Sunday, December 19, 2010

No matter what Fed does, interest rates set to rise

Published in The Tennessean, Sunday, December 19, 2010

No matter what Fed does, interest rates set to rise

by Richard J. Grant

When speaking of national budget deficits, one of the magic numbers that has somehow emerged as a benchmark is 3 percent of gross domestic product (GDP). The International Monetary Fund often recommends this benchmark; and the European Union requires current and prospective members to keep their deficits below 3 percent.

Although 3 percent is way too high, let us not quibble. For the last couple of years the national budget deficit in the U.S. has been running around 10 percent. If we keep overspending at this rate, our national debt will increase by the size of our GDP every seven or eight years. Given that the total public debt outstanding is now more than 90 percent of GDP, the debt itself will double sooner.

We might console ourselves with the fact that the government owes one third of its debt to itself. Government agencies (such as the Social Security Trust Fund) hold U.S. Treasury securities, which are, rather inconveniently, IOUs on future taxpayers. This means that, when accounting for the interest cost on the debt, the government can net out payments to itself.

The Congressional Budget Office (CBO) currently estimates the federal government's net interest outlays to be about 1.4 percent of GDP. Although net borrowing has increased by $3 trillion, a significant decline in interest rates has reduced net interest costs from $253 billion in $2008 to $197 billion in 2010.

Interest rates are currently at very low levels. This is partly due to increased savings rates in households and corporations, all of whom are being a bit more careful in dispensing their cash. Also, the U.S. Federal Reserve is deliberately pushing interest rates down below market levels by creating huge quantities of new dollars.

How long can the Fed keep doing this? The more money it creates, the higher will be prices compared to what they would have been. At current levels of money creation, it won't be long before the Fed achieves its stated desire of pushing price inflation up to 2 percent. Then what?

As inflation expectations increase, so will interest rates necessarily increase. Otherwise, lenders would expect to lose value due to inflation. But once this begins to happen, the Fed will have to slow down its money creation in order to avoid overshooting its inflation target.

This means that, unless savings rates continue to rise, the Fed will have trouble keeping interest rates down below market levels. If it continues to inflate the money supply to hold down real interest rates (which are observed interest rates minus the effect of inflation), then it risks increased price inflation and a weaker dollar. But if it slows its money creation, then it reduces the availability of reserves to the banking system. This will also cause interest rates to rise.

Either way, interest rates are headed higher. And as the federal government refinances and increases its debt, its interest payments are also destined to rise.

To add to the joy of the season, Congress is currently attempting to rush through a 1,924-page, $1.2 trillion omnibus spending bill, spruced up with 6,715 Christmas decorations sometimes called “earmarks.”

By the CBO's reckoning, all this will cause government interest payments to rise to 3.4 percent of GDP by 2020. Now we have one more reason to be glad that we are not inclined to join the European Union.


Richard J. Grant is a professor of finance and economics at Lipscomb University and a scholar at the Tennessee Center for Policy Research. His column appears on Sundays. E-mail: rjg@richardjgrant.com

Copyright © Richard J Grant 2007-2010

Richard J Grant archived at The Tennessean

Sunday, December 12, 2010

We should cut, not increase, top income tax rates

Published in The Tennessean, Sunday, December 12, 2010

We should cut, not increase, top income tax rates

by Richard J. Grant

Just as there seems to be a universal speed limit, the speed of light, there seems also to be a limit to the proportion of economic output that can be turned into tax revenue. With apologies to Einstein, if we were to accelerate a rocket, it would seem to shorten and grow heavier as we approached the speed of light. We would have to inject increasing amounts of energy for each mile per second that we eke out.

Since the middle of the 20th century, the U.S. government has applied a wide range of top marginal income-tax rates, from 92 percent down to 28 percent. But so far, the level of tax revenue as a proportion of Gross Domestic Product (GDP) has not managed to break above the 20-percent level (though it did test that level at the peak of the tech boom). This is a historical observation, sometimes called “Hauser's Law,” after Kurt Hauser of the Hoover Institution at Stanford University. The 20-percent “barrier” could change over time as legal and social institutions change.

Why should we care about this? Some people believe that we can increase government spending and then fund it by increasing the top marginal tax rates. But Hauser's Law suggests that the only way the dollar amount of government tax receipts can be increased is through an increase in the size of the economy. This further suggests that there is a range of top marginal tax rates above which both economic growth and high-income tax revenues will be reduced.

This has implications for the size of the national debt as well. Budget data over the last 20 years show the actual proportion of tax revenue to GDP fluctuating between 14 percent and 20 percent. During the same period, the level of government spending as a proportion of GDP has fluctuated between 18 percent and 25.5 percent. The Hauser phenomenon suggests that the limit on government revenue collections at any given time is not merely political but also natural. In contrast, the ability of the federal government to borrow raises significantly any natural limit on government spending, at least in the short term. We have federal budget deficits because the federal government spends more than it is currently capable of funding through taxation.

Perhaps if our governments, at all levels, were to reduce the scope and distortion of their fiscal, monetary, and regulatory activities, then the economy would grow more quickly for any given set of tax rates. Similarly, for any given set of spending and regulatory institutions, we are more likely to observe increased economic growth rates when we reduce top marginal tax rates on income and capital than when we increase such rates.

In recognizing the Hauser phenomenon, we are really just looking at the Laffer Curve through a different window. The Laffer Curve describes the relationship between the marginal tax rate on a particular tax base and the amount of tax revenue obtained from that base. The importance of understanding this relationship is that it warns us against inadvertently reducing people's incomes in a futile attempt to increase government revenue by increasing tax rates on relatively fluid tax bases.

The more the government tries to take, the shorter the supply of everything and the heavier the burden on everyone. It's not rocket science; it's a bit more complex than that.


Richard J. Grant is a professor of finance and economics at Lipscomb University and a scholar at the Tennessee Center for Policy Research. His column appears on Sundays. E-mail: rjg@richardjgrant.com

Copyright © Richard J Grant 2007-2010

Richard J Grant archived at The Tennessean

Sunday, December 05, 2010

Lame ducks should not let tax rates rise

Published in The Tennessean, Sunday, December 5, 2010

Lame ducks should not let tax rates rise

by Richard J. Grant

They say that a wounded animal is a dangerous animal. This would seem to apply also to a lame duck, as exemplified in our present lame-duck liberal Congress.

Despite the recent electoral repudiation of big-government liberalism, Democrats continue to grasp for any fin du rĂ©gime advantage that they might pull out in their last days as the majority. They continue to push the canard that their intended January tax-rate increases will affect only “the rich.” When they say “the rich” they really mean “high income earners,” but the needs of rabble-rousing demagogues will always trump language accuracy.

It is difficult to find real economists who would support tax-rate increases at a time of weak economic recovery and high unemployment. Even those economists who believe that such tax-rate increases might increase tax revenue will, nevertheless, recognize the danger of dampening growth at this time.

For those who put statist ideology ahead of the general welfare, none of this matters. They are holding hard to their story that it is only fair that the rich pay more and that the higher tax rates are needed to increase government revenue. And if wishes were horses, the statists’ dreams would come true. But they aren't and they won't.

The least-productive tax base is the one that is most likely to melt away under the glare of high tax rates. That is more likely to describe high income earners rather than low income earners. It is more likely to describe capital gains taxes rather than payroll taxes. The most productive and creative among us are also likely to be the most agile in the avoidance of tax burdens.

This is not to suggest that anyone can really escape the burden of high tax rates. The mere act of avoidance causes a shift of resources away from their most productive uses. The net aggregate effect is reduced incomes. Special deductions for politically favored interest groups will, of course, bring special advantages to some of those groups, but that cannot apply to the collective whole.

Whether “the rich” are defined as those earning over $250,000 or, as Sen. Charles Schumer is now desperately suggesting, $1 million, the biggest impact of these tax increases will be on Subchapter S corporations and other small businesses. The bottom line is that a tax on employers is ultimately a tax on employees, and on those who would like to be employees. What possible consolation could it give an unemployed worker to know that his former employer pays a higher tax rate than he does?

An increasing number of studies by economists find that government spending provides, at best, only a weak short-term stimulus effect. Whatever stimulus effect there is tends to wear off quickly and turn negative. Even such spending that is financed by deficits (i.e. increasing government debt) creates a need for present and future tax revenue. Whatever immediate stimulus we might get from consuming our “seed-corn” capital, when the effect of the tax burden is added in, the net result of these so-called stimulus programs is glaringly negative.

If Congress fails to extend the current tax rates in December, then all income-tax rates, as well as the rates on dividends, capital gains, and estates will rise in January. We need to get the lame-duck liberals behind us and give the capitalist pigs their wings.


