The Myth of the Rational Politician?

Robert Reich is not a big fan of using accelerated depreciation as a means of stimulating a lagging economy. Who wants to invest in more plants and equipment when the economic slowdown means you aren't even using all the plants and equipment you have now? Suppose that, due to an economic downturn, a trucking company that usually runs 100 trucks now has 15 sitting in the yard idle with the drivers at home waiting for the phone to ring. Will a cut in interest rates or a change in the depreciation rate allowed on taxes cause the firm to run out and buy more trucks? I can imagine reasons why you might want to jump on a great deal in such a situation and store up for the future, but generally you'd expect the response to be fairly small:

The Real Recession Problem: Consumers Are at the End of Their Ropes, by Robert Reich: Perhaps the silliest part of an already silly stimulus bill is a provision giving corporations big tax deductions this year on the costs of new machinery, instead of spreading those deductions over several years, as is normally the case. The idea is to get businesses to invest in more machinery, which will stimulate the economy.

But accelerated depreciation, as it’s called, doesn’t work. Almost the same tax break was enacted in 2002 and studies show just about no increase in business investment as a result. Why? Because companies won’t invest in more machines when demand is dropping for the stuff the machines make. And right now, demand is dropping for just about everything.

This tax break exemplifies the illogic of what’s called supply-side economics. If you reduce the cost of investing, so the thinking goes, you’ll get more investment. What’s left out is the demand side of the equation. Without consumers who want to buy a product, there’s no point in making it, regardless of how many tax breaks go into it.

Which gets us to the real problem. Most consumers are at the end of their ropes and can’t buy more. Real incomes are no higher than they were in 2000... And home values are dropping... Supply-siders who want to cut taxes on corporations and the rich just don’t get it. Neither does most of official Washington. ...

The "political tax" on the stimulus bill, i.e. the things in the bill that make it less than fully effective but are necessary to ensure its passage, appears to be high due to the need to produce legislation quickly. I hope the less than optimal bill that has been produced does not come from politicians holding the stimulus package hostage and knowingly reducing its impact in order to pursue ideological goals. It could be that, but if it's not, then what is it?

Maybe it's "the myth of the rational politician", i.e. politicians who are so uninformed about economics that they truly believe the policies they are insisting be part of the stimulus package will help put people back to work. I know I care about this more than most, but that's why it's necessary to talk about things other than haircuts and laughs, why it's necessary to listen when a politician keeps insisting that tax cuts can pay for themselves, or spouts other such nonsense along the campaign trail or after they are in office.

There are times when it actually matters if politicians understand the basics of economics, and now could well be one of them. Yet most of what passes for information on this topic amounts to reporters asking questions, then nodding their heads at whatever answer the candidate gives - whether it makes sense or not - before moving on to the next question on the list. Sometimes I wonder if the reporters are even listening to the answer, and if they are, if they know enough themselves to follow up effectively.

We can reduce the "political tax" on fiscal policy, but it will require, for one, that the media let the public know when political games or ignorance of basic economics is causing the government to under perform and produce legislation that is less than fully effective. We've had enough government under performance in recent years, failures to serve people in need, but it hasn't always been like that, and it doesn't have to continue.

Comments

[wjd123]

The "political tax" on the stimulus bill, i.e. the things in the bill that make it less than fully effective but are necessary to ensure its passage, appears to be high due to the need to produce legislation quickly. I hope the less than optimal bill that has been produced does not come from politicians holding the stimulus package hostage and knowingly reducing its impact in order to pursue ideological goals. It could be that, but if it's not, then what is it?--Mark Thoma

Last night during his State of the Union speech Bush brought up the stimulus package. He warn the Senate that the plan should be accepted as is and that the Senate shouldn't try to add on to it. "The temptation will be to load up the bill. That would delay it or derail it, and neither option is acceptable."

Notice that Bush didn't threaten to veto the stimulus package if the Senate did 'load up the bill." Bush was big on threatening to use the veto all during his speech. He threatened to use his veto on any tax increase that reached his desk. He threatened to use his veto on bills with earmarks. So why did Bush just warn the Senate not to change the stimulus package and not threaten to use his veto if it did?

He knows that the Republican party can't afford to have a stimulus package vetoed. People are already expecting their checks in the mail. The expectation game was the reason Bush never mentioned how much those checks would be for. He had no trouble mentioning how much, according to him, the "average" person would save if his tax cuts were made permanent.

Hiding the amounts won't help. The expectation genie is out of the bottle. Republicans can't be seen as pulling the rug from under voters expectations because the Senate ignored Bush's warning and aroused the expectations of other voters by loading up the bill. The Democratic Senate is in a position to add anything it wants on to the stimulus package and get it. The Senate can promise help for the elderly, the poor, and the unemployed and there is nothing the Republican party is going to do about it in an election year if it means tripping up voter expectations.

