Sunday, August 7, 2011

Let's Move On: End Economic Nostalgia

There has been a stock market crash over the weekend in Tel Aviv. The stock market was forced to close after having dropped 6 %. Most likely, the US stock markets will be down tomorrow as well. I predicted yesterday that they wouldn’t crash, but I recognize I could be wrong.
One thing that is certain though is that as times get worst, as I’m 99 % certain they will at least for the next year or so, economic nostalgia will increase.
What do I mean by that? I mean the kind of nostalgia, the longing for the past, that is displayed by politicians, economic analysts, grassroot activists and consumers alike. Some of them long for the days of the property boom, back in good ol’ 2005 when no-one thought we’d ever see another recession. Others, mainly conservative Tea Party people, dream about the days of Ronald Reagan.
Let me admit one thing: Privately, I’m quite a nostalgic. I’m just 20 years old but I still love to talk about the good ol’ days.
Yet nostalgia is not helpful in fixing the economy. Here are the top 4 eras different people long for, and why they shouldn’t.
The Property Boom Era
When: Roughly 2002-2006, though the real crash came in 2008
Who: Consumers, who remember how easy it was to get a 0 % mortgage (well, a mortgage that was supposedly 0 % anyway), no down payment and refinancing to the max. Sure, we all know it wasn’t a good business idea in the long run, but it was fun while it lasted, wasn’t it? Also politicians who promise to bring the boom back by propping up the property market and make prices reach boom levels. The establishment would do anything to travel back to the time before the Tea Party, back when you could run a deficit without voters pointing fingers (remember the US did run a deficit even through the boom years).
Why they shouldn’t: The property boom led to the bust. All those risky subprime mortgages which caused the boom also caused the bust. What goes around comes around. The economy was on stereoids thanks to low interest rates from the Federal Reserve. Had it not been for that, and a lot of other things of course, the US would still be have a AAA rating. If you need any more reason not to miss this era; how about the fact that environmentalism is gone from the headlines and you can finally pick up a paper without feeling guilty because you drive an SUV? Of course you’ve probably already been forced to sell your SUV, and maybe you house as well. Still, everything has a silver lining.
The Reaganomics Era
When: 1981-1989, that is during the Reagan presidency
Who: Conservatives, in particular Tea Party Republicans who love to talk about this era when Reagan proved you could cut taxes and increase revenue at the same time. Stagflation ended and the economy, which had been shaky more or less all the time during the 1970′s, finally recovered.
Why they shouldn’t: Reagan should have a lot of credit for his original ideas and his courage. He cut taxes, and yet revenue increased – something talk radio conservatives love to mention nowadays as evidence that this whole crisis could be solved if we only cut taxes a little. However, we need to remember that marginal tax rates at the time were something like twice what they are today. The higher marginal tax rates are, the higher the probability that a tax cut will increase rather than decrease revenue. I hate to break it to you, but internationally, American taxes are quite low (with the exception of your corporate tax). What Reagan did most likely wouldn’t work today. Plus we should not forget a big part of the Reagan recovery was driven by increased government spending: Military spending increased substantially during Reagan. And yes, military spending is government spending, too. Ronald Reagan ran deficits during his presidency. Of course, if those deficits helped the US defeat the Soviet Union, then I think we can agree it was worth it. In conclusion: Circumstances change over time. That’s why nostalgia isn’t helpful.
The Postwar Boom Era
When: The 1950′s and 60′s
Who: Liberals and the establishment as a whole. You could raise taxes without anyone complaining, the “Great society” was created, conservatism was in shambles as Republicans tried to resemble Democrats as much as possible (Hey, actually that sounds like 2008) and Elvis was still alive.
Why they shouldn’t: Liberals who argue that government spending and/or government debt is not dangerous sometimes point to this era. Government was bigger than today, and the debt was (for some time after World War II) higher than today. So what’s there to complain about? Unfortunately, it is a common fact that growth was high after WWII because 1) people had a lot of savings that they hadn’t been able to consume during the war years because of rationing, 2) With Europe’s factories bombed, America (and a few other countries which had been able to avoid the war) stood without international competition. There’s nothing like a global monopoly to create growth. Of course, as long as real wages are rising faster than taxes, you can count on the population to be satisfied anyway. Now how are liberals going to accomplish that? You can’t just repeat the policies and hope that the circumstances will return. Just like with Reaganomics. They won’t. Additionally, the largely unfounded faith in government intervention that was prevalent during this era would later lead to stagflation, when government figured printing money would solve the economic woes at the time. If the citizens hadn’t trusted the politicians so much, they would have voted them out when this whole debacle started (under Nixon, it should be noted). But despite price ceilings and other economic nonsense measures introduced by Tricky Dick, he got re-elected in 1972, winning a majority of votes in 49 states.
The 19th century
When: As the title implise, the 19th century. Although we may want to extend this to the pre-1913 era (before the creation of the Federal Reserve and the passing of the 16th amendment).
Who: Ron Paul Republicans and other libertarians. This was the era of laissez-faire Capitalism, when private currencies were circulating and no-one had heard of income taxes.
Why they shouldn’t: The 19th century was a rough era, with several stock market crashes and recessions. While, as libertarians correctly point out, none of those recessions lasted longer than the Great Depression, they were still deep and long. What libertarians fail to understand is that you may be able to distribute public goods privately in an efficient manner in a small community where everyone knows everyone. Problems such as the freerider problem won’t occur in a neighborhood where everyone knows everyone and feel an obligation to chip in. However, as cities (and neighborhoods) grow bigger, distributing public goods privately becomes less and less efficient. My interest in economics began when I read Hayek and Mises and I am in not trying to diss these remarkable gentlemen, I am only saying libertarians need to get real and understand that our society, our demographics and our culture has changed since the 19th century, and they need to develop real-world solutions instead of clinging on to the old “If private water supply/fire brigades/police forces/currencies worked in the 19th century, it can work today too”. While I consider many of their ideas interesting and agree that we shouldn’t have more government than we need, they ought to develop these ideas to make them work in today’s world and leave the 19th century nostalgia behind.
One of the most common mistakes in economic analysis and research is known as “confirmation bias”: To only see what you want to see, ignoring inconvenient data that could threaten your hypothesis. We’re all guilty of it sometimes, and politicians are guilty of it more or less all the time. They cherrypick historical eras that they think promote their worldview, and promise that if we only vote for them, they will bring those good ol’ days back.
Time that has passed will never come back. We need to move on, instead of trying to copy things we did in the past. We should never idolize any era, never should we make the mistake of thinking that the world is so simple and so stable that doing the same thing twice will always yield the same result. Instead, let’s try and design solutions for the future. It’s harder than simply copying solutions from the past, but it will be worth it. I promise.
Thank you for reading

