The previous discussion of deficit spending leads nicely into this rant about my feelings on tax cuts.

Spending that is carried out by a government is funded by two things: 1) government revenue and 2) debt financing. Capitalist governments, such as that of the United States of America, raise revenue by taxing its citizens. In my previous post I addressed the ills of deficit spending by personifying the US Central Bank and economy. I asked you what you would think about a person (in this case, the US Central Bank) who keeps borrowing more and more money every year. Lets expand that analysis: What would you think about a person who continues to borrow more money and then asks their employer for a pay cut, hence decreasing their revenue? Now consider if, with all of these ill-advised financial decisions, this individual decides to spend/buy more things then they ever have before. Wow! Welcome to President Bush’s Tax Cut 101.

President Bush’s tax cut is a reduction in government revenue. Now that is fine with me. Let the government collect fewer taxes from me and decrease their revenues, as long as they decrease their spending also. That would be the logical thing to do, right? If you lose your job/lose your revenue, you have to decrease your spending. The Bush Administration has told the American public (and the public’s congressional representatives) that government revenue (i.e. taxes) can be reduced while government spending can be increased. They must have good reasons to assert such a thing, right? Well these are the two main reasons that I have heard: 1) The taxpayer needs this tax cut 2) We need the tax cut to help our struggling economy.

The Taxpayer needs this tax cut
Everyone wants something for free. If I were to offer you a Segway for free, you would take it. Do you need a Segway? Probably not. Would you buy a Segway? Probably not. But if it is offered to you for free, you will take it. I feel that a tax cut is similar. When a politician offers you a tax cut you say, “Sure”. It is your free Segway. Did you honestly need it? No. I have not seen the American public cry for it. There are constant demonstrations, protests, marches, and rallies for numerous causes, yet I have not seen a single one for a tax cut. This indicates, to me, that the American public didn’t/doesn’t need a tax cut. Let me also mention that tax rates in a lot of other industrial nations, especially Europe, have much higher tax rates than we do*.

Its good for the economy
This one is fun. First of all, refer to my previous post on deficit spending The Bush Administration’s tax cut has increased our national deficit so all the negatives from that post can be applied here. Here are some new points. Common sense will tell you that debt must always be repaid eventually. Common sense will also tell you that cutting taxes without cutting spending will only increase the debt burden. In other words, in a few years a politician will recognize our astronomical national deficit and they will do the fiscally responsible thing: Raise taxes to balance the budget. So a tax cut today will be followed by an increase of taxes in the future. Think about it. A tax cut gives you money in hand today, but (due to steady spending levels) the inevitable tax increase will take that same money out of your hand tomorrow. Sounds like a loan. In fact that’s exactly what it is; a short-term loan. So with the “perfect” credit markets in the US why does the government need to issue personal loans? (I call the US credit market “perfect” because of its ability to assess risk and supply endless amounts of money to worthy recipients and causes.) The backbone of President Bush’s argument for a tax cut is that this tax cut will increase consumer spending. Why would it? If consumers wanted to spend more they would just take out a loan (think “credit card”). In fact, the point of all points is this: Our taxes have been cut and yet the economy still struggles and consumer spending continues along normal (not accelerated) trends. The increase in deficit spending has hurt the economy (see “Deficit Spending”).

So in other words, I see no positive effects of a tax cut, only negatives. So why, WHY would a politician push for one? Are they just malcontent? No, I do not think so. The fact is, a tax cut is always a positive thing to talk about. It is a free Segway. Remember, politicians are always looking to please or gain constituents. The tax cut topic is also a distraction from other less pleasant political issues. One of President Bush’s main goals for his second term is making his tax cuts permanent. Trust me, President Bush would much rather talk about tax cuts then his secret plans for world domination J .

Be wary when someone offers you a free Segway.

If any economist is reading this post, I know a discussion on the IS-LM curves, and the US’s floating exchange rates interaction with monetary policy would strengthen my argument but this is not an econ textbook! (But I haven’t forgotten J ).

Most agree that the value of our national debt is astronomical and should be dealt with. The debt is increase by both interest and deficit spending. So when most all people would agree that debt should be dealt with many less are concerned about deficit spending. The following are my thoughts on deficit spending.

First I would like to ask how the US can afford to run such high deficits? A deficit means the US has spent more then the revenues (taxes) it takes in. How is this possible? Well the US funds it’s deficit spending by borrowing from you the public. It does so though bonds. So for every year of those large deficits there has been large years of bond issues. A bond is an IOU which eventually has to be paid. Now if you had a friend or even a bank that was continuously lending more money than it was taking in people would begin to question the stability of that institution. Is it possible that the stability of the US economy as an institution could start to be questioned? Well for the most part that has not been an issue.

Why is there such trust in the stability of US economy? The American greenback is the foundation not only of our economy but most of the world. Many foreign countries back their currency with American greenbacks and when they maintain their exchange rates they do so with greenbacks. This adds a lot of backing to the United States economy.

So how and why is the greenback the foreign reserve currency of choice? Simple, it is because of the foreseen security in the US economy. It is the largest and most trusted economy in the world.

But has anyone caught on to the problem? This is a circle. The more we deficit spend the more we throw doubt into the strength of our economy. If we start losing that strength and hence the perceived security could the world stop using the greenback as the backing of their own economy? Well guess what:
http://www.rense.com/general27/rec.htm
http://www.eubusiness.com/imported/2003/06/111858
http://www.marginalrevolution.com/marginalrevolution/2004/12/could_the_euro_.html

This is the first signs of trouble. Never before has the US Greenback been in decline as the foreign reserve currency.

As the US losses its standing as the reserve currency and hence its perceived strength and security the circle will come full circle. We won’t be able to enjoy deficit spending like we have. But now we have a large national debt to pay without the luxury of deficit spending. Could this downward spiral continue until the US couldn’t afford to pay it bonds? Fortunately I don’t have any links to post on that question. We are still far away from that situation. But the warning is there and the trends are in place. Fiscal responsibility is a must. It is atrocious to me to think that in 4 years this country has gone from a surplus budget to a one year – half of a trillion dollar deficit (http://usinfo.state.gov/ei/Archive/2004/Feb/02-225146.html). Not to mention a 2.75 Trillion dollar deficit projection for the next decade (http://www.msnbc.msn.com/id/4401126/). The largest ever! Even in times or war and there have been many other much longer and harder times of war.

This isn’t doom and gloom. The US economy has plenty of strength and is still the majority of the world’s reserve currency. However the next time a politician sells the idea that deficit spending will help the economy, increase jobs, have limited negative effect etc. tell them to shove it. They just can’t manage their finances.