Trickle Down (part 1)

Here is my take on trickle down economics. In part two, I will examine whether these assumptions have played out in the real world.

The concept of trickle-down economics holds that higher taxation rates reduce the value of the marginal dollar (the last dollar earned) to the point that they reduce the propensity to work since reward for working additional hours is diminished.

Concomitant with this is the assumption that those at the top of the income stream are responsible for a higher net impact on the economy than those at the lower end, through a combination of investment and consumption (which is a form of investment as well).

It follows therefore that trickle-down proponents believe that reducing tax rates at the top of the income spectrum will increase the incentive to work by increasing the value of the marginally earned dollar. It further follows that this increase will benefit the economy to a relatively larger degree than would a reduction on taxes on someone at the bottom of the income spectrum.

Logically following from this are the following assumptions:

1. Those who earn more contribute more, relatively, to the overall economic well-being of the society than those who earn less.

2. The more that a high earner makes, the more they can contribute – this is independent of the rate of wage gain of the lower wage earner.

3. Therefore, it is to the benefit of society to maximize the gains of the earners at the top of the income spectrum without regard to gains at the lower end of the spectrum – this is especially true given the assumption that the high income earner will contribute to overall societal well-being and therefore will be responsible – through job creation or wage growth – for benefits that fall on the those at the bottom of the income spectrum.

4. In a rising economy, significant reductions in upper tier marginal tax rates should lead to more rapid growth of incomes among those at the top of the earning spectrum than at the bottom since a rising economy is generally indicative of increased earnings and investment by businesses (business owners). I.E. Incomes in general will rise in a growing economy but growth disparity should increase in a rising economy in favor of the high earner.

5. The incentive to work hard being analogous to the incentive to reach the top of the income spectrum (or the highest level attainable given one’s education, etc.), greater reductions in tax rates at the top – which would result per force, in an increase in income wage growth disparities (see point 4) – should result in a more rapid increase in growth and income disparity

Times of increasing income growth disparity should indicate that those at the top are earning more, faster than those at the bottom. This greater and faster income growth should lead to a “trickle down” effect in good times and bad.

Dead On!

From Naked Capitalism:

The trouble with the economy is that the banks aren't lending. The reality: The economy is in trouble because American consumers and businesses took on way too much debt and are now collapsing under the weight of it. As consumers retrench, companies that sell to them are retrenching, thus exacerbating the problem. The banks, meanwhile, are lending. They just aren't lending as much as they used to. Also the shadow banking system (securitization markets), which actually provided more funding to the economy than the banks, has collapsed.

The banks aren't lending because their balance sheets are loaded with "bad assets" that the market has temporarily mispriced. The reality: The banks aren't lending (much) because they have decided to stop making loans to people and companies who can't pay them back. And because the banks are scared that future writedowns on their old loans will lead to future losses that will wipe out their equity.

Bad assets are "bad" because the market doesn't understand how much they are really worth. The reality: The bad assets are bad because they are worth less than the banks say they are. House prices have dropped by nearly 30% nationwide. That has created something in the neighborhood of $5+ trillion of losses in residential real estate alone (off a peak market value of housing about $20+ trillion). The banks don't want to take their share of those losses because doing so will wipe them out. So they, and Geithner, are doing everything they can to pawn the losses off on the taxpayer.

Once we get the "bad assets" off bank balance sheets, the banks will start lending again. The reality: The banks will remain cautious about lending, because the housing market and economy are still deteriorating. So they'll sit there and say they are lending while waiting for the economy to bottom.

Once the banks start lending, the economy will recover. The reality: American consumers still have debt coming out of their ears, and they'll be working it off for years. House prices are still falling. Retirement savings have been crushed. Americans need to increase their savings rate from today's 5% (a vast improvement from the 0% rate of two years ago) to the 10% long-term average. Consumers don't have room to take on more debt, even if the banks are willing to give it to them.

Off to Seattle

In Seattle for a few days.
For economic fun, visit my favorite site:
http://www.nakedcapitalism.com
For political fun, well, it seems Jon Stewart is the best thing going these days.

Have a nice week. 

Sunday links

You never see lawyers doing this in the US.

Click here for the background story.

For those who complain about how much Obama is putting us in debt:

Looting

A great article today in the NYTimes. The assertion, in short, is that the system of institutionalized bailouts creates a perverse incentive to continue to engage in the behavior they are trying to avoid. The term of art, Moral Hazard, is most commonly heard in discussions of health care. More on that later.

Thursday and the stock market's hiiiiiiigh. Plus, some links.

Dead cat bounce? Bear market rally. Yellow socks express? 

That last one was made up, but I probably could have fooled people.

My question is: will conservatives credit Obama for the market rise as quickly as they blamed him for the market decline? I think, ummm, no.

Speaking of Obama, they certainly do seem to have problems with their nominees. Though the latest scuttlebutt says that the CIO wasn't actually a target of the sting.

I wonder if Madoff will be put in general population. Will they attach his soap to a bungie cord tied to his ankle? I'm sorry that visual was uncalled for. 

Everyone seems to be hip to the trouble brewing south of the border

Links

Moody's to issue a list of companies most likely to default on their debt. Yipes. That's gonna piss off a few people.

Liberals should stop bashing Rush This is worth clicking - it isn't what you think.

Bushvilles are the new Hoovervilles. Looks like the tent city is coming back in vogue.

People are starting to get a little pissed about increased tax rates (hat tip: Financial Armageddon). Also, thanks to Financial Armageddon, I now know that this woman:
















Was Florence Thompson. She was 32 at the time of this photo being taken. Holy crap!

Nouriel Roubini predicts the recession could go 36 months and put the DJIA at 5000. Whither the S+P?

Was it something I did? Michael Vick's mansion failed to sell

Beware protectionism when it comes disguised (even if only partially cloaked) as a means to tackle "social issues". That's like using "we're doing this for the children" to justify all manner of pet intrusions on civil liberties.