Wednesday, January 26, 2005

January 25, 2005

Bush's Secret Economic Plan

Now that it’s become painfully clear that massive tax cuts for the wealthy and corporations did not produce increased business and personal tax revenues (duh!!) what now?

But you ask - how do we know that tax cuts alone do not work? Well, unless you are stupid or simply hopelessly partisan the proof is all over the place. Start with the non-partisan Congressional Budget Office, which reported yesterday that this year’s budget deficit will top $368 billion – and that’s NOT counting the cost of the Iraq/Afghanistan wars.

The CBO figures that the government (AKA, “you”) will accumulate another $855 billion in deficits over the next decade -- excluding the costs of President Bush's Social Security plan AND the Bush wars. (Add another $2 trillion to that number if Bush gets his way with Social Security private accounts.)

Then there’s the wars, which the CBO says will ding us an additional $280 billion this year. Let’s put that in big-ass number in perspective. That amount of money is nearly half the $600 billion the United States spent to win World War I and half the $623 billion it cost to lose the Vietnam War, And yes, those figures represent costs translated into 2005 dollars.

The nearly $6 trillion in deficit spending Bush racked up over the past four years, plus lots more of the same now has the entire world worried. The dollar – once the pillar of world currencies – has plummeted in value. Central banks around the world are dumping dollar investments as though they were dot-com stocks. And, friend and foe alike, are begging the Bush administration to get a handle on its spending habit before it’s too late.

"Europe has until now paid too big a share in this readjustment," Hervé Gaymard, the French finance minister, said. His German counterpart, Hans Eichel, said the United States needed to reduce its deficits, adding, "each one has to play its role."

Two months ago, similar sentiments came from China's prime minister, Wen Jiabao, whose nation is at the center of a struggle with Washington over currency policy. He complained about the fall of the dollar, asking, "Shouldn't the relevant authorities be doing something about this?"

Damn the Torpedoes
But to change course now would mean having to admit that Bush’s ruinous tax cuts did not work. And, that supply side economics is just what Daddy Bush called it, “voodoo economics.” And, it would mean having to scale back the neo-con wet dreams of a militarily-enforced Pax Americana throughout the Arab world.

So, except for some domestic program cuts, don’t expect to see the Bushies do anything significant about budget deficits, or to staunch the flow of national lives and treasure down that rat hole, Iraq.

It would be unfair though to conclude though that the Bush folks don’t have a plan up their sleeves, because they do have a plan. And it’s a plan that worked pretty well once before when the country had big bills to pay and not much money with which to pay them. It’s called inflation…. and lots of it.

That’s how we paid off the bill left by the last president to believe he could have both guns and butter, Lyndon Johnson. Johnson, like Bush, had an un-winnable war on his hands, Viet Nam. Johnson’s expensive domestic agenda was not tax cuts but his “Great Society,” vision that created new social programs on a massive scale.

The Johnson administration bill came due during Gerald Ford’s administration. And, without the money to pay it they allowed inflation to run free. By doing so they were able to repay old debt with cheapened dollars.

How does that work? It’s all about the physics of economics. When the price of something, say a washing machine, suddenly jumps from $150 to $250 it does not mean the washing machine’s intrinsic value increased that much, but rather that the value of the dollars in your pocket decreased that much. Your money is worth less and less as inflation progresses along, what quickly becomes a self-sustaining upward trajectory.

But, while products and services go up in price, existing debts remain unchanged. If you owed $12,000 on your mortgage before inflation, you still owe that no matter how much inflation rages. So, you get to pay that old debt back with increasingly cheap dollars. Debtors win. Lenders loose – at lease on their old loans.

And that’s the Bush plan. I know it’s their plan because, now that we are this far down the deficit road, it’s the only plan left.

But wait!… what about Fed Chief Alan Greenspan, you ask? Greenspan hates inflation. He would never allow the administration to inflate now.

No he wouldn’t. But next year Greenspan retires and Bush can appoint a new Fed Chairman.. one that does what he’s told, like all other Bush appointees. That’s when you will see it begin. Monetary policy will be steadily loosened. The money supply will grow and as any first year econ student knows, the more of something there is, the less it’s worth.

With prices on imported goods already on the rise due to the slumping dollar, pumping more dollars into the system will be like throwing lighter fluid on a fire. The dollar will continue its fall on world markets, central banks, already getting burned on their existing dollar-debt securities, will stop funding our deficits entirely. That will cause US interest rates to skyrocket. (Those of us old enough to remember the Ford/Carter administrations will recall that home mortgage rates were well over 10%.)

It took almost ten years to put those inflationary fires out and since then we have been conditioned to believe that inflation is all bad, that no good can come of it. Then, why would anyone want inflation? First, for the reason stated above – existing government debt can be repaid with cheap dollars. But that benefit extends just the same to the private sector, particularly debt-ridden companies that then get to repay their debts at pennies on the dollar. It’s a bit like going through reorganization without having to declare bankruptcy.

Inflation is also good for those who already own hard assets, particularly real estate. For them a few years of raging inflation is pure heaven. During the late 1970s I was realtor in Northern California. My clients were buying any kind of real estate they could get their hands on. Ordinary people were pooling money with neighbors to scrape enough together for a down payment to buy something - anything. Why? Because real estate values were rising 2% A MONTH… an annual return on the purchase price of about 25%. And, if they borrowed the down payment, even at 12% interest, the leverage allowed anyone to make a bundle with almost no risk at all.

That in turn created even greater demand for real estate forcing the price higher yet. Those were very good years for real estate investors. Lenders too made money since borrowers were not buying homes to live in for 30 years but rather to resell in a year. Turnover was enormous. Profits were enormous.

And inflation was good for those lucky enough to have cash in CD’s. Money market mutual funds were paying a mind-boggling 14% interest on savings. The wealthy elderly loved it, and miss those days dearly. Also, those who locked in those rates by buying 30 year US bonds made a frigging killing when rates went back down.

Not everyone benefits from periods of inflation. But, those who suffer under inflation are the very people the Bush folk have shown they care the least about anyway – the poor, working families, the disabled. They’ll eat it in the shorts – as usual.

Oh, and what about tax revenues? Yes, remember how the Bush tax cuts were going to spur business activity and therefore create more tax revenue? Didn’t happen. But, once they throw the inflation switch to the “on” position tax revenues will go up, but not because of increased business activity. They will go up because wages will go up as workers demand at least cost of living increases. That in turn will create more taxable income and move many middle class families into higher and higher tax brackets. That will also work hand in hand with the dreaded Alternative Minimum Tax (AMT). The AMT, created originally to catch rich tax cheats, will sweep more and more working families into its cold, uncaring arms, while it picks their pockets.

Fine mess you got us into this time, Stanley

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