Posts Tagged ‘Big Government’

I’m currently in Tokyo for an Innovation Summit. Perhaps because I once referred to Japan as a basket case, I’ve been asked to speak about policies that are needed to boost the nation’s competitiveness.

That sounds like an easy topic since I can simply explain that free markets and small government are the universal recipe for growth and prosperity.

But then I figured I should be more focused and look at some of Japan’s specific challenges. So I began to ponder whether I should talk about Japan’s high debt levels. Or perhaps the country’s repeated (and failed) attempts to stimulate the economy with Keynesianism. And Japan’s demographic crisis is also a very important issue.

But since I only have 20 minutes (not even counting Q&A), I don’t really have time for a detailed examination on any of those topics. So I was still uncertain of how best to illustrate the need for pro-market reforms.

My job suddenly got a lot easier, though, because Eduardo Porter of the New York Times wrote a column today that includes a graph very effectively illustrating why Japan is in trouble. Simply stated, the country is on a very bad trajectory of ever-higher taxes.

To elaborate, Japan used to have a relatively modest tax burden, as least compared to other industrialized nations. But then, thanks in part to the enactment of a value-added tax, the aggregate tax burden began to climb. It has jumped from about 18 percent of economic output in 1965 to about 32 percent of gross domestic product in 2015.

Even the French didn’t raise taxes that dramatically!

By the way, I feel compelled to digress and point out that Mr. Porter’s column was not designed to warn about rising taxes in Japan. Instead, he was whining about non-rising taxes in the United States. I’m not joking.

American tax policy must stand as one of the great mysteries of the global political economy. In 1969…federal, state and local governments in the United States raised about the same in taxes, as a share of the economy, as the government of the average industrialized country: 26.6 percent of gross domestic product, against 27 percent among the nations in the Organization for Economic Cooperation and Development. Nearly 50 years later, the tax picture has changed little in the United States. By 2015, …the figure was 26.4 percent of G.D.P. But across the market democracies of the O.E.C.D., the share had climbed by an average of more than seven percentage points. …Americans are paying dearly as a result, as their comparatively small government has proved incapable of providing an adequate safety net…there is no credible evidence that countries with higher tax rates necessarily grow less.

Americans are “paying dearly”? Are we “paying dearly” because our living standards are so much higher? Are we “paying dearly” because our growth rates are higher and Europe is failing to converge? Are we “paying dearly” because America’s poorest states are rich compared to European countries.

Now that I got that off my chest, let’s get back to our discussion about Japan.

Looking at the data from Economic Freedom of the World, Japan ranked among the world’s 10-freest economies as recently as 1990. Today, it ranks #39. That is a very unfortunate development, though I should point out that the nation’s relative decline isn’t solely because of misguided fiscal policy.

I’ll close by noting that even the good news from Japan isn’t that good. Yes, the government did slight lower its corporate tax rate so it no longer has the highest burden among developed nations. But having the second-highest corporate tax rate is hardly something to cheer about.

P.S. Since today’s column looks at the most depressing Japanese chart, I should remind people that I shared the most depressing Danish PowerPoint slide back in 2015. I may need to create a collection.

P.P.S. I doubt anyone will be surprised to learn that the OECD and IMF have been encouraging bad policy for Japan.

P.P.P.S. If I had to guess, I would say that Japan’s government is probably more competent than average. But that doesn’t mean it’s incapable of some bone-headed policies, such as a regulatory regime for coffee enemas and a giveaway program that was so convoluted that no companies asked for the free money.

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When I gave speeches during Obama’s time in office, especially to audiences with a lot of Republicans, I sometimes asked a rhetorical question about whether they approved of presidents who increased spending, bailed out big companies, expanded the power of the Washington bureaucracy, imposed more red tape, and supported Keynesian stimulus schemes.

They understandably assumed I was talking about Obama, so they would always expressed disapproval.

I then would startle the audience (and sometimes make myself unpopular) by stating that I was describing economic policy during the Bush years.

To be sure, there were some differences. I would give Bush a better grade on tax policy. But Obama got a better score (or, to be more accurate, a less-worse score) on government spending. But the overall impact of both Bush and Obama, as confirmed by the declining score for the United States from Economic Freedom of the World, was a loss of economic liberty.

This bit of background is important because any analysis of economic policy during the Obama years reveals that “hope and change” somehow became “more of the same.”

At least for economic policy. When I examined the economic record of George W. Bush, there were a lot of items to include in the “anti-growth policy” portion of the bar chart, but not much for the “pro-growth policy” section.