Richard J. Grant is a professor of finance and economics at Lipscomb University and a scholar at the Tennessee Center for Policy Research. His column appears on Sundays. E-mail: rjg@richardjgrant.com

Copyright © Richard J Grant 2007-2010

Richard J Grant archived at The Tennessean

Sunday, November 28, 2010

Irish financial crisis has lessons for Americans

Published in The Tennessean, Sunday, November 28, 2010

Irish financial crisis has lessons for Americans

by Richard J. Grant

The current Irish financial crisis offers lessons to Americans. First, we can learn a lot about fiscal prudence and economic growth from the preceding Irish history. Through the mid-20th century the Irish, like their British neighbors, abandoned common sense in favor of the pseudo-intellectual promises of socialism (what we call “progressivism”). The role of state involvement in their lives grew and their economies stagnated.

Just as the Thatcher revolution pulled Britain back from the precipice and restored, at least temporarily, the people's dignity, the Irish went one better. They cut government spending and tax rates aggressively. They removed trade restrictions and brought down their inflation rate.

As a small country, with a population just under 4.5 million, they needed to offer clear advantages to business in order to stand out from the crowd. They learned well from Thatcher, but perhaps Ireland's most important inheritance from Britain was rule-of-law principles and a common-law legal system that served to protect private property.

In 2007, Ireland's net public debt was only 12 percent of annual economic production (GDP). Compare that to the United States, where net public debt (which excludes the portion of debt held by US government agencies, such as the Social Security Trust Fund) is currently around 62 percent of GDP. (Total U.S. public debt outstanding is 93 percent of GDP.) By world fiscal standards, Ireland was in great shape.

Ireland was so attractive to investors that its banking system grew disproportionately to the size of the country. And bankers who had grown up in a world of government-run deposit insurance schemes and the expectation of government and IMF bailouts succeeded in business without fully developing their sense of prudent restraint. Further, Ireland had delegated control of its money supply and, therefore, interest rates to the European Central Bank (ECB).

During the middle of the last decade, the ECB, like our own Federal Reserve, pushed down interest rates to stimulate recovery from the tech downturn. That set us up for the most recent recession and real-estate downturn.

Government officials rarely foresee or react correctly to the systemic risks created by government-granted monopolies in the supply of money and the power to manipulate interest rates. The Irish blunder, which was the granting of a government guarantee for most of the loans in the banking system, could have been avoided. The Irish government was too small relative to its banking system to make good on such guarantees and, unlike the US government, it no longer had the power to print money to cover its guarantees.

When Ireland joined the European Union, it put its national sovereignty at risk in order to reap the benefits of living in a large free trade zone. Now, however, it has put its national sovereignty at further risk by blundering into the sphere that should have been reserved strictly for private action. Instead of letting the banks and their creditors learn to bear the burden of their own actions, the Irish government made promises that will overburden its taxpayers.

To get a bailout from the EU, Ireland faces demands from EU members that it raise its corporate tax rate. This won't help Ireland, but the intention is to make it less competitive so that other EU states don't have to make the effort. This is how American states have sold their own sovereignty to their federal government.


Richard J. Grant is a professor of finance and economics at Lipscomb University and a scholar at the Tennessee Center for Policy Research. His column appears on Sundays. E-mail: rjg@richardjgrant.com

Copyright © Richard J Grant 2007-2010

Richard J Grant archived at The Tennessean

Sunday, November 21, 2010

European Union will bail out Irish mistake

Published in The Tennessean, Sunday, November 21, 2010

European Union will bail out Irish mistake

by Richard J. Grant

Four years ago, the government of Ireland was running a healthy budget surplus. During the previous 20 years Ireland had transformed its economy into the envy of Europe.

Until the early 1980s Ireland had been a big-government, high-tax, high-inflation, high-unemployment land of economic stagnation. Its main export was people. Government spending consumed more than 50 percent of its economy. The corporate income tax rate was 50 percent and the top personal rate was close to 60 percent. The inflation rate had been in double digits for much of the previous 10 years. Ireland had been phasing out its protectionist tariffs, but in the mid-1980s its unemployment rate reached 17 percent and its economic growth rate was still only about 2.3 percent.

By 2006, Ireland's corporate tax rate was 12.5 percent, the lowest in Europe. Its top personal income tax rate had dropped almost to 40 percent. Government spending was less than 35 percent of gross domestic product (GDP). Tighter control over the money supply kept the rate of price inflation down around 3 percent.

During the previous 10 years, Ireland's growth rate had averaged 7.4 percent and Irish income per person grew to be 10 percent higher than that of the United Kingdom and 20 percent greater than in France and Germany. Irish expatriates had good reason to return to their homeland, and many did. Foreign investment flooded in as well.

As Irish wealth grew, many people bought property. There was big demand for housing and office development. And with the European Central Bank holding interest rates low, credit was easy for construction loans and mortgages. It seemed natural for property prices to keep rising. The banks grew more promiscuous in their lending while regulators grew more complacent.

The Irish property bubble was not the only one in the world to pop in 2008. As was the case in many other countries, the magnitude of the bad debt problem was not immediately recognized. The banks were in serious trouble, but the regulators mistook the signs of insolvency for a mere lack of liquidity. They believed that the stronger banks could absorb some of the bad loans of the weaker banks, and that the Central Bank of Ireland (which cannot create money) could supply sufficient reserves.

Depositors began to pull their funds out of the banks, so bank reserves kept shrinking. Existing government deposit insurance seemed no longer able to ensure depositor complacency. That was when the Irish government made an innocent, but big, mistake.

The government decided to end the crisis by guaranteeing every deposit as well as most of the debt issued by Irish banks. The finance minister believed that this would restore confidence in the banking system thereby solving the liquidity crisis with very little more cash.

The finance minister would soon learn just how expensive a credit guarantee can be. He had, in effect, issued a credit default swap to the banking industry free of charge. He nationalized the losses of the banking industry. Taxpayers now carry the burden.

The surpluses and balanced budgets of the “Irish miracle” have given way to increasing deficits. The budget deficit is expected to rise this year to 32 percent of GDP.

The Irish government has bravely insisted that it can carry the burden. But it will soon accept a bailout from the European Union.


Richard J. Grant is a professor of finance and economics at Lipscomb University and a scholar at the Tennessee Center for Policy Research. His column appears on Sundays. E-mail: rjg@richardjgrant.com

Copyright © Richard J Grant 2007-2010

Richard J Grant archived at The Tennessean

Sunday, November 14, 2010

Burdensome regulations slow economic recovery

Published in The Tennessean, Sunday, November 14, 2010

Burdensome regulations slow economic recovery

Richard J. Grant

It is unfortunate that the Federal Reserve Act gives the Federal Reserve System three different goals to promote: maximum employment, stable prices, and moderate long-term interest rates. Riding three horses at the same time can be dangerous.

Fed Chairman Ben Bernanke simplifies matters somewhat by referring to the Fed's “dual mandate” to promote “a high level of employment and low, stable inflation.” But he is not shy about manipulating interest rates in his attempt to achieve the other two goals. With price inflation low and unemployment high, the Fed has attempted to raise employment by pushing down real interest rates.

This is why the base money supply has increased so drastically since mid-2008 and why prices did not fall more than they did at that time. Chairman Bernanke still believes that the inflation rate is too low and that more inflation can help increase employment.

The trouble is that the Fed does not really have the ability to maintain high levels of employment. Whenever it tries to do this, it just sets us up for the next boom-bust cycle. Its discretionary interventions are best described as disruptive and serve to reduce long-term employment.

Big increases in unemployment, such as we have now, are common symptoms of government-induced boom-bust cycles. But the president and Congress have made matters worse in their attempts to treat these symptoms.

Rather than let the market correct the mal-investments that were encouraged by government incentives, the president and Congress have slowed the recovery process by commandeering resources from the private sector while piling on more burdensome regulations.

Recovery and reemployment are overdue and will be slower than necessary as long as the administration prevents the new Congress from reducing the size and obtrusiveness of government. The president will likely agree to stop tax rates from rising in January, but he is unlikely to acquiesce in the repeal of his cherished, but destructive, health-care and financial regulation laws.

Nothing that the Federal Reserve can do will overcome the job-destroying effects of the administration's heavy handed fiscal and regulatory interventions. The so-called “stimulus” program served only to squander time and resources. Attempts to prop up home prices and failing businesses have delayed necessary adjustments. Attempts to regulate everything from credit to carbon dioxide have created an atmosphere of regime-uncertainty in business and the wider society.

Businesses have streamlined their operations to maintain profitability and to ensure their survival. They will be reluctant to hire new workers until they can see more clearly what the likely costs of future taxes and regulations will be.

These fiscal and regulatory burdens were not imposed by the Fed. But in its attempt to overcome their effects and to boost employment, the Fed risks failure to maintain low inflation and moderate interest rates.

The Fed's previous manipulations of interest rates have induced the booms and precipitated the busts that panicked the government to react with stimulus packages and other ill-conceived interventions. It does not help us that the Fed, in turn, is now reacting to the government's policies with its own ill-conceived inflation of the money supply.

