Link: http://online.wsj.com/article/SB124104689179070747.html

This is one of the most important articles I have seen this year.

I don’t know if Arthur Brooks (President of AEI) reads my blog, but he’s certainly on the same wavelength as I am. I’m not just talking about politics or issues in general, but about what fault lines are most vulnerable and what strategy is best to repair them.

Making the moral case for capitalism and freedom is as important and timely now as ever. Fundamentally, most critics of free-market capitalism these days do not dispute its usefullness. Rather, they attack its “excesses", perceived “unfairness", and persistent “inequality". Even among conservatives they are winning the argument: neoconservatives like David Frum and pragmatic conservatives like Ross Douthat have said that liberals have identified what people want (the ends), but conservatives know how better to deliver them (the means).

But the ends do not justify the means.

In the end, liberals and progressives are plagued by static, or at best short-term, thinking. How do we solve the current crisis? How do we cushion the blow to those who blew it? There is no concern whatsoever for the long-term effects of policies, be they moral hazard, cultural degradation, or government dependency. Capitalism is simply the maximization of freedom coupled with responsibility. It’s core is a moral axiom: you are responsible for your actions and only your actions. Everything else is a choice.

Here is how he relates the cultural war over capitalism to the tax day tea parties:

Still, the tea parties are not based on the cold wonkery of budget data. They are based on an “ethical populism.” The protesters are homeowners who didn’t walk away from their mortgages, small business owners who don’t want corporate welfare and bankers who kept their heads during the frenzy and don’t need bailouts. They were the people who were doing the important things right – and who are now watching elected politicians reward those who did the important things wrong.

Here is the best passage from Brooks’ article:

Advocates of free enterprise must learn from the growing grass-roots protests, and make the moral case for freedom and entrepreneurship. They have to declare that it is a moral issue to confiscate more income from the minority simply because the government can. It’s also a moral issue to lower the rewards for entrepreneurial success, and to spend what we don’t have without regard for our children’s future.

Enterprise defenders also have to define “fairness” as protecting merit and freedom. This is more intuitively appealing to Americans than anything involving forced redistribution.

Link: http://washingtontimes.com/news/2009/apr/29/gop-should-end-affair-with-corporate-elites/

I have not yet written an article about the afflictions of the Republican Party (or the conservative movement) and how to correct them. If I had, this article by Senator Jim DeMint (R-SC) would serve as a model. He hits the nail on the head, not by attacking business constituencies, but by attacking constituency itself. As DeMint says:

The road back to Republican success is not to reinforce our weakened coalition of corporate interests, but to drop it altogether. Republicans shouldn’t be the party of business any more than they should be the party of labor - we’re supposed to be the party of freedom. We should get out of the business of picking winners and losers in the marketplace.

Business interests have been a Republican constituency for over a hundred years due to a general shared belief in private enterprise. Yet quite often Republicans have let the constituency’s interest trump their core values and promoted corporate welfare. This has become especially egregious in the last ten years and with the financial bailouts. As DeMint says, our mission should be a message of freedom and not one group or another.

I challenge Republicans to take it one step further.

Family interests have increasingly been a Republican constituency since the cultural revolution of the 1960s due to a general shared belief in family values. Yet here too Republicans have let the constituency’s interest trump their core values, most notably with child tax credits and homeownership favoritism. Economic policies should not be tailored to fit one’s perceived constituencies. As in the case of corporate welfare, stop helping your perceived special interests and just do what’s right.

Political strategists would probably say that is foolish and a recipe for defeat. I think they are wrong. They have been trained to think in terms of identity politics and voting blocs and demographics. But as anyone can tell you, politics in the last 20 years has become much more polarized and ideological. People take pride in independent thought and don’t want to vote Democratic because they’re union or Republican because they’re wealthy. Too often different demographic groups under the same banner conflict and power jockeying becomes expensive, tedious, and unreliable. Give voters a clear, predictable political philosophy and leaders who believe in it and follow it and you will get their votes.

Link: http://www.weeklystandard.com/Content/Public/Articles/000/000/016/425yustu.asp?pg=1

Peter Berkowitz writes a very good article here about Obama’s supposed pragmatism. The following paragraph was especially enlightening:

To realize its utopian dreams, the new pragmatism makes use of a fundamental deception. Purporting to focus on practical consequences, it equates what works with what works to increase government’s responsibility to promote social justice in America. Although it reduces morality to interest and dismisses the distinction between true and false as a delusive vestige of an obsolete metaphysics, it treats the progressive interpretation of America as, in effect, good and true. Under the guise of inclusiveness, it denigrates and excludes rival moral and political opinions.

One reason why liberals often (though not always) like the pragmatist label is that any government program’s purpose is necessarily framed in terms of a governmental or social end. The individual or taxpayer is not part of the equation. This is why success is always gauged without regard to cost: does the program work to reduce poverty (or promote homeownership or reduce pollution or whatever)? Then the program is a success. Cost-benefit calculations are irrelevant because the costs are external to the program goal.

Here is another good passage:

A truly postpartisan pragmatist–or a pragmatist in the ordinary, everyday sense–would pay attention to the long-term economic consequences of massive government costs and expansion. He would also show interest in the full range of moral consequences of his policies, in particular the practical impact on citizens’ incentives for responsibly managing their lives of a great enlargement of government responsibilities for managing their lives for them. But a pragmatist for whom it is second nature to measure all policy by how well it promotes a progressive agenda might well ignore or deflect consideration of these awkward consequences.