Just for once will the Democrats show a little toughness and stick it to Bush and the Republicans. If the Democrats can't show a little toughness when the Republicans are panicked over the political consequences of a recession, then when can they?

It's time for the Democrats to help out the people they claim to represent: The very people who would actually spend their checks putting some bang for the buck into a stimulus package instead of settling for the weak package the House leadership compromised on.

Bush isn't going to veto any "loaded up" stimulus package. Republican panic and voter expectation won't allow him to.

[hari]

Mark -

For once you're speaking truth to power (politicians)...

wjd123 is on mark with his preception of what's coming...

My view is that Demos are NOT united on the package. They'll most likely beat each other by adding-on extras.
The only thing which matters at this stage of downturn is to put some purchasing power in the pockets of the consumer. Especially the segment most constrained by the (potential)coming recession...because I think it's going to be longer in duration and destabalizing also.

That's it. The rest is hogwash and more ....

[reason]

Actually,
I have been thinking about depreciation allowances on of off since STR mentioned them as important to small firms. I think that depreciation should be fully flexible, you can take it when you need it. Depreciation allowances are of no use to firms if they make a loss. Startups, often make a loss to start with. They should be able to use their depreciation allowance when they need, when the profit comes in. Accelerating depreciation allowances when firms are looking down the barrel doesn't make much sense for the same reason.

[paine]

"Supply-siders who want to cut taxes on corporations and the rich just don’t get it"

nonsense
they "get it "
and so do their "donated representatives "

and they still want a cut
why not
its more potential capital in their pockets
so what if it gets lent back to uncle to cover the deficit
created by the tax brake itself
or by brother shylock
to slow growth rate spending constrained
households
after all we gotta pump in some funds
to stop householders becoming
house folders by doing
"the walk away " quick step

then again let it pile up as idle balances
to play around with
say invest in
warrens new bond insurance start up
or equitize some
some clever hi fi "institution's"
self rescue op

corporate hijacking pirates need arms
and ammo
when boarding a foundering public "institution"
in quest of insider yields
new fresh outside capital
flowing straight back at em
from uncle's coporate tax give aways
is always a lovely welcome gift
often just the weapon of choice
in these
hostile boardings

[paine]

"it will require, for one, that the media let the public know when political games or ignorance of basic economics is causing the government to under perform and produce legislation that is less than fully effective"
vwet true
but what media do you have in mind
the networks news casts ???
the 24h news channels ???
the new york times and washington post ???
the wall street journal ???

[paine]

oh ya...talk radio

[paine]

"Just for once will the Democrats show a little toughness and stick it to Bush and the Republicans..... It's time for the Democrats to help out the people they claim to represent ..."

hmmm
very nice analysis
the sen-dems can do it
or see it blocked and win both ways
side ways forward or back

so if they don't
what conclusion follows .....

"its the best we could get passed the repugs"
sounds limp and stale don't it

[bob]

>> Most consumers are at the end of their ropes and can’t buy more.

I don't get it.

Conservatives have been telling us that the economy has been great for years now.

If that's true consumers should have plenty of cash and should be able to spend plenty more.

Sure.

People have been talking to these conservative nuts
like they were normal coherent beings for far too long.

They are brick walls.

Thats what needs to be told.

Every time they are treated like credible people it just gives them additional opportunity to do more damage.

[save_the_rustbelt]

Reich may be right in this case (if so by accident) but he does not understand capital budgeting or long-term business planning.

Even in a severe recession most businesses are not crippled and some are doing quite well. Trucks and computers wear out, etc.

All of the auto makers (and perhaps more importantly their suppliers) will continue investing, recession or not. They may pull back some projects, or they may look for bargains.

Will the business section of the stimulus package reignite the economy? Not likely, due to many circumstances.

If the tax break did not work in 2002 it would be due to a spending spree in the late 90s and early 2000s.

If businesses do not use the break, then there is no revenue loss to the feds, so exactly what is there to lose?

[ken melvin]

I’ve spoken to the labor ratios of pre/post automation before; of all the some 200 plants that I automated and the car plants, … the automation reduced the labor force by ¾. Still almost all the 200 are now offshored. What’s left to do? A combination of new processes and lights out plants (I don’t believe in the ‘fairy dust new industries’ that only Americans can do) that require little or no labor.

Gingrich brought in the dumbest bunch to congress since reconstruction. This lot knows nothing of science, economics, or world affairs (seem familiar?). Doesn’t bother them one wit. What need’ve they for understanding?

[ken melvin]

Yesterday, on C-Span, a woman from Tennessee called in to Dean Baker and spoke of those she knew who had been walking the streets for three years looking for work. This is the real state of the Main Street economy.

