Good Government: Balance the Budget (Sept 2nd, 2024)

“Shall not take from the mouth of labor the bread that it has earned…”

You’ve all read the numbers, but they’re worth repeating:

The National Debt is over $35,000,000,000,000 (35 trillion). That works out to $104,000 for every single person in the country, or about $268,000 per household.

The debt will have increased a bit more than $2 trillion during fiscal year 2024. That works out to about $5.4 billion per day. Or if you really want to make it personal, $16 per person, per day, all year long.

Total unfunded liabilities (Social Security, Medicare, government retirement and pension funds, etc.) now total $218,000,000,000,000 (218 trillion), $650,000 per person or $1.6 million per household.

To fix this, we need to understand what this really is: this is government printing - and spending - money faster than the economy is growing. You can increase tax revenue for a year or two without growing the economy, but then the economy - that is, people - adjust and increased taxes will stop producing more revenue. There is a simple - but not simplistic - way to understand this: If you tax something you will get less of it; if you subsidize it, you will get more of it. 

Printing of money, and deficit budgets, to make up for gaps in revenue, then translate into inflation. That is really what inflation is: inflation of the money supply. If the economy has 5% real growth - growth in the production of real goods and services - then a 5%

 increase in the money supply is okay. But if there is growth in the money supply greater than the increase in real goods and services, you have inflation.

And a little inflation is a lot. If the economy sustained 2% inflation - no more - for a century, the economy on paper would increase 700% above real growth. 

Can we tax our way out of this?

Well, sort of. More accurately, the right policy can solve this, if we are patient.

What would that policy be?

To answer that it’s necessary to recognize two simple truths. The first is that taxes have two effects, which economists label the arithmetic effect and the economic effect. The arithmetic effect is simple: if the tax rate is 10% and I raise it to 15% I collect 5% more revenue - at least in the short term. And if I drop it, I collect less revenue, at least in the short term.

The economic effect is, however, different. If I raise the tax rate, I create a disincentive to work harder or produce more. An increase in taxes under most circumstances results in lower revenue over the longer term, as people seek tax shelters, move their money abroad or simply stop working.

Conversely, a reduction in taxes can produce increased production and then increased tax revenue, reflecting real growth in the economy. This has been ably demonstrated multiple times in the past 100 years in US tax policy.

The seconds point is that there is a point in any tax plan that maximizes total tax revenue, but that number is substantially less than 100%. 

At 100% taxation there would be no tax revenue - no one is going to work for nothing. The same is true at 0.0% - if no one need pay taxes there will be no revenue; where is the sweet spot?

There has been a good deal of debate about this, but I recall Milton Friedman commenting, many moons ago (I believe on William F. Buckley’s “Firing Line,” but don’t hold me to it) that he thought the maximum tax revenue would be generated with a total tax rate (that is, the total federal take from the GDP) in the area of 15%. For 2024 federal spending is going to equal a bit more than 25% of GDP, Friedman’s point was that a tax burden that light (15%) would so stimulate the economy that substantial real growth would result, and produce a huge real increase in revenue.

In fact, I would suspect that we wouldn’t even need it to be terribly accurate. Business - that is, people - want predictability. Fixing total federal taxes collected at 20% of GDP, and then leaving it untouched for the next 10 years  (and eating the large deficits for several years) would result in a stable business climate that would act as a massive stimulus to the economy, and draw in large investments  form overseas. 

At the same time, freeze the size of the federal bureaucracy for 10 years. Then, if we could insist that Congress that pass real budgets, and enforce laws that keep the executive within defined - defined by Congress - boundaries, we’d be well on our way.

Would it work? Remember that all of our current debt will be paid off in, at most, 30 years, most of it less than that (10 and 20 year bonds). So, what we need is a stable, steady economy to start generating surpluses. Freezing government in place, a long-term tax cut to stimulate business - and real growth, and telling the Fed to bring inflation to zero, would provide those surpluses; we could balance the budget and then continue, and eliminate the debt.

Can it happen? Absolutely not. 

No Congress is going to give up the opportunity to manipulate the economy, and the nation as a whole. And the bureaucracy would fight this sort of thing tooth and nail.

This would only happen if it were jammed down the throats of the politicians - elected and appointed - in Washington.

Is there a way to do it? Sure, amend the Constitution… More on that next week. And I would like to thank my good friend Greg for intellectually poking me from time to time and forcing my brain to turn over! This article, and the ones that follow, are fruit of that poke - thank you.

But in the meantime, this being Labor Day, consider the words of Thomas Jefferson as to what good government should look like:

“…a wise & frugal government, which shall restrain men from injuring one another, shall leave them otherwise free to regulate their own pursuits of industry and improvement, & shall not take from the mouth of labor the bread it has earned. This is the sum of good government.”