Thursday, January 29, 2009

Is Obama's Stimulus Good for America?

Immediately after taking the reigns of the US government, Barack Obama began pitching his stimulus plan to Congress and the American people. We are being told, as we were told last fall by President Bush and Secretary Paulsen, that quick action is needed to rescue the economy. Once again, the government plan is to spend vast amounts of taxpayer money.

President Obama’s stimulus bill, the American Recovery and Reinvestment Act of 2009, is made up of almost $1 trillion in federal spending. The money is being spent on a variety of different programs over several years. About $318 billion would go to states and cities that are in budget crunches. This will enable those governments to avoid cutting spending or finding additional revenues on their own. $102 billion would go for unemployment benefits, healthcare, and food stamps for unemployed workers.

The bill also includes vast amounts of pork that is not related at all to the economic recovery. There is $2.8 million for the development of rural broadband service. $1 billion is earmarked for the 2010 census. The bill includes an additional $650 million for digital-to-analog television coupons. $400 million will pay for fisheries and habitat restoration. Another $400 million is designated for climate change research. Education gets $100 million. The Corps of Engineers gets $4.5 billion for flood control projects. Another $4.5 billion is designated to update the nation’s power grid. $50 million support the arts due to a decrease in philanthropic giving. Some of these projects are worthy and some are not. The common denominator is that the majority of them are totally unrelated to any financial recovery.

The bill does include $275 billion in tax cuts. Most of these tax cuts are targeted towards middle-income families. The proposal is a $1000 tax credits for families or $500 for individuals. While any tax cuts are a good thing, the economic impact of $1000 is very limited as we saw in 2008 when the government mailed out stimulus checks with practically no effect. Obama’s plan would also extend these credits to taxpayers who pay less than $1000 in taxes, essentially creating a new welfare payment.

There should also be tax cuts for businesses and upper-income individuals. According to the government’s own statistics, small businesses represent 99.7% of all companies and provide 60-80% of new jobs. They also account for more than half of the non-farm domestic product. If small business is the true engine of the economy, then it seems that small business is the segment of the economy that we should be trying to stimulate.

Additionally, we should consider the price tag of this expansion of federal government spending. The Congressional Budget Office estimates that the 2009 budget deficit would rise to a staggering $1.19 trillion under Obama’s plan. This would be a huge increase over the deficits of the Bush Administration. It would be more than double the record deficit of 2008 that included the previous stimulus and bailouts. As a percentage of the Gross Domestic Product, Obama’s deficit would be 8%, larger than the previous record from the 1980s. When government accounting tricks are taken into account, estimates of the total deficit range as high as 15% of GDP.

The United States also faces additional financial crises in the form of Social Security and Medicare. Both programs are scheduled to become insolvent over the next few decades, Medicare in 2019 and Social Security in 2041. To rescue these programs will require huge additional sums of cash that is not being considered in the current crisis.

Since the current stimulus package also includes provisions that would place unemployed workers on Medicare at government expense, the stimulus bill is also a step toward a nationalized health care system. The Democrats will eventually attempt to create a massive new health entitlement that will require billions of taxpayer dollars and eliminate thousands of jobs in the health care and insurance industries.

The obvious question is where the money is coming from. One option is for the government to simply print more money. This would lead to an increase in the supply of dollars. If you have had a basic economics course, you may remember that as the supply increases, the price, or value, decreases. Printing more money would lead to a decline in the value of the dollar and a rise in the rate of inflation. Simply stated, it would take more dollars to pay for things.

The more likely scenario is that Obama and the Democrats would plan to pay for their programs by raising taxes on “the wealthiest Americans.” Unfortunately, the wealthiest Americans are those American who own and operate businesses, as well as the businesses themselves. If taxes are sharply increased on the corporations and the wealthy, then there will be less money for those businesses to expand and hire new workers. This, in turn, means that the unemployment rate will continue to rise and the economy will continue to languish.

Of course, given the dire state of the US economy, if the Democratic plan will work, it might be worth its enormous price tag. We should look back through history to find out whether similar plans were successful.