Ideology has become a dirty word in our politics. But ideology is simply adherence to principle. Pragmatism is a useful path when no guiding principle is clearly apparent or perhaps even when principles conflict. But pragmatism as a principle or ideology in itself is nothing more than conformation to unprincipled interest.

Link: http://www.washingtonpost.com/wp-dyn/content/article/2009/04/23/AR2009042304647.html?hpid=topnews

Young children are easily duped. If grandma gives them a $20 note in their Christmas (sorry, Holiday) card, you can easily swindle it out of them by offering them a handful of change. Coins seem more like real money than paper, and so children who don’t know better are sometimes happier to get solid shiny weighty quarters and nickels than crumpled flimsy $20 bills.

At his first Cabinet meeting this week, Barack Obama defended his call for department heads to cut a measly $100 million out of their budgets. “None of these things alone are going to make a difference,” he said. “But cumulatively they would make an extraordinary difference because they start setting a tone. And so what we’re going to do is line by line, page by page, $100 million there, $100 million here, pretty soon, even in Washington, it adds up to real money".

Let’s skip the talk of millions and billions and trillions and bring it down to what it means to the average American. These are the numbers divided by all the taxpayers (138 million) in America:

• Added spending for the American Recovery and Reinvestment Act of 2009 (stimulus bill): $5,703
• Omnibus Appropriations Act 2009: $2,971
• 9,287 earmarks in the OAA 2009: $92.75
• President Obama’s budget spending in FY 2010: $25,167
• President Obama’s budget deficit in FY 2010: $8,543
• President Obama’s budget spending in FY 2010-2019: $302,340
• President Obama’s budget deficits in FY 2010-2019: $67,174
• Difference between Obama’s spending and existing baseline, FY 2010: $1,420.29
• Difference between Obama’s spending and existing baseline, FY 2010-2019: $19,797
• Obama’s request to find $100 million in budget cuts: $0.72

Have you finished laughing? In this coming year alone, Obama plans to add $1,420 of additional spending per taxpayer (i.e. spending that he proposed). But he will fight for taxpayers by finding them 72 cents each in budget cuts. Is he incredibly stupid or incredibly impudent when he says that “$100 million … adds up to real money"? Is he treating us like children or is he acting like one?

As libertarians often say, “Conservatives want to be your daddy, telling you what to do and what not to do. Liberals want to be your mommy, feeding you, tucking you in, and wiping your nose. Libertarians want to treat you as an adult.” Obama is treating us like we’re too stupid to realize the difference between millions, billions, and trillions. He’s acting like we’re children, fooled by the chump change Obama is promising us in one hand while in the other he takes away a stack of our $100 bills. Or is he the one who’s too stupid to know the difference? And he’s running our country.

An Associated Press poll was released yesterday. It asked 1,000 American adults (from April 16 to April 20): “Generally speaking, would you say things in this country are heading in the right direction or in the wrong direction?” Incredibly, for the first time in a long time, more people said Right Direction (48%) than said Wrong Direction (44%).

Let’s look at just a few indicators:

1. When a financial crisis is caused primarily by a Federal Reserve policy of easy money and low interest rates, the Federal Reserve reduces interest rates to the lowest level they have ever been.
2. When federal lawmakers’ excessive zeal for ever higher levels of homeownership creates a housing bubble with unqualified buyers and unsustainable mortgage debt, federal lawmakers approve of new tax credits and mortgage bailouts to further promote homeownership.
3. When the American public is burdened with record levels of household debt, and Social Security and Medicare entitlement crises loom on the horizon, the federal government is passing budgets that add to the public debt more than double every preceding budget.
4. When irresponsible homeowners, banks, and corporations create financial disaster for prudent and responsible citizens, the federal government bails out the irresponsible homeowners, banks, and corporations with taxpayer dollars from the prudent and responsible citizens.
5. When medical care experiences constant inflation due to excessive reliance on insurance and government as third-party payers, the federal government proposes to increase its programs and make insurance comprehensive, mandatory, and universal.
6. When energy is increasingly expensive and unobtainable due to environmental restrictions, the federal government proposes to tax carbon emissions expressly to make energy even more expensive and subsidizes “alternative” energy with taxpayer dollars in a vain attempt to make it price competitive.
7. When those who fought alongside the Taliban in Afghanistan were captured (rather than shot) and incarcerated in an American prison on a Marine Corps base overseas, the federal government makes plans to close the prison and release the combatants in the United States, along with a welfare stipend.
8. When North Korea tests a missile launch to prove its capability to deliver warheads to Alaska, Hawaii, and possibly the West Coast of the United States, our President calls for unilateral nuclear disarmament and cuts the missile defense program.
9. When the three sectors of the economy with the greatest government involvement–finance (the Fed), medicine (Medicare and Medicaid), and education (public schools)–are the three sectors in greatest crisis, the government intends to substantially increase its involvement in these sectors and everywhere else rather than admit its mistakes and return power to the people.

The Country is definitely on the right track. But it is headed in precisely the wrong direction.

Link: http://georgereisman.com/blog/2009/04/green-jobs.html

This article makes fun of the whole idea that Obama’s energy/environmental policies will create millions of new “green” jobs. Along with Reisman’s main point that these jobs “would require the performance of virtually unlimited labor in order to accomplish virtually zero result", I would also like to add that green jobs necessarily replace private sector jobs.