While producer prices are rising rapidly at home, the dollar is falling against currencies around the world. Perhaps it is time to reduce the Fed's discretion and look to a commodity price standard. We could, once again, link the dollar to gold.


Richard J. Grant is a professor of finance and economics at Lipscomb University and a scholar at the Tennessee Center for Policy Research. His column appears on Sundays. E-mail: rjg@richardjgrant.com

Copyright © Richard J Grant 2007-2010

Richard J Grant archived at The Tennessean

Sunday, November 07, 2010

The Fed continues to create money out of nothing

Published in The Tennessean, Sunday, November 7, 2010

The Fed continues to create money out of nothing

by Richard J. Grant

Federal Reserve Board Chairman Ben Bernanke reminds us that the Fed responded to “the worst financial crisis since the 1930s” by purchasing more than $1 trillion worth of Treasury securities and U.S.-backed mortgage-related securities. This action took several hundred billion dollars worth of risky mortgage-backed securities off the balance sheets of private financial institutions and put them on the Fed's balance sheet.

How did the Fed pay for all these securities? It used its unique statutory powers to create money out of nothing. In the last few months of 2008, the Fed doubled the base money supply to $1.8 trillion, and by the beginning of 2010 had increased it above $2 trillion.

Under normal circumstances, this would almost certainly have resulted in high double-digit price inflation. With all this new cash available, banks would have had plenty of excess reserves to lend, thereby greatly expanding the effective money supply.

But circumstances were not normal. With the property market in decline and the economy heading into recession, increasing default rates knocked down the value of mortgage-backed assets. With the asset side of their balance sheets shrinking, many banks found themselves to be more undercapitalized than usual. So when the Fed supplied them with cash, they did not lend it but held most of it as reserves.

This is why we had monetary inflation but not price inflation. Not yet.

The Federal Reserve Act, which brought the Fed into existence, gives it discretion “to promote effectively the goals of maximum employment, stable prices, and moderate long-term interest rates.” Depending on which prices we look at, price inflation has been not much above 1 percent and was briefly negative. If we pretend that interest rates are “moderate” then the Fed currently scores two out of three.

But with the unemployment rate stuck over 9 percent, the Fed sees its mandate as unfulfilled. Unfortunately the Fed suffers from the same learning disability as the Obama administration: It does not learn from past mistakes. Just as government spending fails to stimulate long-term growth so does pumping-up the money supply fail.

On November 3, the Fed announced that it will purchase another $600 billion of longer-term Treasury securities through the middle of 2011. The base money supply will increase $75 billion per month. That is a 30 percent increase over eight months.

Does the Fed expect the banks to hold all this new cash as reserves? If so, then how does it expect to create even a short-term stimulus effect? If it does not, then how does it expect to avoid inflationary consequences? Only one member of the Fed committee that is responsible for this decision, Thomas Hoenig, sees the inflation risk as serious enough to dissent.

When the Fed makes large purchases of securities, it pushes interest rates below what they would have been. This creates the illusion of an increased supply of capital available as loanable funds. But, although the Fed can create money, it cannot create wealth.

The Fed gives its profits to the U.S. Treasury. So when it creates money to buy Treasury securities, it is ultimately covering government deficit spending with the money that it creates.

Does this mean that the deficit is covered without cost? No. The cost is borne by everyone that holds U.S. dollars and dollar-denominated assets. Money inflation is a tax.


Richard J. Grant is a professor of finance and economics at Lipscomb University and a scholar at the Tennessee Center for Policy Research. His column appears on Sundays. E-mail: rjg@richardjgrant.com

Copyright © Richard J Grant 2007-2010

Richard J Grant archived at The Tennessean

Sunday, October 31, 2010

Health-care bill has given birth to new regulations

Published in The Tennessean, Sunday, October 31, 2010

Health-care bill and others have given birth to new regulations

by Richard J. Grant

When the Speaker of the U.S. House of Representatives, Nancy Pelosi, famously let slip, “But we have to pass the bill so you can find out what is in it,” she was referring to the health care reform bill of March 2010. She wasn't kidding. The bill had become increasingly unpopular with the American people, so she found it necessary to logroll a coalition by adding big scoops of political sweeteners to buy the support of individual senators and congressmen.

The bill was passed with great urgency but little understanding. It was like a cluster bomb, full of unpleasant surprises. The final bill was so long and complicated that, now seven months later, even its supporters are expressing surprise as insurance companies raise health-care premiums and eliminate particular categories of coverage. These consequences might have been unintended, but they were predictable. Worse, it is still full of unexploded regulatory and tax bomblets.

Another legislative “success” of the Obama administration and the Democratic majority was the passage of the financial regulatory reform bill that was intended to protect consumers by reining in the bad behavior of financial institutions. The financial industry was already one of the most heavily regulated in the country, with protections and restrictions that encouraged much of the moral hazard and bad behavior in the first place.

Passage of the bill began the gestation of a cluster of new regulatory agencies and will give birth to a whole new generation of financial distortions and unintended consequences. Over the past several months, government officials have impugned the financial institutions for not lending more. But at the same time, those officials have deployed regulators to second-guess the actions of bankers and to micromanage the market. While the private debt markets are stilted, the size of the government debt market is exploding. In this we get a hint of what is to come.

Speaker Pelosi, with her large Democratic majority, was successful in passing the carbon dioxide limiting “cap and trade” bill in the House. This would have pounded the entire economy with another cluster of taxes and regulatory bomblets, but public awareness that a better nickname for the bill was “cap and tax” caused some members of the Democratic majority in the Senate to balk.

Where the Senate failed legislatively to impose these new powers of central planning, the Obama administration would fill the gap by mobilizing the already existing regulatory powers of the Environmental Protection Agency. It had already declared carbon dioxide to be a “pollutant,” thereby granting itself the power under the Clean Air Act to impose limits on emissions. Now the EPA stands ready to impose new regulations on electric utilities, particularly those with coal-fired plants. Whether intended or not, it will serve to reduce further our ability to produce energy in America. We will pay more for less.

It should be no surprise that none of the Obama administration's efforts to “stimulate” the economy could succeed. With hundreds of billions of dollars diverted from private sector use into politically selected public works projects, and with the fact and threat of increased regulation, our national productivity levels will continue to suffer. And protectionist currency depreciation is no less destructive than tariffs. Jobs are lost.

Voters can now judge the combined performance of the Obama administration and the Democratic majorities in Congress. It means “not working.”


Richard J. Grant is a professor of finance and economics at Lipscomb University and a scholar at the Tennessee Center for Policy Research. His column appears on Sundays. E-mail: rjg@richardjgrant.com

Copyright © Richard J Grant 2007-2010

Richard J Grant archived at The Tennessean

Sunday, October 24, 2010

Tension between government, voters is nothing new

Published in The Tennessean, Sunday, October 24, 2010

Tension between government, voters is nothing new

by Richard J. Grant


Just when our epoch seemed to be lost in vacuous notions of “hope and change,” we have suddenly noticed that some things are permanent. The laws of nature, which include the laws of human action, seem to persist no matter how well or poorly we understand them. And recent political events have arisen that remind us of our cultural and political inheritance and of the chain of responsibility that has been passed to us by previous generations. It is for us to build upon and to preserve for our descendents.

The malaise in our nation is more than economic. What we today call the tea party movement is, like the Boston Tea Party of 1773, an act of open defiance by a people against what they see to be their government’s disrespect for, and encroachment upon, their rightful liberties. That original tea party gave rise to events that provided the constitutionally limited democratic tools through which we can now act to replace representatives who fail to respect the original intent of the Constitution that they have sworn to uphold.

This tension between the people and those who would assume power over them is a recurring theme in history. The providential manner in which colonial Americans faced this challenge is succinctly portrayed by Professor Timothy D. Johnson, of Lipscomb University, in Liberty vs. Power: The Founding Fathers’ Vision for America. It is a fine little book that can be read with profit by young and old.

Johnson points to the cultural roots of America extending through the English people who were “notoriously unsubmissive and quick to challenge authority.” As another historian put it, they “made poor subjects for monarchy, and they were proud of it.” They cherished their liberty and passed this trait to their American descendants.

Johnson hints at the timeless parallels between our age and 1773, when Parliament passed the Tea Act. “Believing that the huge but struggling East India Company was too big to fail, the legislation was essentially a government bailout.” The company was failing and was unable to get loans. “So it agreed to a reorganization that gave government officials administrative oversight, and in return Parliament gave the company a monopoly on the sale of tea in the colonies.”

The inflammatory aspect of the Tea Act was that it “reiterated Parliament’s assertion that it had the authority to levy taxes” on the colonists. Johnson, the historian, gives us an eerie reminder of the persistent nature of politics. “Parliament had provided a splendid example of the old adage that oppression is based on fear and favor – in other words, intimidation for those who resist power and privilege for those whose patronage is needed to prop up power.”

