American fiscal policy and the Presidential election

For the first time since 1952, neither an incumbent president nor an incumbent vice-president are running for President. For the first time since 1976, there is no one named Bush or Clinton running in either slot on either ticket. In case anyone follows such things. But that is not the point of this entry.

The American election cycle has touched off the usual accusations, from both major parties, about what the other would do to the country's economic situation if they were foolishly handed the keys to the White House by the voters. In this respect, things are more or less the same as every other election. Around the first of October, I found things were getting a little out of hand. The vile feelings from both sides of the aisle got to be a little too much, so I stopped paying attention to that part of the news. Besides, there was an election going on in Canada, too, and while I love following American politics, I was getting overloaded. Thankfully, our federal campaigns usual do not last more than five or six weeks, so we got ours out of the way on October 14th. The last few days, I have been looking again at the race for the White House. And I do not like what I see.

The major parties' nominees, John McCain and Barack Obama, have left a long trail of comments and arguments that require some analysis. I have decided to assign the task to myself, and I am pleased to provide an absolutely irrelevant perspective. My irrelevance is demonstrated by the facts that I am not an American citizen, not a resident of the United States, not entitled to vote (although I might travel to Cleveland and give it a shot anyway), and, most importantly, have a readership so light in number that there is little chance this will influence the thinking of anyone who is entitled to vote on Tuesday.

Warning to those who continue reading: I am going to be critical of both candidates, but I am going to concentrate on and be particularly critical of the Democratic Party's candidate. However, rest assured that I am going to stick with facts, figures and history, and leave the most of the emotion out of it. Forgive me if I take a few swipes, but I have a feeling that they'll be spread around.

One of Barack Obama's economic policy points, which has been repeated, off and on, by many others in his party over the course of the last seven years, is that the tax cuts put into place by President Bush are the reason, or at least a major reason, for the current mess known as the United States budget. Here is what Mr. Obama said not long after throwing his hat in the ring early in 2007: "Domestically, our national debt and budget constrain us in ways that are going to be very far-reaching. And I think whoever is elected in 2008 is going to be cleaning up the fiscal mess that was created as a consequence of the president's tax cuts."

(Mr. Obama's point about the debt and the budget "constraining" the next president is even more true now than it was 18 months ago, when Mr. Obama announced his candidacy.)

And we have the now-infamous exchange on October 11th between Barack Obama and Samuel Wurzelbacher, who is better known these days as Joe the Plumber:

Joe the Plumber: “Your new tax plan is going to tax me more, isn’t it?”
Barack Obama: “It’s not that I want to punish your success. I just want to make sure that everybody who’s behind you… that they have a chance to [achieve] success, too. I think that when you spread the wealth around, it’s good for everybody.”

I am assuming that among Barack Obama's beliefs about the American macroeconomy are the following:
1) The U.S. government requires money to operate.
2) The U.S. government faces a situation where there is little flexibility in the budget and little room for new debt.
3) The government requires more money than it is getting now in order to operate.
4) The federal budget has been hurt by the tax cuts initiated during the Bush administration. (That is, the tax cuts resulted in a situation where the government had too little money, and this is what has caused the large deficits of the past several years.)
5) Individuals who are making a relatively substantial amount of money (Obama has used the range of $200,000 to $250,000 in annual income to define the starting point of "wealthy" Americans) should be paying more income tax.
6) The prospect of spreading "the wealth" around is good for everybody.
7) Wealth can effectively be spread around by the federal government to a greater degree than it is now without any substantial negative effects.
8) The transfer of wealth from higher-income individuals to lower-income individuals creates a greater chance for the lower-income individuals to succeed.

If anyone thinks any of these eight points misrepresents Obama's position, please so state in the comments section. But be specific and tell me where I have gone off-course, and argue your point well and with proof or substantiation behind it. I take reasoned argument seriously, even when it criticizes. I do not take emotional rhetoric or insults seriously. Be partisan if you wish, but please be respectful and reasonable.

A dissection of the my assumptions of Mr. Obama's economic beliefs follow.

1) The U.S. government requires money to operate. Absolutely agree with this. It may surprise some folks to learn that conservatives actually believe in a role for government, and do acknowledge that government both requires money and is justified in raising it through taxation.

2) The U.S. government faces a situation where there is little flexibility in the budget and little room for new debt. This is also absolutely true. A household cannot survive by borrowing money to pay for the groceries, or raiding a credit card to make the car payment. Neither can a government, not even the U.S. federal government. Yet this is exactly what has been happening the past several years.