In fact, a new study by King Juan Carlos University in Madrid concluded that each green job created in Spain cost that country 2.2 jobs in non-subsidized industry. That’s not a big surprise to anyone who knows that government investment crowds out private investment (even if government is just subsidizing) and that government is necessarily less efficient, as it uses political rather than market considerations to drive decisions. But it sounds like still plenty of people in this country (including you know who) remain unaware.

Link: http://townhall.com/columnists/LorieByrd/2009/04/21/media_struggle_to_understand_non-violent_non-smelly_protesters

I’ve read a lot of news articles and editorials over the past week about the Tax Day tea parties. This one was probably the best and most comprehensive …

Link: http://www.washingtonpost.com/wp-dyn/content/article/2009/04/20/AR2009042000641.html?hpid=topnews

Ah, President Obama finally got the message. All those protests on Tax Day actually got to him. He is hooking up the giant, ugly, obese federal government monstrosity to a liposuction machine and is going to suck out the fat and produce a lean, mean, efficient machine.

He has spoken about this often in the last few weeks, that every federal program will be looked at to cut wasteful spending. As the opening paragraph to the attached Washington Post article says:

President Obama plans to convene his Cabinet for the first time today, and he will order its members to identify a combined $100 million in budget cuts over the next 90 days, according to a senior administration official.

Hold on … wait a sec … that’s a misprint right? $100 million? Can’t be … is this a joke? Out of a $3.6 trillion federal budget (annually!), he’s asking (ordering! says the Post) his Cabinet to find $100 million, or 0.0028%, in cuts. That’s how much they spend every 15 minutes! And they have 90 days to find these cuts? And they don’t even have to each come up with $100 million, but only need a combined total (that’s asking for accountability, isn’t it?)?

This is like the fat man saying, “Okay, in the next 90 days I’m going to exercise … by walking three steps on day 90.” Or the alcoholic saying, “I’m going to stop drinking … for the next three seconds.” Or the smoker saying, “I’m going to cut back from my two packs a day … by smoking one less puff on February 29th.” It is a mockery. It is sneering at the whole idea of budget cuts. It is cheek.

Left and Wrong author: Ben Bernanke
Left and Wrong speech: 4 Questions, 4 Answers from Ben Bernanke

Ben Bernanke gave a speech today at Morehouse College about the financial crisis. Here are some excerpts with my comments.

On the first question, “How did we get here?” -

… In the past 10 to 15 years, the United States and some other industrial countries have been the recipients of a great deal of foreign saving. Indeed, the net inflow of foreign saving to the United States reached about 6% of national output in 2006, an amount equal to about $825 billion in today’s dollars.

Financial institutions reacted to the surplus of available funds by competing aggressively for borrowers, and credit to both households and businesses became relatively cheap and easy to obtain. One important consequence was a housing boom in the United States, a boom that was fueled in large part by a rapid expansion of mortgage lending. Unfortunately, much of this lending was poorly done, involving, for example, little or no down payment by the borrower or insufficient consideration by the lender of the borrower’s ability to make the monthly payments …

Bernanke’s comments about foreign capital inflows are a dodge. He is right that the amount of foreign saving was unprecedented. He is right to focus on the ample supply of money as a primary cause of the bubble economy. But he omits the Fed’s own culpability here: the Fed kept interest rates at abnormally low levels from 2002 to 2006 (between 2003 and 2004 the fed-funds rate was 1%), making “credit to both households and businesses became relatively cheap and easy to obtain.” Indeed, not only is the Fed responsible for domestic injections of cheap credit during the housing boom, but the Fed should have accommodated the cheap foreign credit by making domestic credit relatively dear. This would have more accurately reflected the American economy’s true savings and investment equilibrium. Yet Bernanke in his comments makes no mention of the Fed’s role in the housing bubble. Of course, Bernanke was not Chairman of the Fed at the time, so his personal share of the blame is rather small. But implicitly absolving the Fed of responsibility gives the Fed more leeway in its current actions and policy, so Bernanke’s ommissions here let the Fed get away with more power grabs and his own current policy of easy money.

On the housing boom, he is in lockstep with Obama in blaming lenders, not borrowers, for all of the trouble: “rapid expansion of mortgage lending” (what about the expansion of borrowing?); “much of this lending was poorly done” (what about the borrowers who falsified their income statements?); “insufficient consideration by the lender of the borrower’s ability to make the monthly payments” (the borrower knows best of that ability, shouldn’t they be responsible for such consideration?). Of course, this is a political ploy, to blame the smaller constituency and exonerate the larger. So much for the Fed’s supposed political independence.

On the question, “What is the Fed doing to address the situation?” -

… Lower interest rates can be used to stimulate private-sector borrowing and spending. By the spring of 2008, we had cut that interest rate from 5.25% to 2%. Since December, our policy interest rate has been essentially zero …

… More recently, the Federal Reserve has also initiated a lending program designed to free up the flow of credit to households and small businesses. Among the forms of credit on which the program is currently focused are auto loans, credit card loans, student loans, and loans guaranteed by the Small Business Administration …

… Restoring stability to the market for housing and home mortgages has been a particular area of concern. To address this problem, the Fed has (been) buying securities in the open market. The FOMC has approved purchases of well over $1 trillion this year of mortgage-related securities guaranteed by the government-sponsored mortgage companies, Fannie Mae and Freddie Mac. Buying mortgage-related securities has helped drive down the interest rates that consumers pay on mortgages. Lower mortgage rates are also helping some homeowners refinance their mortgages to reduce their monthly payments.