[robertdfeinman]

As Ken Melvin said, the country has been restructured over the past 30 years and nostalgic populists and politicians are not going to restore the "good old days" by fiddling with taxes.

We have many more people than are needed to produce traditional "stuff" by traditional means. The rise of the service economy has not (yet) made up the difference in employment opportunities. Or if it has, it has done so by lowering the pay of the former blue/pink collar class.

But the myth persists that we can use tax and interest policies that were appropriate to an industrial age in a post-industrial age. Does a hedge fund need an accelerated depreciation allowance?

What is needed is a serious discussion on the nature of work and the role of capitalism/consumerism in an age of simultaneous overabundance and resource shortages.

Is this in the curriculum of modern economics departments?

[save_the_rustbelt]

"The rise of the service economy has not (yet) made up the difference in employment opportunities."

My nomination for the most succinct statement of the month.

[bob]

>> Yesterday, on C-Span, a woman from Tennessee called in to Dean Baker and spoke of those she knew who had been walking the streets for three years looking for work. This is the real state of the Main Street economy.

And this must be kept hidden.

Turn on the financial shows with all their alternative reality cheerleaders (like Larry "Cokehead" Kudlow and the extrodinarily ugly Ben Stein) and you will see world class diversionary econo-speak

[General Specific]

My intuition thinks some economists may be enablers. Seems to me that the fuzzy line between economics and politics (and $$$ and influence) makes the broader field a bit dysfunctional.

How many economists are willing to step up and shut down the nonsense we hear from the purported economist Ben Stein or sometimes-nonsense from Cato and the likes. I know some do it. But enough? I bet the buddy system and the influence system prevents this from happening. Economists want funding from Cato, right? Some do.

Seems to me many of the problems we perceive in the media in general, the cocktail circuit of media personalities who are part of the political game, not objective observers, may be a problem within economics, to a lesser degree.

Example: There are economists, conservative or libertarian, who dislike the developing scientific consensus on global warming. So they expend capital, in their blogs or the media, maligning the idea of consensus, creating an environment in which a crackpot or second-rate theory can more easily derail discussions. They create an environment of uncertainty. "Consensus" has now become a bad word, even scientific consensus.

In summary, how can there exist a core economic consensus on which politicians can draw when the very concept of consensus is often under attack within the field itself? I think the field lends itself to a sort of post-modernism, if not anything goes, at least anything can be "reasonably" argued or motivated or justified in political terms.

Could the myth of the rational politician, and rational voter, lie upon a myth of the rational economist?

I'm not maligning economics. Nor blaming economics. But a few years of reading many different economic blogs--and books--makes me think that a solid political case can probably be built for many policies simply by picking and choosing from the many at least somewhat credible diverging views that exist.

[johnchx]

reason writes: I think that depreciation should be fully flexible, you can take it when you need it. Depreciation allowances are of no use to firms if they make a loss.

Current tax law allows businesses to carry forward losses from year to year; that is, a loss this year can be used to offset a profit in a later year. That is, what you propose is, effectively, already law.

[wjd123]

The following is an article by Dean Baker entitled "The US economy, Pravda style." It could just as well been entitled "The myth of a rational press."

In the bad old days of the Cold War, the Soviet press often provided a source of amusement. It would slavishly follow the official pronouncements of top party apparatchiks, never pointing out that one week's pronouncements contradicted the clearly-stated pronouncements of the previous week.

With the demise of the Soviet Union, we have to rely on our own press to provide the amusement....--Dean Baker

http://commentisfree.guardian.co.uk/dean_baker/2008/01/us_economy_pravda_style.html

[lonesome moderate]

I hope the less than optimal bill that has been produced does not come from politicians holding the stimulus package hostage and knowingly reducing its impact in order to pursue ideological goals. It could be that, but if it's not, then what is it?

Corruption.

[btg]

along the lines of what save_the_rustbelt said, the impact of accelerated depreciation should be there, even if it is only very timy.

yes, many investment decisions are based on simple facts that things wear out and need to be replaced - many invesmtents will occur regardless of tax policy.

what happens in business is that companies will do an NPV analysis. if they base it purely on cash flow, then tax policy won't have any effect - if they base it on the rates of depreciation a company uses in its annual report, again, tax policy won't affect the decision.

however, if a company taxes into account the cash flow consequences changes in taxation policy, then an NPV analysis in which taxes are reduced in the short term (even though the same amount is paid in the long term) might mean that decisions to create a new product, to invest in more efficient machinery, or to expand production might pass the hurdle rate or have a positive NPV.

the question then is the usual one - how rational are companies when they make these deicisions - is their analysis perfect in that it includes tax. my experience says "no", particularly for small companies

[Worker]

Who ever thought a rational politician would develop good policy?