(The next several points refer to the U.S. government's fiscal years. These are different from calendar years, although they still are twelve months long. The U.S. government uses a fiscal year starting on October 1st of the previous calendar year and ending on September 30th of the year in which it is numbered. Fiscal year 1999, for example, began on October 1, 1998, and ended on September 30, 1999. Fiscal year 2009 began on October 1, 2008, and will end on September 30, 2009.)

3) The government requires more money than it is getting now in order to operate. The reason why I am making this assumption about Barack Obama's economic beliefs is that because the statement he made about the Bush tax cuts (to be covered further in point #4). But this point - that more money is required - is only true if it is totally impossible to reduce expenditures. There are two ways to fix a budget shortfall: increase revenue, or decrease spending. And tell me: who thinks that the United States government should have revenues higher than $2,521,200,000,000? That's about $2.5 TRILLION, which is what the U.S. federal government's revenues were in fiscal year 2008. They were marginally higher in FY 2007: $2,568,200,000,000. In FY 1999, revenues were $1,827,600,000,000.

I will illustrate this point another way: Suppose you knew someone who, nine years ago, earned a certain sum of money, and who managed to cover all his expenses that year. Not only that, but he saved almost 7% of his income that year, and used it to reduce his personal debt. Now, nine years later, this same individual has an income that is 40% higher. That is another way of saying that he received a raise every year of 3.8%, calculated on the year immediately preceding it. (Quick, now: how many of you readers have received annual raises of 3.8%, compounded annually, for the last nine years?)

And despite this high income in 2008, this individual had planned to borrow an amount equal to 16% of his income to cover his spending. But even that was not enough: it turned out he had to borrow 18% instead, because his spending was even higher than what had been planned. And now, in the midst of all this borrowing and spending, he complains you that his problem is that his income is not high enough. What would you think of such a person?

4) The federal budget has been hurt by the tax cuts initiated during the Bush administration. This is a throwaway line often used by Democratic Party politicians. But it simply does not hold up against the facts. Here are the facts:

First, this point: If we are to have a conversation about the effects of rate cuts on federal revenues, it is relevant to discuss and compare year-to-year revenues raised through personal federal income tax, but it is also important to compare overall revenues raised through other types of taxation, such as Social Security taxes and corporate income taxes. Why? Because the economy is not static. All of these things are interconnected. If you earn $50,000 more in income than you did last year, your personal income tax bill is going to be higher. But much of the income you spend is going to become income for someone else - perhaps a company, which will owe more in corporate income tax because of your increased business. That company may have to hire someone new, or increase an existing employee's salary, in order to keep up with the faster pace and higher sales. That means those employees will pay more Social Security taxes and income taxes themselves. That's the general idea.

In FY 2001, federal revenues were $1,991.4 billion. Of that amount, federal income tax accounted for $1,145.4 billion. Of this portion, federal personal income tax raised $994.3 billion. That year, by the way, was the first year of President Bush's tax cuts. However, the decrease in rates was small: of the five tax brackets, all but the bottom one saw a rate cut of one-half of one percent. The lowest tax bracket did not change at all.

Overall revenues declined slightly from FY 2000, when they were $2,025.5 billion. This is a decrease of about 1.7%. However, personal income taxes only decreased by $10.2 billion (from $1,004.5 billion) - a 1% decrease. On the other hand, corporate income tax collected fell more than 25%. Social security taxes increased by more than 6.3%.

Before anyone starts arguing that Ha! This is proof that tax cuts cause revenues to fall, bear in mind that there are two determinants when it comes to calculating the government's tax haul: the overall amount of income, and the tax rate. Now, think back to 2000 and 2001. What happened? Well, late in FY 2000, the NASDAQ wrecked, the dot-com bubble burst, and millions of people who had been making lots of taxable income from easy capital gains were now out of luck, out of money and in some cases, out of work. Another way of referencing this event is The Previous Great American Bubble Burst - the more recent one being the Housing Market.

If anyone was wondering, U.S. federal government spending in FY 2001 was $1,863.2 billion, which was an increase of $74 billion (4.1%) from FY 2000. The U.S. federal budget surplus declined from $236.2 billion to $128.2 billion. Surpluses? Remember them?

In FY 2002, federal revenues were $1,853.4 billion. This was a decrease of almost 7% from FY 2001. In 2002, the four highest tax brackets were subject to another small rate drop of one-half percent each. The lowest tax bracket was broken into two brackets: in 2001, taxable income up to $27,050 was taxed at 15%; in 2002, taxable income up to $6,000 was taxed at just 10%, and then income from $6,000 up to $27,950 was taxed at 15%. Again, ask the question: did the tax cut cause the revenue drop? Looking at just personal income tax revenue alone, there was a decrease in revenue of $136 billion. Even if all other factors remained the same, a half-point decrease in the income tax rate cannot by itself cause a loss of $136 billion in tax revenue.