With all of these measures, what is the situation that the Fed is addressing? It is fighting the tightening of credit. But is that the problem? Did tight credit cause the housing boom or toxic assets or Wall Street zombies? No. Loose credit did. And the natural reaction of all the businesses and consumers in the economy is to tighten credit so as not to make the same mistake of risky loans again. Naturally there are some people who would rather still have easy credit. But pandering to the borrowers and homeowners of America rather than being neutral means that the Fed has learned absolutely nothing from recent history. How is this possible?

On the question, “Does the Fed’s aggressive response risk inflation down the road?” -

… Although inflation seems set to be low for a while, the time will come when the economy has begun to strengthen. At that point, the liquidity the Fed has put into the system could begin to pose an inflationary threat if no policy action were taken. However, we have a number of effective tools that will allow us to drain excess liquidity and begin to raise rates at the appropriate time, and we will certainly do so.

This spells DOOM. The Fed has massively increased the money supply in the last six months, and the monetary base has doubled. It is true that this has not led to price inflation yet. That is because the increase in the money supply has been absorbed by the economic contraction and, more importantly, by a sharp decrease in the velocity of money. As credit markets and consumers gain confidence, velocity will return to pre-recession levels and their will be a price increase commensurate with the increase in the supply of money. As the Fed makes a last ditch effort to raise interest rates to avert hyperinflation, any recovery will be quashed. This will result in staflation on a massive scale.

On the last question, “Why did the Fed and the Treasury act to prevent the bankruptcy of some major financial firms, such as AIG?” -

My strong preference is that any firm that cannot meet its obligations should bear the consequences of the marketplace. But in September, when the insurance conglomerate AIG faced pressures that threatened to force it imminently into bankruptcy, the strains in the global financial system were unprecedented and extreme. Large, complex financial institutions tend to be highly interconnected with other firms and markets, and AIG was more interconnected than most. For example, AIG had insured many billions of dollars of loans and securities held by banks around the world, and banks had extended more than $50 billion in credit to the company. AIG’s failure thus would have imposed large losses on an already shaky banking system. Insurance policyholders would have faced considerable uncertainty about the status of their policies; state and local governments, which had lent more than $10 billion to AIG, would have suffered losses; workers whose 401(k) plans had purchased $40 billion of insurance from AIG against the risk of loss would have seen that insurance disappear.

But much more important, the disorderly failure of AIG would have put at risk the entire global financial system. Conceivably, its failure could have triggered a 1930s-style global financial and economic meltdown. Accordingly, with the full support of the Treasury, the Federal Reserve made a loan to AIG to prevent its failure. Senior management was replaced, and shareholders lost almost all of their investments. However, because the firm avoided a declaration of bankruptcy, creditors of AIG were protected. Preventing the failure of AIG was the best of the bad options available, but it nevertheless involved substantial costs, including financial risks to the taxpayer. The American people also quite correctly see as unfair that AIG was saved from bankruptcy because of the dangers to the system that its failure would have posed, even as many other companies, including non-financial and smaller financial firms, have not received the same treatment. Allowing AIG to at least partly avoid the discipline of the marketplace also sets a bad precedent.

This answer represents a complete lack of moral courage on the part of Bernanke and the rest of our governmental leaders. We are told that the biggest companies were not allowed to fail because “complex financial institutions tend to be highly interconnected with other firms and markets". So what? All of those connections were voluntary, even connections that are twice or three times removed. Investors or policyholders who were connected with AIG had a responsibility to make a prudent investment or insure with a reputable company. That they did not is their fault, not the fault of the taxpayer, who now bears the “financial risks". Obviously events like this blindsided many. But diffusing the pain to the innocent is not only unfair but lessens the nautral incentives to be transparent and inquisitive in one’s business dealings.

For his conclusion, Bernanke says, “I am fundamentally optimistic about our economy. Today’s economic conditions are difficult, but the foundations of our economy are strong, and we face no problems that cannot be overcome with insight, patience, and persistence.” Wait, wasn’t John McCain ridiculed for saying the same thing back in September?

Link: http://online.wsj.com/article/SB123933106888707793.html

On the heels of my article “Tax Cut Socialism", here is a good article about tax reform from the National Taxpayer Advocate, Nina Olson. Olson makes some good points, but the most insightful is her analysis of the politics of reform:

American taxpayers deserve a simpler and less burdensome tax system. But given the near universal sentiment that the tax code is in dire need of reform, why hasn’t it happened? In my view, it’s because elected officials believe the political risks of putting forward a proposal to vastly simplify the tax code outweigh the political benefits. Each tax break has a constituency, and constituencies that stand to lose benefits tend to organize quickly to protect their interests.

While reforming the tax code would certainly meet some resistance from these special interests, I am confident the majority of taxpayers would enthusiastically support tax simplification. It is this constituency that can and should prevail.

As I have noted before, this residual constituency is the constituency of the Republican Party. Beyond the conservative and liberal dichotomy, the biggest difference between the two major parties is that the Democratic Party is an amalgamation of targeted special interests, and the Republican Party is everyone who does not look for a special favor from the government, i.e. everyone else, i.e. normal people.

