Hitting our Heads on the Debt Ceiling

Sometimes we’re a bunch of idiots. As a nation I mean, not so much as individuals (though some would certainly qualify). I’ve seen people advocating for not raising the debt ceiling and I honestly understand the frustration that leads to that argument. Those who advocate this position are really just upset that the country is carrying a deficit and going deeper into debt every day. They are thinking that $14.3 Trillion is an unimaginable sum and scratching their heads as to why the ceiling would need to be raised even further. They figure that by not raising the ceiling, it will force the government to reign in spending and balance the budget. Unfortunately, this simply isn’t true.

No matter what the final budget that comes out of Washington this year looks like, nothing changes the fact that we’ve already budgeted for the current year, and unless it’s raised, we’re going to hit debt ceiling. In fact, we already have, but Treasury Secretary Geithner took action to “create additional headroom” so that the department could continue to fund obligations and effectively extending the deadline to August 2. These are “measures” such as raiding government retirement funds for their treasury bonds. This is not good.

President Obama knows this is playing with fire saying:

“The full faith and credit of the United States is the underpinning not only of our way of life, it’s also the underpinning of a global financial system. We could actually have a reprise of a financial crisis, if we play this too close to the line….”

Federal Reserve Chairman Ben Bernanke is also sounding the alarm, noting a failure to raise the ceiling could cause:

“severe disruptions in financial markets,”

Even former Fed Chair and fiscal conservative guru Alan Greenspan says in plain English that he’s “scared” and calls the games being played over the debt ceiling an:

“extraordinarily dangerous problem for this country.”

Okay, but why is this such dangerous stuff? Why doesn’t it make sense to enforce the ceiling and let the government slash everything they need to in order to regain fiscal sanity?

I don’t want to sound alarmist here, but this really is important. There are real consequences to not raising the debt ceiling that would impact everyone in this country, potentially setting us back to the the great depression. Our country is already in trouble with a sluggish economy and huge levels of unemployment (myself included). Failure to raise the debt ceiling would cause credit rating agencies such as Moody’s and Standard & Poor’s to downgrade United States’ debt, just as they did on Monday to Greece’s. They did this because they felt that:

a default on some debt appears “increasingly likely.”

There are several negative consequences for us if this happens in the US. One is that the cost of borrowing will increase so that those lending us money, such as Japan, China and the UK, will demand (and be able to get) a higher rate of return in exchange for taking on the now riskier debt. This is also true for individual bondholders, companies who invest in T-bills, etc. Some large bondholders may, if the situation gets dire enough (although I don’t think it will), unload some or all of their US debt, causing a spike in the interest rate.

Another consequence is that the US government itself, the largest holder of Treasury bonds, with about $8.5 Trillion invested in them, may start to dip into these bonds to pay debts. These bonds are currently being held in trust funds (see my last article which references how these differ from discretionary spending here) for things like Medicare, Medicaid and Social Security. Selling them would destabilize Social Security and wreak further havoc on an already underfunded Medicare/Medicaid system. It would also have the effect of flooding the bond market with securities that nobody would want to buy, further driving up the interest rate and thus the cost of debt.

A flood of Treasury securities on the market will spur the Federal Reserve to purchase bonds if they wish to keep the lending rate low, putting more money into the system and lowering the value of our currency. This would have a deleterious effect on our buying power as citizens and thus create a huge drag on the world economy. Nobody would want to hold US dollars because there would be increasing fear that a government default would erode the economy. This in turn causes a panic induced “sell” mindset among currency traders, pushing the value of the currency down.

If the Fed opts not to purchase the bonds, interest rates would skyrocket, causing a those who can even get a loan right now to defer. This would have the impact of further reducing economic expansion through business start ups or freezing demand based upon borrowing. Because of the above factors, the stock market would also likely plunge due to falling demand and skittish/risk averse investors not wanting to get soaked. Falling demand would in turn precipitate another round of layoffs because, contrary to conservative ideas, companies hire when there is more demand, not when taxes are cut.

