stimulus

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Choppy Waters?

The Conference Board loves the publicity it gets whenever it releases its Index of Leading Indicators. Today it entered the ranks of those trying to manage expectations downwards. It told us that the drop of 0.3% in the index during April portends choppy waters ahead. This was the first time the index had declined in almost a year. So, I agree. Something is not quite right. But then again we all knew this didn’t we?

One of the main components of the index is claims for unemployment assistance. They went in the wrong direction in the last few weeks before improving last week, and then again today – more on that in a moment. I have been arguing for a long time that the recovery is nowhere near the scope or size we need to bring the labor market back to satisfactory levels. In my opinion there has been a major policy failure in this regard. The emphasis was twofold: first to prevent disaster; second to nudge the economy back towards health. Both at the time, and in retrospect, this seems to have been a weak response. It has left us with a legacy of stuttering growth and a very elongated recovery time. Yes, history tells us to expect weak and awkward recoveries in the wake of a bank created crisis, but that should have led policy makers to be bold, not tepid. Meanwhile unemployment as expressed in all the associated measures of the labor market will continue to create a drag on activity. Today’s leading indicators report simply captures that drag in vivid detail.

Adding to the gloom this morning was the news that the Philadelphia Fed’s measure of industrial activity also slipped back. This index is designed to measure the extent of growth and any reading over zero is positive. The higher the number the better the news. In March this year the index stood at 43.4, the best reading since 1984. It has now sunk to 3.9. Clearly things have slowed down. There is still growth, but the margin for error from a policy perspective is very narrow.

While we are piling on the weak news we also heard today that sales of existing homes sank back again. They slipped to an annual rate of 5.05 million in April, which is a drop of 0.8%. While that decline is not enormous and could be explained by any number of weather related excuses, the fact that sales failed to increase is a sure sign that real estate is still mired in the doldrums. To make matters worse, home prices show no sign of stemming their slide: they are down about 5% since this time last year. At one point prices firmed slightly last year, but they have since resumed their decline. In the absence of a stronger general recovery, higher wages, and a healthier jobs market, I see no reason to assume that prices will not continue down.

Now for the good news. Back to those new claims for unemployment assistance. Today’s report showed a decline in claims to 409,000. This a much better improvement than most people expected, especially in view of the upward revision to last week’s total to 438,000. It has been very difficult to spot a trend in this data in recent weeks, claims had reached a low of 375,000 in February, but had shot back up to 478,000 in April. If ever there was choppiness, to use the Conference Board’s description, the claims data embodies it. The key point to make about the employment situation as that there is no rapid improvement developing. Nor is there any sign of help arriving. On the contrary, with Washington focused on all the wrong issues, and distracted by the spectacle of competing debt reduction plans, I cannot see a reason to be upbeat about the jobs market at all. No one cares. Perhaps they are all embarrassed by their failure to deal with it in 2009 and 2010. I would like to think so. But I have my doubts.

One last thing: if you ever want to disabuse yourself of the sensibility of the stock market, consider today’s reaction. Stock prices rose. Why? Because the market embraced the improvement in claims as being the relevant news of the day. All the rest? Too gloomy, and therefore ignored. No wonder stocks move all over the lot. It makes more sense to argue for higher stock prices on the basis of profits. Corporations are doing well. Cash flows to shareholders are strong. They ought to be: wages are lousy, and hiring weak, so all benefits of what growth there is flows asymmetrically to capital.

Yet the stock market reacted to better jobs news. Clearly the traders know that if all the gains go to capital, eventually their gravy train runs out of steam. Somewhere along the way workers need to get a piece of the action too. Without growth in worker incomes there is no growth in sales. It’s all about aggregate demand. So maybe our traders are all closet Keynesians. Maybe not. But at least they acknowledge something the politicians don’t seem to understand. Without demand this recovery will go nowhere.

And that’s where it seems headed.

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What The … Where are the Jobs?

