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'Tax hikes could doom economy'

Posted By Christopher Grey On 07/26/2010 @ 10:23 pm In Commentary | Comments Disabled

Treasury Secretary Tim Geithner recently said in an interview that it would not harm the economic recovery to increase taxes on the top 2-3 percent of households. His thinking is that these individuals don’t need the money, don’t spend most of the money, and it’s better to show that the government is serious about reducing the deficit.

As usual, Tim Geithner is clueless. Here’s why.

First, the top 3 percent has been hard hit in this downturn. They are hurting. Their investment portfolios have been devastated. Their incomes have collapsed compared with a few years ago. They’ve become much more conservative and risk-averse because of these hits that they’ve taken. Now the government is going to kick them when they’re already down.

Second, the top 3 percent actually spends a lot of money. They spend a lot more money than middle-class people because they have a lot more discretionary income and wealth. Tax increases will severely cut into that spending not only because it will reduce the amount of money going into their pockets. It also will reduce their incentive to work and make money and increase their incentive to defer income rather than take it now. Plans for this are already being put in place by many people and businesses.

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One of the areas in which the top 3 percent spends the most money is services, which obviously includes hiring people. When the top 3 percent reduces their spending, jobs are eliminated, which then further reduces consumer spending and increases government spending to pay for those forced on unemployment or welfare. Small businesses account for 90 percent of all hiring in this economy. Most small-business owners pay individual income taxes rather than corporate taxes because they’re organized as S corporations or limited-liability companies rather than C corporations. Raising individuals’ tax rates is effectively a huge tax increase on the small businesses that need to create the jobs to employ the workers so that they can get off of being supported by taxpayers or other workers.

If an economy is running at full capacity and low unemployment, this wouldn’t be so severe. The economy would be strong enough to absorb the negative impact of these tax increases. Of course nothing could be further from our reality. Unemployment is the worst it’s been in decades. Business spending, hiring and capital investment, especially among small businesses, is stalled. The economy is already slowing down again after going through the worst recession in decades just two years ago even though the government has spent trillions of dollars of taxpayer money attempting to stimulate it.

The last thing this economy needs right now is another big reason for private businesses and individuals to stop spending. This idea that somehow raising taxes on the people who spend a large share of the money and create nearly all the private-sector jobs in our economy will fix the deficit is ridiculous. It will increase the deficit because it will substantially reduce economic growth, taxable incomes and therefore tax receipts paid to the government.

Geithner and the rest of Obama’s economic team believe that they can create “targeted” tax incentives to certain industries and businesses that will stimulate capital investment and hiring. While there is some economic benefit to things like expensing, rather than depreciating, capital investments, a cut in the corporate tax rate and tax credits for hiring, these targeted incentives will not be nearly enough to replace the hundreds of billions of dollars of tax increases on businesses that are going to happen if the Bush tax cuts are allows to expire at the end of this year.

Even Federal Reserve Chairman Ben Bernanke, who is definitely not known to be a staunch free-market advocate or a right-wing zealot, recently told Congress that it would be a big mistake to allow this huge tax increase to happen right now. Bernanke knows the economy is very fragile. Businesses and individuals who have money are afraid to spend it or invest it. Deflation rather than inflation is the immediate threat that we face. In this economic situation, a big tax increase is the worst possible move by the government, even if you believe long-term that tax rates need to increase.

The Fed understands this. The extreme left-wing Democratic Congress does not. They believe that government spending can replace private-sector spending. They believe that the government can create enough jobs to replace private-sector hiring. They believe the top 3 percent needs to be penalized for the “unfair” tax cuts that happened under Bush. In other words, they have no understanding at all of market economics.

Hopefully, with Obama and the Democrats getting clobbered in the polls, there will be a major change in Congress in November. A new, market-friendly and pragmatic rather than left-wing ideological Congress should be able to recognize the obvious reality that raising taxes right now, even on just the top 3 percent, is a terrible idea that will severely harm our economy.

Long-term concerns about the deficit can be handled with real reforms of entitlement programs like Social Security and Medicare as well as consideration of a national sales tax or value-added tax at some point in the future after our economy once again is on solid ground. That means much lower unemployment, higher capacity utilization, and higher capital investment by businesses.

Voters have their own economic fate in their hands this November. A vote for changing control of this Congress is a vote for growth, jobs and prosperity versus the stagnation and malaise we’ve been suffering through for the past two years. Voters should think about this choice and choose wisely. Their economic lives depend on it.

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