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Pragmatically, the tax changes need to go

Written By: - Date published: 6:29 am, March 2nd, 2009 - 17 comments
Categories: uncategorized - Tags:

The debate around whether we should go through with National’s tax adjustments (they’re only cuts for the rich, they’re increases for middle and low incomes) has re-ignited as the commentariat suddenly cottons on that they are unfair and unaffordable, thanks largely to Fran O’Sullivan. As always, we at The Standard like to try to inject some facts into the argument:

This is the only calculator anywhere that shows you how much you and your family gain or lose from National’s tax adjustments and Kiwisaver cuts. Try it out.

Some other facts relevant to the debate:

– 80% of National’s cuts go to the wealthiest New Zealanders.

– Anyone earning less than $44,000 who gets Working for Families or some other state payment (and that’s around half of workers, most families, plus the retired and beneficiaries) is worse off because National cancelled Labour’s movements of the bottom bracket from $14,000 to $20,000.

– The economics is clear: giving a tax cut to the rich paid for by increasing tax on the poor is going to take money out of the economy. Contrary to the voodoo economics of ‘trickle-down’, the rich don’t spend, they save. The most stimulus bang for your buck comes from increasing the incomes of people on lower incomes. That’s why Obama is cutting low income taxes and increasing them on the most wealthy.

– Because of the worsening economic situation, every dollar of any tax cut now made will have to be borrowed. Borrowing is not always bad – borrowing for a long-term investment like the Superannuation Fund makes sense since the long-term return on investment will exceed the cost of borrowing, borrowing to inject stimulus into an ailing economy to kickstart it out of recession makes sense (note to John Roughan, that’s the difference between macro- and microeconomics, between an economy and a household). Borrowing to give more money to those who already have plenty and who will just put it in their savings makes no sense.

These are the wrong tax adjustments at the wrong time. The only reason to go through with them is ideological. Let’s hope some of that legendary Key pragmatism shines through.

17 comments on “Pragmatically, the tax changes need to go”

  1. RedLogix 1

    I’ve spent much of yesterday wrapping my head around this article (it’s in a blog but it’s far too long to be called a post.

    The guy writing is an Australian economist Steven Keen, who has some well-developed strong non-orthodox ideas, especially around something called endongenous money supply. (He might also be broadly lassoed in with the Post-Keynsian Economists).

    One thing is certain, unlike all his Milton Friedman influenced Neo-Classical colleagues, Keen made a clear prediction about the current crisis several years ago… based not on wild eyed doom-mongering…. but on solid theoretical ground, derived from prior work by stellar names like Hyman Minsky and back further Irving Fisher in the 1930’s. Both of these major economists reject the idea that markets are inherently self-correcting and will always reach new equilibriums along a stable growth path.

    In essence endogenous money theory can be boiled down to this:

    Banks play a special role in the economy as trusted bookeepers, enabling ordianry real world transactions to proceed smoothly and efficiently based on the issue of credit.

    The classic fiat money model where a Central Bank prints money supply (M0), say $1000, which when deposited and is subsequently divided by the Reserve Ratio (say 10%) to ultimately become $10,000 dollars of credit. (M3).

    What the endogenous guys argue (and Keen is not alone), is that this process which is central to NeoClassical theory, is only a small and anciliary part of what really happens in the money system.

    In fact during normal times, and in the absence of regulation that preventing them from doing so, banks will hugely increase their profits by simply creating as much credit as consumers can be persuaded to accept. The Reseve Banks simply act AFTER the fact to print enough cash to preserve enough inactive reserves to prop up nominal Reserve Ratios. Although in recent years they haven’t even bothered to do that. The Federal Reserve even stopped publishing M3 a few years back. Not only have they failed to regulate, they didn’t even bother to monitor.

    That clearly is what has happened in the world’s recent economic history, as it happened previously in the runup to the Great Depression and numerous financial crises beforehand. In its aftermath, we are now experiencing a “credit crunch’—a sudden reversal with the cavaliers going from being willing to lend to virtually anyone with a pulse, to refusing credit even to those with solid financial histories.

    Keen details all the consequence of all this with a set of formal graphs that appear to quite accurately model the systemic crisis of a Great Depression. By contrast, the Friedmanite NeoClassicals are entirely mute. He concludes with these paras:

    In fact, thanks to Milton Friedman and neoclassical economics in general, the Fed ignored the run up of debt that has caused this crisis, and every rescue engineered by the Fed simply increased the height of the precipice from which the eventual fall into Depression would occur.