Quick question: when does a series of “special circumstances” become the norm?

The reason I ask is that today we heard bad news on the unemployment front. And, frankly, I am tired of being told that the recent string of reversals in the labor market are all just a sequence of disconnected oddities that mean nothing.

Here’s what happened: new claims for unemployment assistance jumped 43,000 to 474,000. That is ridiculous. We are back where we were last summer. All the steady improvement has been surrendered. There is something rotten beneath the surface that needs attention. Now, not sometime soon.

For a few weeks now the claims figures have been backtracking from the improving trend that set in late last year. For a short while, back then, we appeared to be heading in the right direction with claims even falling below the magic 400,000 level many people think represents the line between a bad economy and a decent one. We haven’t regressed back to ‘well and truly rotten’ territory, but we obviously are stuck somewhere in the middle. We are not making progress.

The string of weak reports has engendered something akin to a yawn amongst the high and mighty of the media and policy making. They are all obsessed with the newer and more interesting – in their minds – issues of inflation and debt levels. Jobs are just not high on the agenda at the moment. My guess is that they will be come the next election, when voters will be able to express their dissatisfaction with being left on the outside yet again.

This week’s special excuse is that we just had spring break in New York State where teachers and other state workers all sign on for unemployment for a single week, plus temporary lay-offs in the auto industry. This, they say, explains the latest jump.

Let me see. In February we had eked out sufficient gains to get the weekly claims number down to 375,000. We have given up 100,000 since then. All of it due to quirks? I think not. And why can a spring break figure distort the seasonally adjusted figures? I thought that the entire purpose of making seasonal adjustments was to eliminate the oddities that come along every year. Last I looked we have a spring each year, so why isn’t the spike in New York being smoothed away?

Something seems wrong.

The four week average, which should provide us some immunization against quirky weeks, has now risen by 22,250, back to 431,250, and is the highest since November.

Things are clearly going the wrong way.

Meanwhile, today’s report from ADP, the big payroll processing company, show that the private sector added 179,000 jobs last month. That’s down from March’s 207,000. In rough terms the economy needs to add about 125,000 new jobs each month to keep up with population growth, so April’s figure is very slightly on the good side of that bare minimum. But there is no way to characterize the current labor market as particularly healthy. Far from it.

We will get a better read on things tomorrow when the national employment figures are released, but at this point I doubt we will be very happy with what we hear.

So why is this ongoing malaise not worthy of headlines?

Politics and attention deficit disorder.

Our messed up politics prevents us from keeping our eye squarely on the employment problem. The half-hearted efforts back in 2009 were all we could manage. They cost us dearly, not in dollar terms so much as in emotional terms. The administration believes its own narrative that it fought hard for what it thought it could get. The stimulus we ended up with was insufficient, but just about enough to stop a full blown depression setting in. After that everyone shifted their attention to health care reform and fixing the banks. The energy expended on core economic policy moved from a fiscal approach towards a monetary approach. So all the efforts last year came from the Fed. Its famous QE2 being the centerpiece of stimulus throughout 2010. The public’s disgruntlement then spilled over into an election that pushed a right wing ant-stimulus agenda to the fore. The Republicans successfully used the deficit to frighten voters into viewing austerity as sensible policy. The temporary payroll tax agreement,viewed by supporters of the administration as a victory, is the only stimulative effort in 2011, and as of now there is no credible thinking going on to increase support to the economy. On the contrary, everyone now seems to think we are in strong enough shape that we can apply the brakes to slow down inflation and rein in debt.

I am not one of those people.

The economy is too weak for us to be considering anything other than continued stimulus.

We are not even talking about the most important subjects: jobs and inequality. Instead we are being given silly arguments about how demand is not the problem. We have, we are told, not a magneto problem to use Keynes word, but a structural problem. The magneto is fine. It’s just in the wrong car. What we need to do, apparently, is to get better workers. The ones we have are useless. They don’t match the jobs we have. What we have is a bunch of out-of-date blue collar workers who want good wages. What we need is a bunch of service industry types willing to work for next to nothing.