And now that we’re doing the same exercise for the Obama years, we get a chart that looks very similar. The specific policies have changed, of course, but the net result is the same. Bigger role for the state, less breathing room for the private sector and civil society.

That’s a rather disreputable collection of policies, including the faux stimulus, the cash-for-clunkers boondoggle, the Dodd-Frank regulatory orgy, and the costly Obamacare disaster. And it’s worth noting that the one good policy that occurred during Obama’s policy, the Budget Control Act and the resulting automatic budget cuts (a.k.a., sequester), happened over his strenuous (and silly) objections.

By the way, I don’t think that Obama and Bush share the same ideology. My guess is that Obama has a very strident left-wing mindset and that he was telling the truth when he said he wanted to be a statist version of Ronald Reagan. I’m quite relieved that he was largely ineffective in achieving his goals.

Bush, by contrast, presumably didn’t want to significantly expand the size and scope of the federal government. But lacking a Reagan-style commitment to principles of limited government, his administration largely surrendered to public choice-driven incentives that resulted in incremental statism.

The lesson for the rest of us is that people should be less partisan and more principled. A bad policy doesn’t become good simply because a politician belong to the “R” team rather than “D” team.

Anyhow, the bottom line is that Obama era moved America in the wrong direction. For what it’s worth, he wasn’t nearly as bad as Nixon. And if I do this same exercise for LBJ, Hoover, and FDR, I expect Obama won’t be as bad as them, either.

But wouldn’t it have been nice if he had been as good as Bill Clinton?

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I’ve written several times that the left wants big tax hikes on poor and middle-class taxpayers. Simply stated, that’s the only way they can finance a European-sized welfare state.

Some of them even admit they want to pillage ordinary taxpayers.

Now we have another addition to our list. Writing in today’s Washington Post, two law professors from UCLA openly argue in favor of tightening the belts of average Americans to enable a bigger federal government.

…we need more tax revenue from the middle class, not less.

They start by complaining that middle-income taxpayers have benefited from big tax cuts over the past 35 years.

Middle-class tax burdens are at historic lows. The Congressional Budget Office reported in 2016 that the average federal income tax rate for the middle class — here meaning the middle 60 percent of the income distribution — declined from 7.8 percent in 1979 to 3.4 percent in 2013. Focusing on all federal taxes (not just income taxes), the average tax rate dropped from 19.2 to 13.8 percent over the same period. With these lower tax rates, the share of taxes paid by the middle class has also declined. The middle class paid 35 percent of income taxes in 1979 but only 16 percent in 2013, while its share of all federal taxes fell from 43 to 30 percent.

As far as I’m concerned, this is good news, not something to bemoan. Indeed, my goal is to have similar reductions in tax burdens for all taxpayers.

But the authors raise a very valid point. We will have giant tax increases in the future and people at all income levels will be adversely impacted. Though there is one way of avoiding that grim European future.

Unless Congress is willing to dramatically cut major entitlement programs.

Incidentally, we don’t need to “dramatically cut” those programs. The authors are relying on dishonest Washington budget math.

In reality, the problem is solved and tax increases are averted so long as reforms are adopted to ensure that entitlement programs no longer grow faster than the private sector.

But that’s not what the authors want. They actually look forward to big tax increases.

What the middle class needs is not meager tax cuts but a muscular commitment to robust public institutions designed to benefit middle-income individuals. The higher taxes could come from our current income tax (from tax increases on the middle class and the wealthy) or a broad-based consumption tax (such as a VAT or carbon tax).

I’m greatly amused by the language they use. They want readers to believe that bloated European-style welfare states are “robust public institutions” and that politicians grabbing more money to buy more votes is a way of showing “muscular commitment.”

I’m also not surprised that they embraced a carbon tax or value-added tax.

By the way, the column compares the United States with other industrialized nations. Simply stated, we win (at least from my perspective).

Data from the Organization for Economic Cooperation and Development reveal that American families with children face substantially lower average income-tax rates (in some cases, less than half) than similar families in other developed countries. And this is before factoring in consumption taxes, which represent a large share of middle-class tax burdens in most countries, but not in the United States.

Those are remarkable numbers. Income taxes grab a much bigger share of family income in Europe. And then governments take an even bigger slice thanks to onerous value-added taxes.

The authors would argue that Europeans get “robust public institutions” in exchange for all that money, but what they really get is less growth and lower living standards.

Indeed, it’s worth noting that the richest European nations are on the same level (or below) the poorest American states.

That’s not exactly a ringing endorsement for higher tax burdens.

The bottom line is that left-wing politicians usually pontificate about raising taxes on the rich, but the truly honest folks on the left openly admit that the real targets are lower-income and middle-class households.