A logical consequence of this is that tax reform needs to be the single biggest issue in an election in order to galvanize support. If it is a minor issue, the special interests will vote on the issue and the residual interests will not.

Olson’s optimism about Obama’s “task force” on tax reform is naive. The only Democrat who was serious on tax reform in the last thirty years was Richard Gephardt. It is in liberalism’s and Democrats’ nature to exercise power and pick winners and losers to satisfy their megalomaniacal machinations.

Olson also brings out a list of “six core principles” for tax reform. While they are areeable, every one of them basically assumes the continued existence of progressive rates, itemized deductions, refundable credits, and the rest of the garbage. I say, no more half measures! Dick Armey and Steve Forbes were very close to achieving national consensus with a flat tax in the 1990s. Let us shoot for that and make whatever political compromises are necessary from there.

Here are my core principles for tax reform (I have only two):

1. It must be a consumption tax. The current personal income tax taxes work. I do not think it is the business of the government to favor one activity over another, but if we must discourage something, it is better to discourage consumption than work. This can be done through a Value-Added Tax (VAT), National Sales Tax (NST), or even through an income tax (by excluding tax on interest, dividends, and capital gains). To see how an income tax can be made essentially the same as a VAT, see Joel Slemrod’s article “Deconstructing the Income Tax” in the American Economic Review (87.2).
2. It must treat everyone and all activity equally. This means no special provisions for anyone or anything. No deductions, no credits, no carveouts, no subsidies, no surtax, no rate structures. One rate that applies to everyone. That is equality. That is freedom.

(Revolutionary drumbeat in background)
We want tax reform! We want tax reform!

In the 1890s, a Russian researcher studying the physiology of the digestion of dogs made an interesting discovery. As expected, dogs would salivate at the sight and smell of meat. But if the researcher team rang a bell before each meal, the dogs would also salivate when the bell rang, even if there was no food around. The association of the sound of the bell and food in the dogs’ minds generated a physiological response. The researcher called this a conditional reflex. He went on to win the Nobel Prize in Medicine in 1904.

Most everyone knows the story of Pavlov’s dogs. What is amazing is that a century later educated people are duped in exactly the same way, drooling over what they have been conditioned to hear is an indication of what their gut desires. Even if what they are served would make them retch after ingestion, they salivate like trained pups at the sound of bells. Conservatives, when they hear the words “tax cuts", are just such creatures.

During the presidential campaign, the genius of selling candidate Obama was in the packaging. Almost every initiative involved some use of a refundable tax credit, and his campaign, along with the docile media, referred to these as tax cuts. They were actually tax expenditures: government spending imbedded in the tax code. This left conservative and moderate voters mystified. If Obama has so many tax cuts, how could he be the liberal that the right portrays him as? While some conservative leaders rightly called the Obama policies “welfare” and “spending", the message was confused and garbled at best.

During the debate over the American Recovery and Reinvestment Act of 2009 (the “stimulus” package) in February, Republican lawmakers repeatedly demanded that “tax cuts” comprise a greater share of the spending. Yet real tax cuts were never considered. The entire total of the almost $300 billion of “tax cuts” in the stimulus package were actually tax expenditures (for details on the tax changes, see this CCH summary). None of these provisions were real tax cuts. None of these provisions helped people keep more of what they earned. All were government spending in disguise.

On April 3, Congress passed President Obama’s 2010 budget (the House and Senate versions must still be reconciled). Not only does it increase federal spending to levels not seen since the Second World War, but it also increases tax expenditures by attempting to make permanent the tax credits passed in the stimulus package.

Imagine two economies. Economy A taxes the top 20% of earners, takes the $100 billion in receipts, and spends it all on income security programs that give $5,000 each to the people with the lowest 40% of annual income. Economy B also taxes the top 20% of earners, but gives the bottom 40% of earners a $5,000 refundable tax credit, such that no net money is collected and none is available for any government programs. What is the difference between Economy A and Economy B? Essentially, nothing. Economy A has a government bureaucracy to manage the income security program, while B just has a bigger internal revenue bureaucracy to manage the refundable tax credits. But everyone ends up with the same amount of money in the end.

Economy A is Welfare Socialism. Economy B is Tax Cut Socialism. There is essentially no difference.

Now imagine that Economy A wants to stimulate its economy through fiscal policy. The income security program is unpopular, it being a welfare program. So the leader of its government says, “I propose a tax cut!” He introduces a $1,000 refundable tax credit to be given to the bottom 40% of earners. Is this any different from increasing spending on the income security program by 20%? No. Will it have any less of a negative impact on work incentives? No.

The conditional reflex conservatives have for tax expenditures is somewhat self-imposed. In 1995, as part of the Contract with America, the Republican Congress passed a $500 per child tax credit, and called it “tax relief". Despite the fact that it targeted families, a natural Republican constituency, would Republicans have supported it if, instead of subtracting the $500 from one’s tax liability on Form 1040, the $500 was distributed by a government agency? Probably not, since that sounds a lot like a welfare program. But if the tax credit is refundable (the child tax credit is actually partially refundable), it is basically the same thing. Not only is the child tax credit an unworthy conservative policy goal, it is actually very close to the kind of income redistribution and social engineering that conservatives despise. Still skeptical? In his 2010 budget, Obama calls for an expansion of the child tax credit.