The long boom in high end incomes during the last thirty years was accompanied by an equally long stagnation for the bottom ninety percent. The bifurcation was remarkable. I happen to think that this separation accounts for much of our trouble. The redistribution of wealth upwards has left the mass of households unable to crank up spending. The traditional policy tools are thus blunted. The marginal kick delivered by stimulative efforts was too low, not just because the total was laughably small with respect to the gap in demand, but was muted additionally by the fact that most households have no second gear to shift into. They are firmly stuck in first gear – survival from pay check to pay check. Adding a few dollars via a tax cut does nothing to make a substantive or meaningful change to that week to week, or month to month, lifestyle. To the extent we have a structural problem in our economy the causation isn’t flowing outwards from a skills mismatch, it is flowing out of our unequal distribution of wealth. Fix that, and the engine starts to run more smoothly and is more responsive to policy.

Besides, if there is a structural skills issue, who is to blame?

Oonce upon a time firms used to spend heavily on training. Those programs fell victim to the national obsession with quarterly profits and stock prices. The modern management focus on shareholder value recast the cost of worker training from being an addition to an asset – worker skills being a form of capital – to pure cost. It could then be cut as part of the drive for profit. Short term this is fine. Long term it is a disaster. Slowly the pool of appropriate workers dries up and skill shortages emerge. Making this worse is that the private sector, by getting out of the worker education business, assumed that the public sector would provide the supply of needed skills education. It didn’t. Why? Because the same ideology that drove the shareholder value revolution in management theory, also drove an anti-government spending program in the public sector. Spending on worker skill development shriveled across the board. Everyone imagined that everyone else was training the worker of the future. So everyone imagined they could free ride on top of everyone else’s spending. This is a version of the classic tragedy of the commons. The free market fails. The public sector by trying to accommodate itself to a free market ideology, also fails.

So when people like Richard Florida prattle on about how we don’t have an aggregate demand problem, but that we have a structural skills problem, I get really vexed. Where he sees workers with old skills and unfit for modern work, I see workers abandoned by business and government alike and left to fend for themselves if they need to acquire new skills.

To the extent we have structural unemployment – and I am very far from being convinced we do – I see it as the natural convergence of predictable market failure derived from faulty corporate theory and a right wing shift away from a social focus in government policy. In other words the neglect was at the top, not at the worker level.

Which is why it has been so easy for our elite to move on to other topics. They see unemployment as a deep and intractable issue that will take years to solve. They see global workforce shifts and throw their hands up in despair. They say we are faced with a long slow adjustment where all rich economies, not just ours, will have to reorient themselves to tough new competitive conditions in the labor markets. If workers want to make those high wages they will have to shift to new, less globally exposed, lines of work. Meanwhile, the story goes … tough. We should toughen up and take our medicine. All you unemployed are simply victims of a shift in the world’s economy. Thus there’s not much anyone can do to help.

If they point out historic examples of similar shifts I will scream.

You see, their argument is vapor. It is a mask drawn over inequality.

Let me give you some history.

Great Britain, when it was leading the world into the industrial era suffered from skill shortages and was, simultaneously, a high wage economy. Those high wages, in the face of what was fast becoming a more interconnected economy, could have slowed growth down. They didn’t. Why? Partly because those high wages were in the context of rapidly rising productivity. High wages drove employers to substitute capital for labor. Yet unemployment stayed low because as workers were replaced by machines they were absorbed by the expansion in the economy caused by rising demand. The source of that demand being all those higher wages. This was a classic virtuous cycle. Wages were high yet did no harm. On the contrary, they fed demand and hence drove the need for more workers.

Why are we not seeing that here?

