Thursday, December 11, 2008

" The Road to Economic Recovery Isn't a Road at All."

Repaving the highway near your house and building a bridge near mine is not an on ramp to economic recovery. It is merely a means of providing jobs for a relative few, while the rest of us wait for the recovery. The idea that we are going to borrow and spend our way to economic health is fiction! The truth is that borrowing additional dollars to ramp up spending on these types of projects is actually counter productive, as it consumes the very capital business need to expand the production of goods and services, which is what drives real job and wage growth.

" Son of Stimulus", the newer, bigger stimulus package won't improve the economy. We've been there, done that, and it didn't work. In May, June and July of this year, millions of us received checks in the mail from the government. These checks, we were told, were to keep us from sliding into a recession. Evidently it didn't work. The forecast for the 4th quarter is for a contraction of 4% in GDP. Now we are told the reason it didn't work was because people didn't buy new things with the money. They instead saved it or used it to pay down debt. Can it be that the only people who don't understand that the consumer is over leveraged is Congress, and that's why they continue to propose additional borrowing for new programs.

Stimulus packages never work, and it's not because the people who got checks from the government didn't spend them. They don't work because they do not create an incentive to increase production. Once the money has been borrowed, allocated and spent, tax rates, availability of finance, regulatory cost and all the other factors that a business considers in their expansion plans will not have changed.. The only increase registered will be the size of the national debt. The incentives for growth in the economy will not have improved one bit. Economic growth, which is what makes a recovery happen, is the result of businesses providing more goods and services in the current month, quarter or year than in the previous period.

What is needed is a growth package, long term incentives to encourage expansion, and an increase the production of goods and services. Here are the top three things needed to return the economy to a growth trajectory:

Reduce the Corporate Income Tax
Economic growth is literally the successful completion of the next transaction., If you want to promote economic expansion, make it easier for businesses to complete their next transactions. The cost of taxes and regulation are passed along to the consumer in the form of higher prices, which act as a wedge, pushing apart buyers and sellers .The larger the wedge, the further it divides the buyer and seller, until ultimately the transaction fails. When enough transactions fail, businesses become unprofitable, and they too fail. Reducing the corporate income tax wedge will make US businesses more competitive in the global market place. This will enable companies to produce additional goods and services at competitive prices and complete more transaction.

Eliminate the Tax on Capital
The capital gains tax is a job killer. Greater economic growth comes only as a result of successful risk taking. To the extent that you limit the ability of successful risk takers to fund the next company, you kill jobs and reduce economic growth. This success tax is only applied to investors who have risked their capital, and in doing so created additional value by growing an enterprise. There is no tax on a loss of capital. To the contrary, there is a deduction a tax break. Why limit the ability of successful investors to grow the economy by confiscating the very capital they use to do so? There are some folks who defend the capital gain tax as a measure of fairness. What's fair about eliminating jobs? These are the people who fund expansions, and you want to slow them down? We can never know how many Microsoft- type enterprises, along with the jobs they produce, died in the lobbies of Venture Capitalist in the 1970's, never making it to the board room and the decision makers as a result of dramatic increases in the capital gains tax.

Stabilize the Dollar
Business owners considering expansion have a tremendous number of variables to consider. If you want to eliminate a great many of these variables, you need to stabilize the dollar. A stable dollar will lead to declining real interest rates, along with a substantial moderation in the price swings of raw materials and energy due to currency fluctuations. With a stable dollar, inflation and deflation will be things of the past. Companies can get back to working on increasing production, instead of formulating complex commodity and currency hedging strategies.

The recovery will begin when the business climate signals entrepreneurs and investors that risks and returns have come back into alignment. You can't force investors to invest, and you can't force businesses to expand. Incentives are what count now!

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