Democrats struggle to understand how Bush Tax Cuts wiped out $6.6 trillion in personal income

According to an analysis by Pulitzer-Prize winning reporter David Cay Johnston, the Bush tax cuts, rather than resulting in great general prosperity – as argued by Bush and the Republican Party – cost working Americans a total of 6.6 trillion dollars in lost income over 12 years. For each American taxpayer that is $48,000 in pre-tax personal income.

Johnston is author of the 2008 book Free Lunch: How the Wealthiest Americans Enrich Themselves at Government Expense (and Stick You With the Bill), and was formerly a correspondent for the New York Times. He has been a pioneer in tracking down, calculating, and revealing to the public the trillions of dollars the very rich and various corporations have hidden in hot money centers around the world to avoid and evade taxes. In January 2009, he presented in Mother Jones magazine a point-by-point plan for dramatically shifting government policies away from favoring the rich and corporations, to working for the general welfare of all Americans. Among his points was a ruthless crackdown on tax havens such as Bermuda and the Cayman Islands, including the use of military force if that was required to overcome the refusal of the authorities of those locales to cooperate.

The discussion on Daily Kos of Johnston’s determination that the Bush tax cuts had essentially robbed each working American of $48,000 in pre-tax personal income reflected the confusion and ignorance that still characterizes thinking about political economy among Democrats and the left generally. A number of tenets and assumptions fostered by movement conservatism were much in evidence. For example, one commenter wrote:

But how do you make that the fault of the Bush tax cuts? For at least the first few years doesn't it make more sense to blame 9/11? In actual fact, I think a big part of the issue is globalization and the knowledge economy…. Globally, incomes are converging…. Secondly, the Internet and the knowledge economy are transforming us into a winner takes all economy.

Leaving aside the glaring contradiction of how incomes could possibly be converging in a “winner takes all economy,” the commenter is asking an important question> What is the causal mechanism by which Bush’s $1.6 trillion in tax cuts resulted in a drop in personal income of $6.6 trillion? This is slightly different than asking why Republican / conservative tax cuts don’t actually pay for themselves, but is closely related. In December 2010, when President Obama was pushing through an extension of the Bush tax cuts, I wrote The Obama tax deal with Republicans is insane, in which I noted, “there have been three grand multi-year national experiments with Republican / Conservative tax cutting over the past century.” These were: the Harding / Coolidge tax cuts of 1921 through 1926; the Reagan tax cuts of 1981; and the Bush tax cuts of 2002. The results of each one of these tax cuts was exactly the same: “all three experiments resulted in the average American becoming poorer, the real (industrial) economy in tatters, and spectacular financial crashes.”


Which should lead to the obvious question:

Why do tax cuts lead, counter-intuitively, to industrial decline, stagnant wages, and finally financial collapse?

And I explained:

If you look under the hood of the industrial economy, you easily see why there is this counter-intuitive relationship between tax rates and economic growth . With high taxes, the only way to retain the bulk of the wealth created by a business is by reinvesting it in the business -- in plants, equipment, staff, research and development, new products and all the rest. But if tax rates are low, then there is more incentive to pull the wealth out, by declaring it as profits that are taxed at what turns out to be too low a rate. In other words, low taxes create an incentive for profit taking.

This in turn creates an incentive for short-term horizons in business planning. If you’re going to be taking all the profits out of a company, and take home a few million a year, why bother to reinvest anything in the business? You’re going to be rich, and never have to work again, even if the business goes bust. Or gets packed on a boat and shipped to China. Or goes "virtual" and lets all the hard work, like, you know, actually making something, be done by the lowest bidder. Employees? Don’t need them.

But employees are also customers. If enough businesses "take profits", after some length of time, the former employees also become former customers. Meaning, they stop buying. The economy's aggregate demand generation is crippled. From the three Republican tax cut experiments this past century, it appears the length of time for this to happen is five to seven years.

If tax rates are high enough to discourage profit taking - forcing wealth created by a business to be recycled back into the business – then businesses are pushed toward longer-term planning, as they invest in new plant and equipment that will be used for many years. And you do not get the absurd situation you have now, where companies are posting record breaking profits, but are not buying new equipment, nor hiring new employees.

Low tax rates encourage taking wealth out of industrial companies; the wealth taken out must then be "put to work." That means more money chasing "investment" opportunities, leading to price increases in financial capital or real estate or some other asset. In other words, an asset bubble. The rise in prices of an asset bubble has nothing to do with the creation of real wealth. It all looks like prosperity – until the asset bubble bursts. That’s where we are now.