Our wages are high relative to China and other emerging economies, and our productivity, along with a weak currency, should help offset that. Indeed just today we learned that productivity rose 1.6% in the first quarter. But we also learned that real wages fell. The implication is that business is channeling the gains from productivity into shareholder profit and not into wages. Thus we have no virtuous cycle. Wages are left to stagnate. That limits the extent to which demand can rise. That, in turn, pushes the point at which business is forced to hire off into the future. All that productivity gain is coming from extended work weeks, not from capital substitution. This despite business having piles of spare cash to invest in capital if it wanted to. It doesn’t because its expectation is for weak sales.

We are stuck in a negative feedback loop, instead of the positive one I described that worked in Britain during the industrial revolution.

And, in my opinion, to jump from a negative to a positive loop we need to redistribute wealth so that the mass of households can shift gears.

That’s the discussion we should be having.

But we’re not. So our jobs market languishes.

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Fed Failure

Paul Krugman is apoplectic. He is right to be. He even has this nifty ‘cloud’ of the words used in Bernanke’s speech and press conference to back up his assertion that the Fed has taken its eye off the ball. I would give him credit for that cloud had my friend Stephan not brought a similar one to my attention two weeks ago. So kudos to Stephan: you beat Krugman to the punch.

But what of that Bernanke speech? Why is Krugman right to be mad?

Simple: the Fed has two goals in its charter. One is to keep prices within the bounds of reason. This means bottle up inflation when it seems like getting out of hand. Or get rid of it when it is already out of hand in the manner of Paul Volcker’s famous attack that precipitated the 1980 recession. Volcker’s method may have been draconian, but it set the stage for thirty years of quiescence.

The second goal is to foster full employment. Whatever that is.

So. How is the Fed doing with respect to its goals?

Not very well. Badly in fact.

This is the setting within which Bernanke made his views known at his press conference this week: we have around 14 million people unemployed, and millions more underemployed – working part time when they would prefer to be full time. Plus we have core inflation below the Fed’s target range.

So the Fed is failing on both its goals. Having inflation too low is just as bad, in many ways worse, than having it too high. And we all know the economy is a very long way from full employment.

Given this failure, a reasonable guess would suggest plenty of discussion about further efforts to boost the economy, encourage hiring, and even push up inflation.

This would be wrong. Very wrong.

The entire preamble by Bernanke went in that direction, getting our hopes up that he was going to prolong the Fed’s easy money, and perhaps, launch QE3. Then, suddenly and out of nowhere, he vectored off into how urgent it was to watch inflation and begin the exit from easy money. Heck, the only thing he didn’t do was raise rates.

This was, and is, absurd.

The economy is still mired in no-man’s land. Neither strong enough to encourage investment and expansion by business, nor weak enough to stop the hawks from whining about their fears of inflation. We are truly stuck. Because of this, each side in the debate is able to cancel the other out and our policy makers stumble about trying to appease the more vociferous. That would be the hawks. Apparently we need a cataclysm to persuade the Fed to take a look at its charter and to follow through with expansionary policy. Barring such a disaster they are content to appear ‘serious’ by running on about the woes of inflation, and the horrible things the bond markets will do if we don’t act like grown-ups. Which in this case means being stupid and pretending inflation is high enough to cause disruption to our supply of credit. Even if it’s not.

My father had useful words for this kind of nonsense. Unfortunately I cannot use them in public.

One of them describes Bernanke really well.

I have said this before, but it bears repeating: for some reason that is not at all supported by facts known to me, our leadership – in both business and politics – has decided that it is time to move on from solving the problems caused by the crisis, and look to the future. They have begun to squabble aboutsolve longer term problems, whilst leaving the shorter term ones to resolve themselves. They have abandoned the unemployed and have become obsessed over something that has no manifestation here on earth, but which exerts an incredible hold over their imaginations.

