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Wednesday, September 07, 2011

The Economic Straits - The Taxation Problem

Right click on that chart and open it up in another window or tab, and look at it carefully. That's Other Deposits through the end of July. The lines are still going up right now, so I'm too lazy to update it.

What I wanted to concentrate on is the oddity in 94/95. You see that deposit rates of growth abruptly collapse. This was the mid-cycle growth recession of 94/45. It did not lead to a recession, but it was a great enough oddity to always stand out on US time series charts.

It shows up all over in all types of stats. For example, here's one from St. Louis Fed Fred called CANDH (Personal Consumption and Housing):

If you look at the mid 90s, you see a stall in the Neutral Zone, but it doesn't tip over into recession.

Normally, in the US a year's stall of CANDH in the Neutral Zone is all it takes to dump us into recession.

It can be in the negative zone but rising as we emerge from a recession, but you can't be going along in a growth pattern and stall out there at 0% growth for very long without a consequent contraction. I make no comment about our current pattern. It's there. It's the reason I'm in the doldrums myself, and that CR's blog has assumed a somber, waiting tone.

Now we really know why that anomaly exists. Taxes were raised in 1993. That's why you see money draining out of the banks. Spending didn't compensate - it just stalled.

The reason we didn't have another recession is that households borrowed to compensate!

We were assisted in that endeavor by Greenspan, who stopped raising rates to help us through the hump. The red line indexed to the right is the effective fed funds rate. Also various Fed Heads, including but not limited to the Boston Fed and Greenspan his own big and bad self, got on the variable rate mortgage bandwagon in a big and committed way.

And then, how shall I put this - we just kept borrowing. Ever more. Now the ad astra borrowing trend has come to an end, and if we raise taxes substantially (on top of the local and state taxation raises), we can't expect much good to happen.

One last graph, for those who are brave enough to read it. It's the same as above but with GDP added as the green line:

An economy with that much household debt is awesomely sensitive to interest rates. Interest rates go higher, CANDH goes lower. But we've also lost most of the impetus effect from lower interest rates. All things have their limits, and in aggregate, US households owe too frigging much to want to borrow more.

The corollary: An economy with our demographics and a retiree bulge which is acutely negatively sensitive to low interest rates will be limited in future spending for A VERY LONG TIME.

Last corollary: A central bank that spent that decade of the 2000s encouraging more household borrowing has a lot of explaining to do. The question people should have been asking is not "What's the matter with Kansas?" but rather "Can we find someone to deprogram the Fed Heads before they kill us all?"

Anyway, this is the problem with Calvo's elision. He's right about gubmint pet spending projects - they aren't doing much for the economy. But frankly, between government debt and household debt, this economy is a Hyundai Sonata towing a double-wide, and it's not surprising that it is slipping back down the hill.

The only way to increase tax revenues without taking
Money out of circulation is to tax access to our markets.
I guess otherwise we wait until demographics turn in
our favor.
I sort of agree with Sporkfed's point, but I don't think the point is relevant (tariffs would also take dollars out of circulation to extinguish debt, but they'd be net overseas dollars, I figure).

A more efficient tax code (i.e., lower rates and fewer deductions) would increase revenues and increase business investment and employment as well by taking away the tax advantages currently held by large job-shedding corporations. A trickier, but perhaps necessary, policy change would be to increase efficiency or at least decrease the capriciousness of government regulation. This would also tend to increase wealth and employment, and therefore tax revenue.

All without starting a world war by collapsing international trade.
"Neither self-proclaimed “conservatives” nor “liberals” accept the possibility that conventional government intervention could ever be ineffective. Yet this is precisely the case today."
Paul Brodsky

Ron - my point exactly. Without understanding limits we may get ourselves into an even deeper hole.

The hole we are currently in was generated by a refusal to see the natural limits during the prior period. We ran the thing to the breaking point and it broke!

Still, take a look at Charles Evan's speech. Most Fed Head speeches are boring and uninformative - this one is not. I think he makes the best case possible for his POV.

