Bartlett’s Impudent Stimulus Idea: Not a Recipe for Economic Health

Had to read this one a few times to be sure I was not missing anything.. sadly, I wasn’t. I don’t usually call names in a post, but I was at a loss to call it anything other than what it was. From the Washington Post (Courtesy Bruce Bartlett):

And thinking about this from another perspective, suppose we had a VAT right now and we wanted to stimulate consumption. Reducing the VAT rate temporarily would be a wonderful way to stimulate consumption. Suppose you had a 10 percent VAT and we said we weren’t going to collect it for the next 10 months. People would buy like crazy. They’d buy toilet paper, they’d buy anything they could get their hands on that they knew they’d need in the future. We’re depriving ourselves of a great stimulant tool by ignoring this.

Just so I have this straight. This “stimulus” idea is to essentially force purchases on an already over extended consumer with the very real threat of higher prices down the road. Can I just ask one thing? What happens 10 months down the road? I mean, when the consumer has acted rationally and stocked up on all these items and then the VAT is enacted and prices rise across the board, am I the only one who sees consumption plummeting? Am I? Hell, I can put a year's worth of staples in the basement this month and watch prices rise without buying anything else. How is that stimulus? It seems the idea is that somehow Americans will consumer more toilet paper or anything else they’d need in the future because prices are a bit lower now. It is a false premise. The frequency of my bowels movements, thus my need for toilet paper, actually depend very little on the current tax rate. Now, the argument could be made that current economic policy is making the dollars in my pocket worth about as much as the toilet paper, but that is another blog post.

People are going to buy “x” amount of toilet paper this year. This idea simply changes the timing of the purchasing, not the amount.

Bartlett’s plan is about as bright as mailing $600 checks to everyone in 2008 or raising taxes in a recession now. It is a gimmick designed for a short term result at the expense of longer term effect and actually longer term pain at the end. Why? Higher prices always result in lower consumption. An immediate 10% price increase across the board would cause sticker shock and a consumer that would retrench. Put simply, the resulting retrench would be in excess of the pre-tax consuming gluttony. Consumers would also “hold out”, waiting for the next tax holiday to make purchases.

One need only look at “cash for clunkers” for proof. Auto sales stagnated as consumers knew this was coming down the road. They then exploded and have since plummeted again: Short term gain with no net positive effect on employment, GDP, or consumer confidence (it has fallen since). If you are thinking about a car in the next year, are you going to run out and buy today or wait out the next government sponsored program to slip you one on the cheap? I would too! Meanwhile, the auto industry suffers as millions of other potential car buyers act the same way. It is not your fault, you are acting as an rational economic actor; it is the fault of the government for its inability to think past today. In short, the consumer knows what is going on.

The effect of the “Bartlett Plan” on business and employment would be stunning. Without any predictability, business would also behave rationally and cut employment to the lowest level to survive at the low points. Knowing that there was an upcoming death of activity coming as the tax is increased, any hiring during the suspension period would be minimal at best and temporary.

This is the same as the “tax holidays” we have here in Mass. What is gained from them? Does the state recognize more tax revenue? No. Are more people hired? No. Is there a sudden surge in manufacturing? No. What happens? We don’t buy anything leading up to them and then we don’t buy anything after. In other words, there is no “net benefit” over time. It does allow politicians to stand up and tell us how much money we “saved” by spending though. This is like when the wife comes home with $500 in clothes telling you how she “saved $200″ on sales..

What would work? As always, cut marginal tax rates, get rid of the dividend tax. It both stimulates activity of all kinds and increases revenues to the US treasury as a result of that activity. Reagan did it and a prolonged recovery/boom ensued. Clinton did it and saw similar results (yes I know, Clinton raised the upper tax rate a bit but that was more than offset by cap gains/middle class tax cuts). Both tax-cutting Presidents saw Treasury receipts rise to then record levels. Saying “this is the tax rate” enables both consumers and business to plan properly. It also avoids the yo-yo effect Bartlett’s “plan” would cause.

When it comes to taxes and behavior, it matters where they are going (or perceived to be), not where they are. That is what determines actors' behavior. If I think taxes are going up next year, I behave accordingly, economically. The same goes for if I think they are falling. If I think they are going to yo-yo (Bartlett’s plan), I wait for the low part and buy, then do nothing when they go up. That is not a recipe for economic health.

The whole point of Bartlett’s plan is to provide money for the Treasury. How does eliminating the tax designed to provide that money in order to compress spending into that period accomplish that? When we add into the mix the post party dearth in spending, the impudent effects of this plan are magnified.

Ah, you say, but how would cutting marginal rates lead to me buying more toilet paper? It wouldn’t. but, here is what it would do. Having extra money in my pocket and certainty into the future would enable me to buy more over the course of a year. Business, with some predictability into consumer behavior/trends, would be able to plan employment and production rates better. Under the Bartlett plan, at the end of the “tax free” period, when I am at the store, knowing prices are going to rise 10% next month, I am going to be more cautious about spending, knowing in a month prices go up 10% and I’ll need extra money for that increase. Impending price increases depress activity. Business, also knowing this, also will not hire extra staff during these temporary increased activity periods as they know it will come to and end. If they do hire, it will be part time help that is gone as soon as things slow back down.

The truly funny thing about this piece is that Bartlett makes the case, without knowing it, that cutting taxes increases economic activity, something he spends the first part of the interview trying to deny.

Back to the drawing board Bruce..

Comments

[doubleguns:]

How is it that Bartlett did not realize we ALREADY have plenty of taxes we could cut by 10%. Is he an ostrich or something or is he secretly promoting a VAT on America.

Oct 28 10:06 AM

[bob adamson:]

doubleguns –

The Bartlett idea actually has some merit but, to see this, the VAT must first be seen in a larger context.

First, and importantly, the implicit assumption is that the VAT was in force well before the need to temporarily stimulate consumer demand becomes an issue. In other words, the VAT of, say, 10% is in force and, because we want to be revenue neutral, other existing taxes are correspondingly lower.

Secondly, because the VAT exists and any change up or down in that tax impacts purchasers directly and immediately (unlike income tax, corporate taxes etc.), consumer spending can be stimulated or dampened in a matter of days by reducing or increasing, respectively the percentage of the VAT.

Further, the VAT is relatively cheap to administer and hard to cheat on. The big negative is that VAT is a regressive tax because it is flat rate. This can be addressed, however, by rebates annually to low income earners as part of the income tax program.

Given that no one likes taxes, isn’t there some merit in the VAT concept as a form of tax?


On Oct 28 10:06 AM doubleguns wrote:

> How is it that Bartlett did not realize we ALREADY have plenty of
> taxes we could cut by 10%. Is he an ostrich or something or is he
> secretly promoting a VAT on America.

Oct 28 11:20 AM

[Steve in Gr...:]

I read the interview with Bruce Bartlett and I understand his rationale. His VAT proposal is one way to improve the efficiency of the U.S. tax system. But his proposal is wrong-headed.

1) The most important U.S. fiscal problem is not inefficient (or insufficient) taxation. The problem is wildly excessive spending.

2) Any increase in tax revenue will be automatically spent by government with absolutely no reductions in deficits.

The only limits to growth of U.S. government (with the attendant wealth-destroying effects) appear to be the ability to extract more cash from taxpayers and the willingness of foreigners to accept assets denominated in a debased USD. The Laffer curve puts limits on the first. Current monetary policy and the emerging collapse of Medicare and Social Security put limits on the second.

Let's not make it any easier for government to grow.

Oct 28 11:46 AM