I am sure everyone remembers the events at the end of FY 2001 - specifically, on September 11th. In retrospect, it is a wonder that the tax revenue didn't fall more than $136 billion.

In FY 2002, federal spending increased to $2,011.2 billion, an increase of $148 billion (more than 7.9%) over the previous year.

In FY 2003, revenues fell further to $1,782.5 billion, a negative difference of $70.9 billion (3.8%). This is the year when the Bush tax cuts took effect in full force. The highest four tax brackets all had substantial rate cuts of 2% each, except for the highest bracket, which fell from 38.6% to 35%.

And this is one year in which I will grant you that it is possible that decreased income tax revenues were the result of tax cuts. Income tax revenue fell to $925.5 billion from $1,006.4 billion, which is a drop of $80.9 billion (just over 8%). But I will remind the reader of the words of President Kennedy in December 1962: "[I]t is a paradoxical truth that tax rates are too high today and tax revenues are too low, and the soundest way to raise the revenues in the long run is to cut the rates now." A government does not cut tax rates in order to tie itself into knots, but it does allow the possibility of a short-term decrease in revenues. It cuts rates to maintain solid overall economic growth, to be fair to its income-producing taxpayers, and to increase its own revenues in the long run. When the first stage of JFK's rate cuts took effect in 1964, revenues rose slowly at first - by $6 billion (5.6%). The second stage of cuts took place in 1965, and revenues rose modestly again - by $4.2 billion (3.7%). But they rose by almost 12% in 1966, and then another 13.8% in 1967. By 1970, federal revenues were almost 81% higher than they had been in 1963.

So if history were to repeat itself - if tax revenues were to rise after 2003, just as they did after Reagan's tax cuts in the 1980's, and as they did after the Kennedy/Johnson cuts in the 1960's - would anyone be convinced of the efficacy of tax cuts to boost federal revenue?

Which brings us to FY 2004. Overall revenues rose to $1,880.3 billion (+5.5%), with income tax revenues rising by almost 7.9%. Federal spending rose to $2,293 billion in 2004, after rising to $2,160.1 billion in 2003. In percentage terms, that is a 7.4% increase followed by a 6.2% increase.

In FY 2005, overall federal revenues were $2,153.9 billion, a whopping 14.6% increase over the previous year. Income tax receipts rose by $207.3 billion, or 20.8%. If the feds had increased spending by a reasonable 3%, the federal deficit would have shrunk from $412.7 billion to $207.9 billion. But spending rose by 7.8% to $2,472.2 billion, resulting in a deficit of $318.3 billion. (Memo to President Bush and the former (and mostly defeated in '06) Republican Congress: years like this are known as missed opportunities. Not sure if you understand that or not, but that's what they are. You idiots.)

In FY 2006, the U.S. government's total revenues were $2,407.3 billion, an increase of 11.8%. Income tax receipts rose to $1,397.8 billion, almost 16% higher than the year before. Even after ramping up spending in 2005 by an amount more than double the inflation rate, Uncle Sam managed to increase it again by nearly the same percentage (7.4% this time), to $2,655.4. The deficit in FY 2006 was $248.1 billion. Had the feds only increased spending by 3% in 2006, after their binge in 2005, the deficit would have been $139.1 billion.

In FY 2007, the federal government had revenues of $2,568.2 billion (+6.7%), and of this, income tax accounted for $1,533.7 billion (+9.7%). Guess what happened to the expenditure side? If you guessed that it rose to $2,728.9 billion (+6.3%), you'd be right.

Here is the punch line: if in 2005, 2006 and 2007, the Congress and the President had held the rate of increase in spending to 3% per year, by FY 2007 the bloody federal budget would have been back in a surplus position, to the tune of about $62.5 billion.

Here's another punch line: federal revenues rose by more than 44% in just four years, from 2003 to 2007. How do you like them apples?

I have gotten off track a little bit on this point, and have increased the colour of my language, which I had not planned to do. But I think everyone by now gets the idea that the United States federal budget has not at all been hurt by tax cuts.

I'll yell it for you: A FORTY-FOUR PERCENT INCREASE IN REVENUE IN JUST FOUR YEARS, IMMEDIATELY FOLLOWING THE BIG 2003 TAX CUTS. Could we please put this argument in the dustbin now?

