Obama’s Tax Deal


Democrats are in revolt over Obama cutting a deal on the Bush Tax Cuts.

First let’s head off the notion of that Bush’s Tax Cuts were stimulative. They weren’t. In order for tax cuts to be stimulative, they have to be permanent, which Bush never intended. The Tax cuts were designed to make it look like Bush and Congress were doing something, while in reality, they were just kicking the can to the next poor bastard in office, Obama in this case. The can in this case being the Deficit and long-term tax policy.

There are really two kinds of people, when it comes to taxes. Type I: Those that pay attention to their income and tax rates and try to maximize income and minimize taxes. These people care about deductions, employ accountants and financial advisers, etc. These people typically employ the use of trusts to by-pass the death tax. These people watch the Market and regularly change their asset allocations on their 401k or personal IRAs. From my experience these are mainly independents and Republicans, with some of the Ultra Wealthy Democrats thrown in (Kennedys, Kerry, etc)

Then there are those that don’t think about taxes until April, Type II. They only think about getting that refund check, and care little about taxes in general. They typically don’t save. If they do have a 401k, I doubt that they thought much about it since they initially started it. Since they don’t save, they rarely have much to leave their kids. These are by large Democrats or good little Keynesians that continuously consume and rarely save.

Bush’s tax cuts were mainly stimulative for the latter category. Since they don’t pay much attention to taxes or government spending in general, they see a short-term lowering of taxes as an excuse to spend that extra money on frivolous stuff. That leads to a greater GDP via consumption but it’s not a sustainable growth. Much like the Housing Bubble, it must come to an end, hence the sunset provision in the Bush Tax deal.

When taxes do go back to their previous rates, Type IIs, don’t have that extra cash to spend, but no doubt they still have some extra debt that they might not have had if the tax “cuts” hadn’t been implemented. Why? Because for the last 8 years they have been thinking the tax cuts were, for their purposes, permanent. They didn’t account for the long-term, because they never do. So TVs, cars, other durable goods, going out to eat, movie theaters, etc will all suffer from the lack of type II consumer spending. That is what the real danger of not extending the tax cuts. It will cause a double dip, but the negative growth will be relatively small, I think.

Type I’s knew about all this. They knew that the tax rates were going to go back up. They pulled back investment and spending 2 years ago, after the financial shock of 2008. It makes perfect sense if you think about it. The banks over extend themselves. You as a big company, see this and then see the massive amount of government intervention that goes along with it. You see the new regulations coming down the pipeline and start to wonder what’s going to happen. In short you pull back on investment, the real cause of this recession and do a wait and see approach. As Bush’s tax “cuts” sunset date comes closer, you might do a little early bird spending, to take advantage of the cheaper tax rates, giving the illusion of growth, ala Cash for Clunkers. Overall your hesitant. You don’t know what the Government is going to do, especially with Obama waffling on everything the last year.

This lays out a second case for extending the tax cuts. To give some certainty to companies again. It’s not just big multinationals that are hesitant, but also smaller companies as well.

This post is already too long for my liking but to end I just want to point out that, only through investment can we get sustained economic growth. Long term performance is based on saving not spending. We see the devastation in our economy based on the insane notion that spending is what makes an economy grow. It’s a myth that all Keynesian, including Bush (Yes, we was a Keynesian) employ.

The only way for tax cuts to cause a sustainable growth is if they are permanent, making Type II’s assumptions correct. It also makes Type Is continue their investment, instead of opting for a wait and see approach as sunset provisions start to come into effect. In short Keynesian’s get it all wrong, and Austrians don’t get enough credit.

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  1. yttik
    December 9, 2010 at 18:41

    I think another problem is that these tax cuts are so small they’ll be eaten up with increased costs of living, so people won’t even feel them. Also people don’t trust them to continue, and there are so many other shoes yet to fall, Obamacare, increases in state payroll taxes to cover unemployment extensions, etc, etc. So the certainty and feeling like you can plan ahead is not there.

    • December 22, 2010 at 10:00

      I’m sure they will be. But it will give at least a little bit more certainty than what otherwise would have been.
      It definitely won’t cause recovery, but it will stimulate a little bit early in 2011. When Obamacare provisions start to kick in, expect a second recession though.

  1. December 10, 2010 at 12:05

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