Johnson treats the philosophy and events that gave rise to this Republic but also gives attention to what is essential to its preservation. The indispensability of civic virtue was acknowledged by the Founders in their words and their actions. From James Madison: “To suppose that any form of government will secure liberty or happiness without any virtue in the people is a chimerical [delusional] idea.”

A people show their worthiness of liberty in how they live with it and in how they exercise their responsibility to defend it. Each September 17 we passively remember Constitution Day. But this year, we will actively demonstrate our worthiness on November 2.


Richard J. Grant is a professor of finance and economics at Lipscomb University and a scholar at the Tennessee Center for Policy Research. His column appears on Sundays. E-mail: rjg@richardjgrant.com

Copyright © Richard J Grant 2007-2010

Richard J Grant archived at The Tennessean

Sunday, October 17, 2010

Reaganomics led to an economic turnaround

Published in The Tennessean, Sunday, October 17, 2010

Reaganomics led to an economic turnaround

By Richard J. Grant

When judging the results of successive U.S. governments, it is common to focus on the simple matter of who the president was. But this neglects the importance of Congress in all legislative matters. We cannot understand the actions or the results of an administration without examining both its intentions and the context in which it served.

That context includes not only the composition of the contemporary Congress, but also the cumulative legacy of previous governments as well as the economic and strategic conditions in the contemporary world. Strategies and ideologies manifest differently in different contexts.

It is common, for example, to note the increases in the federal budget deficit during the years of the Reagan administration. Shallow analysts look at this one statistic and dismiss “Reaganomics” as a failure. They fail to note that the national debt had been trending upward at an increasing rate during the 1970s, but peaked out during President Ronald Reagan’s first term. That began a twenty-year downtrend in the rate of growth of the national debt.

Interestingly, that downtrend began after the Reagan-initiated cuts to marginal income-tax rates that were partly responsible (along with deregulation and reduced inflation) for the strong economic growth that followed. Analysts with a static view of the world are unable to comprehend that cuts to marginal tax rates can lead ultimately, after an initial dip, to higher tax revenues. Some tax bases, such as capital gains, are more responsive than others.

Reagan recognized the Soviet Union and its contagious ideology for the existential threats that they were and accordingly requested increased defense spending. But he clearly wanted a balanced budget and pushed for spending cuts in other areas. Congress preferred to spend.

Just when we needed it most, Reagan’s policies provided both a challenge and a contrast to the Soviet myth and to the Soviet reality. When the USSR collapsed, leftist ideologues around the world were knocked back on their heels. A window of opportunity opened in many previously oppressed regions to join world markets and to engage in trade and production.

This was the world inherited by the Clinton administration. President George H. W. Bush had failed to maintain the Reagan trend, but President Bill Clinton began his first term as if he had not learned anything from Reagan. The American people checked him in 1994 by giving him a Republican congress that had learned something and would not allow his wide left turns.

As a result, government spending was lower than it would have been, nationalization of heath care was averted, and deficits continued to fall. President Clinton, recognizing the political context, signed a reduction in the capital gains tax rate and championed welfare reform. The economy boomed.

During the administration of President George W. Bush, marginal tax rates were reduced (temporarily) again and contributed to the strong growth. Tax revenues had already fallen in the wake of the 2001 recession, but government spending increased faster than it had under previous Republican congresses before slowing briefly in 2007. War spending contributed, but only a small portion of the total.

As the recent financial crisis emerged with its recession, the Congress was again controlled by Democrats who were far less inhibited about taxing, spending, and regulating. The Bush administration intervened heavily, before handing off to the Obama administration, which will be remembered differently than the Reagan administration.


Richard J. Grant is a professor of finance and economics at Lipscomb University and a scholar at the Tennessee Center for Policy Research. His column appears on Sundays. E-mail: rjg@richardjgrant.com

Copyright © Richard J Grant 2007-2010

Richard J Grant archived at The Tennessean

Sunday, October 10, 2010

Paying for government is burdensome to taxpayers

Published in The Tennessean, Sunday, October 10, 2010

Paying for government is burdensome to taxpayers

by Richard J. Grant


To direct our attention to the cost of government, the Framers of the U.S. Constitution included in Article I, Section 9 that “a regular Statement and Account of the Receipts and Expenditures of all public Money shall be published from time to time.”

In compliance with this requirement, government agencies provide regular reports and projections of federal revenue and expenditures. The recent content of these reports, such as budget deficits reaching $1.4 trillion, which is about 40 percent of the budget, suggests that our government should try harder to comply with the other parts of the Constitution.

There are also costs of government that go beyond narrow fiscal matters. The expanding federal regulatory structure has costs that few perceive.

The best recent study of the federal regulatory burden is “The Impact of Regulatory Costs on Small Firms,” which was produced for the Small Business Administration by Nicole V. Crain and W. Mark Crain, both of Lafayette College. Their summary finding is that “in 2008, U.S. federal government regulations cost an estimated $1.75 trillion, an amount equal to 14 percent of U.S. national income.”

The Crains note that they have not traced all costs, but the regulatory burden as measured is clearly substantial. It rivals the burden of U.S. federal tax receipts, which equaled 21 percent of national income in 2008. This gives a combined federal tax and regulatory burden of 35 percent of national income. That is more than a third of people’s earnings.

Comparing the burdens of different types of regulations on companies of different sizes and activities, they find that regulatory compliance costs fall disproportionately on small businesses. For firms with more than 500 employees, the estimated cost per employee was $7,755. But for firms with fewer than 20 employees, the cost per employee was $10,585.

Small manufacturing firms are the hardest hit sector with per employee costs of $28,316. This is more than double the per employee burden on large firms, which can spread the fixed costs over a larger base.

The average cost over all firms was $8,086 per employee. The largest share of this cost was categorized as being due to “economic” regulations. The next most burdensome category was “environmental,” followed by “tax compliance” and others.

The total regulatory cost burden on the typical U.S. firm is about $161,000, which corresponds to about 19 percent of payroll expenditures. This burden is greater than the combined payroll taxes paid by employers and employees for Social Security and Medicare, which take 15.3 percent.

Measuring the burden on business is important for our understanding of the regulatory effects on economic growth and employment. The Crains emphasize that, although regulations might initially be incident on businesses, “ultimately all costs must fall on individuals.” We are all consumers, workers, stockholders, owners, and taxpayers.

The regulatory burden per household in 2008 was $15,586. When combined with the tax burden, that total burden is $37,962 per household.

From 1995 to 2008, the regulatory burden per household rose at an average annual real rate of 4.8 percent. This is cause for concern, given that this is higher than the real economic growth rate in the U.S. during the same period.

When we make choices between more or less government involvement in our lives, we are also making choices about the size of the burden that we must bear for any benefit.


Richard J. Grant is a professor of finance and economics at Lipscomb University and a scholar at the Tennessee Center for Policy Research. His column appears on Sundays.
E-mail: rjg@richardjgrant.com

Copyright © Richard J Grant 2007-2010

Richard J Grant archived at The Tennessean

Sunday, October 03, 2010

Democrats’ election strategy is to evade responsibility

Published in The Tennessean, Sunday, October 3, 2010

Democrats’ election strategy is to evade responsibility

by Richard J. Grant


House Majority Leader Steny Hoyer, D-Md., has found a way to blame President George W. Bush for future tax increases. He says that because President Bush’s tax-rate cuts were not permanent, but were set to expire at the end of 2010, it is actually President Bush who is responsible for the coming tax increases.

The trouble with Hoyer’s attempt at logic is that President Bush has been retired for almost two years and the Democrats have all the power they need to prevent the tax rates from rising at the end of the year. They have that power now. They are supposedly in charge right now. But with an election looming – and their ideology clashing with economic reality and voter sentiment – the responsibility is too much for them to handle. So they evade it.

Like the Ancient Mariner who shot the albatross, Democrats have used their majorities during the current session to ram through economy-killing legislation, and they now wear the dead bird of economic stagnation around their necks.

The recent financial reform legislation, they claim, will protect consumers from financial misinformation and predatory lenders. Perhaps voters need some protection against predatory legislators.

Few would suggest raising tax rates at a time of slow and hesitant business activity and high unemployment. But that is what Democrats have chosen to do. They say they won’t raise all the rates to the pre-Bush levels, but they do intend to raise some tax rates.

The intention is to raise rates on “the rich.” By that they mean anyone who has a high income or who leaves a large estate. It also includes anyone who earns dividends or capital gains.

But intentions are not the same thing as outcomes. And those who bear the tax incidence are not necessarily the same people who bear the tax burden. A tax on capital is a tax on our productive capacity. A tax on our productive capacity reduces the demand for labor, thereby reducing wages and employment.

“Tax the rich” might be a popular leftist slogan, but it comes at a high, undisclosed price.

