attacking his destructive proposal.

Makes you wonder if there is some secret fraternity of politicians, with initiation rites involving the chant: “Taxes for thee, but not for me.”

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I don’t often have reason to praise the White House. But the Administration occasionally winds up fighting on the right side when dealing with the statists on the other side of the Atlantic Ocean.

I lauded the Obama Administration two years ago when the Treasury Department was fighting against a scheme from the Europeans to impose a tax on financial transactions.

And now it’s time to praise the White House again. In this case, they are fighting against a proposal by the European Union to impose an emissions tax on airliners. And even though the proposed tax is similar to the cap-and-trade scheme supported by Obama, the Administration is on the right side, as noted in this AP story.

The House voted Monday to exclude U.S. airlines from an emissions cap-and-trade program that the European Union plans to impose on all airlines flying to and from the continent beginning next year. With the legislation, which passed by voice vote, lawmakers joined the airline industry and the Obama administration in opposing the EU Emissions Trading Scheme scheduled to go into effect on Jan. 1. The bill now goes to the Senate, where there is currently no companion legislation. The measure directs the transportation secretary to prohibit U.S. carriers from participating in the program if it is unilaterally imposed. It also tells other federal agencies to take steps necessary to ensure that U.S. carriers are not penalized by the emissions control scheme. …The U.S. aviation industry says the cost between 2012 and 2020 could hit $3.1 billion. It says it is unfair that a flight from the United States, for example from Los Angeles, would have to pay for emissions for all parts of flights to Europe, including time spent over the United States and the Atlantic. “It’s a tax grab by the European Union,” Transportation Committee Chairman John Mica, R-Fla., said. “The meter starts running the minute the plane departs from any point in the U.S. until it reaches Europe.” …That drew fire from Krishna R. Urs, the U.S. deputy assistant secretary of State for transportation affairs, who repeated the U.S.’s “strong legal and policy objections to the inclusion of flights by non-EU carriers” in the EU program.

Individual nations have the right, of course, to impose tax on activities that take place inside national borders. And a group of nations, such as the European Union, has the right to impose taxes on things that take place within their combined borders.

In this case, however, the EU wants to levy the tax based on miles flown inside the United Stats and over international waters. This type of extraterritorial tax grab should be strongly resisted.

Fiscal sovereignty is a very important principle, one that is necessary to preserve tax competition and constrain the greed of the political class.

As such, even though the Obama Administration often is guilty of supporting schemes to impose bad US tax law on a worldwide basis, I’m glad they are fighting this European Union tax grab.

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One of the reasons I’m a libertarian is that virtually all of my personal interactions with government are unpleasant.

* Governments pull me over and give me tickets for trying to efficiently drive from one location to another.

* Governments coerce me into filling out complicated tax forms in order to give politicians money that will be wasted on vote-buying scams.

* Governments make flying a miserable and time-consuming experience.

* Governments make me waste time in lines to get my car registered and inspected.

* Governments require me to deal with surly and slothful bureaucrats if I have to go to the Postal Service.

* Governments operate crummy monopoly schools that necessitate me spending lots of money to get my kids educated.

Today, I discovered a personal reason to despise Amtrak.

I have to take the train to New York City for an “Intelligence Squared” debate tat will take place this evening about Keynesian “stimulus.”

But because Rick Perry announced his flat tax plan today, I have been swamped with press calls and radio interviews. In an effort to maximize my output, I timed my last talk radio interview to conclude just before I would have to go to Union Station to catch the train.

However, traffic was bad on the way to the train station (I can probably blame that on government as well, but I’ll resist the temptation), so I didn’t arrive until 5 minutes before my train. A bit nerve-wracking, but presumably not a crisis.

I rushed to the gate, saw the door was closed, so I snuck through another door (along with two other tardy passengers) and got to the track before the train left.

Seems like a happy ending to the story, right?

But we’re dealing with the government. So rather than a helpful employee greeting us and saying “glad you guys made it on time,” we were chased down by Amtrak bureaucrats and a cop, all of whom yelled at us for violating the rules.

We pointed at the train, which was about 30 feet from us and pleaded for some common sense and human decency, but the bureaucrats seemed happy about forcing us to wait an additional hour for the next train.

If (and I realize this is unlikely) we ever get a Congress that believes in the Constitution and decides to eliminate corrupt and inefficient subsidies, I will be thinking of these bureaucrats when explaining to members of Congress why Amtrak should lose its spot at the public trough.