Conservatives reflexively think that tax cuts are good and government spending is bad because the former shrinks the federal (or state, or local) budget while the latter expands it. But as this example illustrates, it is not the amount of money that is collected by the revenue agency and given to spending agencies that matters. The negative impact of government should not be gauged by the total revenue or spending but by the total amount of interference with natural liberty and incentives, be it through tax policy or spending programs.

Conservatives also think that, if we must influence people’s behavior or assist a segment of society, tax policy is favorable to government bureaucracies because it is more efficient. In some cases this is true. But in other cases, such as the fictitious income security program above, bureaucracies serve the purpose (albeit very inefficiently) that conservatives often laud private charities for: they provide attention to individual cases and inhibit fraud and abuse. The earned income tax credit (EITC), an incentivized income security tax policy, has more estimated fraud than any government program because it is self-reported and there is no oversight.

Tax deductions and credits are government spending in disguise. Similarly, the government also hides some spending by having the spending program raise its own revenue. Examples include Medicare benficiary premiums, user fees at National Parks, and off-budget federal programs. Some programs raise enough revenue within to “pay for themselves", resulting in no net increase in spending. But these programs increase the size of government and interfere with a free economy! Certainly for some programs this is actually better and more efficient than pulling general revenues from the taxpayer; the closer the user of the service to the payer, the better. But like tax expenditures they are a hidden cost of government.

So what tax “cuts” should free market advocates cheer, and what tax “cuts” are government spending in disguise? Any tax cut that results in a greater amount of money kept by the taxpayer (in comparison to the existing policy) when the taxpayer increases the activity that is taxed is a veritable tax cut. Generally, this only includes reductions in tax rates. All other tax changes should be suspect. Similarly, when tax deductions, credits, and loopholes are eliminated, conservatives should not bemoan these changes as tax increases; rather, they are spending decreases, and should be celebrated as such.

How big are tax expenditures? In President Bush’s fiscal year 2009 federal budget, there were an estimated $948 billion in tax expenditures, respresenting 6.6% of GDP. These are detailed in the Analytical Perspectives chapter of the president’s budget. Yet this was prior to the passage of the American Recovery and Reinvestment Act of 2009 (the “stimulus") in February, with its myriad of new tax expenditures as explained above. What are the updated figures from the fiscal year 2010 budget, just released by the Obama White House? We don’t know. For the first time, the Tax Expenditures section of the President’s budget was not included. President Obama has got something to hide.

Many Obama cheerleaders make note of the fact that while Obama increases spending in his budget, federal spending only goes up from 20% of GDP under George W. Bush to 23% in the Obama years of 2010-2014 (see my post Upside Down Equality). But if we were to include tax expenditures, not only would total federal government spending be higher (by 6.6% in 2009, prior to the stimulus package), but it would be even higher still with Obama’s new tax credits. Going back to our example, without tax expenditures economy B would be able to claim that government expenditures are 0% of GDP. Yet would the top 20% of earners, who are all taxed an average of $10,000 a year, say that the size of government is zero? Tax expenditures hide the size of government. Given the fact that so much of Obama’s expensive agenda uses the tax code, his politics is cynically dishonest and deliberately opaque.

Tax cuts are political red meat for conservatives and those who believe in economic freedom. But we must not judge a book by its cover or a policy by its label. Recently conservatives and Republicans who have been conditioned to slobber approvingly at the talk of tax cuts have been slobbering over crap. Pavlov’s dogs eventually got wise to the fact that the sound of the bell often meant that Pavlov was playing a trick on them. Let’s hope that those who truly desire limited government soon get wise to Obama’s tricks, and resist salivating before seeing the goods.

Link: http://townhall.com/Columnists/MichaelMedved/2009/04/08/the_dangers_of_leveling_-_at_home_and_abroad

This article continues the same line of thinking expressed by Charles Krauthammer last week (see my blog post KRAUTHAMMER: Obama’s Ultimate Agenda). However, it widens the scope to include the progressives global redistributionist agenda. That is, not just redistributing from the rich to the poor in America; but also redistributing from all of America (and other prosperous countries) to the poor and mismanaged economies in the rest of the world.

Link: http://www.washingtontimes.com/news/2009/apr/07/irs-heads-i-win-tails-you-lose/

Imagine you have two taxpayers. The first taxpayer invests $100,000 in a stock or mutual fund in 2007, sells it in 2008 for $150,000, buys a similar stock or mutual fund for the same $150,000 right after the sale, and then sells that second stock or mutual fund in 2009 for $100,000. Basically, he breaks even. The second taxpayer stuffs his $100,000 in a non-interest-bearing mattress. He also breaks even (in his own way).

Now what would you say if I told you that while the second taxpayer doesn’t pay any taxes on his “investment” in 2008 and 2009 (why should he?), the first taxpayer pays $10,000 in extra income taxes in 2008 … and gets a reduction of $600 a year from his taxes each year for the next 17 years, such reductions in total not to exceed the amount of $10,000 he originally paid. Does it sound like the government’s getting a long-term no-interest loan from taxpayer 1? Yes they are! And this is exactly how the tax system works. It is a travesty.

After the stock market plunge in the last six months, there are many many people who find themselves in this situation. Many people saved their money in mutual funds, got taxed when distributions (dividends) from these funds were distributed and reinvested, and now, after the stock market crashed and they want to (or need to) sell their investments, they are limited to $3,000 in capital losses per year.