Those with higher levels of either wealth or income tend to be the most adaptable to changes in the business environment, whether commercial or legal. If Plan A is more productive than Plan B before tax, but Plan B leaves more after-tax income, then Plan B gets the go ahead. Plan B might even require shifting operations overseas. Or it might simply offer more leisure.

Those with lower incomes might believe that they are escaping the effects of taxation when only “the rich” are taxed. But they are not. Plan B means lower incomes for everyone on the productive side of the tax equation. When the tax rates on capital gains and dividends rise in January, the burden will be borne by everyone.

Some Democrats recognize this, but their chosen leaders do not. Republicans have offered to support a motion to stop all the scheduled tax increases. But rather than accept this offer, House Speaker Nancy Pelosi and Senate Majority Leader Harry Reid have chosen to take no action before the November elections. Rather than face voters cleanly, they will probably sneak their tax increases through during the lame-duck session after the election.

Evasion of responsibility might be clever politics, but it is not clever governance in a free republic. It is an old, but contemptuous, political game to extract resources from the people without disclosing the full cost of government.

Rather than reduce the burdens on people, the Democrats have used their time and power to impose on us the highly flawed health-care and financial “reform” bills. Federal regulatory compliance costs already use up more resources than we now spend on health care. But the new health care law has not only increased those compliance costs, it also contains its own tax increases.

For what happens next, voters are responsible.


Richard J. Grant is a professor of finance and economics at Lipscomb University and a scholar at the Tennessee Center for Policy Research. His column appears on Sundays. E-mail: rjg@richardjgrant.com

Copyright © Richard J Grant 2007-2010

Richard J Grant archived at The Tennessean

Sunday, September 26, 2010

Majority of voters in 2008 made a hiring mistake

Published in The Tennessean, Sunday, September 26, 2010

Majority of voters in 2008 made a hiring mistake

by Richard J. Grant


The head of a very large corporation, who is described as a “die-hard Obama fan,” was recently quoted as saying that “the president could have used some executive experience on his all-academic economics team.” Noting that there is no former business executive in the Obama cabinet or among the top economic advisers, he opined, “I think it was a hiring mistake for the administration.”

Who else made a hiring mistake? Was this business leader not also a voter and, possibly, a campaign supporter and contributor? Are the skills needed to run a major corporation not transferable to one’s judgment at the ballot box? Was it terribly difficult to notice that one of the leading presidential candidates was a man in his 40s who had not yet outgrown his schoolboy Marxism?

This top business executive has subsequently discovered that his political actions have imperiled the welfare of not only his shareholders, but also of his customers, his employees and many others. But what is the solution?

Some believe that the president should replace his soon-to-retire, top economic adviser, Lawrence Summers, with a business leader. Would they be happy to bring back Henry Paulson, a former top investment banker who, like Summers, also has previous experience as Treasury Secretary? This is not likely to happen for reasons that include, but also go beyond, party affiliation.

Rumors suggest that the president will replace Summers with a “woman CEO.” This alone would rule out Paulson. Further, given the number of complaints we hear that too few women serve as top executives, it also rules out far more that 50 percent of possible choices. But it also brings our attention back to the priorities and judgment exhibited by the president.

Those of us who have worked in both academia and in business are well aware (or should be) that there are people in both these activities who are suitable to serve as presidential economic advisers. There are also top people in both activities that are clearly not suitable for public policy work.

Business people are just as susceptible as academics to the fantasy that they can cross over seamlessly into that third arena of government management and set everybody straight. Perhaps their experience with office politics and lobbying will prepare them for what is to come. But they are entering into an activity that has no clear bottom line, and the currency of collectivized, all-or-nothing decision making is very different from that offered by business customers.

Those who land in Washington with promises to cut away the “red tape” and get things done, soon discover that they no longer have the same sense of direction that they got from prices and customers in business. They also often discover, perhaps too late, that “red tape” is another name for “checks and balances,” which are essential to protect us all from the otherwise unlimited power potentially exercised by politicians and bureaucrats.

The essential element that is missing from the Obama administration is not business experience but good judgment.

Contrast the 20-month performance of President Barack Obama, with his Ivy League education, to that of a previous president who inherited a similar situation. President Ronald Reagan had majored in economics at Eureka College, a small Midwest liberal arts institution affiliated with the Disciples of Christ. He graduated in 1932, before Keynesian economics and a love of government money came to dominate academia.

President Reagan’s choice of economic advisers worked out for us much better than did President Obama’s. Reagan understood that people thrive on productive activity, and that production must always necessarily come before consumption. Recognition of this natural necessity leads to a moral imperative. It is the antithesis of “stimulus” theory.

Somewhere there is a board of directors of a very large company that might need to choose a new chief executive. Somewhere there is a large country where the voters must definitely do the same thing.


Richard J. Grant is a professor of finance and economics at Lipscomb University and a scholar at the Tennessee Center for Policy Research. His column appears on Sundays. E-mail: rjg@richardjgrant.com

Copyright © Richard J Grant 2007-2010

Richard J Grant archived at The Tennessean

Sunday, September 19, 2010

Attempts at control merely show how little we know

Published in The Tennessean, Sunday, September 19, 2010

Attempts at control merely show how little we know

by Richard J. Grant


In their attempts to understand economic matters, people commonly make two big errors. One is to think of various types of relationships as if they were discrete and durable objects. An example is employment relationships. In this case, we not only speak of “saving” or “creating” jobs, we even think of them as being ends in themselves rather than remembering that any particular job exists to help create those things that we really want.

The other big error is to presume to have knowledge that we cannot possibly have. When there is a disruption in the supply of any good, such as gasoline, the price tends to rise. Such price rises can trigger outrage in people who see the increases as “price gouging.” The question for which these people have no defensible answer is, “What is the correct price?”

They do not know the answer now, just as they did not know it before the supply disruption. Rather than allow the price to rise in order to cover the costs of attracting gasoline supplies from other regions, they invoke “anti-gouging” laws and then wonder why the gas stations in their city have no gas. They have political power, but not the knowledge to avoid unintended consequences.

Attempts to protect preconceived notions of a “fair price” are similar to attempts to protect jobs. A “job” makes no sense when divorced from the purpose that gives it value. A job is just a relationship, an agreement to trade services in the pursuit of some goal or the production of some good. The relationship could last for an hour or for many years. It depends on what people believe they need.

The existence of a job depends on the private knowledge that is generated through many complex relationships. A “market” is not a thing; it is the name that we give to this network of changing, purpose-driven relationships.

We can attempt to count and categorize the jobs, but we cannot stand above the system with governmental powers and truthfully claim to be “saving or creating jobs.” Government officials can never have the detailed knowledge of either the individuals’ desires or the resources available to satisfy them. That is why the only thing that socialism can guarantee is failure.

Politicians always have an incentive to promise something for nothing. When gas prices rise, they try to hold them down. When home prices fall, they try to prop them up. The politicians get votes, but gas supplies don’t arrive and houses don’t sell. Then they blame “markets” and hurl accusations of “greed” at the usual suspects.

In the name of protecting jobs, and winning votes, politicians will often look outward for suspects. Treasury Secretary Timothy Geithner and a significant number of senators and congressmen have decided that China is responsible for some of our current unemployment. They seem to believe that they know what the “correct” exchange rate should be between the yuan and the dollar. They claim to know that the yuan is “undervalued” and that the Chinese government is causing this deliberately.

They disapprove of the recent Chinese policy of fixing the yuan exchange rate to the dollar. Interestingly, the fixing of exchange rates was perfectly acceptable during the quarter century following World War II. It is also acceptable for several other countries today, especially if they export oil. It was also acceptable during most of American history, when the dollar itself was defined as a specific weight of gold or silver.

Instead of being honored that China had chosen to define the yuan in terms of the dollar, Secretary Geithner called the yuan “undervalued.” But what does that say about the dollar?

If the Chinese are controlling other prices and enforcing regulations that are real trade barriers, then we have something to teach them. But if we fail to protect our own freedom at home, then that is our biggest error.


Richard J. Grant is a professor of finance and economics at Lipscomb University and a scholar at the Tennessee Center for Policy Research. His column appears on Sundays. E-mail: rjg@richardjgrant.com

Copyright © Richard J Grant 2007-2010

Richard J Grant archived at The Tennessean

Sunday, September 12, 2010

Obama continues to gamble with the economy

Published in The Tennessean, Sunday, September 12, 2010

Obama continues to gamble with the economy

By Richard J. Grant


The Obama administration continues to throw “stimulus” mud on the wall with the hope that some of it will eventually stick. The next splat to hit the wall will be $50 billion of spending on infrastructure projects that were, apparently, not of a sufficiently high priority to be included in the previous flurries of stimulus spending.

