A Citizen's 2% Solution

How to Repeal Investment Income Taxes, Avoid a Value-Added Tax, and Still Balance the Budget

Stimulating Job Creation

The business and political press is anxiously awaiting Fed Chairman Ben Bernanke’s pending speech from Jackson Hole later this week,  looking for him to once again prop up the financial markets with words of wisdom and promises of support.  The market has already exhibited signs of lift in anticipation and pundits are offering subtle and not so subtle threats of coming catastrophe should he dare to disappoint – because while we give lip service to job creation, what we really seek from our financial leaders are perpetually rising stock prices. 

The rationale for the Fed’s persistent zero interest rate policies, and any other feats of legerdemain and levitation that Mr. Bernanke may  produce from his hat, is that they are supposed to stimulate productive investment.  But they don’t.  They stimulate leverage and financial speculation.  They stimulate inflated asset valuations:  bubbles, destined to pop. 

The rationale for preferential tax rates on investments is the same; it is presumed that savings and investment must be subsidized by preferential tax policies in order to stimulate growth.  But here again, reality has diverged from intention.  Our tax code has evolved to incorporate byzantine complications and exceptions which have the unintended impact of subsidizing unproductive capital and obstructing its free and fluid reallocation to more productive uses.  By sheltering investors from losses and subsidizing low return investments with tax preferences, our current investment tax structure impedes productive private investment and is a brake upon the economy.  The impact is directionally the same as with artificially low interest rates;  tax preferences which subsidize low return capital distort valuation metrics, inflate the value of unproductive assets, and help make financial speculation more profitable than productive enterprise. 

The popular consensus claims that slow private sector job growth is a result of high taxes.  But reality suggests that slow job growth is more accurately attributable to misplaced subsidies and incentives in government tax and monetary policies that are diverting private investment away from productive job-creating opportunities.  

Private job growth will not significantly recover until we change those policies. 

How big is the opportunity?  The Fed reports aggregate Household and Nonprofit asset holdings total approximately $72 Trillion.  Reallocate 3% of that toward more productive activities and you will unleash $2.1 Trillion of private stimulus.  Now measure that opportunity in relationship to the obstacles, both political and financial, of a comparable public stimulus program.  A $2 Trillion government stimulus program, initiated over a twelve month period, would require increasing federal disbursements by well over 50%, placing vastly increased pressure upon the federal balance sheet and its continuing solvency.     Not only does the private balance sheet have more capital to draw upon, more productive reallocation of private capital has its own underlying benefits, while all government expenditures eventually must be funded from tax revenues, either current or future. 

Late last week the Obama administration floated a trial balloon proposing to bribe business to increase hiring with new tax credits and increased subsidies.  Business leaders, true to form, responded with cautious optimism, quietly salivating over the prospects of another opportunity to feed from the public trough.  But increasing credits and subsidies is simply doubling down on the cause of our problem.  We need to return to principles of more equal treatment that lie at the core of both democracy and capitalism.  We need to unwind the rat’s nest of special preferences and subsidies that raid the treasury and distort investment incentives.   

The key to private job growth is comprehensive structural reform of investment tax policies.   I believe if we level the playing field and stop subsidizing unproductive capital with preferential tax and monetary policies the natural response will be an aggressive reallocation of private capital that would provide far greater economic stimulus than anything government can afford to offer

If we desire to stimulate job growth we must first examine and acknowledge the myriad ways in which current policies are obstructing it. 

Replies, observations or rebuttals are welcomed, either publicly as a comment to this post, or privately through the nearby contact form.

Douglas Hopkins

Author – A Citizen’s 2% Solution: How to Repeal Investment Income Taxes, Avoid a Value-Added Tax, and Still Balance the Budget. ISBN 978-0-9828328-0-6

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2 Responses to “Stimulating Job Creation”

  1. SDH says:

    Today government tax policies subsidize unproductive capital with deferral of unrealized gains, offsets between gains and losses, lower taxes for less profitable entities, and a variety of other less obvious targeted preferences – all of which obstruct more productive investment and essentially all of which are tied to our efforts to tax investment returns.

    The alternative structure outlined and discussed in greater detail throughout this site (see http://www.2pctsolution.com/?page_id=131 ) is a proposal to remove those obstacles and increase incentives for higher returns by changing the structure of taxes on investments from an income assessment to an asset assessment.

    It is a structural modification which I believe would put Adam Smith’s Invisible Hand back to work. The entire capitalist theory revolves around reliance upon the aggregate decisions of many individuals seeking advancement and self-interest to drive collective progress and prosperity. It is the antithesis of managed central planning. But the Invisible Hand, like Lady Justice, was supposed to operate blind of managed objectives – and requires a level playing field.

    “Every man, as long as he does not violate the laws of justice, is left perfectly free to pursue his own interest his own way, and to bring both his industry and capital into competition with those of any other man or order of men.”
    ~ Adam Smith (1723-1790), The Wealth of Nations

    There is nothing in that core tenet of capitalism that supports preferential treatment of the investment class which has come to permeate our tax code – indeed preferential treatment, which distorts those private decisions undermines the entire concept. I’m confident ASmith didn’t contemplate an unequal competition where the already privileged were granted preferential tax treatment. And note that “the laws of justice” is a different threshold than “the whims of Congress or the IRS”.

    Remove the existing obstacles – and the market will seek more efficient reallocations.

    As example – If we repeal existing investment income taxes and replace them with a 2% annual tax, even in uncertain economic times investors will probably be less inclined to take shelter in U.S. Treasury notes or taxpreferred illiquid and unproductive holdings, and more likely to aggressively evaluate where you might earn a higher return. Instead of focusing on tax avoidance strategies and lobbying governemnt for more special rules and protections, or manipulating balance sheets with paper transactions, businesses would be incented to re-focus on profitable operations.

    Remove tax deferrals for speculative investments and the need for current returns to fulfill annual tax obligations will guide investors to reduce speculation in trading markets and seek out more productive returns – which will in turn shift more focus toward investing in real goods and services, driving job growth.

    The flight to safety in uncertain times which makes liquidity contract and exacerbates economic cycles would be mitigated by making people less willing to settle for low returns and more motivated to find higher returns. And in the worst case, it would generate additional tax revenue with which to fund government programs, balance the budget and stabilize the currency.

  2. jack wilson says:

    So what are some specific examples of structural changes you would make? Prefential taxes policies you would eleminate and those you might add. Then where would those most likely result in private investment in job growth?

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