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Fatally Flawed Approaches to the U.S. Budget Deficit and Taxes...

Politics / US Debt Feb 24, 2012 - 11:19 AM GMT

By: Mike_Shedlock

... Debt Will Swell Under 3 of 4 Republican Hopefuls' Tax Plans

A number of proposals on taxes and the budget have come out recently, one by President Obama, one by Mitt Romney, and one by a friend, John Mauldin.

Every one of the proposals are fatally flawed, most of the for multiple reasons. Before one can fix a problem one must understand it.

In general, Democrats want to raise taxes and spend money.

Republicans on the other hand generally want to cut taxes and spend money. Military spending and Medicare spending both soared under Republican. Bush signed a disastrous Medicare bill.

Both parties claim to be against deficit spending. However, if neither party wants deficit spending then why are their deficits?

Before we get to what's wrong let's take a short look at some recent proposals.

Tax Cuts to Prosperity

Mitt Romney proposes A Tax Reform to Restore America's Prosperity

First, I will make an across-the-board, 20% reduction in marginal individual income tax rates.

Second, I will reduce the corporate tax rate to 25% from 35%, transition from a world-wide taxation system to a territorial one, and make the R&D tax credit permanent.

Third, I will promote savings and investment by maintaining the low 15% rate on capital gains, interest and qualified dividends, and eliminate the tax entirely for those with annual income below $200,000.

Fourth, I will take long overdue steps to correct failures in the tax code. I will abolish the death tax, whose primary effect today is to foster elaborate schemes for transferring wealth. I will also repeal the Alternative Minimum Tax, which was intended to make the code simpler and fairer but has accomplished precisely the opposite.

Fifth, I will bring stability to the tax code by making these changes permanent.

A Simple Question

Excuse me for asking a simple question: How the hell are you going to pay for this?

What spending cuts would Romney make? He did not have the decency to say.

Take another look at point number 5. It's a blatant lie. There is no way to make changes permanent. Any Congress at any time can make tax changes undoing prior Congressional actions.

Obama's Plan to Close Tax Loopholes

President Obama has a plan to lower the corporate tax rate. However, on close inspection, To close tax loopholes, Obama would open new ones

President Barack Obama wants to close dozens of loopholes that let some companies pay little or nothing in taxes. But he also wants to open new ones for manufacturers and companies that invest in clean energy.

To some analysts, the new loopholes risk upending the level playing field Obama says he wants to create.

Is Obama attempting to level the playing field on taxes or level the playing field with a potential presidential debate with Rick Santorum and Mitt Romney on manufacturing?

Who knows? What I do know is this will do nothing to cut the deficit.

Obama, Romney Tax Plans Propose Unfunded Corporate Rate Cuts

The Huffington Post reports Obama, Romney Tax Plans Propose Unfunded Corporate Rate Cuts

President Barack Obama and Mitt Romney have begun a new form of competition: proposing corporate tax cut plans that they claim, wrongly, won't cost the Treasury a dime. Almost immediately after Obama unveiled his plan on Wednesday, one of the nation's leading tax policy experts threw cold water on the administration's claim that its tax overhaul could be implemented "without adding a dime to the deficit." A separate plan released Wednesday by Republican presidential contender Romney, the expert said, would almost certainly expand the deficit.

Debt Will Swell Under 3 of 4 Republican Hopefuls' Tax Plans

Given the pathetic lack of details in most tax plans one should not be surprised to learn Debt Will Swell Under 3 of 4 Republican Hopefuls' Tax Plans

The national debt would balloon under tax policies championed by three of the four major Republican candidates for president, according to an independent analysis of tax and spending proposals so far offered by the campaigns.

The lone exception is Texas Rep. Ron Paul, who would pair a big reduction in tax rates with even bigger cuts in government services, slicing about $2 trillion from future borrowing.

According to the report released Thursday by U.S. Budget Watch, a project of the bipartisan Committee for a Responsible Federal Budget, former Pennsylvania senator Rick Santorum and former House speaker Newt Gingrich would do the most damage to the nation's finances, offering tax and spending policies likely to require trillions of dollars in fresh borrowing.

Both men have proposed to sharply cut taxes but have not identified spending cuts sufficient to make up for the lost cash, the report said. By 2021, the debt would rise by about $4.5 trillion under Santorum's policies and by about $7 trillion under Gingrich's plan, pushing the portion of the debt held by outside investors to well over 100 percent of the overall economy, the study said.