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Governor Rick Perry of Texas has announced a plan, which he outlines in today’s Wall Street Journal, to replace the corrupt and inefficient internal revenue code with a flat tax. Let’s review his proposal, using the principles of good tax policy as a benchmark.

1. Does the plan have a low, flat rate to minimize penalties on productive behavior?

Governor Perry is proposing an optional 20 percent tax rate. Combined with a very generous allowance (it appears that a family of four would not pay tax on the first $50,000 of income), this means the income tax will be only a modest burden for households. Most important, at least from an economic perspective, the 20-percent marginal tax rate will be much more conducive to entrepreneurship and hard work, giving people more incentive to create jobs and wealth.

2. Does the plan eliminate double taxation so there is no longer a tax bias against saving and investment?

The Perry flat tax gets rid of the death tax, the capital gains tax, and the double tax on dividends. This would significantly reduce the discriminatory and punitive treatment of income that is saved and invested (see this chart to understand why this is a serious problem in the current tax code). Since all economic theories – even socialism and Marxism – agree that capital formation is key for long-run growth and higher living standards, addressing the tax bias against saving and investment is one of the best features of Perry’s plan.

3. Does the plan get rid of deductions, preferences, exemptions, preferences, deductions, loopholes, credits, shelters, and other provisions that distort economic behavior?

A pure flat tax does not include any preferences or penalties. The goal is to leave people alone so they make decisions based on what makes economic sense rather than what reduces their tax liability. Unfortunately, this is one area where the Perry flat tax falls a bit short. His plan gets rid of lots of special favors in the tax code, but it would retain deductions (for those earning less than $500,000 yearly) for charitable contributions, home mortgage interest, and state and local taxes.

As a long-time advocate of a pure flat tax, I’m not happy that Perry has deviated from the ideal approach. But the perfect should not be the enemy of the very good. If implemented, his plan would dramatically boost economic performance and improve competitiveness.

That being said, there are some questions that need to be answered before giving a final grade to the plan. Based on Perry’s Wall Street Journal column and material from the campaign, here are some unknowns.

1. Is the double tax on interest eliminated?

A flat tax should get rid of all forms of double taxation. For all intents and purposes, a pure flat tax includes an unlimited and unrestricted IRA. You pay tax when you first earn your income, but the IRS shouldn’t get another bite of the apple simply because you save and invest your after-tax income. It’s not clear, though, whether the Perry plan eliminates the double tax on interest. Also, the Perry plan eliminates the double taxation of “qualified dividends,” but it’s not clear what that means.

2. Is the special tax preference for fringe benefits eliminated?

One of the best features of the flat tax is that it gets rid of the business deduction for fringe benefits such as health insurance. This special tax break has helped create a very inefficient healthcare system and a third-party payer crisis. It is unclear, though, whether this pernicious tax distortion is eliminated with the Perry flat tax.

3. How will the optional flat tax operate?

The Perry plan copies the Hong Kong system in that it allows people to choose whether to participate in the flat tax. This is attractive since it ensures that nobody can be disadvantaged, but how will it work? Can people switch back and forth every year? Is the optional system also available to all the small businesses that use the 1040 individual tax system to file their returns?

4. Will businesses be allowed to “expense” investment expenditures?

The current tax code penalizes new business investment by forcing companies to pretend that a substantial share of current-year investment outlays take place in the future. The government imposes this perverse policy in order to get more short-run revenue since companies are forced to artificially overstate current-year profits. A pure flat tax allows a business to “expense” the cost of business investments (just as they “expense” workers wages) for the simple reason that taxable income should be defined as total revenue minus total costs.

Depending on the answers to these questions, the grade for Perry’s flat tax could be as high as A- or as low as B. Regardless, it will be a radical improvement compared to the current tax system, which gets a D- (and that’s a very kind grade).

Here’s a brief video for those who want more information about the flat tax.

Last but not least, I’ve already receive several requests to comment on how Perry’s flat tax compares to Cain’s 9-9-9 plan.

At a conceptual level, the plans are quite similar. They both replace the discriminatory rate structure of the current system with a low rate. They both get rid of double taxation. And they both dramatically reduce corrupt loopholes and distortions when compared to the current tax code.