In the DailyKos discussion of Johnston’s finding that each American taxpayer lost $48,000 in pre-tax personal income because of the Bush tax cuts, I argued that the tax cuts are a symptom, not a causal factor, of an entire philosophy of political economy which is really to blame. The "cost" of $48,000 is a statistical artifact that is revealed by projecting what average incomes would have been if they had continued to grow at the same rate they were growing before the tax cuts. (In fact, I used the same type of analysis -- projecting that average weekly earnings of the typical household would have been nearly double what they are now, had earnings continued to grow at the same rate after Reagan as they had grown from 1964 to 1980 – to predict, in December 2007, the financial crashes of 2008.)

Globalization, financialization, technological displacement of workers, and other apparent causal factors that might be mentioned are really also symptoms. But symptoms of what?

The real underlying problem is the ideology of political economy espoused by conservatives and Republicans – and a disturbingly large number of Democrats and liberals. It is the belief that markets and private investors are better than government at deciding where and how to allocate society's financial and economic resources -- AND the accompanying belief that government can never be a positive factor in the economy, but only a burden sucking up resources that, if they had been placed under the direction of private investors in the markets, would have been used instead in ways that meet market demand and therefore "grow the economy."

We recognize this philosophy of political economy as conservatism, but it is called by economists "neo-liberalism," which during the Clinton administration became known as "the Washington Consensus " (through there were some critics who engaged in splitting hairs by arguing that the two were not exactly the same). Among the tenets of this school, which has dominated, and continues to dominate, USA policy making:

Fiscal policy discipline, with avoidance of large fiscal deficits relative to GDP; Tax reform, broadening the tax base and adopting moderate marginal tax rates; Interest rates that are market determined…; Trade liberalization…; Privatization of state enterprises; [and] Deregulation: abolition of regulations that impede market entry or restrict competition….

Now, stop and look at that. What’s missing? No mention is made of the general welfare. It is simply assumed that these neo-liberal measures of removing the government (or, the “state”, the preferred term of many conservative extremists who are forever denouncing all government programs, especially social programs, as “statism”), will result in widespread general prosperity, and such “prosperity” is the same as “the general welfare.”

This is the key defect in conservatism / neo-liberalism: the idea of the general welfare is ignored. Consider, for example, the following example. What would be the effect of the Koch brothers deciding to spend their huge fortune to triple the number the coal-fired and natural gas-fired electricity generating plants in the USA? Never mind why they would – this is just a hypothetical example I want to use to illustrate a point. Certainly, there would be a sizable increase in economic activity. A lot more steel, concrete, wiring, switches, boilers, turbines, generators, and transformers would have to be produced or imported, transported and distributed, and put into use. Hundreds of thousands, probably a few million, people would have to be hired to design, build, and operate all the new power plants. There would be, in fact, what many could hail as “an economic boom.” But would all this really be advancing the general welfare? Would significantly increasing our reliance on burning coal and natural gas to produce electricity really be “progress”?

And if you think this hypothetical example is far-fetched, consider that it is pretty much what we are doing with fracking, and the crash program to exploit the Bakken oil field in North Dakota. There certainly is an “economic boom” associated with these activities: hundreds of thousands of people have been hired to help frack; there has been a nearly five-fold increase in the number of new rail tank cars being constructed each year, and no other state comes close to North Dakota’s official unemployment rate of 2.6% (the next lowest is Vermont’s 3.3%, and the national average is supposedly 6.3%). The fracking and Bakken booms demonstrate vividly, as we face a rapidly closing window in which to solve the problems of climate change and peak oil, that what the markets determine as the best investments do not necessarily advance the general welfare. And consider the political activities of the Kochs in trying to prevent states from adopting renewable energy mandates, and prevent the construction of new urban mass transit systems.

In fact, political conservatives and libertarians explicitly denounce idea of the general welfare as the "slippery slope" to tyranny. The key here is the conservatives’, libertarians’ and neo-liberals’ rhetorical trick of labeling any government planning, “central planning,” which of course evokes the famines and gulags associated with the Soviet Union’s “central planning.”

The seminal book for this denigration of the general welfare was Austrian imperial economist Friedrich Hayek's book The Road to Serfdom, which is summarized on Wikipedia thus:

"warned of the danger of tyranny that inevitably results from government control of economic decision-making through central planning." He further argues that the abandonment of individualism and classical liberalism inevitably leads to a loss of freedom, the creation of an oppressive society, the tyranny of a dictator, and the serfdom of the individual. Significantly, Hayek challenged the general view among British academics that fascism was a capitalist reaction against socialism. He argued that fascism and socialism had common roots in central economic planning and empowering the state over the individual.

In Hayek's view, any governmental promotion of the general welfare is merely "central planning" and therefore a dangerous path that leads to the creation of an oppressive "big" government. That's why the mantra of Republicans is always "cut taxes," because their belief system simply cannot accept that giving money to government can ever result in any good, but will only be used to build up and grow a government of central planning that will eventually smother individual liberty and freedom.