    Having failed to understand the mechanism of money creation in a credit money world, and failed to understand how that mechanism goes into reverse during a financial crisis, neoclassical economics may end up doing what by accident what Marx failed to achieve by deliberate action, and bring capitalism to its knees.

    Neoclassical economics—and especially that derived from Milton Friedman’s pen—is mad, bad, and dangerous to know.

    Keen demonstrates that excessive debt that has become unrepayable is the root core of the problem. As more and more debts default, lenders stop lending simply because they no longer trust anyone to repay them. But in an economy absolutely dependent on credit to function, this loss of trust amounts to a fatal stopping of the heart.

    Public sector fiscal stimulus which simply creates MORE debt does not help. Pragmatically there is only ONE solution to excess debt… less debt. Fortunately Bill English inherits from his very wise predecessor, relatively low public sector debt. All he has to do is not increase it. With Corporate and GST taxes falling, PAYE will have to rise in order to compensate. Within a few months the entire agenda will have changed. Unemployment will be on a trajectory to reach 20-30%. Tax cuts mean nothing to someone without a job.

    The problem is that debt that cannot be repaid, WILL not be repaid. As long as that hangs over the system, nothing can improve. Within a year or so, after trying all the wrong things, eventually the big central banks will get around to doing the right thing, explode the myth of ‘sanctity of contract’, and simply forgive vast trillions of unrepayable debt. And then regulate the hell out of the finance system to prevent it from happening again.

  2. Santi 2

    “The only reason to go through with them is ideological.”

    I would correct you: The only reason to go through with them is not ideological.
    Of course, SP, as a good Labourite you’re an expert in announcing tax cuts (chewing gum and others) and not delivering them.

    Why would the new government have to follow the despised socialist Labour administration?

  3. the sprout 3

    stealing from the poor to give to the rich.

  4. Ari 4

    Interesting Red, looks like from the same background as us he’s coming to the opposite conclusion. Does he have anything to say on how paying back government debt would flow on to the rest of the economy?

    Santi- Then argue your case instead of yelling “NO YOU!” 😉

  5. vidiot 5

    Perhaps we could have had both (tax cuts and raising of tax thresholds), if only we hadn’t plowed over $2.2Bn in to Kiwi Rail.

    Oh the benefit of hind sight.

  6. Peter Johns - bigoted troll in jerkoff mode 6

    Now SP, you would not want JK to break his election promise would you? I am sure you will be the first to post about this if he did.
    Looking forward to the post on Kiwirail and how we cannot afford this lemon farm we inherited under Kullen.

  7. RedLogix 7

    looks like from the same background as us he’s coming to the opposite conclusion.

    Initially I was quite put off by exactly that sentiment. We usually assert according to Keynes that during the course of the normal business cycle it is the role of the govt to inject a stimulus to counterbalance the loss of activity in the private sector, even if it has to increase public debt to do so. In normal circumstances, if say Total Debt to GDP ratios were at sane levels of less than 100% (currently the world is running mad ratios over 300%, not counting the vast unmonitored, unknown obligations in the derivative markets)… then increasing public debt to inject liquidity into the economy is a reasonable thing to do.

    But this is NOT a liquidity crisis. Bernanke has been printing money like mad for months, trillions of dollars, and nothing is getting better. It is a credit crisis. An unregulated banking sector, seeking to maximise it’s profits has simply created far too much of it. So much that it can never be repaid. As I said above, once lenders no longer trust that they will be repaid, they stop lending. The banks have been given huge lumps of cash, but all they have been used for is to shore up the banks losses and sit as inactive reserves. The velocity of that money has fallen to zero. It may as well never have been printed in terms of its stimulus effect.

    This is very similar to what SP is saying above, tax cuts for the wealthy are just transfers of debt from the private to the public sector. But the total amount of debt that needs to be unwound is vastly greater than any conceivable tax cut. It simply amount to pissing into the face of an Aussie wildfire.

    Does he have anything to say on how paying back government debt would flow on to the rest of the economy?

    I think you may have a crossed wire here… Keen is saying is that unrepayable debt whether private or public is the root cause of the problem, and that until that total debt is erased, the economy will not recover. Merely exchanging an irrelevantly tiny portion of private sector debt, for public sector debt, via tax cuts or ‘stimulus packages’ is at this point…futile.