If the debt ceiling is not raised, the government would either have to default or immediately fill an an estimated $125 Billion per month hole (most likely with cuts). This is equivalent to approximately 40% of government spending, a Tea Party wet dream. If this occurs, it will almost certainly effect all functions of the government causing mass layoffs which further damage the economy. Lower levels of employment also further reduce the tax base of the government and increase demand for government services such as Unemployment Insurance, food assistance, cash assistance, etc. It also has the effect of further reducing market demand since people without income will spend significantly less.

Unfortunately, this is exactly the approach the right wingers want to take. They are attempting to force us into a choice between austerity and default. Nobody really wants the latter because of the reasons outlined above, but to those who wish to “drown [government] in a bathtub“, the former is pure bliss. People like Grover Norquist would love to force this on us again and again in order to roll back the great society and new deal. They’re taking the nation hostage over it because it could, in “one fell swoop“, eliminate the programs that the right has been fighting for years. Programs such as Social Security, Medicare/Medicaid, Headstart, Pell Grants, etc. Programs that help the poor, elderly, weak and disabled. Programs that prevent many people from slipping out of the middle class.

These are the kinds of cuts that come as the strings attached to IMF bailouts. Why do you think they’re revolting in Greece?

Time and again, it has been shown that recessions are when government spending is most needed, and in fact increasing spending puts people back to work putting money into people’s pockets and increasing demand, thus healing the economy. When people have more money and have economic security, they will spend more, creating more demand and more demand means more jobs. This is Keynesian Economics, a well known and simple formula that was proven to work back in the 30’s and 40’s. This is a time when we need to increase government spending, not decrease it, even if it causes a larger deficit. This will help pull us out of this recession and bring us toward greater and broader prosperity, it worked during the Great Depression and there is no reason it wouldn’t work today. While our immediate deficit and the national debt are important long term concerns, we must take a more long term approach to them, incurring more debt now, but coming up with a solid plan to pay it off.

Those on the right want to convince us that that there are only two choices here, default or austerity, but this is a false choice. There is actually a third option, tax increases. If we are serious about paying off the debt, and I know I am, we must implement tax increases, such as the Schakowsky Plan, on those who make the most in our society. Those who make the most benefit the most from the infrastructure provided by our government, and should therefore pay more for the privilege of living under it. If the government wasn’t there with all the incumbent legal, military, police and judicial protection their money receives, these people would have their wealth stolen. In anarchy, the bandits wouldn’t head to the ghetto, so it’s only fair that those who are benefiting the most from the government pay more for it. It’s the only just way to eliminate our deficit and pay off our debt.

Cross Posted on Daily Kos

Deflating Conservative Arguments: The Flat Tax

My neighbor in the apartment across the way is a good-natured centerist who is very interested in issues of taxation. He and I often get into discussions related to our tax system and he’s brought up the idea of a Flat Tax. It sure sounds like a good idea: everyone pays the same percentage of their income. After all, he argues, why should someone making a lot of money pay a higher percentage?

The problem with this idea, of course, is that it’s ultimately regressive, taking a more meaningful chunk of money from the least fortunate in our society. The counter question being, why should someone making only a little money pay the same percentage of their income as someone making much more and is it fair to tax them at the same rate?

Follow me below the fold where I level the Flat Tax in my continuing series Deflating Conservative Arguments.

I’ve found that a lot of people don’t understand how our current progressive income tax system works. Many people think that the tax bracket you reach on your last dollar in income is the one you pay on all your income. I’ve heard people say things like “I got a $2000 raise, but it bumps me into a higher tax bracket” with a disparaging tone in their voice that belies the fact that they’ll be making more money. Fortunately, they won’t really be paying the higher rate on all their income. For example, a single person pays 10% on their first $8500, 15% on their next $26,000, 25% on their next $49,100, and so on. So if you make $34,000 and get a $2000 raise, you’ll be in a new tax bracket, but you only pay the new tax rate (25%) on your last $1500, and your total tax liability will be $5125. This computes to an effective tax rate of 14.23% ($5125/$36,000).

Okay, so now that that’s all cleared up, what about the flat tax? Even some of my more liberal leaning friends have been suckered in by this one. The proposal is that everyone pays the same percentage in federal income tax on all of their income, though proposals vary as to what the percentage should be. In 2008 Senator Lamar Alexander (R-Tenn.) proposed a 17% flat tax rate. Let’s use this as our example because there is simply no concrete proposed rate that flat taxers are rallying around.