A rational politician pursues whatever policies the interest groups in his coalition come up as long as they can help him win >50% of the voters.

[dirtyal]

Note to save-the-rustbelt:

"If the tax break did not work in 2002 it would be due to a spending spree in the late 90s and early 2000s.

If businesses do not use the break, then there is no revenue loss to the feds, so exactly what is there to lose?"

My recollection was that when Reagan tried the accelerated depreciation approach it stimulated the "investment" in lots of commercial real estate, some of which was needed and some of which was not. That, plus deregulation of the S&L business, really stimulated the S&L melt down.

From my standpoint, it's a sop for the base. Here is what I think there is to lose.

Many agree that a "stimulus" of $150 million is pretty puny. If the accelerated depreciation does not stimulate the economy, then it's really only a $100 million stimulus.

Nancy and Harry have already "negotiated" away $50 million in stimuli of questionable effectiveness, as well as giving in to the "income redistribution" arguments.

So, it's really not as good as another package that is nominally worth $150 billion would be. It won't stimulate. It won't help that many people who really need help. It won't affect the Republican base and it won't get the Democratic base excited at all.

In short, if this economic downturn is as serious as people like George Soros says, then the stimulus package is too anemic and misdirected. If the downturn is not that serious, then we should not be stimulating the economy at all because we are still very near full employment.

But all the politicians can feel good and they can take credit for it.

I know you are a real live accountant (a profession I have a lot of respect for--at least the honest ones) so you fully understand the nuts and bolts of this whole thing. I think there's a principle involved here. How will the stimulus be the most stimulative and, while we are at it, how can we do the most good with it?

In the long term, my view is that it's inflationary and that it won't be long before we are trying to figure out what do do about that rather than simply trying to stimulate an economy that is pretty near full employment already.

[save_the_rustbelt]

dirtyal:

Very thoughtful.

First, I am not defending the design of the overall package. I think I could do better, and based on your thoughts so could you.

My preference would be to stop using the tax code for social and economic engineering, but that is unlikley.

My beef with Reich (and a little with Mark T) is the "big bad corporations are gettin sweet deals" meme in this post. I understand the nuts and bolts of capital expenditures are not likely to excite macro economists.

If the government is determined to get $150B into the economy I prefer the Senate approach of directing it to people who really need it, whether they pay taxes or not.

That way, if the stimulus doesn't work, the money went to people who really need it and I wouldn't feel the least bit bad about that, especially considering what we have poured down the Iraq contractor rat hole.

[dirtyal]

s-t-r: If you did the package, I wouldn't have to. It would be just fine with me.

[paine]

rusty i usually agree with you but not on this
this is not an investment tax credit
its just a further basis for corporate
income tax deductions

any corporate fast write off
is a pure give away to corporate cash flow
paid in full by the ira
if it won't stimulate investment and it won't
when investment already is less then cash flow
sure trucks and computers will be bought
but none that wouldn't be bought anyway
unless i'm missing the fine print
and this is only a one time total write off
for any " new equipment "
bought from now to the end of the tax year
expense new durables and that might grab forward a few expenditures

but in an interval
when the corporation sector
is building cash
seems to me bush just wants to help em do it
and the the extent that's the deal
the tax cut in this direction is a wild waste

an increase in effective demand
ought to be
the order of the day on either end of penn ave

for repugs ...it really isn't

[mik]

Suppose that, due to an economic downturn, a trucking company that usually runs 100 trucks now has 15 sitting in the yard idle with the drivers at home waiting for the phone to ring. Will a cut in interest rates or a change in the depreciation rate allowed on taxes cause the firm to run out and buy more trucks?

Just for fun you might try to talk to a business owner sometimes.

Virtually all healthy businesses have a wish list of projects they would like to do, equipment to buy, buildings to build, etc.

A cut in interest rates or a change in the depreciation rate allowed on taxes just may cause the firm to run out and replace some old gas-guzzling trucks, get some computer-conrolled equipment for the maintenance shop, etc.

[dirtyal]

MIK: Possibly. Infrequently enough to be considered "anecdotal evidence". When Reagan tried it, it just contributed to a bunch of buildings being built that took a long time to occupy.

But, in fairness, that too is "anectodal evidence".

[Cynthia]

Robert Reich writes,

"Supply-siders who want to cut taxes on corporations and the rich just don't get it. Neither do most of official Washington."

This is why Robert Reich was made Secretary of Labor and NOT Secretary of Treasury. After all, being a supply-sider is almost a prerequisite for being a Treasury Secretary!

[reason]

Johnchx...
Thanks. You can see that I am neither American nor a tax lawyer. That is almost the same as what I was proposing, assuming depreciation is part of the loss.