The red ink would gush a little more slowly under former Massachusetts governor Mitt Romney, the report said. Until this week, Romney had paired $1.35 trillion in tax cuts with $1.2 trillion in spending reductions, leaving the debt rising on a trajectory that closely tracks current policies.

But that changed Wednesday, when Romney proposed to cut federal income tax rates by 20 percent more for all earners, which would slash U.S. revenue by more than $2 trillion over 10 years.

Romney economic adviser Glenn Hubbard said the lost cash would be recovered by closing tax loopholes and boosting economic activity. But until the campaign offers a more specific plan, Budget Watch analysts said Romney's entire framework would add about $2.6 trillion to the debt by 2021.

Only Paul emerged as a fiscal conservative in the report. His policies would cut tax revenue by more than $5 trillion over the next decade, the report said, but the loss would be offset by more than $7 trillion in spending cuts, including deep reductions in defense and federal health programs.

The True Conservative

Romney, Santorum, and Gingrich are collective hypocrites and fake conservatives. Ron Paul stands alone as a true fiscal conservative and a true conservative on military policy as well.

John Mauldin VAT Proposal

Rather than cut taxes, Mauldin primarily seeks to fix the deficit by hiking taxes. Let me say up front that Mauldin is a friend, he is a Republican, and on this issue I politely suggest he is also off his rocker.

Please consider snips from The Cancer of Debt and Deficits by John Mauldin.

The growing debt and the deficit is a deadly cancer on the economy. It will deliver a mortal blow to the economy if not dealt with.

The problem is solvable. It is not that there are not a lot of solutions. It is that we have not yet found the political will to decide what course of treatment is needed. Let's start with a few basic presuppositions that I think must be addressed in order to marshal an effective set of choices.

1. It has to be politically feasible. The Right would like to address the problem with spending cuts and reforms. Reforms and spending cuts are necessary but not sufficient to deal with the problems. For instance, disability payments are now running $200 billion a year and growing rapidly. Some 25% of those unemployed since the beginning of this crisis have somehow qualified for disability payments. We can cut the time allowed for unemployment benefits, but that does not offer large numbers. Government transfers now account for 22% of household income. Cutting that will be politically difficult.

The real problem is health care. How much do we want and how do we want to pay for it? Health care must be thoroughly reformed, but the will (the votes) to go back to the 1990s is just not there. Rising costs can be controlled but not eliminated. The same goes for Social Security. We can raise the retirement age, do means testing, and make other changes; but the fact is that there are more Baby Boomers retiring each year. There is no Social Security Trust Fund. The money was spent on other projects, and now Social Security runs in the red each year. What Republican is running on a platform of taking away Social Security from those who are presently receiving it or will be eligible for Social Security within 10 years? Want to cut defense? Military pensions? Government pensions.

....

The hard reality is that the rich just don't make enough to cover our current deficit. If we raised taxes to something like 60% on the top 10% of income earners, not just the 1%, we might get enough tax revenue, if the "rich" cooperated by making the same income they do now. That type of tax rate is just not politically feasible under any conceivable elected Congress.

It will require both spending cuts AND different and higher forms of revenue to get a deficit reduction plan through Congress, even a majority Right or Left Congress. If Obama could not get higher taxes (except for health care in the future) in his first two years, with a decidedly Democratic Congress, it is very unlikely to happen in time to deal with the deficit crisis. Something must be done SOON. We don't have another five election cycles to debate this.

...

[Citing Marc Sumerlin and Larry Lindsey, economic advisors in the White House, and co-authors of a book What a President Should Know ... but most learn too late Mauldin adopts their suggestions]

Marc outlined to me their thoughts on reforming the tax code. I read the chapter in the book on reforms, and like it better than anything else I have seen.

What they suggest is to tax consumption with a 20% Value Added Tax (VAT). There would be no taxes for incomes under $100,000. None. No Social Security. No Medicare. If you make less than $100,000 you pay nothing.

All income over $100,000 is taxed at 20%, no matter what the source. No capital gains rate or dividend break. I assume that also means no municipal bond exemptions. No exemptions for anything. Every last tax expenditure goes away. Corporate tax rates would be 20%, and again I assume no exemptions. If you make a profit, you pay taxes.

They also note that their proposal was revenue-neutral in 2007, and included a $2,000 per child tax credit. Every worker would get an approximate 7.5% pay raise from the removing of Social Security and Medicare taxes. While businesses would also get that same tax break, they would have to pay a VAT on salaries, which would be an increase in cost. Welfare, the social safety net, and health care would all be funded.