The US government actually did try a similar plan in the 1930s. When the stock market crashed in 1929, the financial crisis led to the election of Franklin Delano Roosevelt. FDR attacked his predecessor, Herbert Hoover, for economic policies that led to the crisis. Interestingly, the policies of Hoover and the Republican congress included protectionism (the Hawley-Smoot Tariff) and raising taxes. In a 1932 speech, Roosevelt said, “Taxes are paid in the sweat of every man who labors because they are a burden on production and are paid through production. If those taxes are excessive, they are reflected in idle factories, in tax-sold farms, and in hordes of hungry people, tramping the streets and seeking jobs in vain.”

After the election, however, FDR continued these policies, but on a grander scale. Roosevelt’s economic policies became known as the New Deal. The New Deal consisted of large amounts of deficit spending, draconian regulation of business, and increased taxes. A dizzying array of new government agencies provided oversight of surviving businesses and employed thousands of Americans in make work jobs.

The National Industrial Recovery Act (NIRA) exempted businesses from antitrust laws if they agreed to union contracts that raised wages. This caused both prices and wages to rise artificially. Increased union power led to a dramatic increase in the number of strikes. Artificially high wages kept employment low and slowed the recovery. The NIRA was ruled unconstitutional in 1935, but even then the government simply chose not to enforce antitrust laws.

During the Great Depression, the unemployment rate peaked at 25% in 1933. Throughout the 1930s, it never dropped below 13% even with vast amounts of government spending and regulation. Gross domestic product (GDP) also never recovered to its pre-1929 levels until the US mobilized to fight WWII. Roosevelt’s ally, Treasury Secretary Henry Morgenthau put it best when he said, “We have tried spending money. We are spending more than we have ever spent before and it does not work ... After eight years of this Administration we have just as much unemployment as when we started ... And an enormous debt to boot!”

Japan also suffered a similar financial crisis in the 1990s. In 1990, the Japanese stock market, the Nikkei, crashed, eventually losing almost 60% from its 1989 high. At the same time, Japanese property prices collapsed, prompting a foreclosure crisis similar to our own. Rising foreclosures led to a credit squeeze. The Japanese people responded to the crisis by becoming more thrifty and risk averse. This caused a further shortage of capital and investment.

The Japanese government’s response was much like our own. In April 1992, Japan passed its largest stimulus package. Trillions of yen went for public works, business loans, and the Japanese Development Bank. Investment continued to fall while unemployment continued to rise. Japan’s debt grew to a phenomenal 68% of GDP.

As Japan’s economy remained in recession, the government (which changed ruling parties) implemented seven more stimulus packages over the next seven years. By the end of the decade, Japan’s debt was 128% of GDP. All the while, the economy remained stagnant. The Nikkei has still not recovered to its highs of the 1980s, but, as the Wall Street Journal notes, Japan does have good roads.

We can also look to the social democracies of Europe to see how a combination of high taxes, regulation, and government spending affect the economy. The United States typically leads Europe in productivity and job creation and productivity. The European nations that show the greatest economic growth are those that have low corporate tax rates and flat taxes. The list includes Ireland, Romania, Slovakia, and Estonia. France and Germany, heavily socialized countries, both recently elected pro-capitalist governments.

As we look back through history, we see that low tax rates have spawned growth in the United States as well. Four times in the past one hundred years, the US has enacted lower tax rates. In the 1920s, Treasury Secretary Andrew Mellon under Presidents Harding and Coolidge presided over a sharp decrease in tax rates. In the 1960s, President Kennedy, saying, “a rising tide lifts all boats,” also cut taxes. In the 1980s, President Reagan cut taxes again after inflation put many Americans into higher tax brackets during the 1970s. In the early 2000s, after inheriting a recession from Bill Clinton, President George W. Bush also enacted tax cuts.

Each time, the economy responded with growth. Additionally, the tax cuts served to increase federal tax receipts because people earn more when the economy grows. Furthermore, cutting tax rates serves to shift a greater portion of the tax burden to upper income taxpayers. This is because more lower income taxpayers are totally exempt from paying taxes.