All things considered, though, I prefer the flat tax. The 9-9-9 plan combines a 9 percent flat tax with a 9 percent VAT and a 9 percent national sales tax, and I don’t trust that politicians will keep the rates at 9 percent.

The worst thing that can happen with a flat tax is that we degenerate back to the current system. The worst thing that happens with the 9-9-9 plan, as I explain in this video, is that politicians pull a bait-and-switch and America becomes Greece or France.

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A couple of months ago, after reading an excellent column in the semi-official newspaper of the Vatican, I joked that we should send Obama to Rome for an economics lesson.

I now completely retract that statement. There may be some economically astute people who write for L’Osservatore Romano, but they are offset by the economic illiterates at the Vatican’s Justice and Peace department.

Here are some excerpts from Reuters about the spectacularly misguided thinking from this division of the Catholic Church. For all intents and purposes, they want to double down on the cross-subsidization policies that have undermined markets and crippled the global economy.

The Vatican called on Monday for the establishment of a “global public authority” and a “central world bank” to rule over financial institutions that have become outdated and often ineffective in dealing fairly with crises. The document from the Vatican’s Justice and Peace department should please the “Occupy Wall Street” demonstrators and similar movements around the world who have protested against the economic downturn. “Towards Reforming the International Financial and Monetary Systems in the Context of a Global Public Authority,” was at times very specific, calling, for example, for taxation measures on financial transactions. …It condemned what it called “the idolatry of the market” as well as a “neo-liberal thinking” that it said looked exclusively at technical solutions to economic problems. “In fact, the crisis has revealed behaviours like selfishness, collective greed and hoarding of goods on a great scale,” it said, adding that world economics needed an “ethic of solidarity” among rich and poor nations. …It called for the establishment of “a supranational authority” with worldwide scope and “universal jurisdiction” to guide economic policies and decisions.

Wow. So many bad ideas in so few words.

Let’s look at the three main proposals and translate what they actually mean.

1. A “global public authority” is bureaucrat-speak for a world government. We’re already dealing with statist schemes like the OECD’s “Multilateral Convention” that will morph into an International Tax Organization. A supra-national government would be even worse since it would have power to wreck all sectors of the economy. These proposals are driven by the left’s desire for bureaucratization, harmonization, and centralization.

2. A “Central World Bank” is bureaucrat-speak for a Federal Reserve on steroids. But it would be even worse than that. In the current system, at least investors have the ability to dump dollars and euros and shift to currencies that are better managed, such as the Swiss Franc. A supra-national Fed, by contrast, will give the political elite more power to pursue bad monetary policy.

3. The notion of “taxation measures on financial transactions” is bureaucrat-speak for the Tobin Tax, which is a great scam for politicians since they would get to tax every transaction we make. If you think it is a good idea to put sand in the gears of the economy, sign up for this scheme. This idea is so bad that even the Obama Administration is opposed to it.

Last but not least, I’m flabbergasted by the report’s comments on the “idolatry of the market.”

What planet have these people been living on?

Do they blame the market for the financial crisis, when the mess was the result of the Federal Reserve, Fannie Mae, Freddie Mac, and government-created moral hazard? Do they blame the market for the sovereign-debt crisis, when the mess is the result of over-spending governments?

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Over and over again, I tell people to ignore whether politicians have a D or an R after their names. That’s because Democrats sometimes do the right thing and Republicans often do the wrong thing.

My latest example of Republicans doing the wrong thing come from Florida, where GOP politicians decided that free markets should not be allowed to function and that all taxpayers should be put at risk to subsidize hurricane insurance (primarily benefiting upper-income people).

The Wall Street Journal opined today on why this is a mistake.

…evidence continues to build that the state’s taxpayers will get walloped sooner or later. The state’s own hurricane reinsurer now admits its 12-month funding shortfall for claims is $3.2 billion. That estimate is based on the taxpayer-backed Florida Hurricane Catastrophic Fund’s cash on hand, its investment income and the amount banks estimate the fund could raise in municipal bond markets, if needed. Uh-oh. The Cat Fund was supposed to be a reinsurer of last resort but was expanded far beyond a prudent size in 2007, thanks to former Governor Charlie Crist. …Florida consumers will ultimately pay the bill. If the Cat Fund must issue bonds, it levies “assessments”—a code name for a tax—on the state’s property and casualty insurance holders to pay interest and repay principal. Only workers’ compensation and medical malpractice insurance holders are exempt—Mr. Crist’s nod to the tort bar. Lest you think $14 billion is enough, consider that Category 5 Hurricane Andrew caused $26.5 billion in damage in 1992, according to the National Hurricane Center. Wilma, which hit in 2005 as a Category 3, cost $21 billion. If the fund couldn’t pay its claims, some of the state’s insurers would likely go bust. The Cat Fund’s chief operating officer, Jack Nicholson, characterizes that problem as potentially “significant.” He is promoting legislation to reduce the fund’s size and shore up its finances. The time to do that is before the next big one hits, but Florida’s ruling Republicans continue to behave as if this is someone else’s problem.