One can adjust the levels of both the VAT and income taxes to match the desired level of government spending. I might prefer less, but that is not the point here. Match these taxes (along with the normal excise taxes) with entitlement reform, a properly structured health-care system, and some cuts in other areas, and you are close to a balanced budget.

Politically Feasible - Not

For starters, Mauldin's proposal immediately violates requirement number one.

The proposal is not close to being politically feasible. Even it it was politically feasible, it would be a horrendous idea. To see why let's start with a look at spending.

Military Spending

Military spending may not be the biggest problem, but it certainly is a very big problem.

Indeed the US spends as much as the next 14 nations combined.

Defense Outlays

The above chart is from Decline and Fall of the Roman Empire by Jeffrey Gundlach

Warmongers (basically Republicans, Democrats, and President Obama with a few exceptions like Ron Paul) like to point out that defense spending is shrinking as percentage of the budget.

However, anyone with any common sense will point out a needless rise from $300 billion to close to $800 billion, now projected to be around $700 billion. This happened because of inane wars in both Iraq and Afghanistan.

Now the warmongers are hell bent on starting a war with Iran even though the price of oil is soaring and Israeli Intelligence Concludes "No Iranian Nuclear Weapons Program"

What If?

What if we could roll back the hands of time to when Bush was trumping up complete nonsense about weapons of mass destruction in Iraq and make a change. The change I want to make is to have in place a balanced budget amendment that allows no exceptions.

You want more spending, then you either cut spending elsewhere or raise taxes.

Would Republicans have been so gung-ho about starting that war? If they did start it, would the public have stood for all the tax increases to pay for it?

What if we could roll back military spending to 2003 levels? Why is that impossible?

Note that the US has troops in 140 countries. Does the UDS need troops in ANY country but the US? I suggest, as does Ron Paul, as would any true constitutionalist conservative, the answer is no.

Defense vs. Healthcare

Defense is a problem, but Healthcare is an even bigger problem.

Mauldin pointed out "disability payments are now running $200 billion a year and growing rapidly". I pointed out the same thing in Disability Fraud Holds Down Unemployment Rate; Jobless Disability Claims Hit Record $200B in January.

Before we start raising taxes, don't you think we ought to cut out the fraud?

And what about Medicare fraud? What about Medicaid fraud? What about Food Stamps?

Economic Insanity from Gingrich

Please consider Economic Insanity from Gingrich on Marijuana Use: Life imprisonment With No Parole; Who Benefits from War on Drugs? Big-Brother Expansionist Ideas: Gingrich Proposes "Free Radios" for Everyone in Cuba!

Yes, Gingrich actually proposed "Free Radios" for Everyone in Cuba. He also proposed drug testing for food stamp recipients. I had three questions for Gingrich.

Three Questions for Gingrich

1. How much will it cost to administer drug tests to everyone getting a government subsidy?
2. How much more chipping away at states' rights does Gingrich want?
3. How can this proponent of big government even call himself a Republican?

See how easy it is for even Republicans to propose complete nonsense? Both parties will keep doing the same thing if we blindly follow Mauldin's guide of raising the VAT to meet expenditures.

Mish Food Stamp Proposal

When it comes to food stamps I have a far better set of ideas than Gingrich's drug testing proposal.

• Do not let those on food stamps buy frozen pizza, potato chips, snacks of any kind, soft drinks, etc.
• Explicitly limit food stamp users to generic (store brand vs. name brand) dried beans, rice, peanut butter, pasta, canned vegetables, canned soup, soda crackers, fresh vegetables, fresh fruit, frozen (not bottled) juice, poultry, ground beef, chuck steak, bread, cheese, powdered milk, eggs, margarine, and general baking goods (flour, sugar, spices).
• Calculate a healthy diet based on current prices, number in the family, ages of recipients, and base food stamps allotments on that diet.

My proposal will not only lower the cost of the food stamp program, healthy diets would lower Medicaid and Medicare costs as well. Moreover my proposal would give people a strong incentive to get off the food stamp program without intrusive, costly big-brother ideas like drug testing which cannot possibly work for the simple reason that anyone who fails will steal to get food rather than starve. Also note that Gingrich's proposal would harm innocent kids on the program. My idea would help them nutritionally.

Corruption of America

Porter Stansbury wrote a tremendous article on The Corruption of America and how public unions are at the center of it.