As you can already see by looking up at the previous example, a 17% rate is higher than the 14.23% rate that someone making a modest $36,000 pays today. The break even point is $48,438, meaning everyone making less than that gets a tax increase under a flat tax and everyone making more than that gets a tax break. Let’s look at the lower and upper end of the spectrum for greater relief. Billionaire hedge fund manager John Paulson (unrelated to former Goldman Sachs CEO and Treasury Secretary Henry Paulson) raked in $4.9 Billion ($4,900,000,000) in 2010. Though I know this is investment income and therefore subject to the capital gains rate, let’s pretend that it was counted as regular income taxed at the normal income tax rates. If this were the case, Mr. Paulson would be paying an effective rate of 35% under our current system or around $1.715 Billion. If his taxes were slashed to 17%, he would be paying around $833 Million, a savings of around $882 Million. On the other hand, a single person with no children living at the 2010 poverty threshold of $11,344 pays $1277 in federal income tax for an effective rate of 11.25%. If we instate the 17% flat tax, that would raise their taxes to $1928, a hike of $651.

So the question of fairness arises. What is fair? Is it just to lower billionaires’ taxes by half, but increase taxes on the poorest? Is it just? To me, the issue always come back to these simple questions.

So, what is a fair and just way to pay for our society? I believe that those who make the most money have benefited from the system much more than those who make the least. The poor tend to stay poor because they have the deck stacked against them from the get go. If both parents are working and struggling to make ends meet, children are not as able to succeed. If they live in an economically depressed area, they are likely going to schools that don’t have the resources to hire the best teachers or have the equipment necessary to prepare children for college. If you live somewhere where your life is in constant danger due to high crime (due to poverty), it makes it pretty darn hard to study. Conversely, the well off tend to become richer because they have safe places to grow up and don’t have the added stresses of poverty. They go to the best schools with the best teachers and the top of the line equipment, live in the cleanest, safest neighborhoods, and have parents who have the resources to help them achieve. The disproportionate amount of money spent on all of the services that our society provides such as schools and public safety go to the wealthier areas. This is because their local tax base (or private donations) keep their areas nice because they, as anyone, care deeply for their children and want them to succeed. The problem is that not everybody starts out at the same place, so to pretend that is the case is just fantasy.

The reality is that we’re all in this together and we need each other to succeed. Because the wealthy benefit more from our society, and the safety and security it affords them, they should pay more to keep our society (and the government that administers it) strong. It’s the only just thing to do.

Cross Posted on Daily Kos

Deflating Conservative Arguments: Tax Increases Hurt the Economy

While listening to NPR on our drive home on Tuesday, my wife and I heard Rep. Tom Price (R-GA) say (emphasis mine):

Well we, we believe that tax increases, by and large, and, and for the most part, decrease the economic vitality and, and ability for this economy to recover. Uh, if you tax, uh, something you get less of it, and right now if we tax productivity or if we tax, uh, businesses to a greater degree, we think that you stymie and, and stifle the economy’s ability to grow.

This is a very typical conservative view of the effect of taxation. The only problem is that it’s, “by and large, and, and for the most part,” not true. Join me below the fold as I pop another conservative balloon with the needle of truth in my ongoing series, Deflating Conservative Arguments.

The conservative argument goes like this: increasing taxes takes money out of hands of regular people who would spend that money (as they see fit) and therefore stimulate the economy. There is a grain of truth in this if the government is taking money that would otherwise be spent on consumer goods and services or invested into productive capacity (as opposed to being used for debt reduction, speculative investment, or savings).

Even President Kennedy was for tax cuts and spoke in favor of lowering the tax rate throughout his Presidency. However, when Kennedy took office in 1961, the tax rates, were much higher than they are today. The argument that taxing income at this level would take money out of the economy made a lot more sense and led to the Tax Reform Act of 1964 which lowered all tax rates over two years in a somewhat regressive manner. Note: For purposes of illustration, I am using the rates for Single taxpayers, no exemptions, deductions or credits, and not adjusting for inflation.