Neil - excessive regulation, and in particular the unfortunate venture into an untimely attempt at a singularly poorly devised attempt at health care reform probably has created the situation that Evans denies.

It would appear logical to change other constraints of the system rather than stepping on the gas pedal that suddenly seems to be throwing us into reverse gear.
Spork - we are dependent on foreign imports, and increasing tariffs would indeed decrease money circulation in the domestic economy.

Production will slowly move back to the US, but right now any large and disruptive move is likely to have a negative effect.
M_O_M, I think the perversity of our tax code regarding fixed capital investment and the profits/dividends derived from it shares a large part of the blame. The reason we get such a bang from lower rates on upper-income earners is because not enough distinction is made between earned income, business operating income, and capital investment (i.e., depreciation should be a risk-management concept, not an accounting cash flow).

That makes it difficult to increase tax revenue without destroying private investment.
I just heard Dick Bove on the radio say that US banks are no longer capital constrained and the reason they are not lending is because the government won't let them.

I would have barfed up my lunch but I hadn't eaten yet.
MoM, production moves back when we devalue the
dollar. That in turn raises our cost of living and makes
the bottom 90 percent poorer. If we did not import so
Much of our energy, we might make the adjustment without
to much difficulty but it is what it is. I don't think Chinese
and Indian would give up on the US market. They'd either
Shift production here or eat the costs to stay competitive.
Devaluing the dollar will destroy asset prices even further
Wiping out the rest of the middle class.

I don't think China, at least, would move significant production to the U.S. because of tariffs. Profit is not their national objective. Employment and social stability is. The best we could hope for would be like the Toyotas "built" in the U.S.
"The corollary: An economy with our demographics and a retiree bulge which is acutely negatively sensitive to low interest rates will be limited in future spending for A VERY LONG TIME."

This line jumped out at me. Retirement planning mostly targeted a withdrawal of 4% of capital. That could be met with bond interest, but now it means eating your seed corn, your capital. The only other alternative is higher risk bonds or dividend yielding stocks. Bernanke has basically taken from savers and given to banks.
How to escape these doldrums? How about the Reagan model - get rid of taxes - all taxes, this time- on investment. More investment = more jobs and higher productivity of workers in existing jobs.

Does anyone - ANYONE?-in the Obama admin understand the economics of business? ( crony capitalism does not count )
So the entire tax burden is born by the working poor ?
What's the capital gains rate versus the combined taxes
on wage income ? Do you want to repair household
balance sheets and create demand ? Reduce taxes on
"My estimate is that we have in the U.S., somewhere between $3 trillion to $5 trillion too much mortgage debt," he said. Emmons said the average household needs to deleverage by about $80,000 or about a third of its mortgage debt.

"Many millions of households have experienced great stress on their balance sheets," he said. "There is tremendous pressure to reduce debt." That is key in understanding why the economy is going to grow so slowly.

The new normal could last as long as seven to 10 years, he predicted, noting that was his own view not that of the Federal Reserve."

said William Emmons, assistant vice president and economist at the Federal Reserve Bank of St. Louis.

The burden of tariffs would certainly fall mostly on the working poor (by which I assume you mean people with jobs who earn less than poverty-level income), both in cash outlays and in the items that used to be available to them cheaply but would then only be luxury goods for the wealthy.

Can you explain why you think a more-efficient tax code would place the tax burden mostly on the working poor? I'm not understanding you. Currently, low-income Americans mostly do not get much in the way of loopholes anyway.
The poor pay a greater percentage of their income in
taxes than the wealthy and now every dollar they earn
Is worth less and less due to devaluation. Devaluation
of the dollar hurts the poor especially when they buy
food and energy. Tariffs on imported goods would
raise prices on goods of a discretionary nature and
perhaps force households to repair their balance sheets.
Once the household balance sneers are repaired then
Demand will come back.
Rick - that's what's haunting me. Actually it's been haunting me for years.

Many retirees have mortgages now. They tend to have lesser incomes in retirement than the last generation did, mostly because of the shifts in private industry pension arrangements.