5) Individuals who are making a relatively substantial amount of money (Mr. Obama has used the range of $200,000 to $250,000 in annual income to define the starting point of "wealthy" Americans) should be paying more income tax. For what purpose? I have already demonstrated that the best way to keep tax revenue flowing to the federal government is by cutting high marginal tax rates. But suppose someone out there says that high-income people are not paying their "fair share." To this I might rejoinder with "How much is fair?" and "What do you think of these numbers?" Here are the numbers:

Since 2002, the share of federal tax paid by the top 1% of income earners in the United States has grown. Not just the absolute amount, but the percentage share of the total tax paid by everyone in the country.

In 2006:
- The top 1% of income earners paid 39.89% of the total federal income tax received by the U.S. government.
- The top 5% of income earners paid 60.14% of the total federal income tax received by the U.S. government.
- The top 10% paid 70.79% of the total share.
- The top 25% paid 86.27% of the total share.
- The top 50% paid 97.01% of the total share.
Source: The Internal Revenue Service.

It would seem to me that the United States income tax system is already extremely progressive, and has become even more so under President Bush. Unless someone out there wants to suggest that these percentages are insufficient, in which case I'd love to have that argument.

6) The prospect of spreading "the wealth" around is good for everybody. I do not disagree that some spreading of the wealth is good for everyone. Otherwise, there would be no provision of pure public goods, such as the Interstate Highway system, fire and police protection, national defense, and public education. But how much should you try and spread it? At what point does the automatic provision of something that is arguably a private good (or at lease a mixed public/private good) become a disincentive to work or improve oneself? At what point does the automatic penalty assessed to financially successful people become a disincentive to produce more? Given that we know that only 10% of American taxpayers are providing more than two-thirds of the tax revenue to the federal government, can we not say that we are already sufficiently spreading the wealth?

7) Wealth can effectively be spread around by the federal government to a greater degree than it is now without any substantial negative effects. Um, this has been attempted before. During and after World War II, the top federal tax rate was more than 90%. (It stayed over 90% until 1963.) During the 1950's, growth was haphazard, characterized by several periodic recessions and persisent (but relative to today, small) budget deficits. As President Kennedy said during the same speech I cited above, "Surely the lesson of the last decade (i.e., 1952 to 1962) is that budget deficits are not caused by wild-eyed spenders but by slow economic growth and periodic recessions." What a difference from the deficits created today! But the evidence is not just numeric, but intuitive. When you tax any activity, you can count on less of that activity. If you tax income too much, you can count on less income. If you tax capital gains too highly, you can count on less business investment, less stock market growth, and less capital formation.

Caution is the watchword here. As I wrote above, the economy is not static. It reacts, and the reactions ripple. Wealth tends to shrink in availability if politicians, particularly the Congress and the President, do not treat it with respect. A confiscatory stance is not conducive to creating and growing wealth. Barack Obama would be wise to take this to heart.

8) The transfer of wealth from higher-income individuals to lower-income individuals creates a greater chance for the lower-income individuals to succeed. It might. Then again, it might not. I do know this: that wealth is already transferred in huge quantities from higher income individuals to lower income individuals in the form of government services. These services, paid for almost exclusively by higher income earners, are used in greater frequency and degree by lower income earners. Since the late 1960s, the growth of these services by the government has far outpaced the vision of those leaders who put them in place 40 years ago. Have we helped lower-income individuals succeed? On one level, we have. By and large we do not see the level of material privation of individuals and communities that we saw prior to 1970. On the other hand, there is a systemic poverty in society that we seem not to be able to conquer, no matter how much money the government spends.

Speaking as one who works daily with people who earn, in relative terms, lower incomes, I see huge differences among families, even among those who have similar incomes and similar numbers of mouths to feed. The difference is not financial, although in some cases the more successful families are headed by parents with some talent for managing a limited amount of money. The difference is cultural.

The successful families have children who have limits set for them by their parents. The successful families place the highest priority on education, including insisting that the children behave well in school, complete all assigned homework and do their absolute best at all times. The successful families give responsibilities to their children, in terms of household chores, and insist they meet them. The successful families prohibit their children from associating with people who are known to be attracted to mischief, trouble, lawbreaking, alcohol and drugs. The successful families encourage their children to get involved in at least one extracirricular activity at school. The successful families do not use inappropriate language around their children and do not have people in their homes who use inappropriate language. The successful families do not interfere in their neighbours' business. The successful families have set bedtimes for their children, and stick with them.

The unsuccessful families miss one or more of these "rules to live by." One of the items that is most commonly missed is an emphasis on the importance of education. Another is the excuse that parents "cannot choose their children's friends", so if they end up with the wrong crowd, it's just bad luck. Like hell they can't choose, and like hell it's only bad luck.