Some of them never did care. They are the ideologically driven ones who despise all aspects of government intervention in the economy. They think markets fix themselves, and that we should allow the disease to run its natural course. Even if we have discovered the cure. Next time one of them is sick we should remind them that the human body is also fairly adept at fixing itself, so they should grin and bear all the consequences of fever, and so on. After all, why truncate the full cycle of nature by resorting to man-made palliatives? It’s healthier to avoid intervention. So they say.

That is, of course, hogwash.

It’s actually mean spirited and anti-social.

But what of those who are not motivated by anti-social ideology? They know we have the cure. Why not use it?

Fear. They don’t want to be seen as frivolous, or non-serious. And right now ‘serious people’ know – they just know and don’t ask how – that there are awful consequences lurking around the corner waiting to undermine us. These are the monsters in the closet we all used to fear as children. They go bump in the night. The bump is imagined to be so big that we need to abandon our weak and poor and cave into to the bankers and traders who are sending a very strong message that we need to rein in spending and curb imminent inflation. Or at least the fear crazed think that’s the message.

In truth, the message is so weak, if it exists at all, that it scarcely registers. Standard and Poor’s made some noise about the debt, but it had no effect on interest rates. The markets yawned. If there are fears of inflation out there in the markets they are very well hidden. Besides, the biggest mover of inflation, the thing that can set off the dreaded inflationary spiral we all fear most is wage costs. Not just absolute wages, but wage costs. This morning we heard that the wage cost index rose – roll the drums – 0.6% in the first quarter. Of that paltry number over half came in the form of rising health care costs. Less than half came from actual wages going up. Wages are going nowhere. Hence inflation is going nowhere. Yes, there are concerns over raw materials, food, and oil. But those either form a small part of the overall cost base, or are highly volatile and will ebb once we experience a good harvest or quiet in the Middle East. Those may be big “ifs”, but they are not so permanent as to justify abandoning our poor, weak, or unemployed. Besides, as I have said before, a little burst of inflation, say at about 4%, would do us all good. It would lower real interest rates and ameliorate debt burdens. Two things we need right now. But, no, that’s not being serious.

So the fear factor, the need to appear serious, is now so pervasive that even Bernanke cannot resist the hawks. He is being bullied by superstition and those funny sounds in his closet. He is seeing ghosts and hiding under his pillow.

Too bad. There are a whole lot of real grown-ups who need his help.

Giving the Fed its deserved failing grade is scant compensation for those folks. They need help. They won’t get it. The Fed is acting grown-up. Which in our topsy-turvy world is actually much like a frightened child.

Don’t say “BOO” too loudly, the Fed may raise interest rates.

Fed failure indeed.

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The Economy Slows Down

As we all thought, our economic growth slowed dramatically in the first quarter this year. The headline figure you will be reading about is 1.8% growth, down from the fourth quarter of last year when growth was 3.1%. What you will not be reading is the sneaky rounding up involved to get us to that 1.8%! To two decimal places growth was 1.75%. So being more accurate makes things appear a little worse. No big deal, but indicative of the efforts going in to make the headline look as good as possible.

Here’s the breakdown by major category:

  • Consumption 4Q 2010 .. +2.79%
  • Consumption 1Q 2011 .. +1.91%
  • Private Investment 4Q 2010 .. -2.61%
  • Private Investment 1Q 2011 .. +1.01%
  • Net Trade 4Q 2010 .. +3.27%
  • Net Trade 1Q 2011 .. -0.08%
  • Government Spending 4Q 2010 -0.34%
  • Government Spending 1Q 2011 -1.09%

These figures are what is called the “advanced” report and so will be subject to quite a bit of revision. Even so, it seems that the economy cooled off which could be cause for concern. Or perhaps not as long as the declines can be explained away as oddities unlikely to be repeated. The problem I have with these explanations based on “quirks” is that the economy is replete with such things. There are usually one or two odd numbers that appear to have “one-off” explanations. So there is always an element of forth masking the underlying trend. This is why forecasting the economy is more divination than science – despite all the high paid analysts in the media and at the investment banks.