The rub is simply that markets and private investors, as suggested by the examples of fracking and the Bakken field projects above, do NOT invest society's financial and economic resources in the best possible ways. It may appear to be the "most profitable" ways, but the statistical exercise performed to show that $48,000 of income was lost show that this profitability is illusory: the profits depended on deliberately failing to account for the externalities imposed on society, as well as the lost opportunity costs of not doing something that actually addresses the problems of climate change and peak oil. What markets and private investors actually do is invest in ways to make more money the easiest way. This means that, if allowed by the lack of government surveillance and regulations, markets and private investors prefer to invest in credit default swaps, or futures on the dollar-yen valuation, or some other speculative instrument, instead of actual industry and infrastructure that increases the economic potential of society. As I showed in May 2009, and in June 2012, the flow of funds from the financial markets to industrial companies has actually been negative for over a decade (meaning industrial companies have been looted), and the U.S. economy consequently has been de-capitalized while it was also being deindustrialized. It is very misleading to call this state of affairs “capitalism.” It is much more precise to call it a bankers’ dictatorship, or as Sterling Newberry wrote in summer 2009, a “dictatorship of the propertariat.”

As the philosophy of conservatism / neo-liberalism spread and took hold, and government was shoved "out of the way" by defunding it, shutting agencies, and cutting regulations, the entire economy began to shift from actual productive functions of wealth creation, to functions of speculation, usury, and arbitrage.

The process of shoving government "out of the way" also affords the owners of financial capital greater opportunities to employ and exploit cheaper labor. This last particularly irks me, because if Americans knew their own history, they would know that this war of capital on labor was a central issue of USA politics through all the nineteenth century. Here is Henry Carey, the foremost American economist of the mid-nineteenth century, promoting what was then known as "the American System" of political economy:

The British system is built upon cheap labour, by which is meant low priced and worthless labor. Its effect is to cause it to become from day to day more low priced and worthless, and thus to destroy production upon which commerce must be based. The object of protection is to produce dear labour, that is, high-priced and valuable labour, and its effect is to cause it to increase in value from day to day, and to increase the equivalents to be exchanged, to the great increase of commerce.

-- Henry Carey - Excerpts from The Harmony of Interests: Agricultural, Manufacturing & Commercial(1851)

I have come to believe that the ideas of modern conservatism / neo-liberalism are actually the ideas of the old European oligarchs, and their American allies, the newly-minted financial oligarchs, who want to destroy "the American System" exactly because the role of government under that System prevents them from doing what they want to do with their money – indulge in the lazy way of Wall Street casino games, instead of the hard work of planning, building, and operating technologically advanced industrial facilities and infrastructure.

This leads me to the phrase "neo-liberalism" itself. Originally, liberalism was a revolt against the ruling monarch and oligarchs of Europe in the 15th through 17th centuries, who used the powers of the state to enrich themselves and their retainers through mercantilism and the granting of monopolies. Liberalism wanted these mercantilist monopolies dismantled so that entrepreneurs who did not enjoy the favor of the royal court could also compete; the efforts of these entrepreneurs, once released from the burden of state control, would then flourish and drive forward economic growth and prosperity.
Consider this passage by James Madison in The Federalist Number 39, keeping in mind the liberal revolt against the economic rule of the monarchs and oligarchs:

If we resort for a criterion to the different principles on which different forms of government are established, we may define a Republic to be, or at least may bestow that name on, a government which derives all its powers directly or indirectly from the great body of the people, and is administered by persons holding their offices during pleasure, for a limited period, or during good behavior. It is essential to such a government t/tat it be derived from the great body of the society, not from an inconsiderable proportion, OR A FAVORED CLASS OF IT : otherwise a handful of tyrannical nobles, exercising their oppressions by a delegation of their powers, might aspire to the rank of republicans, and claim for their government the honorable title of Republic.

Another author of the Federalist Papers, Alexander Hamilton, as the first Secretary of the Treasury, had to confront the question of capital, in order to secure funding for the general government, as well as create a framework to encourage the establishment of manufacturing, and advancing agricultural development. The antipode of the American System can be termed – and was in the mid nineteenth century, the British System, and it gave free reign to the classes in society which had amassed capital — whether by inheritance, thievery, or otherwise — to use that capital for private gain, without regard to the general welfare. Hamilton rejected the British System, and strove to create structures and policies of government that channeled the use of capital into the higher purpose of promoting the happiness, security and prosperity of the entire population, not just the private gain of the few who happened to control most of the financial resources of the economy. In his December 1791 Report on Manufactures, Hamilton discussed the powers of the Federal government to encourage necessary industries and infrastructure, and near the end explained his concept of the general welfare:

The terms 'general welfare' were doubtless intended to signify more than as expressed or imported in those which Preceded; otherwise numerous exigencies incident to the affairs of a nation would have been left without a provision. The phrase is as comprehensive as any that could have been used; because it was not fit that the constitutional authority of the Union, to appropriate its revenues shou'd have been restricted within narrower limits than the 'General Welfare' and because this necessarily embraces a vast variety of particulars, which are susceptible neither of specification nor of definition.