Richard Rahn’s is good to bring up this terrible injustice in the linked article.

When you compare this to how the government treats investments in real estate (NO taxes on capital gains from the sale of owner-occupied homes; tax deduction of interest on loans to buy property; and bailouts for people who lost money in real estate), it is no wonder why this country is in such a mess. The government is not a fair dealer in anything it does. It’s a wonder people trust it to do anything, let alone all the things the current administration wants it to get into now.

Link: http://townhall.com/columnists/GeorgeWill/2009/04/05/car_designer_in_chief

A good column by George Will on the auto bailout. Actually, I like the latter half of the article better, when he discusses the plight of hybrid vehicles. I’ve never been too happy with the exalted status of the electric (or hybrid) car. What irks me is the self-righteousness of people who drive them, when what they should have is something akin to embarrassment. They rely on taxpayer money for their transportation like some people rely on food stamps for nourishment. If they can’t pay for their cars without government help, that’s bad enough. But to drive around all proud of the fact is a little absurd and a tad offensive.

Link: http://online.wsj.com/article/SB123871911466984927.html

Boskin gives a nice accounting of how much the budget deficit and the national debt grow under Obama’s policies as compared to doing nothing. Obama’s spin on the deficit and the debt just got unwound. This is a good follow-up to my post, Obama, You Did Not Inherit a Trillion-dollar Deficit.

Link: http://www.washingtonpost.com/wp-dyn/content/article/2009/04/02/AR2009040203287.html?hpid=opinionsbox1

Krauthammer argues here that Obama’s goals are about “fairness” and distributional issues, rather than about industrial socialism. I have argued this for a long time (see the intro to my JED ratings) with two central themes: (1) economic issues can be split between those intended to regulate markets and those intended to distribute income and wealth; and (2) in the 21st century, believers in capitalism are winning the argument against regulation but losing it against redistribution.

The first theme is definitional and still holds. The second one looks kind of shaky. The financial crisis and the ensuing call for more regulations seemed to disprove it, as faith in the productive and allocative efficiency of capitalism was called into question. However, I think this is a temporary, political setback.

Certainly there are still many on the left who want to regulate and government-micro-manage the economy, and the mainstream media has been successful in painting the financial crisis (but not the auto-bailout) as a failure of capitalism that demands a government response. But as Krauthammer points out, for them this is a diversion, and it is a long-term loser. They see the short-term political gain in blaming free-markets, but most educated Democrats know that the government can at best play the watchdog, not the sleigh-driver. Their real ambition is to push their warped notion of fairness and at the end of the day distribute the bounty that capitalism brings. Since that is a moral argument as opposed to an efficiency one, it is not easily rebuked. While they may yield to proven capitalist methods in how goods are produced, any notion of “fairness” trumps everything, even efficiency. Obama’s reasoning for capital gains tax hikes, despite revenue and efficiency losses, is a perfect example of this.

The risk for conservatives and libertarians is that they will continue to fight for free market principles by only claiming the high ground on efficiency, or in claiming that efficiency is more important than morality or fairness. This works on the regulatory side of economic policy, and the knee-jerk logic is to extend this to the distributional side. You can witness this when conservatives complain that higher taxes on high earners will harm economic growth, or that single-payer health care causes a brain drain, or that we need to bring competition to secondary education. All of these arguments are true. But until conservatives not only add on but lead with moral arguments, such as owning your own problems, or owning what you earn, or personal freedom and responsibility, will they win the victories against redistribution that are rightfully theirs.

Republicans in the House of Representatives have put forth a federal government budget alternative that is not only preferable to the Democrats’, but also inspiring. It does not defer to the recent electoral advantage of Democrats by offering a paler, saccharine version of the New New Deal that progressives are attempting to muscle through Congress. Rather, it rightly senses the overreach of the left that is under way and boldly sets forth a sharply divergent course that is based firmly on conservative principles but still appears much closer to public sentiment than liberal alternative.

For a decent summary of the House Republican budget, see House Budget Committee Ranking Member Rep. Paul Ryan’s statement in today’s Wall Street Journal.

The most illuminating part of Rep. Ryan’s message is the accompanying graph, reproduced here. The spike in the middle is the current fiscal year’s (2009) budget, with TARP, the Obama stimulus package, and the Democratic spending reconciliation bill causing federal spending to reach close to 30% of GDP. That’s the starting point. As one can see, the Democrats’ budget never returns to the spending levels of the last thirty years. Their failure to reign in entitlements (and the creation of new ones) produces not only increases in spending as a percentage of the overall economy, but an accelerating trend of such increases such that by 2060 or so more than half of the economy is federal spending. This actually understates the problem: the graph does not include state and local government spending (it represents only federal government spending), and does not include tax expenditures, which are a large hidden piece of the Obama budget.

The Republican alternative, as one can see, returns spending to historical levels within the next few years and incorporates entitlement savings that keep spending at these levels for generations to come.

Looking at the specific budget items that Rep. Ryan outlines, we see solid fiscal conservatism, although with some tendency to acquiesce to redistributionism. Let’s look at each of them.

Deficits/Debt. The Republican budget achieves lower deficits than the Democratic plan in every year, and by 2019 yields half the deficit proposed by the president. By doing so, we control government debt: Under our plan, debt held by the public is $3.6 trillion less during the budget period.