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A few days ago, using several methodologies, I calculated how fast government spending increased during the presidencies of Lyndon Johnson, Richard Nixon, Jimmy Carter, Ronald Reagan, George H.W. Bush, Bill Clinton, George W. Bush, and Barack Obama.

One of my big takeaways was that Republican presidents – with the exception of Reagan – allowed the burden of government spending to increase far too rapidly. Oftentimes faster than budgets grew under Democratic presidents.

That column generated a lot of feedback. And whether the responses were positive or negative, a common theme was that presidents shouldn’t be judged solely based on the growth of federal spending – both because Congress plays a big role and because there are many other policies that also matter when assessing economic policy.

I fully agree, and I explicitly noted that the relatively good spending numbers during the Obama years were because of policies – sequestration, shutdowns, etc – he opposed.

And I also concur that other policies matter. That’s one of the reasons I’m always highlighting Economic Freedom of the World. Yes, fiscal policy is one of the variables, but monetary policy, trade policy, regulatory policy, and the rule of law are equally important.

Indeed, I did an overall assessment of Bill Clinton a few years ago, comparing the pro-growth polices that were adopted during his tenure with the anti-growth policies that were implemented.

The bottom line is that economic liberty increased during his presidency. Significantly. Others can debate about whether he deserves full credit, partial credit, or no credit, but what matters to me is that the overall burden of government shrank. And that was good for America.

It’s time to do an overall assessment of economic policy for other presidents. And we’ll start with one of America’s worst presidents, Richard Nixon.

He’s mostly infamous for Watergate, which led to his resignation, but he also should be scorned because every single major economic policy of his presidency expanded the size, scope, and power of the federal government. Here’s the list, with a couple of the items getting larger bars because the policies were so misguided.

Is it true that there were no good economic policies under Richard Nixon? I asked Art Laffer, who worked at the Office of Management and Budget at the time, whether there were any pro-market reforms during the Nixon years.

He mentioned that the top tax rate on labor and small business income was reduced from 70 percent to 50 percent as part of the Tax Reform Act of 1969. I would have included that law in the pro-growth column, except that was the legislation that also created the alternative minimum tax (for both households and corporations). And there was an increases in the tax burden on capital gains, as well as a more onerous tax regime for new investment. My assessment is that these bad provisions basically offset the lower tax rate.

For what it’s worth, Nixon also proposed a value-added tax, which is yet another piece of evidence that he was a terrible statist. But I only include policies that were enacted rather than merely proposed (if I did include proposed policies, Bill Clinton would take a hit for Hillarycare).

P.S. I’m open to revising this list. I probably missed some policies, perhaps even a good one. And maybe I’m overstating the negative impact of spending increases and price controls, or understating the bad consequences of other policies. Feel free to add your two cents in the comments section.

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Puerto Rico is getting lots of attention because Hurricane Maria caused a tremendous amount of economic damage.

That leads to an important discussion about the role of government – particularly the federal government – when there is a natural disaster (and a secondary discussion about the silly Keynesian argument that disasters are good for prosperity).

But let’s focus today on a man-made disaster. Puerto Rico is the Greece of America, and it was a fiscal mess well before the hurricane hit. Indeed, there’s already been partial-bailout legislation from Washington.

The Wall Street Journal opined wisely on the topic, starting with the observation that we shouldn’t feel too much sympathy for investors who purchased bonds from the island’s profligate government.

…they knew what they were getting into. Lenders piled into Puerto Rican bonds that paid high yields that are “triple tax-exempt”—they can’t be taxed by federal, state or local governments in the U.S. Yet lenders also knew that the Puerto Rican government was heading toward a debt crisis. The economy has been contracting for a decade, and the commonwealth has $48 billion in unfunded pensions on top of $72 billion in bond debt. Creditors bet that the high yield was worth the political risk, but the music was bound to stop. One lesson of the last decade that creditors don’t want to learn, even after Detroit and Greece, is that sovereign debt to lousy governments is high risk. The abrogation of debt contracts that will now take place is regrettable, but there is a price for betting on politicians.

It would be a nice lesson if investors learned not to trust governments, especially the ones most prone to destructive statist policies.

But that doesn’t address the underlying problem of how to generate growth in Puerto Rico. The answer, needless to say, is free markets and small government.

…the territory will have to grow faster. This is where bankruptcy alone is inadequate. Puerto Rico will have to cut taxes on investment, rationalize welfare programs that deter working, and pare back labor protections that make France look like Hong Kong. If Mr. Rossello won’t do it, then the control board will have to. Puerto Rico will continue to flounder even with reduced debt if labor participation remains stuck at 40% and unemployment is in the double digits.

