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Obama's tax and spend policies are dooming sustained economic growth
Gerard Jackson
By now anyone who follows the financial news will have learnt that the GDP figures for the third quarter of 2009 were bogus, that they had been inflated by government spending and handouts. Before these figures were released I explained why the GDP concept was flawed. It has three components (I'm ignoring foreign trade to keep things simple): government spending, consumption and investment. Business spending on intermediate goods is ignored because it is erroneously defined as double-counting. But what must always matter is total spending. Once we take that into account then consumer spending as a proportion of total economic activity falls to about one-third. It then becomes clear that business spending drives the economy and not consumption1.
Without production there is no consumption. Logic dictates that the former therefore precedes the latter, unless your name is Paul Krugman. It must also follow that for output to grow productive capacity must also continuously expand. This process is called capital accumulation otherwise known as economic growth. But this process can only continue so long has people are prepared to forgo consumption, i.e., save. To save is an act by which spending on consumer goods (present goods) is directed to spending on future goods (capital goods) in order to increase future consumption. (Cash holdings or balances are not savings in the true sense of the word. They perform an entirely different function).
Following the above reasoning leads to the obvious conclusion that any policy that promotes consumption — government as well as personal — must come at the expense of the accumulation of capital and hence future living standards. This has severe ramifications for Obama's unprecedented peace-time deficits, borrowing, spending and proposed avalanche of taxes. Now though it is true that GDP is not a measure of growth its trend over time is bound — as a rule — to give an accurate picture of which direction an economy is moving. The chart below was sent to me by a reader who felt it needed to be more widely disseminated.
BrookesNews.Com
Monday 2 November 2009
The yellow curve represents debt levels and deficits and correlates strongly with the GDP curve. What matter, however, is not deficits and the borrowing per se but the level of spending. And that is what the yellow curve is — in my opinion — really indicating. Countries run high deficits and large borrowing requirements when they feel they cannot raise taxes to cover their budgets. As a consequence, one would also expect their interest rates to be higher than that of their more prudent trading partners2.
We now find that a continual rise in deficits and borrowing is a symptom of unconstrained growth in government spending that cannot be met by increased taxation, unless the printing press is eventually resorted to. A point has to be reached where this out of control spending must severely curtail spending on the accumulation of capital. And by capital I mean that which eventually raises real wages. (This is something most classical economist were agreed on. These men knew better than to define, for example, houses as capital3).
By expanding the role of government — which Barney Frank publically admitted is the Democrats' goal — more and more resources will be directed to consumption. This spending has the effect of skewing the structure of relative prices toward the lower stages of production at the expense of real wage rates. At best the growth in living standards will slow considerably. The worse situation would be one of steady decline.
Given the administration's horribly irresponsible budget policy, its destructive energy proposals and the flood of taxes it plans to let loose on the economy I cannot for the life of me see how the US can restart the process of capital accumulation under these conditions.
Note: Some readers are complaining that I am being too critical of Obama while ignoring the Bush years. First, there is a considerable difference between a reckless driver and a driver who deliberately runs someone over. Right now the driver is Obama and the 'someone' is the US economy. Second, Obama's fiscal profligacy is totally unprecedented in US history and ideologically driven. Third, the Democrats have controlled both houses since November 2006. During that time they never vetoed a single spending program. Not once did Obama vote no to increased spending. Four, it is utterly absurd to blame Bush for the Democrats' insane spending binge. Five, the Obama mob makes the Roosevelt administration look like a gang of laissez faire fanatics.
Finally, I shall never forget the hatred, the vile abuse and the outrageous lies that were hurled at Bush for eight solid years. It was not even this bad under Nixon. Hardcore Democrats revealed themselves as a rotten bunch of closet totalitarians who made it clear that in their cloacal universe not only are Republican presidents illegitimate the Republican Party itself does not even have the right to exist. It's very clear who are the real threat to American liberties. As we say in Australia: Even blind Freddy can see that.
1. Capital accumulation is not a mechanical process. To be successful it must have a favourable institutional framework. When this is in place we can — I believe — state that entrepreneurship drives an economy while savings fuel it.
2. In this kind of situation one would intuitively expect interest rates in these countries to exceed those of their more prudent trading partners. However, it's not that straightforward. Hayek explained that because in the short term capital goods and the supply of consumer goods are basically fixed the rate of return
... will depend not so much on the absolute quantity of real capital (however measured) in existence, or on the absolute height of the rate of saving, as on the relation between the proportion of the incomes spent on consumers’ goods and the proportion of the resources available in the form of consumers’ goods. For this reason it is quite possible that, after a period of great accumulation of capital and a high rate of saving, the rate of profit and the rate of interest may be higher than they were before — if the rate of saving is insufficient compared with the amount of capital which entrepreneurs have attempted to form, or if the demand for consumers’ goods is too high compared with the supply. And for the same reason the rate of interest and profit may be higher in a rich community with much capital and a high rate of saving than in an otherwise similar community with little capital and a low rate of saving. (Friedrich von Hayek, The Pure Theory of Capital, The University of Chicago Press, p. 358).
What is being said is that the rate of interest will rise if consumption increases relative to investment.
3. A house ceases "to be capital if it be purchased for the the purpose of residence; just as a cigar is capital in the tobacconist's shop but ceases to be so as soon as it has been purchased by the person who intends to smoke it". (Nassau W. Senior, Industrial Efficiency and Social Economy, Henry Holt and Company, 1928, p. 169.)
Gerard Jackson is Brookesnews' economics editor