With that in mind, let’s look at the data.

Obviously the key is personal consumption. It amounts to such a large percentage of the whole that any shift there can make the entire economy move. As you can see consumption faded strongly in the first quarter. One reason could be that bad weather kept people away from stores and that the decline will be offset this quarter as better weather sets in. Frankly there isn’t a great deal of more recent evidence to support that view. Retail sales have been decent, but not great at all. A different view is simply that households have pulled back a bit because unemployment has not improved significantly, home prices are still falling, wages are flat, and debts still need paying off. The accumulation of these factors outweighed the need to spend. hence the decline. I think we will experience this kind of stop-start activity for as long as consumer confidence is depressed. Even though April’s confidence figures showed a slight jump up, they are still not suggestive of strong spending.

The big shift from negative to positive in private investment could be interpreted as businesses preparing for expansion. That would be wrong. Recent durable goods numbers do suggest such a trend. But the first quarter investment turnaround was driven entirely by inventories. Other forms of investment hardly moved at all. As I have said before inventory accumulation is a highly ambiguous number. Sometimes a run up in stocks of goods is a sign that retailers expect high sales and thus are gearing up. Other times an accumulation represents a rise in unsold goods because consumption has fallen away and retailers are stuck with an excess. Which is it now? Looking at the hints I find it hard to tell. A rise in imports along with a rise in inventories is usually a sign that retailers are getting ready for higher sales. That’s a positive sign. I think we should take this first quarter accumulation in this light since it offsets the overly large run down in inventories at the end of last year.

Unfortunately the more telling aspect of the investment numbers are much the same as they have been for a while: weak business investment, and very weak residential investment. Businesses are showing some signs of adding to their capital stocks, but as long as the economy has as much excess capacity as it does, there is no real need to add rapidly. And, of course, we all know that real estate is in the doldrums and likely to stay there.

Trade, too, showed a big shift. The sudden drop in contribution to GDP from trade was driven entirely by an equally large change in imports. This was expected because the fourth quarter saw some very strange and large declines in imports that were not sustainable. All that occurred in the first quarter was that we resumed a more normal level of activity. The bad news was that exports faded a little also, so the resumption of a more normal pattern of imports was not offset by stronger exports.

Lastly, government spending is trending down. This may shock the “big government” hawks, but the numbers don’t lie. Federal spending dropped 0.68%, mostly on the back of a decline in defense spending. This is a notoriously volatile figure depending on bulk purchases. So I don’t think it is indicative of a trend. More importantly, both Federal and State spending on small ticket items and wages is falling steadily. This is the trend to watch. Especially as the deficit debate heats up. We have gone from a point where government spending was acting as a stimulus, to where it now acting as a drag. Presumably this is what the austerity hawks want. It is inevitable that, if government spending is cut, it will act to shrink the economy. We can use the UK as an example. There is an austerity program already in effect in the UK and its negative impact has slowed their economy to a crawl. They are perilously close to recession. Given the relative weakness of our private sector, any strong move to cut government spending runs the risk of doing the same here.

This is all tedious to recite.

What should we make of it all?

The economy is evidently not so strong that it can withstand a bout of bad weather. If that is the key explanation being offered to explain the first quarter decline, then we are not in great shape. This seems to be a very slow recovery, and one that is still very susceptible to downside risks. I suppose there is no news in this, but it should give us all pause to reconsider the current mania for deficit cutting and inflation fears.

Neither the deficit nor inflation should be of great concern right now. The focus should be on unemployment and the huge slack in the economy that such unemployment implies. We have too large a pool of idle workers. That means we are radically underperforming in terms of wealth generation. We are leaving money on the table month after month. This affects us all, not just the unemployed. It would be sensible for us all to be involved in getting those people back to work. That means more support, through both continued easy monetary policy and deficit spending fiscal policy.