The lowest marginal rate fell from 20% in 1963 to to 14% in 1965 (on your first $2000 in income) and the highest marginal rate went from 91% on income over $200,000 in ’63 to 77% in ’64 and then the top bracket was eliminated and the next bracket, income over $100,000, became the new top and was lowered to 70% in ’65. While the richest Americans certainly got the lion’s share of the tax break, the money that those in the lower classes would have gotten would be spent on consumer goods and services and therefore, would have a stimulating effect on the economy. It could even be argued that those in the top income brackets would spend more because the previous tax rates were a large bite of any income over $200,000, so even a millionaire would purchase more things or even perhaps put money into a new American business.

By contrast, today the top tax bracket (35% on income over $379,150) is the lowest it’s been since 1916, the 4th year of the federal income tax. This fact means that much more income is staying in the hands of the rich rather than feeding the governments coffers. If you made a million dollars in 1963, you’d have had a tax liability of $880,680, but if you made a million dollars today, you’d have a tax liability of $326,558. Okay, so you’d have 554,122 more dollars to spend. Great, but how much can someone really spend on consumer goods and services? How many American businesses can one person start and actually handle? How much demand can any one of us actually create?

Nobody knows the answer to that for sure and it is certain to vary to a great extent, but there is a limit somewhere. Once that limit is reached, any income over that amount is excess income that will be saved or put into non-productive (speculative) investments. Therein lies the answer to the eternal question of taxation, (ie. What is the appropriate level of taxation?) The appropriate amount to tax, in the sense of generating the most economic activity, would be the amount that puts any excess income to productive use. This level is probably somewhere closer to the 1963 tax rates than the 2011 rates.

The conservative argument that increasing taxes is bad for the economy assumes that all money that is in the hands of the income earner will be spent in the most economically productive way. This is plainly not true. After someone has reached the limit on their own consumer spending and has started as many businesses in America as they can, they will either use their money to speculate or sit on it. While investing in American businesses does increase our economy’s demand for supplies, equipment and labor in the US, speculation does not. It is merely a bet that such and such business will do well. Speculation adds no demand to the system and those dollars could therefore be used more wisely to do so. Clearly the same is true for savings although some savings is obviously necessary to have a personal cushion and be able to live with dignity in ones old age.

In contrast to the conservative argument, increasing taxation rates on top income earners, such as in the proposed Fairness in Taxation Act, which would implement new brackets of 45-49% for millionaires and billionaires, would actually increase economic activity. Rep. Jan Schakowsky, the author of the bill estimates that if it was enacted in 2011, it would generate $78 billion in new revenue. This would then get spent by the government on goods and services, generating more demand for goods, supplies, equipment and labor (read: jobs). This is money that is currently unproductive and would be put to good use.

I would even go so far as to say that lowering (or perhaps eliminating) taxes on the lowest income earners while raising taxes (even drastically) on top income earners will generate the most economic activity as it will simultaneously put more money into the hands of people who will spend it immediately and put money that is currently unproductive back into the economy. Although the People’s Budget does not include lowering taxes on low income earners, it would allow us to balance our budget without cutting needed programs, or endangering social security or medicare and medicaid and put our fiscal house on the path to sanity.

The grain of truth in the argument that tax increases hurt the economy can only be true as far as the assumption that all money that is not taxed is being put to its most economically beneficial use. Raising taxes on top income earners will not hurt the wealthy and it will not hurt the economy. It is a simple matter of fairness and justice.

Cross Posted on Daily Kos

Deflating Conservative Arguments: The Nanny State

Recently, on a plane trip across the country, I was seated next to a guy who bought the conservative “nanny state” line. You know, the one that goes “Democrats want to set up a nanny state to protect you from yourself.” Although he bought this and other conservative talking points, he was not an unreasonable guy. When I told him that it wasn’t other citizens that I was worried about, but rather voracious corporations, he seemed to get it. The laws that protect us are there as ways to protect us against corporations, who in their lust for profits, will look the other way on all kinds of consumer and worker safety issues. I told the guy, I’m happy that there are people who inspect restaurants to make sure the food is safe and I’m glad that there’s an organization that regulates airlines to make sure they operate safely. This seemed to turn him a bit.

