Thursday, September 22, 2011

Ending unemployment. Part 1: The Negative Income Tax

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The US economy is contracting. US unemployment is at an all time, post-WW2 high of around 18% when discouraged workers and workers only partially employed are included (US Bureau of Labor Statistics: U6 measure of unemployment).

How is it that people who are able to work, who want to work and who need to work, cannot work?

Because no one wants to hire them.

Why does no one want to hire them?

Because folks borrowed too much during the FED-driven housing boom, and are now paying down their debts as their assets, particularly houses, decline in value.

This debt deleverage means reduced consumption, reduced consumption means reduced demand for labor.

The result: idle workers, idle factories, underutilized public infrastructure.

The Keynesian solution?

Increase aggregate demand by deficit government spending covered by money printing.

Is this bad?

In theory, not necessarily. In practice, almost certainly.

Why is it good in theory?

Because it can create something of value from resources that would otherwise be wasted.

Why is it almost certainly bad?

Because government spending is almost always hugely wasteful. As a consequence, money is spent but little if any benefit results. The expenditure must, nevertheless, be paid for by someone, and it is normally paid for by the employed workforce through the inflation tax: the money the government printed to pay for the deficit spending creates inflation that cuts the value of the money that those with jobs are able to earn.

In theory, as noted, this need not be the case. If deficit spending resulted in some new and valuable public infrastructure that increased the productivity of the work force, the efficiency of energy use, or the quality of life, the cost would be recovered in kind. This, however, rarely occurs due to corruption, ineptitude and the near universal lack of imagination in the administration of government programs.

The inflationary effect of deficit spending can to some extent be limited by tax cuts that stimulate the supply of goods and services. This phenomenon was recognized during the Reagan era (supply side economics), and has since been applied to limit the inflationary impact of Keynesian policies.

But whatever the potential benefits, the Keynesian response to unemployment is of diminishing effectiveness in a globalized world economy where jobs in high wage economies are off-shored to places were labor can be had for pennies an hour. Deficit spending simply means bigger trade deficits as increased consumption sucks in cheap consumer goods from abroad, with little impact on domestic manufacturing employment.

What alternatives are there?

The Austrian economists say, let those who borrowed too much go broke, so that the assets they control — land, houses, businesses, etc. —can be acquired by better managers for pennies on the dollar. Then with indebtedness slashed, and mismanaged assets redeployed, the economy will grow and unemployment will fall.

There is undoubtedly merit in this approach. It keeps bankers honest by making them vulnerable to failure as the price of reckless lending, it makes borrowers cautious in the knowledge that there is no government safety net should their speculative ventures fail, and it makes savers disinclined to deposit their money with any but the most conservatively managed banks.

The problem with the Austrian "solution" is that in the process of renewal through widespread bankruptcy, banks would go under, savers would be wiped out and most wealth would end up in the control of a handful of astute speculators who might have little interest in reviving the consumer society.

The effect of the Austrian "solution" applied without restraint would likely be a catastrophic depression followed by massive social unrest, if not war or revolution.

Is there another approach?


If it's jobs that are needed, governments should pay for them directly.


Easily enough!

First, eliminate minimum wage laws.

Second, extend the income tax table into negative territory.

Earn less than a living wage? Then the IRS will supplement your income to enable personal and family survival.

How much would this cost?

Not as much as you might think.

Let us suppose that all 30 million unemployed Americans (US Labor Department U6 definition of unemployment) were able to find work at a wage between one cent per hour and the minimum Federally established living wage, which we will take to be $8.00 per hour (with variation according to circumstances, such as dependents, place of residence, etc.). Let us suppose that on average, these workers are able to command a market wage of only half the Federally established living wage. In that case, the Federal wage subsidy would be, approximately, $6,400 per person per year, or a total program cost of $192 billion per year, or about 7% of the 2011 US Federal Budget.

Seven percent of the 2011 US Federal Government budget is not chicken feed. But it's a lot less than the $700 billion banksters' bail out fund. And from it would be deducted substantial amounts that would otherwise have had to be spent on food stamps and other welfare programs, law enforcement, prisons, mental healthcare, and other costly consequences of mass unemployment.

Furthermore, the availability of 30 million American workers at third-World wages would provide American industry a huge shot in the arm, allowing many producers to repatriate jobs, capital and technology presently off-shored to India, China, and other low wage countries.

An expansion in American manufacturing and revival at home of off-shored or outsourced service industries would add substantially to US corporate profits and thus to US Government tax revenues.

So why is this solution not adopted?

Because Wall St. owns the Government and Wall St. wants the Austrian solution.

It's interesting. The top financial entities can borrow ten-year funds at rates as low as 1.75%. So what's to stop the financial elite borrowing the funds to buy up the stock market -- at least that part of it with decent income. BP, for example, with a price to earnings ratio currently at 5.6 looks like a good bet.

At, say, 3% you could finance the purchase of BP, which has yearly earnings of $20 billion, for a mere $3.7 billion per year.

Cool, hey. Let those dumb unemployed Americans starve.

But hold it. We can buy cheaper than this. See there's a run developing on the European banks. Talk it up. Panic, everybody. Just a few million more unemployed. A big bankruptcy. A Greek default. Yay, we'll own everything for really, really cheap.

See also:
Ending unemployment. Part 2: Tradeable Wage Subsidies
Why economics is bunk
America's inflationary depression
USA versus China: Wage Convergence, Wealth Divergence and Global Hegemony
US Economy: Expecting the Unexpected
USA Boom or Bust: The Next Decade
Why China Booms While America Slumps
China's Economy Already Larger Than America's


  1. I'll post a link to this interesting post.

    - Aangirfan

  2. Hey, thanks. Your interest is always much appreciated.