I’ll go one step farther than Mr. Nicholson. Florida politicians shouldn’t just “shore up” the Fund. They should abolish it.

Private markets should determine the cost of insuring beach houses, resort hotels, and other properties susceptible to hurricane damage.

Yes, small subsidies don’t do as much damage as big subsidies, but you wouldn’t want a doctor to remove only 50 percent of a tumor during a cancer operation. That would be a big mistake, creating a much bigger risk that the growth would return to its original size.

The same principle exists with government interventions. Once politicians decide that it is okay to provide special favors for one group of people (usually big campaign contributors), it is very difficult to limit the size of the handouts.

But the moral of the story is that big government is a mistake – even when (or especially when) bad policy is being imposed by Republicans.

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This cartoon says it all.

You can find some additional great Ramirez cartoons here, here, and here.

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Almost two years ago, I wrote that bailing out Greece was misguided because it would dig the debt hole deeper.

More recently, I wrote an I-told-you-so post that looked at my four original predictions and patted myself on the back for being accurate (not that it took any special insight to conclude that bailouts would make things worse).

But now it’s time for a turbo-charged I-told-you-so post. The UK-based Telegraph has a remarkable story about the chaos in Europe. This passage is a good summary of the circular firing squad.

Just when the eurozone governments thought it could not get worse for Europe’s single currency, it did.Shell-shocked EU finance ministers meeting in Brussels on Saturday were already reeling from the worst Franco-German rift for over 20 years and a fractious failure to resolve the problems that have brought Greece, and the euro, close to the brink.But then a new bombshell hit as a joint report by the EU and the International Monetary Fund (IMF) warned that, without a default, the Greek debt crisis alone could swallow the eurozone’s entire €440 billion bailout fund – leaving nothing to spare to help the affected banks of Italy, Spain or France.

And to understand how the situation is so dire, here are some additional details.

Compounding the trauma, Christine Lagarde, the French finance minister turned IMF chief – and one of the few key players who appeared to be enjoying herself in her new headmistress-like role – issued a grim warning to her former European peers. The IMF would no longer be willing to pick up a third of the total bill for rescuing Greece, a contribution worth €73 billion, unless European banks were prepared to write off 50 per cent of Greek debt. “It was grim. The worst mood I have ever seen, a complete mess,” said one eurozone finance minister.

But here’s the key passage of the entire article, where the German Finance Minister correctly complains that the crisis is now three times as costly thanks to previous bailouts.

According to insiders, Wolfgang Schaeuble, Germany’s finance minister, could not resist taking an “I told you so” approach – he had been, after all, the first to call for an “orderly” default for Greece 18 months ago, at a time when the cost of such a move was less than one third of the price today. “Schaeuble is a man who does not mince his words, whose reputation for harshness and arrogance is well earned. He was, frankly, unbearable,” said one diplomat.

This is similar to the point I made in my post about whether the bailouts would work. But as I noted above, there was nothing profound about my predictions. Sort of like predicting water runs downhill.

The amusing part of the story is the infighting among Europe’s politicians.

Interpersonal relations between eurozone leaders have hit an all-time low, reflecting sharp disagreements between Germany and France over using the ECB to bailout the euro and presenting an additional obstacle to finding a “grand solution” to Europe’s debt crisis. Nicolas Sarkozy’s “two faced” personality has been cited as a major factor in his dysfunctional relationship with Angela Merkel. …A row between the pair in Frankfurt on Wednesday overshadowed leaving-do celebrations to mark the end of Jean-Claude Trichet’s nine years as the head of the ECB. “Their shouting could be heard down the corridor in the concert hall where an orchestra was about to play the EU’s anthem, Ode to Joy,” said an incredulous EU official.