As it stands, President Obama’s stimulus plan is likely to become law, but is doomed to almost certain failure as an economic recovery tool. Even though the president has only been in office a few days, he is rapidly approaching a defining moment in his presidency. By pursuing stimulus policies that have poor track record, he may very well be condemning the rest of his presidency to economic stagnation and creating another American Lost Decade.

Great Depression
Lost Decade
Tax Cuts


Wednesday, January 21, 2009

Obama's Chance for Greatness

Barack Obama has a historic opportunity. I say this not because of his race. I believe that, as Martin Luther King said, a man should be judged, not by his color, but by the content of his character. Obama's opportunity is with the vast amounts of goodwill that he currently possesses.

Barack Obama has inherited the presidency during a rough time. We have entered a recession, we are fighting (and winning) two wars, and we still face the threat of radical Islam. Here is my short list of ways that Obama can be a successful, and perhaps great, president. If not, he may go down in history as a footnote.

First, keep America safe. We need to make sure that Iraq and Afghanistan continue to become stable states where the terrorists cannot regain a foothold. Even more importantly, we need to make sure that Iran will not be able to produce nuclear weapons, even if this requires military action.

To that end, we also need to enact sensible immigration reform. We cannot continue to let thousands of people simply walk across our borders. Aside from the fact that many illegals die in the desert while trying to cross, the fact is that it would be absurdly easy for terrorists to enter the country.

The second thing that Obama should do is to resist the temptation to run up a multi-trillion dollar deficit enacting New Deal style programs. FDR's New Deal turned a Hoover recession into the Great Depression (although it did lock in fifty years of Democratic rule, so on that score, he was probably happy with it). The type of programs that Bush and Paulsen have started and that Obama wants to expand also led directly to Japan's Lost Decade in the 1990s, economic upheaval and stagnation that Japan still has not fully recovered from.

Instead Obama should set aside his notions of "fairness" and reduce taxes. Our corporate tax rate is currently one of the highest in the world. If he drastically reduced corporate taxes, the capital gains tax, and eliminated the estate (death) tax, that would be real economic stimulus. Instead, in the campaign he announced plans to increase corporate and capital gains taxes, and the estate tax is set to increase in a few years automatically. If he wants to go further, implementing the FAIR Tax would ensure the US role as an economic powerhouse.

Finally, Obama should not restrict civil liberties. Many of his appointees are notoriously anti-second amendment. Restrictions on guns would not be popular with the American people and historically have not helped deter crime. Similarly, restrictions on the political content of talk radio could also backfire at the polls. The proposed Employee Free Choice Act would eliminate secret ballots in union elections and, while popular with unions, is not very popular with voters.

To be great Obama must resist the pull of the radical left and govern from the center.He must reject class warfare and use proven solutions to heal the economy. He must realize that we simply can't afford a trillion dollars of new spending. He must realize, as President Reagan said, that government is the problem, not the solution. He must realize that when dealing with radical zealots, actions speak louder than words. If he can do this, he may be a great president, as judged by history, and not just by opinion polls. If he can do this, he may even get my vote in 2012.

Saturday, January 17, 2009

A Farewell to George W. Bush

On Tuesday, January 20, 2009, President George W. Bush will cease to be president of the United States as Barack Obama takes the oath of office. Many people will be happy to see him step down. For the last half of his presidency, he has been dogged by low approval ratings. Many, especially in the media, consider him to be the worst president ever. He has been charged with being everything from an imperialist mastermind to a mindless puppet.

In the 1980s, President Reagan was referred to as the Teflon President because bad publicity never stuck to him. President Bush should be referred to as the Velcro President because everything seems to stick to him, even things that are not a result of his policies. A fair look at President Bush’s record reveals that he is neither the worst nor the best president that the United States has ever had.

The most important aspect to the Bush legacy deals with his response to the 9/11 attacks. In the dark days of 2001, President Bush rallied the nation and helped to prevent a panic. He took the necessary steps to help prevent future attacks on the United States as well. Many of these steps have been criticized, such as his program of eavesdropping on telephone conversations between terror suspects and American citizens (which was recently ruled legal by a federal intelligence court) and the detention of Taliban fighters and other terrorists at Guantanamo Bay, Cuba. President Bush’s decision to take the fight to the terrorists, rather than waiting for them to attack American targets, is directly linked to the fact that the US has not experienced a major terror attack since 9/11.