Any attempt to explain this new spending proposal in terms of the “national interest” will result in bewilderment. It makes sense only from the perspective of the people who are pushing it and stand to gain from it. That would be the politicians and staffers whose futures depend on swaying voters’ minds before the November elections. It would also be those businesses and workers who expect to be the first recipients of the anticipated government spending.

In politics, it is often said that “perception is reality.” It is also said that in comedy, timing is everything. The politicians that best manage voter perceptions in the next eight weeks will be the ones laughing in November.

The new $50 billion won’t be spent before the elections. It might not even get through Congress by then. But it has been promised in the hope that enough voters will fall for it to make a difference on Election Day.

The Obama administration has also called for the creation of a national “infrastructure bank” to allow the federal government to give low-interest loans to local governments. The news reports fall into the trap of referring to these loans as “low-cost,” but that is to confuse the true cost with the nominal price. Federal taxpayers will pay for the road, rail, and airport upgrades way beyond the levels that actual passengers would have been willing to support by themselves.

The “infrastructure bank” is just the latest political vehicle with which to deliver the illusion of something for nothing. But its cost will be a lot more than nothing. It will turn out to be a Fannie and Freddy on wheels.

There is one new proposal by the administration that does make some sense. That is to allow businesses to write off 100 percent of new investments in plants and equipment in the current year, rather than expense it over three to 20 years. A shortcoming is that it will apply only through 2011. That doesn’t allow much time for thoughtful planning of new long-term projects.

Ironically, such tax write-offs are of higher value when tax rates are higher. It just happens that the Obama administration has chosen to let income and investment-related tax rates rise in January 2011. The political gamble is that voters will be silly enough to believe that the value of the temporary write-offs is greater than the long-term supply-side burden of the tax-rate increases.

The obvious question is, “Why not just cancel all the scheduled tax-rate increases?” An even better question would be, “Why not cut tax rates?” Either of these actions would help to make the current majority party less unpopular. There would also be no danger of reduced tax revenues, given that reducing tax rates would increase business returns and encourage business activity. Tax rates are already so high that we have observed an inverse relationship between marginal tax rates and tax revenues. In other words, lower marginal rates would actually increase total tax revenue collections.

If the Obama administration were more concerned about economic recovery and long-term prosperity than about redistribution and leveling, then it would simplify and cut tax rates – and more. It would reduce the size and scope of government spending as well as simplify and reduce the compliance burden of the whole regulatory structure.

Our current governing trend is toward dissipation and loss of international standing. If we don’t soon regain a moral and constitutional attitude, get our government spending under control and eliminate the budget deficit, then it will be more than mud that hits the wall.


Richard J. Grant is a professor of finance and economics at Lipscomb University and a scholar at the Tennessee Center for Policy Research. His column appears on Sundays. E-mail: rjg@richardjgrant.com

Copyright © Richard J Grant 2007-2010

Richard J Grant archived at The Tennessean

Sunday, September 05, 2010

Effects of national debt felt in all aspects of life

Published in The Tennessean, Sunday, September 5, 2010

Effects of national debt felt in all aspects of life

by Richard J. Grant


On a recent speaking tour, Admiral Michael Mullen, Chairman of the Joint Chiefs of Staff, told audiences, “The most significant threat to our national security is our debt.” His point was that a sound economy would be essential to provide the resources needed to maintain a strong defense. This, he believes, is threatened by the increasing interest burden of our national debt.

Admiral Mullen is rightly concerned. New government debt is rarely incurred to finance important, long-term capital investments. Most often it covers only transfers and current consumption. As a percentage of the budget, defense spending has fallen from over 50 percent in 1960, to just over 20 percent in recent times. Now, more than half the budget is taken up by Social Security, Medicare, other health-related spending, and the various income security programs.

Interest payments have hovered around 9 percent of the budget and will likely grow. The White House recently raised its forecast for the fiscal-2011 budget deficit to $1.4 trillion, which means that the total national debt is expected to increase by more than 10 percent. The debt-service burden will grow accordingly; and when interest rates start rising, the refinancing of maturing government debt will amplify that burden.

Increased debt burdens imply increased future tax burdens. In other words, given the low investment value of most government spending, the increased future tax burdens will not be justified by increased future production. That means we’ll come out with lower disposable incomes than we might have otherwise.

There are other, more subtle, factors that Admiral Mullen might have mentioned. The incidence of the various taxes diverts resources to second-best uses. Those uses are judged, not by their total returns, but by their after-tax returns. Politically favored activities will have lower tax rates and will attract more resources as a result.

The complexity of the tax system and the possibility of sudden changes add to the uncertainties of life and make personal and business planning more difficult and expensive. This effect is compounded by the uneven expansion of government spending programs and the kaleidoscopic regulatory system.

Our reactions to all these things in the course of earning a living are reflected in the relative prices of all the goods and services that we trade. Whether we know it or not, those prices and the quantities are full of information about what we want and what resources are available. The less interference we have in our trades, the better we all communicate and coordinate our business plans with each other.

As governments grow in size and influence, they tend to replace private decisions with political decisions. Incentives are changed, actions are influenced, and information is lost. We lose our natural means of deciding and agreeing how best to use most of our time and resources. We turn smart money into stupid money.

Those who have experienced life in a communist country know that as government takes over we become economically blind. Private knowledge and initiative are replaced by glorified guesswork called government “planning.”

There is an old Cold War joke about a Soviet general boasting at an embassy party: “We will conquer every country in the world!” A thoughtful pause, then the refinement: “Every country except New Zealand.” A bewildered westerner asks the obvious: “Why not New Zealand?” The suddenly sober general replies: “Well somebody has to set prices!”

Socialist systems are aided by the existence of market economies outside their borders. The market economies generate price and product information that the socialist planners can copy in their forlorn attempts to postpone the collapse of their systems.

The Soviet system did collapse, and perhaps their old general did learn a thing or two about economics. Old habits of state control die hard, but the new Russia is now somewhat freer and stronger. The personal income-tax rate in Russia is a flat 13 percent. Now there’s something that even we can copy.


Richard J. Grant is a professor of finance and economics at Lipscomb University and a scholar at the Tennessee Center for Policy Research. His column appears on Sundays. E-mail: rjg@richardjgrant.com

Copyright © Richard J Grant 2007-2010

Richard J Grant archived at The Tennessean

Sunday, August 29, 2010

Stimulus packages failed to ignite the economy

Published in The Tennessean, Sunday, August 29, 2010

Stimulus packages failed to ignite the economy

by Richard J. Grant


Perhaps the worst effect of the recent recession and financial crisis is the political response and the establishment of new precedents for government intervention. Although the crisis was itself a political creation, this is not yet widely understood. And as long as the most important lessons remain unlearned, we are in danger of prolonged stagnation and future repetitions.

More optimistically, and perhaps naively, we might believe that the severity of the crisis and the almost unambiguous failure of the Keynesian-style “stimulus” packages would make most people skeptical of the value of government interventions. Clearly, the government’s response has failed to remove the symptoms of recession. The various stimulus tricks did little more than to give the economic equivalent of a sugar buzz. Now, we see signs of the economy slumping again.

The Federal Reserve continues to hold interest rates down, thereby depriving the market of honest information about savings and the demand for loans. Just out of uncertainty and fear, people are saving more and borrowing less; so interest rates would be low anyway. But the Fed has pushed rates lower still and is thereby discouraging saving and encouraging borrowing. This is the opposite of what people need; and it thwarts recovery.

The low interest rate policy interferes with businesses’ decisions about capital and production structures. When interest rates are held artificially low, businesses are led to use capital as if it is less scarce than it really is. This is what made the Fed a major culprit in causing the financial crisis. Now it is using even more drastic measures in a futile attempt to make the symptoms go away.

The wide discretionary powers exercised by the Fed are just one more illustration of the broader constitutional failure that has allowed government powers to grow and disrupt the economic order. It is not just a failure of particular economic theories, but a failure to enforce the limits on governmental power that were embedded in the US Constitution from the beginning. These limits reflect values of a much deeper nature than mere administrative rules.

Perhaps it is too much to hope that a growing awareness of this failure will lead to a restoration of an appropriate constitutional attitude. It is the attitude that the fundamental laws, as preserved in the founding documents, place real limits on what can be done under their authority.

A steadfast respect for constitutional restrictions would have saved us from the mushrooming welfare state and the pretensions of state capitalism. We would have been spared the fights over the recent health-care bill, the financial regulation bill, and the cap-and-trade fiasco. We would also have been spared the spectacle of congressmen voting for bills, the effects of which they could not possibly understand.

Constitutional respect would also have prevented the political class from acquiring a taste for, and a dependency on, big helpings of tax revenue. We would not now be facing an imminent increase in tax rates on income, dividends, capital gains, and estates. Such an increase would not be called for at the best of times and is foolish at a time of economic sluggishness and high unemployment. It is particularly foolish in combination with increased regulations and deficit spending.