Unfortunately, the government has been doubling down on bad policy.

Investor’s Business Daily delves deeper into the issue of how big government is strangling prosperity.

The key is to create the correct incentives for the island’s people to encourage — rather than discourage — their policymakers to implement necessary and difficult reforms. This is particularly true with regard to pension reform. …Emphasis should instead be put on the many necessary changes to Puerto Rican labor laws, welfare programs and business and tax regulations which could spur more private sector business and job creation, encourage more people to work, and allow economic growth to resume. …Changes to U.S. laws and regulations discouraging labor force participation in Puerto Rico, such as the high minimum wage and easier eligibility for Social Security disability benefits for Spanish speakers, would also help greatly. And most importantly, Puerto Rico’s lingering pension crisis must be solved, both because of its fiscal significance and because it illustrates the lack of political courage and imagination by the government and the oversight board. …economic activity in Puerto Rico is now so severely depressed by a heavy government presence.

And even the most establishment-leaning Economist noted that government dependency is a major problem.

The island is distinguished by its poverty and joblessness, which are far worse than in any of the 50 states. The territory’s economy, moreover, has fallen further behind the national one over the past three decades. Bad government—not just locally, but also federally—is largely to blame. …Puerto Rico’s annual income per person was around $12,000 in 2004, less than half that of Mississippi, the poorest state. More than 48% of the island’s people live below the federally defined poverty line.

Why is income so low and why is there so much poverty?

Simply stated, idleness is being heavily subsidized. The welfare state reduces labor supply on the mainland. And the same thing happens in Puerto Rico.

Half the working-age men in Puerto Rico do not work. …Many things have gone wrong. Most important, however, is that the United States government assumed too big a role in the Puerto Rican economy, and its largesse enabled the commonwealth’s government to do the same. …the island’s economy is now lost in a thicket of bad incentives…an oversized welfare state…transfers…make up more than 20% of the island’s personal income. These federal handouts…by Puerto Rican economic standards, they are huge. And the more a man or woman earns through paid work, the more they decrease. …federal disability allowances are much higher than the United States average as a share of wages and pension income. Unsurprisingly, therefore, one in six working-age men in Puerto Rico are claiming disability benefits. …For many people, …the money that can be earned through federal transfers and a little informal work is more than the market wage—and requires much less effort.

In other words, Puerto Rico is just another layer of evidence on the well-established link between government and poverty.

And when people do have jobs, all too often they are employed by a bloated and inefficient government bureaucracy.

Puerto Rico’s bloated government… Around 30% of the territory’s jobs are in the public sector. Among other things, a big and coddled bureaucracy undermines Puerto Rico’s educational achievements…nearly half those on the education department’s payroll are not teachers; quality has fallen because of low accountability and mismanagement. …As he walked through Aguadilla’s town hall recently, Mr Méndez…says, is that “All they want to do is find security only. They have no ambition…Everybody wants to work for the government.” Manuel Reyes, of the Puerto Rico Manufacturers Association, also sees little hope that the government’s role will shrink.

It’s almost as if Puerto Rico is a perfect storm (no pun intended) of bad policy.

The solution is – or should be – obvious. And it’s the same one I suggested for Greece. Allow the government to default on existing debt, but only in exchange for pro-market reforms such as a long-run spending cap, privatization, a freeze on the size and compensation of the island’s bloated bureaucracy, and elimination of destructive regulation.

For all intents and purposes, Puerto Rico should become the Hong Kong of America. The island does have substantial autonomy and local policymakers have demonstrated that they sometimes are willing to do the right thing (they made Puerto Rico a legal tax haven for U.S. citizens). Now it’s time to make a great leap forward.

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I argued last year that leftists should be nice to rich people because upper-income taxpayers finance the vast majority of the American welfare state according to government data.

Needless to say, my comment about being “nice” was somewhat sarcastic. But I was making a serious point about the United States having a very “progressive” fiscal system. The top-20 percent basically pay for government and those in the bottom half are net recipients of that involuntary largesse.

I also pointed out a huge difference between the United States and Europe. Governments on the other side of the Atlantic impose much higher burdens on lower-income and middle-class taxpayers.

Here’s some of what I wrote.