A second controversial legacy is his decision to depose Saddam Hussein. Based on the information available at the time, this was the right decision to make. The intelligence agencies of virtually every allied country believed that Iraq possessed weapons of mass destruction and was working to develop nuclear weapons. It was also common knowledge that Iraq was supporting terror groups worldwide. Additionally, Iraq remained in a state of war with the US, firing at Coalition aircraft patrolling no-fly zones on an almost daily basis. Finally, the world was aware of the atrocities committed by Saddam’s government, including the mass murder of hundreds of thousands of Iraqis. Any one of these actions, by itself, would have justified the removal of Saddam.

Since the regime fell, we have learned that many of the pre-war statements were not incorrect. The primary failure was the inability to find large stockpiles of WMD. It has been determined conclusively that Saddam’s Iraq was a state sponsor of terrorism. UN inspectors found that Iraq possessed al Samoud 2 missiles that violated the Gulf War ceasefire. We also learned that Saddam had corrupted the United Nations Oil-for-Food program. Saddam bribed UN officials and businessmen worldwide as a means to successfully circumvent the sanctions imposed after the first Gulf War. Saddam was working to eliminate the sanctions totally, after which, he would have restarted his weapons programs. Finally, the discovery of artillery shells in Iraq containing the deadly nerve gas sarin were conclusive proof that Saddam had once possessed chemical weapons. The question of what happened to these weapons was never conclusively answered.

President Bush is ultimately responsible for the victory in Iraq. After 2004, as al Qaeda funneled fighters into the country and violence increased, many called for a withdrawal and stated that there was no military solution possible in Iraq. President Bush, along with Senator John McCain, believed otherwise. They fought Congress for money to send additional troops to secure Iraq. This “surge” in forces eventually led to what is now known as the Anbar Awakening. New commander General David Petraeus shifted to a strategy of clear-and-hold, which removed American troops from fortified bases and placed them alongside Iraqi civilians. The reduction in violence was swift and immediate. Because President Bush remained true to his principles, American troops will be leaving Iraq under much different circumstances than the Democratic withdrawal plan envisioned.

President Bush also had foreign policy successes that had nothing to do with the War on Terror. For instance, he helped supply African nations with lifesaving anti-AIDS drugs as part of the President’s Emergency Plan for AIDS Relief (PEPFAR). Created in 2003, PEPFAR focused on both treatment and prevention of AIDS in Africa and has saved countless lives while helping to slow the spread of the disease.

President Bush also took the lead in an initiative to stop human trafficking and sex tourism. Under President Bush, the Department of Justice has not only sought to prosecute child pornographers, but also US citizens who travel abroad to have sex with children in other countries. The Bush Administration also worked internationally to stop the trafficking of modern day slaves, particularly children and young women, who are often used for sexual purposes. As President Bush said, “Human life is the gift of our Creator— and it should never be for sale.”

On the domestic side, President Bush’s largest success was undoubtedly his tax cuts. When he took office in 2001, the country was entering a recession. Eight months later, the shock of the 9/11 terror attacks threatened to slow the economy even further. President Bush’s across-the-board cuts to tax rates provided the spark needed to restart the economy. After the tax cuts were enacted, the United States entered a long period of sustained growth, in which the US outperformed its peer group of countries (which includes Canada, the European Union, and Japan).

Interestingly, after the tax cuts took effect, federal tax receipts increased. The federal tax share of the GDP remained near the historical average, and even climbed above the average prior to the current recession. At the same time, the top taxpayers shouldered a larger percentage of total taxes paid, while the bottom taxpayers paid less.

George W. Bush also had a solid record of supporting pro-life legislation. He banned the use of taxpayer funds to pay for abortions in other countries as well as banning the use of federal funds for embryonic stem cell research. He also signed several important pro-life bills into law including the Partial-Birth Abortion Ban Act, the Unborn Victims of Violence Act, and the Born Alive Infants Protection Act. He fought UN attempts to recognize a fundamental right to abortion and appointed judges who interpret the law as it is written, rather than substituting their own morals and values. These constructionist justices will likely have a positive impact on many other issues as well.

