Stop overTaxing Our People

What if the policy makers don’t make the right decisions? How can we protect ourselves?

The first lesson has to be avoid excessive debt. Outside of the home, I am not a big believer in debt. If you can’t pay your credit cards off in two months, you have a problem. It is better not to have a car payment. If you do, keep it 4 years or under.

The best way to keep from getting into debt unexpectedly is to save. Emergencies happen. You will either let Visa be your emergency fund or you will have a real one. Every family should make their first priority to have $1000 in an emergency fund then eventually build it to a minimum of 3 months of expenses.

The second lesson is that stocks can be a good investment, but don’t fall into a buy and hold mentality. Watch your investment’s fundamentals (not price fluctuations). Buying Worldcom or Enron and holding them would not have been smart. The best way to protect your IRA’s and other investments into individual stocks is to use protective puts. The best way to afford them is to combine them with covered calls.

Don’t be afraid to use dollar cost averaging. Buying good stocks when they are down is a great deal.

We have to take action locally to encourage business formation. In spite of tough budgets, we need to ensure that we have a the infrastructure to take advantage of the resources available to encourage economic development.

Advocate for sound policies. Educate your leaders. Our tax code is our number two enemy. The fact that we spread out depreciation and equipment as much as we do discourages expansion in this country. The fact that we tax our country’s companies and allow imports to go almost untaxed hurts us. The fact that we are geared to consumption and very little to savings makes long term growth unstable. All of these problems are solved with the Fair Tax. Our biggest enemy is the ignorance of the public and the policymakers about the nature and value of free markets.

We need to join together with like minded individuals. Whatever one’s view of Glenn Beck, he is scaring the establishment because he understands this fact. He went from talk to action with his support of the tea parties and the 9/12 project. That is the key for all of us. We need to organize to effect the political process not just in the parties but forming PAC’s, 527’s and (c) 4 organizations. There is a PAC citizens for prosperity getting off the ground. It needs to be supported. The only way that we will protect our future prosperity from government is to invest in a better government.

60% of voters surveyed oppose a new federal stimulus bill. This may explain the administration’s reluctance in asking for another one. Voters are divided into three camps about the first one. 31% say that it hurt the economy, 30% say that it helped, and the rest are not sure. That would explain why only 27% of the people favor another one. Japan had ten stimulus packages with little effect during its lost decade.

What are the policy do’s and don’t’s of which we need an awareness. I want to put a particular emphasis on lesson 5 of the Japanese scholars, “Until the focus of disease is removed by surgery, no macroeconomic medicine will be effective.”

Do work with other nations to allow an increase in money supply without panicking them. Japan only came out of the “Lost Decade” by an aggressive monetary policy.

Only a comprehensive monetary policy which allows the market to clean up the bad assets and provides enough liquidity to do so will achieve it. The financial institutions need to be able to borrow at near zero rates from the Fed not at the rates in the TARP. Even though Americans hate to admit it, South Korea showed that aggressively dealing with troubled assets is vital. It had a rough couple of years, but it returned to strong growth while Japan remained mired in difficulty.

Keynes is dead. Lesson 4 of the Japanese scholars was that fiscal stimulus does not work in these circumstances. We have to make economic policy based first upon if it helps business to flourish not based upon some left wing social engineering. The Great Depression became long because “Others say government did not do enough to restore business confidence, or did too much to damage it, piling on taxes, regulation and labor unions,” as Howard Jenkins put it. I believe that a good fiscal policy helps to blunt the trauma and is desirable. I believe that tax cuts, aid to states to prevent more unemployment, accelerating existing projects, increasing food stamps, unemployment, medicaid, tax credits for purchases like fuel efficient cars and first time home buyers, and other safety net programs are desirable. They help keep the economy from collapsing while we allow a couple of years for the monetary policy and the markets to work their magic. Otherwise the public panics. When that happens the sanity of the market could be endangered. What I do not believe is that we can spend our way into prosperity. The stimulus money should have been closer to the GOP version and less like the Democrat version. It could have been a little more than half what it was and the rest of the money should have addressed foreclosures which goes back to lesson 4.