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Machtyn said...

As a low middle income earner (or maybe I'm in the middle-middle), with donations and other major deductions, I was able to itemize my tax liability to $0. (i.e. I got a full refund.) So, I would agree with two things, I'm a drain on society at the worst, or 0 sum contributor (I'm not sure how I feel about this - in one instance, I feel I can spend my money more wisely, in another instance I depend on my government for law and order - which isn't cheap). I would also agree that the taxes are at a low rate right now for US citizens.

You also mention that business taxes aren't so low compared to the rest of the world. One thing people must remember with regard to taxes is that a tax on something affects its usage. i.e. You tax corporate jets and fewer corporations will be buying private jets. Which causes fewer jets to be made, causing lost jobs. (trickle down?)

The one thing I would really like to see is a thorough reworking of the tax system. Mitt Romney has stated he wants the US to be more business friendly - this means adjusting tax rates accordingly. I would like to see a simpler system of taxation.

The problem isn't necessarily the tax rates, but how those tax monies are spent. There are a lot of very loud voices within the TEA party and in this din of noise, some precise points are missed. (I'm no TEA party voice, activist, but I do sympathize with some of their points.) In my opinion, it's not that we want 0 taxes, but that the tax monies be spent correctly, without the massive waste the government is known for and let's get rid of all (or most) free handouts (make the recipients work for or payback the handouts in some productive way). This does not include Soc. Security, because that is supposed to be a paid-for fund... but I don't ever expect to get anything from Soc. Sec. To me, that money is lost 100% and is a different topic for discussion.

Right Wingnut said...


We were doomed prior to the current situation. It was only a matter of time.

Due to the demographic make-up of our nation, I don't anticipate real estate valuations or the stock market to return to pre-crash levels until the very earliest.

As the baby boomers move out of their McMansions, and into single level townhomes and retirement homes, who will buy those homes? There's so much more to the story, but so little time or desire to go into it.

It's going to be a long, tough slog for the next decade or two. be prepared.

Right Wingnut said...

Scary charts.



It's hard not to notice the similarities.

John said...

Right wingnut, totally agree that you would be just as doomed even if the S&P would not have downgraded you. This only speeds things up and makes them worst.

The post was not so much about that, it was just about how I note everyone talks about the past and wants to copy what has been done in the past instead of looking at the future.

The housing market is not recovering any time soon, that's true. I hadn't given much thought to the babyboomers, but you're absolutely right about that. They would stay depressed anyway as people are kind of shell-shocked after seeing prices drop for years.

Machtyn, as for the tax code, I say scrap it and introduce the FairTax straight away. Too bad the only credible candidate with that position dropped out of the race.

Anonymous said...

As my mother has always said, "The only good thing about the 'Good Old Days' is that they are over."

We must move forward and forge our own path with courage, faith in God, and fortitude. I pray that we will have sufficient to overcome the challenges that face us now.