And the depressing part of the story is how one of the chief Euro-crats is trying to use the crisis as an excuse for more centralization in Brussels.

Herman Van Rompuy, the EU president who is regarded by many as too close to Berlin, angered many countries when he made confidential proposals for the creation of a European finance ministry. His plan, which has considerable backing from the growing body of EU bureaucrats who see a unified EU treasury as the only solution to the problem of countries spending more than the euro can stand, would mean a centralised body able to override national budgets and enforce cuts on profligate governments.

I doubt this terrible idea will be approved, but the final outcome won’t be pleasant.

The worst-case scenario is that American taxpayers somehow will get suckered into participating in a bailout. The Senate has voted against subsidizing the failure of European socialism, but Obama has said he wants American taxpayers to participate in a bailout and the White House may use the Fed or some back-door mechanism to unilaterally link America to Europe’s sinking ship.

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I’m going to be in New York City next week to join with Richard Epstein as we participate in an Intelligence Squared debate against Mark Zandi and Cecilia Rouse.

I’m looking forward to this event because Richard Epstein is a rock star for freedom.

It also gave me an opportunity to pontificate on growth issues for Slate. Here’s what I wrote about Keynesianism.

Keynesianism is the economic version of a perpetual motion machine. It assumes you can take money out of the economy’s left pocket, put it in the economy’s right pocket (probably spilling a lot of it in the process), and somehow be richer as a result. A major problem with the theory is that supporters focus on how an economy’s output is allocated. Is it better for more of the economy’s output to be used for consumption? Or for investment? Or, as Keynesians often argue, should more of our output be used for government spending? But economic growth isn’t boosted by redistributing how gross domestic product is allocated. Economic growth happens when we get more gross domestic product. That is why policies that focus on incentives and disincentives are more likely to generate positive results.

And here’s what I suggested to get the economy going.

…tax reform, such as a flat tax, would be so helpful for job creation and competitiveness. But interim measures also would help, such as lowering the corporate tax rate (especially since the U.S. is tied with Japan for the highest corporate tax burden in the industrialized world). Implementing policies to restrain the burden of government spending also would be critically important. On the macro level, some sort of cap on government spending would help, such as the plans proposed by Sen. Corker of Tennessee and Rep. Brady of Texas. On the micro level, it’s important to figure out the programs, agencies, and departments that should be mothballed, both because they are not appropriate functions of the federal government and because they hinder prosperity.

The NYC debate is open to the public, by the way, though they do charge.

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I have no idea whether George Santayana was a good philosopher, but he certainly was right when he wrote, “Those who do not learn from history are doomed to repeat it.”

Consider the fools in the U.S. Senate. They just voted to expand Fannie Mae and Freddie Mac subsidies, apparently thinking that re-inflating the housing bubble would be a good idea when every sensible person thinks we should abolish these government-created entities.

Here are some blurbs from the Business Week story.

The U.S. Senate adopted a measure that would raise the maximum size of a home loan backed by mortgage companies Fannie Mae, Freddie Mac and the Federal Housing Administration to $729,750. Senator Robert Menendez, a New Jersey Democrat, offered the increase as an amendment to a spending bill today. The measure was approved less than a month after the limit on so-called conforming loans was automatically reduced to $625,500. …The Senate adopted the amendment 60-31. The amendment required 60 votes for approval and was offered during the chamber’s consideration of a package of spending measures. If the Senate passes the underlying bill, the House would then have to vote for it to become law. …The limits, which vary by locale, apply to loans backed by the FHA and government-controlled mortgage companies Fannie Mae and Freddie Mac, which together buy or guarantee about 90 percent of all residential home loans.

For what it’s worth, every Democrat voted for the measure, as well as these Republicans.

Blunt – Missouri

Brown – Massachusetts

Chambliss – Georgia

Graham – South Carolina

Heller – Nevada

Isakson – Georgia

Murkowski – Alaska

Snowe – Maine

Maybe these feckless and irresponsible jokers should spend a bit of time reading Peter Wallison’s work. And here’s a George Will column if they can’t comprehend anything longer than 800 words.

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Wow.

Even by the low standards of government, here are a couple of remarkable stories about government waste from Obama’s failed stimulus scheme.

Let’s start with an example of crony capitalism. The federal government decided to subsidize the wealthy shareholders of company working on an electric car. That’s not too surprising. After all, politicians have been bilking taxpayers for the benefit of well-connected campaign contributors for centuries.