We need to address foreclosures. We should have a window where no doc modifications of ARM’s (adjustable rate mortgages) convert to fixed rates. Then we could give banks tax credits to compensate for the opportunity loss. Trying to deal with the bank balance sheets first without dealing with the problem which caused the balance sheets to be in trouble is backward. The second step seems to be bankruptcy reform. We have to allow bankruptcy judges to modify mortgages in Chapter 13. It used to be allowed until the Carter Administration as a trade off for the Community Investment Act and other bills. It also protected the banks when they were forced to give out 21% mortgages. The only way to save the banking industry is to allow real value to set the assets and income to start flowing on half of the non performing loans. That is by loan modification inside and outside the bankruptcy court. Those who won’t take the second and third chances will just be foreclosed upon. We can allow big government to intervene and try to redo the balance sheets of 80 million people all of whom are different, or we can allow people to do it themselves. Not taking the former approach will lead to a decade’s long reliance on the government by millions at a staggering cost.

A final difference between today’s bust and most other big banking crises is the importance of household debt. Historically, serious banking busts have mainly involved overborrowing by firms. In Japan, for instance, corporate borrowing soared in the 1980s against the collateral of rising share and property prices.

Today, however, household profligacy, which underpins much of the other debt, has been the problem. After the dotcom bust, American firms held back. Virtually all the rise in non-financial debt since 2000 was among households, as Americans tapped into the rising equity in their homes. Although troubled business debts, such as commercial property, are rising, households are the worst hit.

That has important implications. Household balance-sheets are more difficult to restructure than corporate ones, which involve far fewer people. Politically, the process raises questions of fairness. How far, for instance, should taxpayers bail out reckless homeowners who bought mortgages they could not afford? On the other hand, the economic dislocation from unwinding a household-debt binge may be less disruptive than restructuring swathes of firms. As Anil Kashyap of the University of Chicago points out, one reason Japan was so loth to acknowledge the depths of its banking problems was the knowledge that a banking clean-up would require a large-scale restructuring of Japanese firms which, in turn, would throw many people out of work. Restructuring household debts may be political dynamite, but it would not require a wholesale remaking of corporate America.
Nonetheless, the rebuilding of American households’ balance-sheets is likely to force a reliance on government demand that is bigger and longer-lasting than many now imagine.

The don’t’s are simple. Don’t raise taxes as the Democrats plan to do when the Bush tax cuts expire. Instead let’s have comprehensive tax reform (pt 3). The Japanese tried raising taxes twice and each time triggered real recessions. Don’t keep Zombie businesses on the public dole. Don’t pile up public debt in the vain hope of spending your way to prosperity. Don’t discourage the markets from reshuffling resources to the efficient. Don’t engage in anti-growth energy policies like Kyoto.

The Economist said earlier this year that the lost Decade may look good in comparison to what may be in store for us. It may be smart for us to look closer at the Lost Decade. I plan a three part examination.

The nation of Japan suffered through over a dozen years of almost no economic growth. The nation had a huge increase in public debt as the government put up one stimulus after another. It protected banks as too big to fail. It tried to protect favored corporations. All of this was to no avail. Japan 101 described the problem.

The economic miracle ended abruptly at the very start of the 1990s. In the late 1980s, abnormalities within the Japanese economic system had fuelled a massive wave of speculation by Japanese companies, banks and securities companies. Briefly, a combination of incredibly high land values and incredibly low interest rates led to a position in which credit was both easily available and extremely cheap. This led to massive borrowing, the proceeds of which were invested mostly in domestic and foreign stocks and securities.

Recognizing that this bubble was unsustainable (resting, as it did, on unrealizable land values – the loans were ultimately secured on land holdings), the Finance Ministry sharply raised interest rates. This popped the bubble in spectacular fashion, leading to a massive crash in the stock market. It also led to a debt crisis; a large proportion of the huge debts that had been run up turned bad, which in turn led to a crisis in the banking sector, with many banks having to be bailed out by the government.

It sounds very similar to our current crisis. There are many lessons that people have drawn from the Japanese economic problem in the nineties. First, allow the market to work. No one should be considered too big to fail. You may have to manage it but don’t stop it. Second, it is okay to recapitalize institutions. Third, it is not caused by lack of demand and fiscal stimulus by spending won’t work. Fourth, avoiding two years of pain is not worth a decade and a half of distress. Fifth raising taxes is not smart. Sixth, monetary policy matters most. Having enough liquidity in the system is vital because credit will no longer increase the money supply.

The power of a comprehensive monetary strategy can not be over stated. If our policy leaders or the Republican opposition wants to be serious about offering solutions, they must become serious about developing one and marketing it to the public. Merely spending like the Democrats wish to do or cutting taxes like Republicans wish to do (as vital as tax policy is) will not solve the current problem.

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