It is therefore of necessity left to the discretion of the National Legislature, to pronounce, upon the objects, which concern the general Welfare, and for which under that description, an appropriation of money is requisite and proper. And there seems to be no room for a doubt that whatever concerns the general interests of learning of Agriculture or Manufactures and of Commerce are within the sphere of the national Council as far as regards an application of Money."

What the Constitution of the United States did was impose the consideration of the general welfare on the chaotic eruption of entrepreneurship. Corporate charters were granted only for specific purposes, and with due reference to the need to promote the general welfare somewhere in the charter. John F. Kasson, in his Civilizing the Machine: Technology and Republican Values in America, 1776-1900, (Grossman Publishers, 1976), notes that at the beginning of the republic,

The questions of the introduction of domestic manufactures and the role that labor-saving machines might play in American life were considered not as isolated economic issues but as matters affecting the entire character of society. No doubt profit motives existed, but would-be manufacturers had to make cogent arguments which addressed broader ideological concerns. “In addition to asking “How much will it pay?” they had to consider as well, ”How will it advance the cause of republicanism?” The question was not rhetorical – not at this time at least.

In his important study of the economic thinking behind the creation of the United States, E.A. J. Johnson writes in The Foundations of American Economic Freedom: Government and Enterprise in the Age of Washington, (University of Minnesota Press, 1973):

American economic liberalism in the 1790s represented an opposition to certain interests which not only were allegedly predatory and therefore unjust, but which also operated as restraining influences on the economic efficiency of the enterprise system. The blameworthy interests were both historical and emergent. Thus the British “landed interest” represented a historical exploitative agency as did the British factorage system. The “monied interest,” the “paper interest” or the “banking interest,” in contrast, represented new “factitious” interests; they were conceived to be recent perversions of an otherwise wholesome economic society. Democratic thought waged war, therefore, on two fronts: against the older propertied interests (which defended their privileges by a “political formula” which asserted that social stability required social stratification), and against the newer, “unnatural,” “factitious,” financial interests which threatened to create different forms of exploitation and to generate new forms of inefficiency within the enterprise system.” (pages 58-59)

….The general view, discernible in contemporaneous literature, was that the responsibility of government should involve enough surveillance over the enterprise system to ensure the social usefulness of all economic activity. It is quite proper, said [leading Maryland jurist and promoter of scientific agriculture John Beale] Bordley, for individuals to “choose for themselves” how they will apply their labor and their intelligence in production. But it does not follow from this that “legislators and men of influence” are freed from all responsibility for giving direction to the course of national economic development. The must, for instance, discountenance the production of unnecessary commodities of luxury when common sense indicates the need for food and other essentials. Lawmakers can fulfill their functions properly only when they “become benefactors to the publick”; in new countries they must safeguard agriculture and commerce, encourage immigration, and promote manufactures. Admittedly, liberty “is one of the most important blessings which men possess,” but the idea that liberty is synonymous with complete freedom from restraint “is a most unwise, mistaken apprehension.” True liberty demands a system of legislation that will lead all members of society “to unite their exertions” for the public welfare. It should therefore be the policy of government to aid and foster certain activities or kinds of business that strengthen a nation, even as it should be the duty of government to repress “those fashions, habits, and practices, which tend to weaken, impoverish, and corrupt the people. (pages 194-195)

Where liberalism is a revolt by the people against the government of oligarchs who use the state to steer economic activity to their own selfish gain, neo-liberalism is a revolt by oligarchs against the government of the people who use the state to steer economic activity to promote the general welfare. It is not coincidence that the rise of neo-liberalism was funded and largely conceived by people who were, or were linked to, old European oligarchs. Unfortunately, Philip Mirowski and Dieter Plehwe were not very explicit about this point in their important book, The Road from Mont Pèlerin: The Making of the Neoliberal Thought Collective, but there are enough snippets of information there to lead me to the conclusions outlined above. One example is the role of Count Richard Nikolaus von Coudenhove-Kalergi, founder of the Pan-European Union.

It is the cumulative effects of the philosophy of conservatism / neo-liberalism, in smothering all consideration of the general welfare and replacing it with the idea that any private gain, no matter how speculative or how usurious, is a net benefit to society, that is the causal factor in the decline in average incomes seen in the 12 years since the Bush tax cuts.