…the big difference between the United States and Europe is not taxes on the rich. We both impose similar tax burden on high-income taxpayers, though Europeans are more likely to collect revenue from the rich with higher income tax rates and the U.S. gets a greater share of revenue from upper-income taxpayers with double taxation on interest, dividends, and capital gains (we also have a very punitive corporate tax system, though it doesn’t collect that much revenue). The real difference between America and Europe is that America has a far lower tax burden on lower- and middle-income taxpayers. Tax rates in Europe, particularly the top rate, tend to take effect at much lower levels of income. European governments all levy onerous value-added taxes that raise costs for all consumers. Payroll tax burdens in many European nations are significantly higher than in the United States.

So do this mean European politician don’t like ordinary people?

I could make a snarky comment about the attitudes of the political elite, but I’ll resist that temptation and instead point out that taxes in Europe are much higher for the simple reason that government is much bigger and that means some segment of the population has to surrender more of its income.

But here’s the $64,000 question that we want to investigate today: Why are European governments pillaging lower-income and middle-class taxpayers instead of going after the “evil rich” and “greedy corporations”?

Part of the answer is that there aren’t enough rich people to finance big government. But the most important factor is the Laffer Curve. Politicians can impose higher tax rates on upper-income taxpayers and companies, but that doesn’t necessarily translate into higher revenue. Simply stated, well-to-do taxpayers have considerable ability to earn less income and/or report less income when tax burdens increase, and they do the opposite when tax burdens decrease.

That’s true in the United States, and it’s true in European countries such as Sweden, France, Russia, Denmark, and the United Kingdom.

So even if politicians want to fleece upper-income taxpayers, that’s not a successful method of generating a lot of revenue.

Which is why a shift from a medium-sized welfare state (such as what exists in the United States) to a large-sized welfare state (common in Europe) means huge tax increases on ordinary taxpayers.

I’ve made this point before, but now I have some additional evidence thanks to a new report from the Organization for Economic Cooperation and Development. The Paris-based bureaucracy is probably my least-favorite international organization because of its advocacy for statism, but it collects and publishes lots of useful statistics about fiscal policy in the industrialized world.

And here are three charts from the new study that tell a very persuasive story (and a depressing story for ordinary taxpayers).

First, we can see how the average tax burden has increased substantially over the past 50 years.

And who is paying all that additional money to politicians?

As you can see from this second chart, income tax revenues have become a less-important source of revenue over time while social insurance taxes (mostly paid by lower-income and middle-class taxpayers) have become a more-important source of revenue.

The third chart shows the evolution of the value-added tax burden. This levy takes a big bite out of the paychecks of ordinary people and the rate keeps climbing over time (and if we looked just at European governments that are part of the OECD, the numbers are even more depressing).

Now let’s put this data in context.

The United States now has a medium-sized welfare state financed mostly by upper-income taxpayers.

But because of dramatic demographic changes, we are doomed to have a large-sized welfare state. At least that’s what will happen if we don’t reform entitlement programs.

And if we leave policy on auto-pilot and there’s a substantial increase in the burden of government spending, it’s simply a matter of time before politicians figure out new ways of taking more money from lower-income and middle-class taxpayers.

Yes, they may also impose higher rates on “rich” taxpayers, but that will be mostly for symbolic purposes since those levies won’t generate substantial revenue.

Last but not least, don’t forget that European fiscal burdens will mean anemic European economic performance.

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I’ve made very serious (and hopefully substantive) arguments about why small government and free markets are the recipe for prosperity.

Simply stated, profit and loss is a powerful feedback mechanism, and entrepreneurs and business owners who want to make money face constant pressure to attract consumers by offering better products at affordable prices.

These forces are so powerful that the private sector even does a good job in some areas that most people assume are reserved for government, such as criminal justice, roads, and airport security.

But let’s examine this issue today from a whimsical perspective. I found a couple of clever images on Reddit‘s libertarian page.

Here’s the first example, which will make instantaneous sense for anyone who’s ever walked into a McDonald’s and a DMV on the same day.

The second example is more elaborate, but makes a similar point. Those of us with gray hair have seen the amazing developments produced by the private sector in this collage.

But can anyone think of something that has improved in the public sector?

For what it’s worth, the two cars in the column for the private sector don’t look that different. But, once again, those with gray hair will probably remember how often they used to break down in the past. The computerized engines have greatly improved operations and maintenance. Not to mention map programs, built-in TVs for the kids in the back seat, and other positive changes.

Let’s close with a serious point. Yes, business owners are greedy. They’re looking out for their own self interest. They would love to charge us high prices.

But a system of free enterprise means that they can only earn money if they cater to our needs and wants. And so long as politicians aren’t showering them with bailouts, subsidies, protection, or handouts, that means they compete to provide us ever-better goods and services at ever-more-affordable prices.

In other words, Adam Smith was right.

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