William Dunkelberg
Professor of Economics at the School of Business and Management, Temple University (Formerly Dean of the Fox School of Business)
1. There is good news and bad news from the housing market this week. Housing starts fell to a level of 460,000 units last month, the lowest in decades. This looks bad given that in normal times we need about 1.5 million new starts to meet the demand from new households that are formed each year and deletions from the stock from storms, fire and demolition. We are only building a third of what we need.
This is good news because since 2000 we constructed over a million houses more than we needed. These surplus homes are weighing on house prices, driving them down. Under-producing will help get rid of the excess supply. Sales of existing homes have reached a rate of nearly 5 million, almost as many as were sold when the economy peaked in December of 2007. The oversupply problem in some areas such as Florida and California will take longer to resolve but the rest of the country will start to stabilize and construction will resume in the first half of this year.
2. There are a number of factors that are setting the stage for a resumption of economic growth later this year. First, if oil stays under $50 a barrel, we will enjoy the equivalent of a $400 billion dollar stimulus tax cut. It’s already in place.
As the recession lingers, pools of pent-up demand are building. Car sales have declined to a rate of 9 million cars, while we scrap 15 million from the stock of 250 million cars on the road. Buying will resume soon. Plant and equipment expenditures have been postponed for some time and will soon have to be made. Inventories have been drastically depleted and will have to be replaced. It is the reduced spending of the 140 million workers who still have a job that has slowed the economy to recession levels. The media news and our leadership have scared consumers and business owners. Their lack of confidence has resulted in the postponement of spending. This will begin to reverse itself this year and the private sector, not the government, will restart the economy and lead us out of recession as it always has in the past.
3. Government spending accounts for 20 percent of GDP and the federal budget alone is equal in size to 25 percent of our output. So, what government does has a large impact on the private sector economy. Currently, the absence of a clear direction and plan from Washington is hurting the financial markets and private spending. The confusion surrounding policies for dealing with our banking problems has driven stock prices for banks to unbelievable lows. The sketchy program for assisting some homeowners with taxpayer money has generated both confusion and outrage. The so-called stimulus package doesn’t have much immediate stimulus in it such as tax cuts and since nobody read it, we don’t know what spending will be done and when. And of course we all worry about how the government will get the $800 billion that it proposes to spend. Remember, the only money the government has to spend is your money. So, tax hikes, supposedly only on rich people, and heavy borrowing are in our future. Everybody is waiting to see what the government is really going to do, waiting to be saved. Our experience in New Orleans suggests this is a bad idea.
4. Soon consumers will start receiving checks from the so-called stimulus package. If you aren’t rich, you will receive a check for $400. The last time we did this was last year, with $500 checks. According to the University of Michigan survey research center, 20 percent of the recipients said they would spend the money, 30 percent planned to save the money, and 50 percent planned to pay off debt.
This is offered by some to discredit the notion that sending out checks will be stimulative, since only 20 cents on the dollar gets spent and the rest goes to savings or debt repayment. That isn’t necessarily bad.
20 years ago, we saved over 10 percent of our after tax income but our saving rate fell to 0 in the past few years. At the end of last year, we saved 5 percent, nothing to brag about but an improvement. But it was this sudden increase in savings that led to a huge reduction in retail sales in the fourth quarter, so in the short run, more saving can slow the economy.
But, if you don’t save and put money in the bank, no mortgage or business loans can be made. Making these loans results in new investment spending, not just consumption. This helps to raise worker productivity and income. We have to stop borrowing from foreign savers and rely on our own savings to finance new investment and new home mortgages if we want to rebuild our economy.
5. Congress is not only taking control of our troubled banks, it is also proposing to start interfering with private contracts, in particular mortgages. It would offer bonuses of taxpayer money to institutions re-writing mortgage contracts and may allow bankruptcy courts to cram down changes in mortgage agreements.
So, would you loan 10,000 of your money to someone if you knew that somewhere in the future, if the borrower has some problems, a judge could arbitrarily reduce the interest rate you were supposed to receive and cut the amount to be repaid to just $5000? Probably not! If you did, you would charge a much higher interest rate to help you recover some of the potential loss of your money.
