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“Examine context with regard to timing”

By Staff | Jan 14, 2011

This is in response to the letter to the editor published Dec. 31 asking for the data that would confirm that higher tax rates adversely affect unemployment. Ahthat it were so easy. Economics is not called “the dismal science” for nothing. In fact, it is not a science at all. However, the statement “history has shown that lower tax rates for the wealthy are not linked to lower unemployment” needs further discussion, especially since the Clinton era is cited as the example. As everyone knows, there are time lags with regard to cause and effect scenarios. For example, when light is emitted from the nearest star, it takes several years for us to see it. Another example is that when the Federal Reserve adjusts interest rates, the effect of the action does not manifest itself in the economy for 12 to 24 months. There are various time lags associated with various actions. Therefore, while it is true to say that the top marginal tax rates increased during the Clinton administration while the economy expanded and unemployment decreased, it is important to examine the context with regard to timing.

When Reagan took office in 1981, the top marginal rate was 70 percent. In the following year the rate was lowered to “only” 50 percent. It wasn’t until 1987 that the top rate came down to 38.5 percent and then finally to 28 percent in 1988 the last year of the Reagan administration. When the first George Bush assumed office, the rate stood at 28 percent and was raised to 31 percent in 1990 (in spite of our having read his lips), and then during the first year of the Clinton administration the rate was raised to 39.60 percent. There are many economists that argue that the tax cuts of the late 1980s contributed to and helped spur the job growth of the 1990s and that the tax increases of the 1990s eventually brought the economic expansion to a halt. We went into recession immediately after the end of the Clinton administration. The timing of events supports that conclusion. In order to create jobs, capital must be invested. Once invested, it takes time, perhaps years, to build the factory or startup the company that received that investment. Once that happens, jobs are then created. Tax increases reduce the pool of available capital for investment in job creation.

With regard to job creation, tax rates aren’t the whole story. Interest rates, monetary policy and other factors play roles as well. Further, tax reduction does not work the way it should without corresponding reductions in government spending. If the government borrows the money to fund tax reduction, it is still reducing the pool of available capital. However, one thing that most economists can agree on is that in order for there to be job growth, capital is needed for investment. It is investment in new companies and new ideas that create jobs. The more you tax the most productive members of society, the more you are taking badly needed capital out of the economy where it is then consumed by the government. It is therefore not available to invest in new job creating enterprises. Capital is the life blood of job creation and is really too precious to be wasted. Increased taxation in any form grows the government and therefore shrinks the pool of investable capital which in turn shrinks the economy. When you raise taxes on successful and productive people, you are then putting constraints on the very people that are most likely to be able to effect growth in the economy.

To use a sports analogy, you are taking the bat out of the hands of the economy’s power hitters.