By now many have undoubtedly heard something about the ongoing budget battles on Capitol Hill. As a government shutdown was averted at the 11th hour on Friday evening, just as I predicted, attention has already started to turn to the much larger economic battles that loom, namely the vote to raise the debt ceiling and the fiscal year 2012 budget. In fact, Congressman Paul Ryan (R-WI) released the House Republican’s budget proposal for fiscal year 2012 early last week. The plan dubbed The Path to Prosperity already has a multitude of supporters and a multitude of critics. As this has started to unfold we will undoubtedly hear some ridiculous, half-baked comments from those who think they know better. The one that probably bothers me the most is one we hear so frequently: All we need to do is go back to the Clinton tax rates. It is amazing to me that there are those who can say this with a straight face.
First, allow me to set the table. On April 5, 2011, E.D. Kain wrote An Alternative to the Ryan Budget on a Forbes blog. In this article Kain made the following three statements:
- “Basically, cutting back the military to pre-Bush levels, and reverting back to the Clinton-era tax rates is all you need to do to fix the deficit.”
- “[S]imply returning rates to the Clinton-era level and seriously tackling defense is really all that’s needed.”
- “You may recall that during the Clinton years we had fine levels of growth even with those tax rates everyone is so worried about.”
Kain is hardly the only one to be suggesting that we need to raise taxes back to the tax rates of the Clinton years. In fact, this argument comes up every time taxes are an issue, so get used to hearing it. Now if you wish to be armed with information sufficient to expose those who make such a ridiculous and naive argument keep reading, otherwise stop reading right now!
There were a series of fortunate events that took place during the Clinton years that President Clinton had little or nothing to do with that can be directly attributed to the enormous economic growth of the Clinton decade. Chief among them was the coming of age of the World Wide Web. The World Wide Web revolutionized our economy, revolutionized businesses and caused stock values to climb in what Alan Greenspan once referred to irrational exuberance in a speech he gave in December 5, 1996. See Remarks by Alan Greenspan December 5, 1996.
Yale economics professor Robert Shiller explained to the New York Times:
What happened in the 1990s is that people really believed that we were going into a new era and were willing to take risks rational people would not take. They were willing to start new businesses despite the fact that 80 percent of new businesses fail. People did not feel they had to save. They spent heavily because they thought the future was riskless.
Essentially, during the Clinton Presidency there were a lot of people willing to take a lot of risks, which propped up the economy for a very nice and sustained period of years. Heavy spending, risky investing and speculation drove the economy wild. For crying out loud, you could put “dot com” after any name and raise millions of dollars in capital whether or not your business plan made any sense at all. For example, did anyone really think there would be a profit margin in delivering 50 pound bags of dog food via UPS or Fed Ex? It was a surreal time.
The fact is that one of the most revolutionary of all technologies came into its adolescent being and was starting to be widely adopted by average people during the Clinton years. Innovation triggered the risky behavior; the irrational exuberance if you will. Without paradigm shifting innovation there would have been no run up of the stock market, no massive spending, no rush to create businesses to cash in on the moment and no speculative investing, or at least not to the unbelievable levels that actually occurred. Innovation was the trigger for the tremendous economy during the Clinton years.
Undeniable Fact 1 — If you tax people more at a time when they are making more money, as was the case during the Clinton years, then the government gets more revenue and the citizens and business still have more money left over compared with previously lower tax years. For example, during the Clinton years real median family income has increased by $6,338, from $42,612 in 1993 to $48,950 in 1999. See The Clinton Years. So if you raise taxes that family with median income would still have more income compared with previous years.
Undeniable Fact 2 — If you tax people more at a time when they are making less money, as is the case presently compared with previous years, then citizens and business have even less money than they did previously. This causes real hardship and history demonstrates this is the wrong thing to do at a time like this.
So if you take more when people have more than they did previously they are still better off than they were, thus the increase tax does not put them in a compromised position in terms of financial planning. However, human nature being what it is most adapt their lifestyle to their income, hopefully with some kind of a cushion for difficult times. These difficult times have lasted for over 3 years, at least if you are talking about the housing collapse, so whatever cushion might have been accounted for is long since gone. People and businesses are already making less compared to what they were and are already stretched thin. The imposition of higher taxes will stretch individuals and businesses even more, perhaps to the point where they simply cannot pay for what they have or need. This leads to individuals pulling back, spending less and even more people losing their homes and businesses going under (or laying off) because they cannot afford payments.
Simply stated, taxing more at a time when individuals and businesses are doing less well is not the same as taxing more when individuals and businesses are doing better year after year. In one scenario the tide is rising and will remain high, although slightly less so with increased payments to the government. In the second scenario the tide is already lower and becomes even lower still with additional financial burdens owed to the government. It doesn’t take a rocket scientist to realize there is a fundamental difference between taxing a rising economy and taxing a falling, stagnant or sluggish economy.
Going back to the Clinton tax rates is just about the most irresponsible thing anyone could propose at this point in time. You don’t raise taxes in the teeth of a recession, particularly not one of this magnitude. Raising taxes during a recession is what led, at least in part, to the Great Depression (see How to Turn a Recession into a Depression). Nevertheless, some seem so eager to make the same mistakes of the past. Why? Who knows, but history shows us that just because taxes increase doesn’t mean the government will bring in more money and, in fact, history demonstrates that lower tax rates maximizes revenue. See The Historical Lessons of Lower Tax Rates. Thus, the belief that higher tax rates will bring in more revenue makes sense but is shown not to be the case, demonstrating that raising taxes is far from a panacea. Raising taxes on a fragile economy that is overwhelmingly dependent on consumer spending is not just reckless, it is darn near treasonous.
The fact of the matter is that we did not have any great paradigm shifting innovations during the Bush Administration, and so far during the Obama Administration there has been no such disruptive innovation that leads to massive job growth and opportunity. This is likely in part due to the way the Patent Office seemed to get in the way of innovation during much of the Bush Administration, but be that what it may the reality that we are experiencing a lack of paradigm shifting innovation is not arguable. We have not had the revolutionary innovations that can lead to tremendous new job growth, higher wages and prosperity for all. Unfortunately, until we do have that kind of innovation that leads to the creation of entire new sectors and high tech, domestic job growth we are likely going to be doing little more than chipping away at the unemployment rate and having an excruciatingly slow economic recovery.
For goodness sake, innovation is the key to a better economy, not raising taxes! Wake up, study history and arm yourself with the knowledge not to make the same mistakes of the past.