This conservative talking point is one of the strongest they’ve got. Those who espouse it have built up a mythos around it that creates the feeling that the government is overreaching, over-regulating and generally ‘up in my business’. We need to counter this with the fact that regulation protects us from those who would do us harm for the sake of their bottom line. Lets take a deeper look.

Conservatives use fear as their main motivator to move their base and convince the electorate to vote for Republicans. When countered with facts and examples, these fear based arguments don’t stand up. The “nanny state” argument is powerful because it plays on the fear that many Americans have of government intrusiveness into their lives. However, when we look at it, laws that conservatives say are there to protect us from ourselves, are generally there to protect us from corporations and irresponsible citizens. Nobody is going to care if you do something that endangers you and nobody else, it’s a free country and you can walk on your hands down the street of New York City if you want, I wouldn’t recommend it as you may get hurt, but you’re free to do it, and therefore there is no law against it. However, if you walk on your hands across a busy street against a light, there is a law against that (not the walking on your hands part, just the crossing against the light part) because you’re endangering others. If someone hits you because of this, it puts you in the hospital or morgue and them in the mechanic’s shop, hospital or morgue. We have these laws not to make your life more difficult, but to make order from chaos.

Conservatives and Republicans use this argument to rail against regulation on everything from your right to breathe smoke-free air to the Consumer Financial Protection Agency. In his 2009 article, Professor Paul Schultz argues:

Part of the mission of the CFPA, according to Schultz, will be to ensure that “traditionally underserved consumers and communities have access to lending, investment and financial services,” and that the CFPA should maintain a group of examiners specially trained and certified in community development to conduct CRA (Community Reinvestment Act) examinations of larger institutions.

“In other words, the CFPA will pressure banks to make loans to borrowers that they would not otherwise make,” Schultz says. “Isn’t that one of the reasons we got into so much trouble in the first place?”

Really? This guy thinks it was too much regulation that caused the financial collapse?

Au contrare, it was the corporate greedheads who pushed for and achieved the repeal of the Glass-Steagall Act in 1999, effectively eliminating much of the regulation of the financial industry and thus allowing them to make riskier loans then bundling them and selling them as mortgaged backed securities. These securities became known as the “toxic assets” that, when individuals started to default on their loans, brought about the global financial crisis.

If the reason that we “got into so much trouble in the first place” was that banks were making “loans to borrowers that they would not otherwise make”, where is the self interest of the banks? Was it in making sure the loans they made were going to be paid back? While that would make sense from a business point of view, it doesn’t seem that they followed their best interests here. Why? And if the CFPA didn’t exist yet, how was the government responsible for “pressur[ing] banks” to make these loans?

The reason that the banks were not following what would appear to be their self interest in making loans that would be paid back is because the lack of regulation realigned their self interest. They could make a loan to anyone and then sell it on the secondary market and not bear the responsibility if the loan went bad. Under the Glass-Steagall Act, banks couldn’t do this because the Act separated commercial and investment banking. Therefore if a bank made a loan, they couldn’t sell securities and vice-versa, thus they couldn’t securitize these bad loans (ie create the “toxic assets”) in the first place. Repealing this legislation allowed the banks to do so and they did it because they would make more profit by reselling these bundles of high risk debts to the unknowing market. What used to be the in the self interest of banks (profiting off of creating loans that would be paid back) was changed by the lack of regulation into generating greater profits from duping some poor suckers into buying packages of loans that were likely to default. In other words, the profit motive undermined the entire global economic system casting us all into the abyss of a recession.

While some regulation could rightly be seen as government overstepping its bounds, intruding on our civil liberties and infringing on our rights, most regulations are to prevent the people from becoming victims of corporate greed. When it comes down to it, almost everyone understands the basic concept here and the need for the government to regulate, so when we hear the term “nanny state” being thrown around, we need to be able to have a civil conversation bringing our friend, neighbor, acquaintance or loved one back to the reality that government regulation serves the purpose of justice in defending us from those who would do us harm just to make a buck.

Cross Posted on Daily Kos