It would not be fair to discuss President Bush’s legacy without addressing his failures. Many of his problems resulted from poor communication. America’s image might have been less tarnished internationally if the United States had made better use of propaganda and communication in the War on Terror. Many domestic critics accused the Bush Administration of imperialism and war crimes and these charges were never answered loudly or strongly enough. The media bias in this country and around the world is to blame for this as well.

Many of President Bush’s most notable failures were on the domestic side. One of the most serious lost opportunities were his failed attempts to reform Fannie Mae and Freddie Mac. As far back as 2001, the Bush Administration believed that Fannie and Freddie could be a problem. Despite numerous attempts at reform, nothing was done until the problem could no longer be ignored by Congress and the economy was in shambles.

President Bush’s attempt at Social Security reform likewise was blocked by Congress. Unlike Fannie Mae’s excesses, Social Security is still a ticking time bomb. Taxes paid into Social Security go into a trust fund, which was long ago robbed by Congress. According to current projections, in 2017 Social Security will begin paying out more money than it takes in. At that point, unless benefits are cut or taxes are increased, Social Security will be totally bankrupt by 2041. Similarly, Medicare will be bankrupt by 2019, if current trends continue.

President Bush’s proposal involved letting workers who chose to do so invest their Social Security money in the private accounts. The money in these accounts could then be invested in a variety of financial products. Investing one’s Social Security money in the stock market over the long term could provide much greater retirement benefits than is typical under traditional Social Security, especially given that the program will likely be bankrupt by the time workers born after 1990 retire. At present, the twin crises in Social Security and Medicare are still unresolved.

A more recent failure of the Bush Administration was its inability to reform immigration. In the aftermath of 9/11, it became obvious to many Americans that it was no longer a good idea to allow “undocumented workers” to simply walk across our borders unmolested. Similarly, many immigrants who entered the US legally overstayed visas and remained in the US illegally or falsified visa applications and travel documents. The 9/11 hijackers used a combination of falsified applications, new passports (to hide travel to training camps in Afghanistan), gaming the systems, and overstaying visas to remain in the US until 9/11. Most were also able to obtain state identification, such as driver’s licenses, in spite of the fact that they were foreign nationals on temporary visas.

The Bush Administration’s attempt at immigration reform failed for several reasons. Most obvious was its size. The attempt was a bipartisan effort at comprehensive immigration reform, remaking the whole system. The bill eventually drew opposition from both the left and right. The right opposed the idea of amnesty for illegal aliens and doubted that the borders would ever be secured. The left opposed restricting the flow of “undocumented workers” into the United States for humanitarian reasons. In the end, a grass roots effort derailed comprehensive reform.

In October 2006, President Bush did sign the Secure Fence Act, which authorized the construction of a 700 mile border fence between the US and Mexico. Bush also used the National Guard to patrol some border areas in the southwest and asked Congress to add 6,000 Border Patrol agents. Under President Bush, Immigration and Customs Enforcement (ICE) significantly stepped up prosecution of employers who knowingly hire illegal aliens. Much of our borders remain unsecured, however, and vulnerable to passage by terrorists.

For all the small failures, there are two glaring errors that will undoubtedly cause problems for the United States long after President Bush leaves office. One of these errors is in the realm of foreign policy, while the other relates to domestic policy.

In foreign policy, President Bush’s most glaring omission was in not dealing with Iran’s nuclear weapons program. On February 9, 2003, the oil rich nation of Iran revealed the existence of several nuclear facilities that would eventually be able to enrich uranium. They announced in 2006 that they had successfully enriched uranium, a necessary step in creating nuclear weapons. Iran has repeatedly stalled against UN demands for inspections and a halt to enrichment, while at the same time, purchasing advanced air-defense systems from Russia (who is also providing nuclear reactors). Current estimates are that Iran may have an operational nuclear weapon as early as 2011.