Now you devalue what savings they have.

If you look at our demographics, and if you look at our debt loads, it really does make sense that the more you drop returns on money, the more households feel the need to save.

And believe me, talk about cutting SS isn't exactly going to make households more confident about spending!
And also, Rick and everyone, Calvo was kind of avoiding the fact that we weren't just racking up debt for all the new houses. We also were buying on credit cards and shifting the debt to our mortgages.

Once the big wave of Mortgage Equity Withdrawal stopped, surely a whole lump of consumptive capacity just disappeared from our economy?

If they were at all meaningful (certainly if they were to bring in a meaningful amount of income), tariffs would not raise prices only on "goods of a discretionary nature". Look at the labels on your food, clothing, etc. Tariffs would hit the poor disproportionately hard.

And, as I pointed out, separating business income and capital investment from "earned income" means that top-bracket income tax rates would not have such a negative impact on investment and employment. What the top and bottom brackets should look like is a completely separate discussion. I don't see why you assume that a more-efficient tax code would increase the tax burden at low incomes.
That sounds like more trickle down tax policies that we
have followed for the last 30 plus years.
A 10 percent tariff is not a trade barrier. Europe has a
VAT which raises the prices more than 10 percent.
If you have read my previous posts, I would place
Tariffs on only manufactured goods., not raw materials.
Add up what the working poor pay in Federal, State, and
Local taxes. I figure close to 40 percent. A 10 dollar an
Hour job leaves you with 6 dollars an hour to support
Yourself and your family. Not enough.
They'd either
Shift production here or eat the costs to stay competitive.

They can't shift production, it's not "their" production to shift. So much Chinese production is simply subcontracted by the brands. The Chinese don't own the iPod, Apple does. The Chinese don't own Air Jordan, Nike does. These are the companies that will shift production when it makes cost sense to do so. Since these products are sold globally, a tariff in the US will likely not be enough extra cost to shift much production. What will likely shift production is the cost of doing business inside China.
Do you want to repair household
balance sheets and create demand ?

Demand for what exactly? All the demand we had during the boom REQUIRED horrible household balance sheets. People are in the process of repairing their balance sheets and it is reducing demand.

Is the goal to repair household balance sheets so we can ruin them again?
Many retirees have mortgages now.

To me that is the crime of the century. We actually had our government representatives PROMOTING this exact kind of financial suicide.

Even people who were smart enough not to get into that mortgage mess after age 50 wound up getting into a student loan mess for their children.

We are in the process of household deleveraging that will take 20 years to complete and we're in year 4. And I doubt there will ever be another household leveraging like we witnessed from the mid 80's to the mid 00's in our lifetimes.

It'll take 15 more years for DC to wake up to that fact.
Europe has a
VAT which raises the prices more than 10 percent.

That probably had more to do with production shifting to China than US tax policy!
Charles - I kind of don't care if they don't get it - I just want them to stop trying to fix it and making it worse.

Low-income people don't use manufactured goods? Particularly cheap imports? Not sure I buy that.

If you want to call it "trickle-down", that's fine. If you want to call it "purple people eater", that's fine too. But if you want manufacturing back in the U.S., businesses are going to have to invest and profit without the burden of crony-capitalism loophole taxation and vindictive, unpredictable regulators. Business tax rates probably need to be close to or less than they are in other countries, as well.

What the personal tax rates for a given bracket should be is a separate question--I'm mostly talking about changing the rules by which "taxable income" is calculated. Once we've done that, heck, you could probably have a 50% top rate on earned income without damaging business much.
You are going to see people with paid off houses losing their homes to tax foreclosure. Social Security will not pay for a $3-4000 tax bill every year. Our local taxes have not gone down, although the assessment did. And the county is stars-in-their-eyes off on a whole bunch of new projects, to be paid for with new taxes. I'm not sure we can really stand to stay in this county when I stop working.
Teri - it's already happening!

We haven't dealt with the problem of the local tax base in an era of declining household incomes, and I don't think most people realize just how insidious and powerful this is going to be.
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