It has now been almost 50 years since the start of the War on Poverty, President Lyndon Johnson's program to radically increase domestic welfare spending. These programs and their various spinoffs have been at the center of Democratic politics ever since. In fact, if you compare speeches about these programs from the mid-1960s until today, you will find the verbiage never changes. Obama is merely echoing the same calls for "social justice" that Robert Kennedy used in his ill-fated 1968 campaign for president.

But besides the soaring rhetoric, besides the promise of a "chicken in every pot," what have these programs actually achieved? The wholesale destruction of urban communities across America, communities that are overwhelmingly African American. If the intention of these programs had been to destroy black communities, you could have hardly done more damage than the last 50 years of Democratic policy.

I don't think most Americans realize how dangerous these communities have become or the toll they take on our country as a whole. That's primarily because talking about this problem is seen as racist. That's complete nonsense. The victims of these policies are primarily black people. Trying to help them restore dignity and independence to their communities isn't a racist goal. It's humanitarian.

In Detroit, only 27% of the black male students in the school system graduate from high school. This is not a racial problem: Only 19% of the white male students graduate from those same schools. What's causing this problem? A complete breakdown of society. When communities can no longer teach their children the most basic academic skills, such as reading, math, history, literature, and economics... what future can we expect? And what kind of society do you expect after several generations of total ignorance?

How did this all happen? How did we end up with expensive schools that can't teach? How did we end up with young mothers who aren't married? How did we end up with entire generations of people who won't - and probably can't - work in the labor force? How did we end up with a skyrocketing prison population? The prison population in America has soared from less than half a million people in 1980 to more than 2.5 million people today. More than 7 million adults are in prison or on parole in the United States. We have an incarceration rate that's seven times higher than any other industrialized nation.

Let's ask the most basic question: What has the gigantic increase in welfare spending and education spending done for the underclass of America?

The article is lengthy and it starts out slowly but quickly picks up. At times Stansbury uses some politically incorrect language that may appear racial. It's not. He attacks Republicans and Democrats alike, whites and blacks alike. He talks about the corruption of unions and the corruption of corporations. Everyone would be well served to read the entire article.

Golden State on road to Greece, by way of Detroit

Stansbury touched on Detroit in his article and so did the Orange County Register in an editorial Golden State on road to Greece, by way of Detroit

California's tax burden, according to the Tax Foundation, is heavy. The Register reported that per-person state and local taxes, fees, licenses and "intergovernmental revenue" amount to $8,634, ranking California 13th-highest among the states. California businesses fare worse, the Tax Foundation said, ranking 48th in tax climate, based on corporate, income, sales, property and unemployment insurance taxes.

What's unsaid is the effect on individuals of extremely high corporate taxes. Companies not driven out of state or out of business are less likely to hire or expand, more likely to contract and struggle to provide for current employees.

But high taxes are needed to pay for leftist policies that interject government into private life, while heaping generous benefits on government workers who do the interjecting. Progressives, as they like to call themselves, seem oblivious to Big Government's damage.

We have a glimpse of where this leads. It's called Detroit.

Detroit is where "all the major economic planks of the statist or 'progressive' platform have been enacted," writes Jarrett Skorup of the Mackinac Center. "A 'living wage' ordinance, far above the federal minimum wage, for all public employees and private contractors. A school system that spends significantly more per pupil than the national average. A powerful school employee union that militantly defends the exceptional pay, benefits and job security it has won for its members. Other government employee unions that do the same for their members. A tax system that aggressively redistributes income from businesses and the wealthy to the poor and to government bureaucracies."

Sound like California? What has all this done for Detroit, "dubbed the most liberal city in America"? Detroit in 1950 was America's wealthiest city on a per capita income basis. Today it's the second-poorest major city.

"[I]t is striking that the decline in per capita income is exactly what classical economists predict would occur when wage controls are imposed and taxes are increased," Skorup writes.

Despite progressivism's poisoned fruits on display, what does California do? Recent headlines trumpeted proposed tax increases of billions, additional "rights" for state government workers and clamoring for more tax subsidies for education and health care and, let us not forget, Gov. Jerry Brown's desire to squander billions on a high-speed train no serious analyst says can operate profitably, if it can even be built for its estimated $98.5 billion.

Still Like That VAT Idea?

Anyone still like that VAT idea? If so expects states like California and Illinois to embrace it. Expect every public union in the country to be clamoring for more tax hikes to support more wage hikes.