But you would think the Obama White House would at least be smart enough to give money to companies that create jobs in America (such jobs, of course, are offset by jobs destroyed in the private sector). But, as ABC News reports, that was not the case.

With the approval of the Obama administration, an electric car company that received a $529 million federal government loan guarantee is assembling its first line of cars in Finland, saying it could not find a facility in the United States capable of doing the work. Vice President Joseph Biden heralded the Energy Department’s $529 million loan to the start-up electric car company called Fisker as a bright new path to thousands of American manufacturing jobs. But two years after the loan was announced, the job of assembling the flashy electric Fisker Karma sports car has been outsourced to Finland. …The loan to Fisker is part of a $1 billion bet the Energy Department has made in two politically connected California-based electric carmakers producing sporty — and pricey — cutting-edge autos. Fisker Automotive, backed by a powerhouse venture capital firm whose partners include former Vice President Al Gore, predicts it will eventually be churning out tens of thousands of electric sports sedans at the shuttered GM factory it bought in Delaware. And Tesla Motors, whose prime backers include PayPal mogul Elon Musk and Google co-founders Larry Page and Sergey Brin.

Amazing.

Let’s now travel to Oregon, where taxpayers were coerced into subsidizing more jobs for foreigners. Here are the sordid details from the DC Examiner.

A Labor Department Inspector General report released this week found that $7,140,782 in American Recovery and Reinvestment Act funds went to four Oregon forestry services firms who hired no U.S. workers. From the report:

Only two Oregonians were listed on the employer recruitment reports, indicating that workers in Oregon were likely unaware these job opportunities were available. In fact, although 146 U.S. workers were contacted by the three employers regarding possible employment, none were hired. Instead, 254 foreign workers were brought into the country for these jobs.

…Rep. Peter DeFazio, D-Ore., who asked the OIG to investigate the program in September 2010, was also displeased: “The goal of the stimulus bill was to put Americans back to work, not foreign nationals. … Oregonians have been logging for over a century, our workforce is one of the best in the world, and these contracts should have been awarded to companies that hire Oregon loggers.”

You’d almost think, after reading stories like this, that government was incompetent at being incompetent. And you’d be right.

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I must not be very bright. Even after decades of experience in Washington, I still have this naive belief that bureaucrats and politicians will occasionally do the right thing – even if for no other reason other than to cover their rear ends after being caught doing something flagrantly wasteful and reprehensible.

So when Senator Coburn of Oklahoma put pressure on the Social Security Administration for giving disability payments to a 30-year old man whose only “disability” is that he wants to live life as a baby, I thought the bureaucrats would feel compelled to stop subsidizing this oddball moocher.

I was wrong.

I should have known better. After all, why would bureaucrats care about saving taxpayer money? Here’s a brief blurb from the depressing story in the Washington Times.

The California man who lives part of his life as an “adult baby” and collects Social Security disability payments says the federal agency has cleared him of wrongdoing and will continue sending checks. Stanley Thornton Jr. now wants an apology from Sen. Tom Coburn, the Oklahoma Republican who called for the benefit review… “We recently reviewed the evidence in your Social Security disability claim and find that your disability is continuing,” the agency said in an August letter that Mr. Thornton posted on the website he maintains to document his adult baby lifestyle.

Stories like this reinforce my deeply held belief that it would be crazy to let the bureaucrats and politicians in Washington get even one penny of additional tax revenue.

We have a corrupt and dysfunctional political class in America, and the last thing we should do is encourage their venal actions by giving them more money to waste.

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I would have structured this flowchart differently, for reasons I discuss in this post, but this is pretty good picture of why Europe is in trouble.

They say all roads lead to Rome, and this flowchart shows all roads lead to a banking crisis (see this post to understand why).

But not all banking crises are created equal. A bailout (the left column) would inflate the debt bubble and make the ultimate crisis much more devastating.

Cutting Greece loose (the middle column) is the best approach, in part because it would have a sobering effect on other European nations that would like to mooch off the European Union (German taxpayers) or International Monetary Fund (American taxpayers).

Just imagine, by the way, how much better things would be today if Greece had been unable to access bailout money and instead had been forced to spend the last two years implementing real reform. That’s why I stand by everything I wrote in my first post about the Greek mess.

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Very clever.

The person who put together this video obviously had a lot of time on his hands, but he also deserves praise for coming up with something that is both amusing and eerily disturbing.