    • Ari 7.1

      Yeah I think I misread your post. I had a look through the link: great stuff and it definitely reminds me (worryingly enough) of the fact that although my father likes to talk about goods, he never really talks about money.

      I disagree that stimulus is futile, but I do agree it’s not all that’s necessary. That lovely but scary word- “reform”- is hanging in the air around now.

      • RedLogix 7.1.1

        I disagree that stimulus is futile, but I do agree it’s not all that’s necessary.

        Fair enough. I was getting a bit carried away there. What I should have said is that these much touted ‘stimulus packages’ by themselves will only have a secondary palliative effect. They will be useful to reduce the symptoms at the margins, but will do nothing to address the root causes.

        Reform = The permanent burial of the the insane notion of self-regulating free markets.

  8. Lanthanide 8

    If that is exactly the same spreadsheet you put up last time, I’d just like to advise you that it has several mistakes in it that actually give wrong calculations, and is just badly done in general.

    I’ve got a sheet I made based on this one that corrects all the problems and gives much more information. Unfortunately it is on my home computer, and I am at work presently, so I can’t send you a copy of it.

  9. gingercrush 10

    Borrowing is not always bad – borrowing for a long-term investment like the Superannuation Fund makes sense since the long-term return on investment will exceed the cost of borrowing

    Too bad such logic is nonsense and doesn’t make sense.

    • Matthew Pilott 10.1

      You might want to explain your reasoning behind that one, GC. It’s a perfectly simple concept, and pretty simply explained.

      Tell you what – tel us what is giving you such trouble and i’m sure someone will be able to explain it for you.

      For starters, why is it not a good idea to borrow if the return will be more that the cost of borrowing at the time?

  10. gingercrush 11

    Because if someone told you to borrow lets say $100, 000 and to put that into the sharemarket at a time when sharemarkets around the world are shaky. Would you be stupid enough to invest in the sharemarket at that time? When the cost of borrowing will surely be much more than the return you’ll get? So what happens to that $100, 000 is it blows out further and futher while the price of those shares largely stay the same. One real weakness in SP’s argument is that eventually that money will be worth twice/three times as much. But lets wait a minute. One problem many people have right now, many people who are about to retire. Is that their retirement schemes etc have been swallowed up in this crisis. Shares around the world have fallen and thus the money those retirees depended on isn’t worth what it was two-three years ago.

    Yes it is usually the case that by investing in shares, in 20 years they’ll be worth a lot more than they are now. But if SP really believes in issues such as peak oil, debt problems around the world, global warming etc etc. Then does he really believe that for the next 20 years or so there will be no crisis in financial markets?

    The simple truth is, you don’t borrow to save. That is what SP is saying. And such a thought process at this time is truly maddening.

    [I don’t like this fucking new reply system it confuses the shit out of me]

    [lprent: Well that is one vote against so far. BTW: It confuses me as well for reading, but I like it for replying]

    • RedLogix 11.1

      Normally I would have totally disagreed with you GC, but you may have a point. The problem is that many equities, however well priced they are at this point in time, may well be simply wiped out by the enormous pile of shit bearing down on us all.

      If this were a more ordinary sort of recession, or it was simply a matter of a govt that had promised huge tax cuts and now needed to balance it’s books… I would fully agree with SP and Matthew. But this time my gut feeling is not so good. It’s not going to be another 1972 Oil Spike, 1988 Share Market Crash, or 2000 Dotcom this time. This time things are going to be reset good and hard.

      In fact within a year or so I suspect we will be grappling with far bigger things, and the Cullen Fund will be pretty much forgotten about. (Which gives me no pleasure to say.)

    • Felix 11.2

      Oh what you do is press the button marked “reply” under the comment you wish to reply to.

      To achieve this, just move your mouse so that the “cursor” arrow is hovering over the word “reply” and click the button on your mouse (there’s probably only one button on your mouse if you need help with this).

      Now your reply will appear nested within the original comment, just like this one is.

      Hope that helps.

  11. Redlogix. Yup. i think I wrote that too somewhere. The Cullen Fund makes sense unless this is the end of the market economy as we know it, in which case there are bigger issues to deal with. And even then a large pool of wealth owned by the public, which the Cullen Fund effectively is, might come in handy.

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