A renewed constitutional attitude would not remove all economic uncertainty from our lives, but it would restrain the government from creating new uncertainties, as it is now. An overly ambitious government with excessive discretionary powers can, and does now, cause businesses to delay decisions and to delay hiring. The wealth that is lost is lost forever. We can never get that time back.

The longer we go without strict enforcement of the Constitution, the greater the danger that we will lose the habit altogether. The value-laden rules that have worked so well for us will give way to the new precedents that we allow to slide in on the crest of the next crisis.


Richard J. Grant is a professor of finance and economics at Lipscomb University and a scholar at the Tennessee Center for Policy Research. His column appears on Sundays. E-mail: rjg@richardjgrant.com

Copyright © Richard J Grant 2007-2010

Sunday, August 22, 2010

Government thinks we’re helpless, makes us so

Published in The Tennessean, Sunday, August 22, 2010

Government thinks we’re helpless, makes us so

By Richard J. Grant


Are we helpless? Apparently our government officials believe we are. They seem less and less able to imagine that we could ever do anything for ourselves.

It becomes a problem when they act on that belief, regularly rushing to our aid even when we don’t need it. There are few things that politicians won’t do to curry our favor and to make them seem indispensible to our lives. After years of repetition and progressive encroachment, it seems normal and to be expected. We increasingly prove them correct.

It no longer seems natural to buy a house without a government-sponsored agency to guarantee our mortgage. We now also expect some kind of home-buyer’s credit as an incentive. And if we still can’t make the payments, the government will find a way to help us shift that burden.

“Energy efficiency” and “green energy” sources are of such importance that we cannot be expected to pay for them ourselves. After all, they don’t pay for themselves. Without a subsidy, the payback period for solar panels would be longer than the life of the panels. Even with a subsidy, the net energy production of solar panels is negative over their life-cycle. But many companies exist on these subsidies.

Greenish technology makes us feel so good that now we are happy to have the government subsidize its application to cars. Why wait for it to become economically and ergonomically viable when we can feel good about ourselves now and let the government find someone to pay for it?

Employers are apparently quite scary. They come up with ideas that make other people productive, and this gives them an advantage in the marketplace. Not to worry: the government has long since passed labor laws and imposed mandates to ensure that employees remain expensive. The current reluctance of employers to hire has nothing to do with this, we are told, and can be counteracted with subsidies financed by the government’s superior ability to borrow.

Selective tax breaks encourage employers to provide medical insurance and payment plans. With all the state mandates, licensing restrictions, and potential regulatory liabilities, this tends to confuse the market and to bid up the costs of medical coverage. But don’t worry; eventually the government will centrally plan the medical system – and we know how well that works.

Through Medicare, the government is already protecting us from some of our medical-planning responsibilities and the hard work of innovation and finding private solutions to real problems. With the assurance that the government will take care of us, we will learn to tolerate the minor inconvenience of collectivized rationing and waiting lists. We can also find comfort in the hope that our grandchildren will be better prepared to handle the trillions of dollars of unfunded liabilities we leave them.

For the economy’s sake, the government urges us to spend money. To the extent that we obey, we are less able to provide financially for our retirement. But the government doesn’t expect us to be that prudent anyway.

Through the Social Security system, a welfare scheme ostensibly funded by dedicated payroll taxes, we can rest assured that the government will take care of us in our old age. We need not worry about how much more our savings might have grown had we been allowed to invest them in real, productive businesses instead of funneling them into current consumption. Thanks to the government deciding for us, we need never worry about what we might have achieved had we been left with all the fruits of our labor and the responsibility of managing them.

To help us find our assigned place in society, and to relieve us of the burden of education, the federal government is increasing its funding of schools and universities. Now we spend as much, or more, per student without the variety or results of private education.

Helplessness comes with practice, and practice makes perfect.


Richard J. Grant is a professor of finance and economics at Lipscomb University and a scholar at the Tennessee Center for Policy Research. His column appears on Sundays. E-mail: rjg@richardjgrant.com

Copyright © Richard J Grant 2007-2010

Sunday, August 15, 2010

Less government control helps China’s economy

Published in The Tennessean, Sunday, August 15, 2010

Less government control helps China’s economy

by Richard J. Grant


“That which gets measured, gets managed,” is a common aphorism taught to managers. It certainly does help in many cases to be able to gauge one’s progress toward a goal and to compare that to what is done. Perceiving a link between one’s actions and the results is a positive guide and motivator.

A dark corollary to this aphorism might be stated, “That which gets measured, gets managed even when you don’t want it to be.” This often happens in corporations and administrative bureaucracies but is particularly glaring in the use of macroeconomic data.

Data, such as Gross Domestic Product (GDP) and unemployment rates, are arbitrary in their construction and never better than estimates of amorphous concepts. But their real problem arises when they are politicized and married with the dubious theories of wannabe economic planners.

When politicians imagine that consumption is too low to support their desired level of GDP growth, the result is “stimulus” spending, exploding budget deficits, artificially low interest rates, and subsidies for companies and projects that waste resources. Needing a quick fix before an election, politicians and their advisors imagine that they can micromanage the macroeconomy.

Since the collapse of the post-war, fixed exchange rate monetary system in the early 1970s, the International Monetary Fund has tried to justify its existence by acting as the compiler of international economic statistics and dispenser of advice. Recently the IMF suggested that the People’s Republic of China should maintain “the fiscal stimulus through 2010 while, on the margin, reorienting further toward fiscal measures that will spur consumption.”

China’s GDP growth rate has tended to be in the high single digits and was 11.1 percent in the second quarter of 2010. That’s not recession, but apparently the IMF imagines that growth should be faster or that it might slow without government taking on more spending.

The IMF wants Chinese private consumption to increase in order to achieve “a more balanced economy” but never specifies exactly what a “more balanced” economy is. If the standard is the same as that exhibited by the Obama administration, then no level of consumption is high enough. If we don’t spend, then the government will try to spend for us – or despite us. Even the big-spending Bush (II) administration wanted Chinese residents to spend more, but at least President Bush revealed his true motive of promoting US exports.

Those who marvel at high Chinese growth rates should consider the link between that and the high level of savings and investment. China prospers as its economy is freed relatively from government control and interference. China is still underdeveloped, but its growth rate has soared as ownership and decision-making have been decentralized.

Chinese communists could not ignore the lesson provided by Hong Kong as it grew from post-war poverty to the top tier of prosperity in just a few decades. As a British colony with not much of an economy after the Japanese occupation ended, Hong Kong escaped the attention of the socialist planners that were unleashed on the United Kingdom itself.

Sir John Cowperthwaite, who was the Financial Secretary of Hong Kong from 1961 to 1971, resisted requests from Whitehall bureaucrats for economic data. When later asked what his best reform was, he replied, “I abolished the collection of statistics.” Cowperthwaite knew the danger of handing such statistics to social engineers.

Hong Kong had virtually no restrictions on trade, minimal regulation, and a flat personal income-tax rate of 15%. Cowperthwaite’s policy of “positive non-intervention” consisted of ensuring that government did very few things, but did them well. The people were free to produce, trade, and prosper – which they did. By the end of British rule, Hong Kong had a per capita income that was slightly higher than Britain’s.

Hong Kong might never again have another John Cowperthwaite, and it will decline accordingly. The United States could do worse than copy Cowperthwaite’s example, and it has.


Richard J. Grant is a professor of finance and economics at Lipscomb University and a scholar at the Tennessee Center for Policy Research. His column appears on Sundays. E-mail: rjg@richardjgrant.com

Copyright © Richard J Grant 2007-2010

Sunday, August 08, 2010

Higher taxes mean less production

Published in The Tennessean, Sunday, August 8, 2010

Higher taxes mean less production

by Richard J. Grant


When we want to discourage an activity, we might do so by raising the cost associated with doing it. Depending on the activity and the circumstances, that cost increase could take the form of a higher price, a tax increase, a fine, or a disparaging public-relations campaign.

This is the idea behind “sin taxes,” such as those often placed on tobacco and alcohol. The same deterrent is directed toward activities deemed to produce excessive pollution.

Governments use taxes primarily to raise revenue for their operations, not to discourage the activity that is taxed. But the discouragement comes with the imposition. The higher the tax rate, particularly the marginal tax rate, the greater is the disincentive to produce one more dollar of taxable income or profit.

Just as taxation reduces the value of undertaking the activities that are taxed, it also reduces the values of assets. An increase in property taxes will reduce the market value of your house below what it would have been. The total effect does depend on the value to you of the services that are provided from the tax revenues, and we would hope that the net effect is positive, but the tax effect leans against this. All else equal, the higher the property tax compared to other municipalities, the less a potential buyer is willing to pay for a property.

When we buy shares in a corporation, we expect to receive some combination of dividends and capital gains. If we suddenly learn that dividends and capital gains are subject to taxation, the price that we are willing to pay per share will be less than it would have been without the tax. The corporations “themselves” also pay taxes, including a significant corporate income tax. All these taxes reduce the values of corporations and businesses in general. We can only hope that the services the tax revenues pay for will bring a net benefit.