What is the difference between the successful and unsuccessful families? The unsuccessful families have daughters who are much likelier to become mothers while they are still teenagers. The successful ones have children who wait longer before having children of their own. The unsuccessful families have children likelier to drop out of school, get mixed up in drugs, have trouble with the law, get mixed up in neighbourhood squabbles, and have trouble finding and keeping employment. The successful families have children who stay in school, stay out of trouble, and then have much less difficulty landing jobs that are stable and pay better. Many of the unsuccessful families have children who end up on welfare, and then apply for the same government programs I administer to their parents.

I am not just talking out of my hat. I have been doing the same gig for six and a half years. It is heartbreaking to see girls who were in elementary school when I started my job in 2002 apply for welfare today with their babies in tow. And the difference is not financial, by any means. Several of the most successful families I have met during my tenure had the lowest incomes in 2002, and some were on welfare - and yet more than a few of them today are homeowners with decent-paying jobs. More importantly, their children are still in school and out of trouble.

I realize it opens a huge can of worms by saying that some people do not succeed because of the choices they make, and the quality of their parenting skills. It is much easier to say that we need a new program to try this, or new funding to do that. It makes it look like you care if you say these things. The truth will make you look like a jackass, at least to some. But there it is.

Barack Obama has surely seen enough during his 47 years on the earth to know the difference. It would be encouraging if he said so, instead of repeating the same tried-and-failed left-wing economic talking points.

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If I had a vote, I would not vote for Barack Obama. His social and economic values are much too liberal for my taste, and his nominees to the federal courts, and especially the Supreme Court, would probably reflect his thinking. But if he wins tomorrow - not an unlikely outcome - he has a huge opportunity to fix a lot of things that have been made wrong over the last eight years. (So does John McCain, for that matter.) It is both lamentable and laughable to hear Republican partisans decry Obama's socialist tendencies after watching a GOP Congress (2002 to 2006) expand the government by leaps and bounds, uninhibited by common sense, with the nodding approval of President Bush. Some of the greatest fiscal policy blunders have been initiatives of President Bush himself, such as the Medicare prescription drug benefit passed in 2003, the No Child Gets Ahead But We Sure Do Spend More On Education At The Federal Level Act, and the massive increases in military spending (and I say this as one in favour of a hefty military budget - but to more than double it from 2001 to 2008? Does the USA really need to spend $728 billion on defense every year, and pass increases of over 10% almost every year?). On this basis, I understand Americans who feel that the Republicans need to be chucked out of office and out of the White House. I understand the argument that stupidity should not be rewarded, and the sentiment that to vote for the Republican nominee, John McCain, would be to reward the GOP for gross economic mismanagement.

Of course, it's complicated. The housing bubble, the failure of the American financial and regulatory system, and the gigantic bailouts of mismanaged private and public entities has been a group effort. It cannot be pinned on one party or another, and in fact, many American consumers own some of the blame, too. And you cannot vote against them.

John McCain, on October 18th: "At least in Europe, the socialist leaders who so admire my opponent are up-front about their objectives. Raising taxes on some in order to give cheques to others is not a tax cut, it’s just another government give-away." Sounds sensible, right? But later the same day he added this zinger: "We need to give you a mortgage that you can afford, so you can realize the American Dream of owning your home." WHAT? Who's "we"? The government? The taxpayer? Thomas Sowell, when given these two McCain quotes, was asked which vision McCain actually represents. I can understand why Sowell replied, "He represents whichever one occurs to him at the moment. He has what Thorsten Veblen called 'a versatility of convictions'."

John McCain: character and experience to boot, but possessed of "a versatility of convictions."

Barack Obama: the flavour of the day, but utterly wrongheaded in economic matters.

What a choice to have. Best of luck, America.

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Note: If you have an inquiring and critical mind, and I hope you do, you're wondering from where I obtained my figures for the U.S. budget revenues and expenditures. I got them from the Congressional Budget Office, for years up to 2007. For FY 2008 and beyond, estimates were obtained from the Executive Office of the President of the United States. (No overlap there, eh? Best to have two separate groups track this stuff!) In case you were wondering, the EO of the POTUS has the same historical numbers as the CBO, except for 2007, when the CBO's expenditure number was exactly $2 billion lower than the EOPOTUS number. Not sure why this happened, but overall, I believe the numbers are trustworthy from both sources.

The quotations of President Kennedy are taken from his address to the Economic Club of New York on December 14th, 1962.