A large part of the difficulty in dealing with Iran was a National Intelligence Estimate issued in 2007, which assessed that Iran’s nuclear program was ended in 2003 and had not been restarted. This assessment seemed to fly in the face of the statements of Iran’s leaders, but, due to Bush’s problems with intelligence reports in Iraq, made it politically impossible to use military force to destroy the Iranian nuclear facilities, even in light of the fact that Iran was implicated in assisting Iraqi insurgents to kill American soldiers. The determination of Iran’s leaders to gain a weapon to destroy Israel made a diplomatic option unworkable. President-elect Obama is unlikely to have success diplomatically and is even less likely to use military force against Iran. At present, the Iranians are still working on their bomb. The first indication of their success may be a mushroom cloud over New York or Tel Aviv.

As dangerous as nuclear weapons in the hands of Muslim extremists would be to the US, the unprecedented infusion of government money into the private sector may be even more dangerous to American society in the long run. Amid the collapse of the mortgage industry, in February 2008 President Bush and Treasury Secretary Paulsen first passed the Economic Stimulus Act of 2008, then, when that failed to restart the economy, pressured Congress to pass the Emergency Economic Stabilization Act (EESA) of 2008 in October. Neither stimulated nor stabilized the economy.

The danger in these laws lies in the fact that Congress appropriated $700 billion to the Treasury with very little direction on how to spend it. Many experts believed that, if anything, the government should have purchased “toxic” securities from banks in order to free up credit markets. Instead, the Treasury chose to force nine major banks to sell stock to the government. The government also engineered several takeovers of failing banks. Additionally, in December 2008, $5 billion in bailout money was injected into GMAC, the parent company of Chrysler, with the promise of more money coming in 2009 with a larger Democratic majority in Congress. The Congressional Budget Office estimates the 2008 deficit at $1.2 trillion, or 8.3% of GDP. This will be the largest deficit since WWII.

It is here that the greater danger lies. By creating a precedent for government intervention, and takeover, of the market, President Bush has set the stage for even greater meddling by the Obama Administration. Bush has already requested the release of the second $350 billion of the EESA from Congress at Obama’s request. Obama’s advisors say that he also plans to ask for additional stimulus that will cost at least $775 billion. This could put the deficit as high as 15% of GDP. This is even before many of Obama’s campaign promises, such as universal healthcare, or a bailout of Social Security and Medicare are considered.

Many of Obama’s stimulus plans are of questionable immediate economic value. These include a tax credit for middle and lower income taxpayers, many of who already do not pay taxes, rebuilding roads and bridges, and money for schools and education. Additionally, cities, states, and numerous industries are all lining up to request stimulus money from the taxpayers.

The current crisis resembles the Japanese recession of the 1990s, now known as “the Lost Decade.” Both recessions began with crashes of the real estate and stock markets. The Japanese, like our current government, attempted to stabilize and prop up failing companies. This policy led to prolonged economic suffering and an extremely slow recovery. Even twenty years later, Japan’s stock market has not fully recovered to the levels of the 1980s. The United States suffered a similar lost decade in the 1930s when President Roosevelt’s interventions turned a recession into the Great Depression.

The temptation to continue the government intervention in the market started by President Bush is likely to be too much for Obama and the Democrats to resist. This is likely to continue the recession for years to come. This would lead to lost wealth for the majority of Americans.

Additionally, the higher taxes that will eventually be needed to pay for the stimulus will likely lead to lost economic freedom. We are likely to see vastly increased government regulation in an attempt fix the current crisis and prevent future problems. The Index of Economic Freedom shows a strong correlation between economic freedom and national income. Even in today’s economic climate, the US outperforms other countries, even the social democracies of Europe that the Democratic Party seeks to emulate.

President Bush’s legacy is not firmly established. Other presidents who were unpopular while in office have enjoyed the vindication of history. Harry Truman is a prime example. President Bush’s defense of the United States and his liberation of, not one, but two repressed countries will likely assure that history will be kinder to him than public opinion has been.

FNMA Reform
Social Security
Financial bailout
Digest Vol. 09 No. 2,