This won’t happen, of course, because the powers that be have moved on to combat their imaginary demons of inflation and deficits.

This is looking more and more like the 1930’s.

That didn’t work out too well.

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A Left of Center Budget?

What would it look like?

All the talk so far has centered on the far right plan of the Republicans – a.k.a. the Ryan plan – and Obama’s counter offer, which is more right of center than the media imagines, because of its emphasis on cost cutting rather than revenue raising. This means that there isn’t much of a left of center option available or being discussed. That is except the plan developed by the Congressional Progressive Caucus which goes under the name of ‘The People’s Budget’. They place the emphasis on balance and fairness. So should we.

In that spirit, let me step back and articulate my plan:

First, we should not get swept away by debt panic. The US national debt is high, but not unmanageable. Indeed nowhere other than in the fevered minds of the austerity hawks is it an immediate problem. Obviously debt as a percentage of GDP has risen sharply in recent years. But, in case you’ve been napping, we’ve had a slight problem. The Great Recession knocked a huge hole in an already depleted government revenue stream. Federal government revenues as a percentage of GDP have plummeted from the 20% range to the 15% range. Since, at the same time, spending has risen as various safety net programs kicked in, the deficit has shot up.

Duh. Even a fool can see that much of the current imbalance is short term, or cyclical, and thus will automatically go away once the economy is back on track. Which is why, of course, we should put the highest priority on getting the economy moving at a solid rate. You’d think this would still be a high priority, but the talk has shifted away as if the problem is solved. But it isn’t. We need to work harder.

So any plan to correct the deficit should begin with a plan to maintain a boost to the economy.

Second, we need to address the long term creep in inequality. I have been beating this drum for a while and still believe it to be one of our highest strategic goals. We need to restore a better balance between wages and profits. This would send more cash into average household pockets where it is more likely to end up as consumption, and thus boost aggregate demand.

Third, we need to protect the entitlement programs from unnecessary attack. These programs are vital to the middle class way of life, and they protect the poor, sick, and elderly. Reducing them would impose a cost on those groups disproportionate to the benefits they have garnered from recent economic growth. It is one thing to argue people ought to suffer cuts. It is entirely another to argue that point after having initiated a long term squeeze on their lifestyles already. It may well be that entitlements need to be trimmed – although the urgency and extent is highly debatable. If so a spirit of fairness demands that those who benefitted most from the Reagan/Bush era bear the first and largest brunt of the burden.

Fourth, we need to clean up the more egregious, and deliberate, ways in which those with resources escape contributing to the common good. One example of this is the foreign based profits of business. Corporate profit is only taxed when it is brought back onshore in the US. So most large companies have fictitious subsidiaries abroad where they park profit. To accomplish this wheeze they maneuver costs into the US, and so reduce their taxable income here, and shove income offshore to ‘harbor’ it safely beyond the reach of the IRS. This tax dodge is so significant that has distorted corporate balance sheets. It is one reason why companies are sitting on piles of cash yet don’t invest it – they can’t invest it here. The Chamber of Commerce recently advocated a tax amnesty during which businesses could repatriate this cash without being subject to the full rate of corporate income tax. Their argument was that business isn’t investing because high marginal tax rates on profits “forces” companies to cheat in the way I just described. This is, of course, nonsense. I have a better idea: we should simply tax profit when it is made, and not only when it arrives back in the US. This removes the incentive to cheat – companies are getting taxed anyway. Besides: there is no evidence that it is tax policy undermining corporate investment. The real problem is that businesses have low expectation for demand. Thus they hold back on expansion plans.

Along with this adjustment to corporate taxes, we need to change the way in which capital gains are taxed. Capital gains are income. Since, in the immortal words of the British Law Lords, income tax is a tax on income, it makes no sense to tax income derived from capital at a different, and lower, rate than income derived from labor. Why should workers be subject to higher marginal tax rates? This change makes even more sense when we recall that hedge fund manager’s entire income is classified as a capital gain, and thus is not subject to income tax. So many of our highest paid workers are exploiting a loophole. It needs to be closed in the spirit of fairness.

