A number of weeks ago I heard a guest on CNBC’s Squawk Box state that the reason US economic investment was weak during the GW Bush years was that investment capital went abroad. That did not surprise me as I follow the markets. Emerging markets, especially BRIC (Brazil, Russia, India, and China) in the 2000s were rapidly developing and attracted much investor interest.
However, in writing my recent article on ‘Policy and the Economy: The Good, The Bad and the Ugly’ (ref) where I noted the consistent increase in debt our country incurred under supply-side tax cut policy, the following question crossed my mind: Did we borrow money from abroad, with interest, to support tax cuts to the wealthy that got invested into foreign economies rather than our own?
The September 14, 2010 Financial Times Article
Just last month an article was published in the Financial Times (a London-based publication) by Richard Bernstein entitled ‘Non-US groups reaped fruits of Bush tax cuts’. I direct you to a Digg site for this article, but due to copyright restrictions you will have to register with the Financial Times to gain access to the article (ref).
The author rightfully points out that the tax cut legislation of 2001 and 2003 was intended to spur business investment and thus stimulate the US economy. However, the 2000’s (the period that immediately followed the Bush tax cuts) were stated to be the weakest decade in US post WWII history for real non-residential capital investment. I will review some of the information from that article.
During each decade from the 1950’s through the 1990’s, growth in real gross non-residential investment averaged between 3.5%-7.4% per decade. In the 2000’s it averaged only 1%.
Similarly, the growth rate for investment in equipment and software during these earlier decades ranged from 5.7% – 9.9%, but averaged only 1.9% during the 2000’s.
Average growth in non-residential structures ranged from 1.3% – 5.7% from the 1950’s through the 1990’s, yet declined by 0.8% during the 2000’s.
The stated goal of the tax cuts to spur US capital investment was simply not achieved. The article maintains that an increasing proportion of the benefits of the US monetary and fiscal policy went abroad. It notes that Washington sets policy as if the US were a closed economic system without considering ramifications outside the country. Record flows to emerging market debt and equity funds, coupled with anaemic US investment spending, is indicative of investment money exiting the US. From December 2003 – August 2010, the MSCI (Morgan Stanley Capital International) Emerging Market Index appreciated 120% whereas the broader index of the US market, the S&P500, declined 6%. Cent Uygur on the Dylan Ratigan Show (Dylan being a former host of CNBC’s Fast Money) ‘ranted’ about this article and additionally noted that the Bush tax cuts resulted in $1.3 Trillion to the top 2% of income earners in the US. US investment abroad increased from $1.3 Trillion in 2000 to $3.2 Trillion in 2008 (ref).
Simply put, investment money from the tax cuts during the GW Bush years leaked abroad to rapidly developing foreign markets where better returns could be realized while US businesses experienced anemic investment and jobs growth.
But what neither the article nor the Ratigan show ‘rant’ addresses is that the tax cuts were the single largest contributor to the deficits during the GW Bush years (ref). Essentially we borrowed money from foreign countries, like China, to give large tax breaks to the wealthy who in return invested that money back into foreign markets through ‘Wall Street’, creating jobs abroad and reaping the benefits of those growing foreign economies, while our business investment, economy and jobs growth languished at home; and the debt incurred has been left for our future generations who will gain no benefit from it.
Tax Cuts Policy Favoring the Wealthy is an Unreliable Way to Pump Capital into the US Economy
The US, as noted in the FT article, is not a closed economic system – we participate in a global economy and investors are free to invest where ever they feel they can get the best return. Nothing wrong with that. That being the case, what was discussed above would indicate that tax cut policy favoring the wealthy (the class with high savings rates that make capital available for investment) would be an unreliable policy to stimulate business investment and jobs growth at home; their professional investors will place the tax benefit where it will get the greatest return.
Part of what occurred during the strong economic run we experienced in the 1990’s when the wealthiest of Americans paid 3.6% extra on taxable income above $250,000 (I was in that class at the time and a business owner as well), was that money was redistributed to millions of low income families who put that money dollar for dollar back into the economy – the money got spent here. That type of policy, that helps correct income and wealth inequality that has been associated with both the Great Depression and now the Great Recession (ref), puts positive pressure on jobs growth and business investment such as equipment, inventory, etc. And the increased revenue to business, if managed properly, should result in increased profits and thus stronger earnings that in return would support higher stock prices. Our investment portfolios and 401(k)s never did better. The policies in the 1990’s would seem to have had a more direct impact on personal consumption (70% of our economy) than the tax cut policy where wealthy investors can take the money where they please. The US markets experienced a wonderful run in the 1990’s, but as noted above, the S&P500 experienced a 6% decline in the 2000’s.
So why not let the tax cuts to the wealthy expire if the money has been exiting the country anyway?
A Sense of Outrage
What occurred with the tax cuts has given this writer a sense of outrage. In short, we borrowed from China (with interest) and drove up national debt to support tax cuts to the wealthy, who in return handed the money over to hedge fund operators and professional investors (‘Wall Street’), that returned the tax cut benefit back to China to grow its economy and create jobs, while our businesses and economy at home experienced anemic investment and jobs growth and while the wealthy and ‘Wall Street’ were making out like bandits – and the debt we incurred to support this activity is being passed to our children, their children and their grandchildren.
I do not want to hear that politicians did not know what was going on. This was a golden egg that was delivered on a sliver platter to the wealthy and the investment industry, the very one’s who supported the politicians that put this failed policy into place. The wealthiest in our nation, and thus ‘Wall Street’, were given large sums of borrowed money from foreign countries through US monetary and fiscal policy that could be invested anyway they pleased – and the debt from that borrowing is being left to our future generations.
I also invest and manage my own portfolios, and using leverage can augment returns. But if I use margin to bolster my accounts the debt incurred, and thus the risk, is my own, not someone else’s. And conservative politicians want this policy to continue because it is good for this country? No, it is good for those who financially support these elected officials.
The time has never been better to get back to policy proven to grow our economy, reduce debt and provide for our future security. And we should have no difficulty in letting the Bush tax cuts to the wealthiest expire to help pay down the debt we incurred from borrowed money that was invested abroad.