Heck, they already are, even before a VAT. On February 17, the Chicago Tribune reported Chicago teachers asking for 30% raises over next 2 years.

Is that insane or is that insane? The only way to stop such insanity is by ending collective bargaining of public unions, scrapping Davis Bacon and all prevailing wage laws, and instituting national right to work laws.

Desired Level of Government Spending

Instead of blindly raising taxes, I propose we take a serious look at every government program and decide what is really needed. Student aid is another program of negative benefit. Such aid drives up the cost of school and makes debt slaves out of some kids for life. The program needs to be scrapped entirely.

Returning to Mauldin's thesis that any proposal must be politically feasible, spending cuts alone will not fly.

However, Republicans need to demand a lot in return for any necessary tax hikes. As a compromise, I would accept Some amount of tax hikes in return for scrapping Davis Bacon, ending all prevailing wage laws, and instituting national right to work laws.

Those actions will help cities and states get back on their feet. But we also need pension reform, welfare reform, drug imports from Canada, and a host of other items including tax reform.

I am against a VAT completely. And I certainly do not like exempting the first $100,000 because the tax burden would then fall only on the middle class.

Instead of a VAT, and in order to be fair to everyone, a sales tax that excludes food, shelter, medicine, and perhaps clothing is the way to go. Everyone gets the same break so the proposal is fair. However, the poor spend nearly all their money on food, shelter, medicine, and clothing, so they benefit proportionally speaking.

A national sales tax is easy to collect, hard to avoid, and promotes saving over consumption, all of which are very good things. Perhaps some combination of income tax and national sales tax is the way to go, but only after eliminating fraud and unnecessary spending.

In this regard, a very good place to start would be with Ron Paul's proposed cuts.

The cardinal rule of taxes is legislators will spend every dime collected and then some so a definite control is needed. I propose a balanced budget amendment to stop both parties from doing just that.

Legal Bribery

The above actions are a good start but corporations and unions like to buy votes. Lobbyists write our legislation and they are often the only ones who really know what is in the bills and why. Nancy Pelosi famously remarked "we have to pass the health care bill to see what's in it". Indeed. But the lobbyists knew. They read every line of it.

As long as public unions, corporations, and lobbyists can bribe legislators with campaign contributions, then bills are going to be written by public unions, corporations, and lobbyists.

The result is the worst legislation (from a taxpayer perspective) that money can buy. Proof is easy to find. There are 72,536 Pages of Tax Code.

Nearly all those pages of code exist because some corporate or union sponsor made campaign contributions to some member of Congress who piled on page after page of tax code.

My proposal to end collective bargaining of public unions and institute right to work laws will fix one of the problems, but something still needs to be done about corporate campaign bribery. I am open to ideas.

Correct Approach

The correct approach is not Obama's, not Romney's, and not Mauldin's.

Three Step Approach

• First, there are numerous structural problems and fraud items as noted above that should be fixed as part of a compromise package.
• Then before deciding on the amount of tax, we need to take a serious look at Ron Paul's proposals to see what we can get rid of.
• Then tax code needs to be simplified in a fair way, as would my national sales tax idea exempting food, medicine, and clothes (Perhaps a combination sales tax and income tax).

Unfortunately that still is not enough. Congress is highly unlikely to do this on its own. We need a presidential leader willing to make tough choices, not just say he is willing to make tough choices.

Obama has clearly failed. By their pathetic proposals to date, so will Mitt Romney, Newt Gingrich, and Rick Santorum.

And so here we are, careening towards the 2012 elections with a guaranteed loser as a sitting president, and unless Ron Paul pulls off a miracle, a set of fatally flawed candidates with fatally flawed proposals on what to do about the deficit on the Republican side as well.

By Mike "Mish" Shedlock
http://globaleconomicanalysis.blogspot.com Click Here To Scroll Thru My Recent Post List

Mike Shedlock / Mish is a registered investment advisor representative for SitkaPacific Capital Management . Sitka Pacific is an asset management firm whose goal is strong performance and low volatility, regardless of market direction.

Visit Sitka Pacific's Account Management Page to learn more about wealth management and capital preservation strategies of Sitka Pacific.

I do weekly podcasts every Thursday on HoweStreet and a brief 7 minute segment on Saturday on CKNW AM 980 in Vancouver.

When not writing about stocks or the economy I spends a great deal of time on photography and in the garden. I have over 80 magazine and book cover credits. Some of my Wisconsin and gardening images can be seen at MichaelShedlock.com .

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