Is this any surprise? With all the talk about the profligacy of Republican budgets during the Bush years, the House Democratic budgets produced as an alternative had more spending than Bush’s budget every single year. Democrats are simply more fiscally irresponsible than Republicans.

Spending. Our budget gives priority to national defense and veterans’ health care. We freeze all other discretionary spending for five years, allowing it to grow modestly after that. We also place all spending under a statutory spending cap backed up by tough budget enforcement.

Remember in the campaign when McCain said he would take a sword to the budget and Obama said he’d take a scalpel? How’s that scalpel working? The approach given here appropriately funds the fundamental function of the federal government (defense) while keeping all other programs at current levels. This leaves it to the appropriations process and executive branch good management to do the scalpel work, while generally keeping the size of the federal government the same.

Energy. Our budget lays a firm foundation to position the U.S. to meet three important strategic energy goals: reducing U.S. dependence on foreign oil, deploying more clean and renewable energy sources free of greenhouse gas, and supporting economic growth. We do these things by rejecting the president’s cap-and-trade scheme, by opening exploration on our nation’s oil and gas fields, and by investing the proceeds in a new clean energy trust fund, infrastructure and further deficit reduction.

Although I think that conservative objections to cap-and-trade are overblown, it is nevertheless a bad policy that unnecessarily burdens the economy in pursuit of a quixotic goal. Simply permitting domestic industry to explore and develop new sources of oil and gas will not only solve energy self-sufficiency and lower energy costs, but also produce federal leasing revenue. I like the idea of a “clean energy trust fund” as opposed to an “alternative” energy fund; it recognizes that alternative energy has externalities too. Ryan does not mention nuclear power–the government need not actively promote it but should remove current regulatory impediments.

Entitlements. Our budget also takes steps toward fulfilling the mission of health and retirement security, in part by making these programs fiscally sustainable. The budget moves toward making quality health care affordable and accessible to all Americans by strengthening the relationship between patients and their doctors, not the dictates of government bureaucrats. We preserve the existing Medicare program for all those 55 or older; and then, to make the program sustainable and dependable, those 54 and younger will enter a Medicare program reformed to work like the health plan members of Congress and federal employees now enjoy. Starting in 2021, seniors would receive a premium support payment equal to 100% of the Medicare benefit on average. This would be income related, so low-income seniors receive extra support, and high-income seniors receive support relative to their incomes – along the same lines as the president’s Medicare Part D proposal.

We strengthen the Medicaid safety net by converting the federal share of Medicaid payments into an allotment tailored for each state’s low-income population. This will enhance state flexibility and sensitivity to spending growth.

In one of the most valued government programs – Social Security – our budget begins to develop a bipartisan solution to the program’s pending bankruptcy by incorporating some of the reforms advocated by the president’s budget director. Specifically, we provide for a trigger that would make small adjustments in the benefits for higher-income beneficiaries if the Social Security Administration determines the Social Security Trust Fund cannot meet its obligations. This is a modest but serious proposal which would not affect those in or near retirement, but is aimed at helping develop a consensus, across party lines, toward saving this important retirement program. We also assure that benefits for lower-income recipients are large enough to keep them out of poverty.

The Medicare proposal sounds dangerously like a new entitlement and I would need to look at the details before commenting further. While I appreciate any efforts to reform entitlements, I don’t approve of the new tack on Social Security. Means-testing has somehow become more in vogue with Republicans in recent years, but it is still a form of discrimination and redistribution. I would prefer that more aggressive steps be taken with respect to the retirement age and to move towards private accounts. I suppose they are keeping mum on the latter due to the current weakness of equity markets, but I hope that it will resurface as an idea in future years.

Tax Reform. Our budget does not raise taxes, and makes permanent the 2001 and 2003 tax laws. In fact, we cut taxes and reform the tax system. Individuals can choose to pay their federal taxes under the existing code, or move to a highly simplified system that fits on a post card, with few deductions and two rates. Specifically, couples pay 10% on their first $100,000 in income (singles on $50,000) and 25% above that. Capital gains and dividends are taxed at 15%, and the death tax is repealed. The proposal includes generous standard and personal exemptions such that a family of four earning $39,000 would not pay tax on that amount. In an effort to revive peoples’ lost savings, and to create an incentive for risk-taking and investment, the budget repeals the capital gains tax through 2010 for all taxpayers.

On the business side, the budget permanently cuts the uncompetitive corporate income tax rate – currently the second highest in the industrialized world – to 25%. This puts American companies in a better position to lead in the global economy, promotes jobs here at home, and strengthens worker paychecks.

This is my favorite part of the Republican budget. While the income tax cut is still far from a flat tax (and no word on a consumption tax), lowering the top rate again to 25% is a bold policy proposal that makes no apologies for the Bush tax cuts (which were a resounding success) and would spark an economic surge that would bring a quick end to the current downturn. A permanent 15% capital gains tax rate is also welcome. Finally, the cut in the corporate tax rate is perhaps the single most effective tool for lifting us out of recession and keeping the American economy competitive. I also like that it is congruent with the top personal income tax rate, thus playing no favorites between different business structures.

Overall, this budget not only escapes the heavy fiscal burden the Democrats are attempting to place on the American economy; it also moves us in a positive direction away from the big-government budgets that have hobbled conservatism and the Republican Party in recent years.