I came of age during the Carter years, and this video accurately captures the moralizing and hectoring tone of Carter’s speeches – and Obama’s speeches.

But watch at your own risk. If you have nightmares about the 1970s, don’t blame me.

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Just yesterday, I proposed a “Golden Rule” for fiscal policy, based on the simple notion that the burden of government spending should grow slower than the private sector.

And regular readers know about my narcissistic attempt to publicize “Mitchell’s Law” as a way of illustrating how politicians create problems and then use those problems to justify more government.

Since I’m fond of these little phrases, I am pleased to see that the ranking member of the Senate Budget Committee has proposed a “Solyndra Rule” that would bar any consideration of higher taxes so long as politicians are squandering money on corrupt scams such as green energy programs.

Heck, I’ve made the same argument, so it’s no surprise that I like this idea.

I also want to applaud Senator Sessions for focusing on America’s fiscal problem, which is a government that is too big and spending too much.

In the past, I’ve gotten very frustrated with incompetent Republicans who fixate on deficits and debt. Red ink is not good, of course, but the only good way to treat the symptom of too much borrowing is to address the underlying disease of too much government.

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I gave this post a tongue-in-cheek title because Congressman Paul has produced a very good budget plan.

Which is to be expected since he is the candidate closest to my views according to the Reason political quiz (though I do criticize him  when appropriate).

You can read it on Congressman Paul’s campaign site and here’s how the New York Times described the highlights.

Representative Ron Paul on Monday unveiled an aggressive budget plan that would greatly shrink the federal government that he is seeking to run, eliminating the agency that oversees airport security, the departments of energy and education — and three others — while cutting all war financing. Providing a stark vision of what a libertarian takeover of the White House would look like, the plan would slash the federal budget by $1 trillion in a single year and, Mr. Paul said, bring the budget into balance within three. The federal workforce would be cut by 10 percent across the board. Aid to foreign nations would stop flowing altogether.

There’s obviously a lot to applaud about this proposal, and he gets rid of five useless cabinet-level departments (Energy, HUD, Commerce, Interior, and Education).

But why not get rid of the Department of Agriculture, which is a rat’s nest of destructive subsidies?

And why not get rid of the Department of Labor, which promotes unemployment and props up Big Labor?

Is there any reason not to get rid of the Department of Transportation, which does things that should be handled by the private sector, or state and local government?

But let’s not make the perfect the enemy of the very good. If we ever got half of what Congressman Paul is proposing, I might actually be briefly happy.

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In one short interview, the folks at the Howard Stern Show turn the Occupy-Wall-Street deadbeats into objects of scorn and derision. There is a bit of R-rated language, so you are forewarned.

While the clip is amusing, let’s contemplate a serious point.

For two years, the establishment press has been trying – with increasing desperation – to discredit the Tea Party. They’ve scoured the crowds for the slightest evidence of kookiness. They’ve trumpeted false charges of racism. They’ve highlighted leftists who infiltrate Tea Party events in order to say and do things that undermine legitimate supporters.

And even though the press failed to find any sort of smoking gun, they probably have succeeded in getting the average American to have a somewhat skeptical attitude about the Tea Party.

If the press spent 1/100th as much time investigating the crazy and brainless views of the OWS crowd, even Obama would be reluctant to associate with the protests.

(h/t: Advice Goddess)

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Sounds like the beginning of a joke, sort of like, “A priest, a rabbi, and a minister walk into a bar…”

Setting for my weekend research

But I have a serious point to make. I’m currently in Anguilla (yes, this is just one of the sacrifices I make in the fight for liberty), where I just gave a speech to a local business group.

One of the topics I addressed was Anguilla’s fiscal policy.

Like many jurisdictions around the world, Anguilla has a red-ink problem. And like all the other places we could mention, the deficits and debt exist because government spending rose much faster than inflation over the past 10 years.

So I decided to create a new “Golden Rule of Fiscal Policy” based on all these observations (I would have called it Mitchell’s Law, but I’ve already used that title for another purpose).

Good fiscal policy exists when the private sector grows faster than the public sector, while fiscal ruin is inevitable if government spending grows faster than the productive part of the economy.

This is the underlying message of my video showing how to balance the federal budget. Moreover, all of the countries in this video enjoyed significant fiscal progress by following the rule. And it explains why I’m very impressed with Senator Corker’s proposal to cap the growth of federal spending.