Fifth, returning to government revenue, and in light of the above, any fair plan to reduce the budget has to include revenue increases. Taxes must go up. The US is a low tax state. By any comparison we pay less tax than our peers abroad. We have cut that already low level of taxation even more over the past few years. The result is that we defunded government. This was deliberate. It was unfair. It was dangerous. It remains a basic tenet of right wing plans. Even now, with government revenues in the tank, the Republicans are adamant that any deficit reduction cannot include tax increases. This places the entire burden for fixing the problem on the weakest members of society. If successful the Republican plan would alter our country’s social fabric and propel us even more into an unequal, bifurcated, and poverty stricken state than we already are. We on the left need to be equally adamant that fairness dictates tax increases on those who most can afford them. Besides: the era of greatest US economic growth coincided with an era of high marginal tax rates. There is no cause and effect there. But neither is there any evidence that high taxes diminish growth. They didn’t. They still won’t. Indeed, it could be argued that by sopping up some excess cash from higher wage earners we would reduce the flow of money going into coffers of the gamblers on Wall Street. Killing two birds with one stone is always a bonus.

Sixth, I think we need to engage in some industrial policy making. We should use the budget debate to allocate capital to industries and projects that pay off in the future. Free market advocates cringe at the very thought. They argue that government is incapable of making sound investment decisions. Or, at least, that the government is less well equipped for that task than private enterprise. This would be the same private enterprise that just produced the back-to-back epics of the dot-com and real estate bubbles. Neither exactly reinforces the image of the private sector as an efficient allocator of investment capital. Meanwhile the government’s early investment in the internet is a good counter example. We need to expand, not diminish, the role of government in industrial investment.

Seventh, let’s get rid of those agricultural subsidies. If we want to keep some for small farms, so be it. But large industrial farming doesn’t need our help.

Eighth, cut military spending. It would help, of course if we ended those Bush wars as well. The basic structure of the military needs to be changed to face forwards and not backwards. That implies less Navy and Air Force, and more Army and Marines. Plus we need to cut away at the unchecked pork flowing through the Pentagon into unneeded and often useless projects. We have to come to terms with the simple fact we cannot afford to spend what we do. And we need to realize that cuts don’t mean less security. Indeed, a more efficiently run, and forward focused military, would mean more security. It isn’t how much we spend. It is how we spend it. Pet projects for generals are not protecting us. Besides, as I have asked before: why does the US need to spend many times more on offense defense than the next ten largest military budgets combined? Are our generals that bad that they need to make up for it with cash?

Ninth, and last in this summary, we need to use the budget debate to attack the banks. OK, maybe ‘attack’ is not quite the right word. But we need to make finance less attractive, so we can move the nation’s store of capital back into industry where it is not subject to the volatility of banking, and where it would produce a greater number of middle class jobs. The main point here would be a tax on speculative activity to make it more costly to gamble. We could go further and impose a tax to recoup the costs imposed on society by the banks when they drove it over the cliff in 2008. But that might just be me indulging in an extra fantasy.

OK. Let me summarize:

  1. Raise taxes on the wealthy and corporations. Let the Bush tax hikes come into effect and close foreign tax and other high end loopholes.
  2. Protect entitlements and safety net features of the economy. Adjust them maybe. Cut them? Not at all.
  3. Cut, and re-orient, military spending. It’s time to end those wars as well.
  4. Deal with inequality and inject fairness back as guiding principle of policy.
  5. Get government back into industrial policy.
  6. Tax banks/banking transactions to reduce the size of the banking industry, and to encourage the flow of capital to less volatile industries.

That’s my first, rough, attempt at a plan. It leaves health care spending out, since I assume that the recent reforms will stay in place and thus diminish Medicare spending.

What’s your’ plan?

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