Costs can be increased also by government mandates and regulations. When a regulation is “effective,” that means that it causes us to do things differently than we would have. Even when it doesn’t change our operations significantly, the compliance documentation (paperwork) uses up resources and management attention. It is difficult to find government regulations and associated administrative processes that produce clear net benefits beyond the chain reaction of unintended consequences.

As the regulatory network grows, the net burden grows. As is the case with taxation, beyond a certain range of imposition, the returns are negative. That is why increases in tax rates now cause reductions in revenue. The tax base is discouraged. Other activities, that are “second best” but relatively more tax-efficient, become relatively more attractive to capital and entrepreneurial attention.

Increases in regulatory burdens discourage productive investment and tend to limit the capacity of the tax base. They also reduce the flexibility of everyone in business. We are all hindered in our abilities to adapt to changes in natural conditions, both economic and physical.

This helps explain why economic activity takes longer to “recover” from some downturns than from others. The response to the most recent recession is an example of government increasing the burdens on, and reducing the flexibility of, the productive sector.

As regulations and payroll taxes increase the cost of employing workers, business owners delay hiring and employ fewer workers. They might even decide to change the types of labor they employ in order to change their production and delivery processes. This also forces workers to adapt, often at great expense.

In sum, tax and regulatory increases tend to reduce the returns on stocks, bonds, businesses, and labor. That also reduces the prices and wages that people are willing to pay for these assets and services. This does not mean that we will not see those prices rise over time. It just means that the values will not be as high as they could have been.


Richard J. Grant is a professor of finance and economics at Lipscomb University and a scholar at the Tennessee Center for Policy Research. His column appears on Sundays. E-mail: rjg@richardjgrant.com

Copyright © Richard J Grant 2007-2010

Sunday, August 01, 2010

Numbers, facts don’t add up for economic adviser

Published in The Tennessean, Sunday, August 1, 2010

Numbers, facts don’t add up for economic adviser

by Richard J. Grant

There are many economist jokes out there, most of which end in, “you still wouldn’t reach a conclusion.” These jokes are funny because most laymen don’t know what economics is. Nevertheless, there is room for healthy disagreement within any science.

Sometimes we suspect disagreement within the same person. Since becoming the Chair of the Council of Economic Advisers, Christina Romer has been ridiculed for seeming to forget her past as an economist in order to embrace the agenda of the Obama administration. This has come up again recently with the publication in the American Economic Review of an article co-written with her husband, David, who, like her, is a professor at UC Berkeley.

The article is an impressive exercise in economic history in which the authors estimate that a “tax increase of one percent of GDP lowers real GDP by almost three percent.” They focused on changes in postwar tax revenue, not tax rates. Also, they didn’t study all cases but, to avoid complication, narrowed their focus according to their perceptions of policymakers’ motivations for the tax changes.

Romer’s critics are perhaps too quick to ridicule her for inconsistency in her support for letting most of the “Bush tax cuts” expire. In that recent article, she does not directly consider responses to recession. But she does find that tax cuts are most strongly associated with increased long-run economic growth. Also, tax increases intended “to reduce an inherited budget deficit” don’t seem to reduce growth as much as other such tax increases.

In this respect, Romer’s findings (in this academic article) are not really inconsistent with her statements as head of the CEA. In another article, made available to newspapers last week and which reads more like campaign literature, she cheers what she calls “one of the broadest tax cuts in American history, helping 95 percent of working families.” Given that her research focuses on tax revenues as a percentage of GDP, she makes no distinction between tax credits and changes in marginal tax rates. From this perspective, the tax credits more or less offset the effects of the soon-to-rise marginal tax rates by shifting resources from future investment to current consumption.

The trouble with refundable tax credits is that a large portion of them are not “tax cuts” at all: they are government spending. Given that a third of working Americans have no income-tax liability, it is impossible to reduce their income taxes further. It is dishonest to pretend to do so.

When seen in the full context of Obama administration policy, most families are net losers. The increase in the national budget deficit is bigger than the sum of the “stimulus” checks. In other words, current tax liabilities are removed from sight by running up future tax liabilities. Try explaining that to your grandchildren.
The problem exposed here is not so much inconsistency as it is a weakness in the foundation upon which most economic research is conducted. Romer’s real problem is that she gives a veneer of respectability to the administration’s policies, which are consistently bad.

She finds herself making indefensible claims about huge numbers of jobs “created or saved.” How can she say that “clean energy projects alone are responsible for nearly 200,000 new jobs” without admitting that these subsidized jobs produce less value than those same people could have produced in a market unhampered by government interference? Subsidized jobs, even “green” ones, are unsustainable.

Does Romer really believe that – constitutional questions aside – the government is really competent to be “investing” in “expanded broadband access, advanced-vehicle manufacturing and a smart-energy grid”? Where in all her research has she found any hope that any government can be entrusted with such economic planning?

As we already knew, economists can disagree. That doesn’t mean they are both wrong. But one of them is; and if we can’t tell which one, then the joke is on us – and our grandchildren.


Richard J. Grant is a professor of finance and economics at Lipscomb University and a scholar at the Tennessee Center for Policy Research. His column appears on Sundays. E-mail:rjg@richardjgrant.com

Copyright © Richard J Grant 2007-2010

Sunday, July 25, 2010

Obama swinging but missing on economic policies

Published in The Tennessean, Sunday, July 25, 2010

Obama swinging but missing on economic policies

by Richard J. Grant

On the economy, there are three areas where the Obama administration and its congressional supporters are failing: fiscal policy, regulatory policy, and monetary policy. They are nothing if not consistent.

1. On the fiscal front, the policy focuses on a hoped-for “stimulus” through increased government spending. The idea is to increase “aggregate demand” by encouraging people to reduce saving and spend more now. Rather than let people do the natural thing at a time of uncertainty and save, the administration wishes to increase their taxes so it can spend the money for them.

It matters what the national government buys for us. Starting from zero, the first dollars spent should go to the highest priorities, such as national security and the essential infrastructures of governance. The desirability of such spending is clear, but as spending increases, the marginal benefits fall. At some point the net benefits become negative. For most other types of government spending, especially the typical pork-barrel project, the first dollar spent yields negative net benefits.

The trouble with “stimulus spending” is that it isn’t working. Nor would a good theorist expect it to work under current conditions. Professor Robert Barro of Harvard University has estimated spending multipliers of “around 0.4 within the same year and about 0.6 over two years.” In other words, the net effect of government spending is to reduce economic activity in one area by $1 in order to increase it by about half a dollar in the area targeted for spending.

The 2009 stimulus package has been financed by increasing government debt, which must be serviced through future taxes. Barro estimates the effect of taxes using a multiplier of minus 1.1, which means that a $1 increase in taxes this year will reduce economic activity next year by $1.10. When adding up the effect over five years, Barro concludes, “This is a bad deal.”

2. Regulatory policy becomes very expensive in ways that go way beyond its budgeted administrative costs. Regulations, though ostensibly enacted to protect people from one another, tend to grow into such a thicket that it is hard, expensive, and too distracting for businesses to serve their customers efficiently.

The biggest costs of the recently passed health-care-reform and financial-regulation laws will be not so much in overt expenditures as in wealth never produced. As things continue to go wrong as a result of these and other regulatory actions, there will be heated political debates over the real causes. These bills have time-bomb effects: they authorize multiple agencies to fill in the details with future regulations. Many of these new regulations will be intended to correct the visible distortions created by earlier regulations.

An administration interested in reducing unemployment, and knowledgeable in good economics, would first remove the existing regulatory overgrowth that is choking innovation and wasting our entrepreneurial energy. Particularly at a time of high unemployment, we need more flexibility, more freedom to act on perceived opportunities and create the voluntary agreements to serve one another that we call “jobs.”

3. Monetary policy centers on the ostensibly independent Federal Reserve System. But the Fed exists at the pleasure of Congress, and its top officers are presidential appointees. Its work is also complicated by the many other agencies and regulations created by Congress. Most notoriously, Fannie Mae and Freddie Mac continue to distort the mortgage market and to drain taxpayers of wealth that might have been put to intelligent use.

The Fed itself acted as expected by providing emergency liquidity to help mitigate the cyclical blowback from its previous looseness. But it is afraid to let go of interest rates and allow them to reflect current market realities. Thus, at a time when we have businesses begging for credit, the Fed is discouraging savers from lending and it is paying banks a quarter percent interest to hold excess reserves at no risk.

That’s three outs for this administration, and we’ve lost this inning.


Richard J. Grant is a professor of finance and economics at Lipscomb University and a scholar at the Tennessee Center for Policy Research. His column appears on Sundays. E-mail:rjg@richardjgrant.com

Copyright © Richard J Grant 2007-2010