Tax cuts work better than public stimulus

Outstanding article in The Australian which also addresses the fallacy of the New Deal and how it actually did nothing but prolong the Depression (which I have argued for years) much as Obama's Stimulus as continued and deepened the Recession. (which I have also pointed out since day one)

Anne Henderson 
From: The Australian  
December 29, 2010 12:00


BARACK Obama recently forced through congress an extension of the Bush tax cuts for another two years, in spite of heated opposition from many Democrats.

The tax cuts repudiate the President's economic policy and signal a shift from government stimulus to tax relief as a means of pushing US economic recovery. Significant sections of the Democratic Party are far from happy, seeing the move as a betrayal.


US unemployment is now 9.8 per cent. With numbers of long-term unemployed multiplying, journalists such as Catherine Rampell of The New York Times report that economists still believe public works projects and direct employment programs are the fastest way of getting the long-term unemployed back into jobs. Many are calling for a new New Deal.


But is this really the answer? Or might tax relief in fact do better? There are many who argue that uncertainty for business around taxation and regulation with the Obama administration has forced investment to wait and see. In these times of government stimulus, as political strategist Joe Trippi puts it, there's still uncertainty that prices have not bottomed, leaving investors waiting.

Bloomberg columnist and widely read analyst Amity Shlaes published The Forgotten Man: A New History of the Great Depression in 2007. Risking derision for taking on America's economic sacred cow, Shlaes has argued the New Deal was a tragic mistake in social engineering.


She argues that presidents Herbert Hoover and Franklin D. Roosevelt should have allowed the market to recover rather than spend billions on government schemes. FDR's New Deal was the prime offender. Throughout the 1930s, the US stayed deep in economic depression. By 1937 it had developed a depression within a depression.


The New Deal is foreign territory to most Australians. Its experimentation, largesse of government spending, indifference to global partners or agreements and the, at times, autocratic stance by the president in decisions about finance is unimaginable in any successful Australian leader.


For Roosevelt, there seemed few limits. Such was the power and financial might of the US, allies such as France and Britain bent before him
.
But prices continued to stagnate. Shlaes writes that what FDR was doing was like "pouring glasses of water into the ocean in the hope of raising the sea level". Buyers also determine prices. Even as the US government was offering low interest loans to farmers at the rate of $US1m a day, it was also paying farmers not to farm. As gold hit a new high, Roosevelt put the US back on the gold standard. The depression remained, with unemployment at 23 per cent.


Roosevelt began massive projects under the Tennessee Valley Authority, constructing dams for hydro-electricity. Power to the people, literally, in a nation where private companies owned the utilities. Farmers and locals were resettled at great cost and much protest, and private utilities companies pursued until they could be bought up by the federal government.


The New Deal in the US during the 30s was America's flirtation with a command economy. It failed, and was saved only by the industrial expansion of war in the early 40s.
What became known as Keynesian economics is seen as the theory behind the New Deal. However, as the US unemployment figures remained stuck in the teens by 1937, Keynes wrote to Roosevelt saying he should abandon his war against private utilities companies: "It is a mistake to think businessmen are more immoral than politicians."
The New Deal forced income taxes on high earners to 79 per cent, introduced death duties and lowered tax-rate thresholds. It even delivered an undistributed profit tax as capital retreated in the face of unfair competition from government monopolies and over-regulated markets.


By 1937, taxing the "middleman" had become an FDR sport while new laws to tighten rules around monetary policy forced banks to keep more cash and cut back on loans. Business became expensive. Wages were forced up - in the first six months of 1936 by 11 per cent. August 1937 witnessed the greatest drop in industrial production ever recorded.


In stark contrast, Australia and Britain took a very different path. The British government continued debt reduction. Keynes's biographer Robert Skidelsky, in Interests and Obsessions, writes: "What is striking in retrospect is the shallowness of the British depression and the need for recovery from it in the absence of any deliberate fiscal stimulus. British unemployment, 2.9 million at its peak in 1932, was half Germany's and a sixth of America's at the same date."


In Australia, more damaged by heavy debt by the mid-20s, the story was also far better than in the US. By the time the Scullin government fell in 1931, opposition leader Joe Lyons had mounted a rallying cry that only he and the United Australia Party could be trusted to deliver "sound money". In government from 1932, Lyons fought the depression with modest relief works and government economies to bring budgets back into the black.
From 1934, figures showed that Australia had turned the depression around.



Unemployment had gone from 29 per cent in 1931 to 16 per cent by 1935.
Australians' belief in labour market flexibility and sound money should never be ignored and their distrust of utopias and social engineering has a lot going for it.


Anne Henderson is deputy director of The Sydney Institute