When you put money in a bank, your deposits are used to make loans like mortgages. Tens of millions of these mortgages might be subject to a cram-down, which means that the payments the bank expected to earn on your money and pay to you in interest could be reduced. If our hope is to make more mortgage money available to consumers to get the housing market restarted, threatening lenders with a cram-down loss of your money is not a good way to start.
6. There are over 8,000 earmarks in the omnibus spending bill passed by congress. Here are some examples: sidewalk construction in Cherryland California, Totally Teen zone in Albany Georgia, school sidewalk in Franklin Texas, bus for Lawrence Kansas and Detroit Michigan and Culver City California, Lemon Street reconstruction in Florida and Vienna Virginia and Williamstown Vermont, 5th and Market Street improvements in Philadelphia, Old Tiger Stadium conservancy in Detroit, and the list goes on for 8,000 items like this.
I am not offering a commentary on the worthiness of these projects, here’s my issue: why are these 8000 projects a federal matter, why is the Congress of the United States managing this? These are very local issues as are issues related to the quality of education.
We send our money to Washington, put on knee pads and beg to get our money back to take care of local problems. Trust me, the overhead charge Congress imposes on your money is huge. Congress loves the power, of course, and loves having governors and business leaders groveling in front of them. This is nonsense, and hugely wasteful of our hard earned money.
7. The latest available IRS data for 2006 indicate that tax filers with $200,000 or more in income, about 7 percent of all filers, paid $520 billion in income taxes. That was 60 percent of all income tax revenue paid. So, 7 percent of the taxpayers paid 60% of the income tax revenue collected. The top one percent paid in 40 percent of all tax revenue collected.
The huge increases in spending now approved are to be funded by an increase in income taxes on so-called “rich” people. Suppose that we in fact take 100% of the incomes of those earning $500,000 or more. In 2006, a strong economic year, this would have produced about 1.3 trillion in tax revenue, less than half of government spending that year. With 4 trillion in spending expected in the 2010 budget and an economy much weaker than in 2006, it should be clear that raising taxes on the rich cannot come close to funding government spending. In 2006, taxing 100 percent of the incomes of those making $75,000 or more would have raised less than $4 trillion dollars.
That leaves the prospect of a trillion dollars in new borrowing and interest on a larger debt for decades to come. Last year, we paid over $400 billion of tax payer money to service the debt. That’s $1,300 per person. This burden is only going to rise in the future as our indebtedness rises. Consumers are learning how to be lean and mean and save money (savings rate up to 5% of disposable income after years of 0% saved), perhaps the government should join the party.
8. Recently, a well known governor, appearing on the Sunday talk shows, defended the proposal to tax rich people more by suggesting that Clinton’s tax hike resulted in budget surpluses and strong economic growth. It doesn’t take an economist to recognize the absurdity of that statement.
Yes, taxes were raised on the rich by a Democrat Congress. Then the democrats were thrown out. Fiscal conservatives gained control which helped control spending. The “politics” of the deficit were negative and the congressional budget office predicted huge deficits through 2000. But several events that are not likely to repeat in many lifetimes took over. Most important was “y2k”, a fear that anything with a chip would fail as the calendar clicked over to 2000. This produced a huge surge in tech spending which was accompanied by a telecom boom (fiber optics etc.) That drove employment to a record high 64.5% of the adult population. This had nothing to do with raising taxes on the rich, but since economic growth was so strong, tax revenues came in much stronger than anticipated and several years of budget surpluses occurred. Unfortunately all of this came to an end in the last half of 2000 while Clinton was still president. The budget surpluses would have occurred without the tax hike, but were probably larger because of it. A $100 billion of the surpluses was due to capital gains taxes in the best years, unfortunately not a tax on productive income generation. It was just another big redistribution of wealth, for every winner, a loser with government taking a slice along the way.
Time to get back to the basics, it’s the private sector that creates wealth, not government and taxing working people will not enhance the recovery.