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After any news appearance, I torment myself by watching the clip and telling myself I should have said something differently or raised a different point.

But I’m actually happy with this appearance on Fox Business News because I (hopefully) explained the difference between wealth that is honestly accumulated and loot that is obtained through government coercion.

I also am pleased when I get to use the line about “capitalism without bankruptcy is like religion without hell.” One of the reasons I loathe bailouts is that such corrupt practices discredit capitalism.

If the Occupy Wall Street folks actually understood the difference between capitalism and cronyism, there’s a chance they might join the right side.

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The welfare states of Europe are in deep trouble. Decades of over-taxing and over-spending have sapped economic vitality and produced high levels of debt.

The high debt levels, by themselves, might not be a problem if European governments implemented good policy. After all, debt was even higher in many nations after World War II than it is today.

But Europe also faces a demographic problem. The population is aging, meaning that the fiscal situation will get worse - in some cases, much worse. So international investors are appropriately worried that today’s high debt levels will become tomorrow’s crippling debt levels.

And the cherry on the ice cream sundae of Europe’s fiscal nightmare is that many people have been lulled into dependency thanks to excessive government handouts combined with a political culture that tells people there is nothing wrong with mooching off others (as this cartoon aptly illustrates).

This sounds quite depressing, but there is a shred of hope. Simply stated, nations that hit rock bottom presumably have little choice but to move in the right direction.

Actually, let me qualify that statement. Governments do have the ability to maintain bad policy if they have access to bailout cash. And that’s been a problem in Europe. Nations such as Greece have very little incentive to reform if they think the European Union (German taxpayers) or International Monetary Fund (American taxpayers) will cough up some cash.

But that game, sooner or later, comes to an end. As Margaret Thatcher noted, the problem with socialism is that sooner or later you run out of other people’s money.

So what, then, should be done to address the European debt crisis? The European political elite in places such as France and Germany say more bailouts are needed. Why? Because without more bailouts, there will be contagion and the world will plunge into another 2008-style crisis.

But when you strip away the hysterical rhetoric, what they’re really saying is that bailouts are needed for the banks in their own nations that foolishly lent too much money to reckless governments in other nations.

As you might suspect, this is self-serving nonsense that would simply create a bigger debt bubble that ultimately causes bigger problems.

The right answer to the European debt crisis is simple. And it only requires two steps.

1. Do not give bailouts to nations, even if that means they default. This isn’t good news if you bought, say, Greek or Portuguese bonds, but there are two big advantages of default. First, it means that the bailouts come to an end so the debt bubble doesn’t get even worse. Second, it forces the affected governments to move – overnight – to a balanced-budget rule.

So what’s the downside? There isn’t one. The aforementioned bondholders won’t be happy. They gambled in the expectation that bailouts would enable them to get high returns, but that’s their problem. Overpaid government workers and greedy interest groups in the affected nations doubtlessly will be very upset because the gravy train gets derailed, but that’s a feature, not a bug.

2. If banks become insolvent because they recklessly lent money to governments  that default, those financial institutions should be allowed to fail. More specifically, they should be put into something akin to receivership (similar to what the U.S. did 20 years ago with the S&L crisis and a few years ago with WaMu and IndyMac, and also like what Sweden did in the early 1990s). This automatically prevents financial crisis since the financial sector gets recapitalized, but without the moral hazard and/or zombie bank problems associated with TARP-style bailouts.

So what’s the downside? There isn’t one, at least compared to the alternatives. Governments would be holding harmless depositors at the failed banks, so there would be additional debt. But this debt would be a one-time burden for a policy that actually stops the bleeding, and there would be no moral hazard since shareholders, bondholders, and senior management at the failed banks would get nothing.

This raises an obvious question. If my proposed solution is so simple, why aren’t governments choosing this option?

Part of the answer is that simple solutions aren’t necessarily easy solutions. We know how to fix America’s fiscal crisis, for instance, but that doesn’t mean it will happen. Governments will sometimes do the right thing – but only after they’ve exhausted every other option.

Europe isn’t quite at that stage. Yes, Greece is being allowed to default, which is a small step in the right direction, but the political elite hope that the right blend of additional bailouts and patchwork reforms can fix the problem.

I suppose that might happen, especially if the world economy somehow begins to boom. But don’t hold your breath.

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