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Michael Barone: Crushing Those Animal Spirits

With total tax hikes approaching 50 percent, even rich people begin to push back — by leaving the system.

By Michael Barone |

“Animal spirits,” said John Maynard Keynes, are the essential spring of capitalism. We depend on the animal spirits of investors, high earners and entrepreneurs for a growing economy.

Michael Barone
Michael Barone
Keynes, a subtler analyst of market economies than the single-minded booster of high government spending that so-called Keynesian economists depict, knew whereof he spoke. People don’t just respond in linear quantum jumps to the incentives and disincentives they perceive around them. They perk up when their animal spirits are aroused, and they slump down into inertia when they are not.

President Obama’s tax plans, announced in his budget message last week, threaten to depress the animal spirits that we depend on for economic recovery. I reach this conclusion on the basis of my past errors. In 1993, I — like many economic conservatives — predicted that President Bill Clinton’s tax increase, to a 39.6 percent marginal tax rate on high earners, would squelch economic growth. It didn’t, or at least not so much as to prevent what became, later in the decade, robust growth.

Why was I wrong? Because, I came to think, the Clintonites managed to hit a sweet spot with the 39.6 percent rate. It was a number that started with a three. To high earners, not bothering to calculate exact returns to the last decimal point but just concentrating on the big picture, it seemed that the government was taking just about one third — hey, maybe a bit more — of their incomes. They would get to keep the other two thirds, pretty much. So they proceeded to try to make intelligent investments and to earn large amounts of money without being preoccupied with how much the government would snatch from their hands.

Quite a contrast with the 1970s, when the high income tax rate was 50 percent, and 70 percent on “unearned” (i.e., investment) income. In that environment, the animal spirits of the productive class were directed away from making productive investments and toward sheltering their income from seizure by the government.

I remember rich men in locker rooms engaging in discussions along the lines of, “My tax shelter is bigger than your tax shelter.” To heck with figuring out whether your investment was going to be productive in the long term. The only question was how much money you could shelter from the tax collector in the short term.

I think there is a serious risk that the Obama tax proposals are going to bring back those days. Yes, they call for returning the high income tax rate only to the sweet spot of 39.6 percent. But they also want to reduce the amount of the mortgage interest and charitable deductions for high earners, which would channel less money to charities and more to the government (and thus to public employee unions and, through them, to the Democratic Party) and would raise the effective rate on high earners to above 40 percent — a number with a four in front of it.

Add on to that the state income tax rates of 10 percent or so in place or in contemplation in California, Connecticut, New Jersey and New York — states with more than a quarter of the nation’s high earners — and you are looking at income tax rates above 50 percent.

When you get a number with a five in front of it, you are in grave danger, I submit, of directing the animal spirits of our most productive citizens away from productive investments and toward tax shelters: “Those bastards want to take half my money, and I’m not going to let them get it.” You are at risk of directing our economy back into the unproductive slog of the 1970s and away from the robust growth of the 1980s, ‘90s and most of this decade.

My economist colleagues at the American Enterprise Institute tell me they know of no studies that buttress my thesis. Economists tend to believe opinion moves in linear fashion. But that’s not always true. Case in point: gas prices. When gas prices earlier last year were at $2, $2.50, $3 and $3.50, most Americans opposed oil drilling offshore and in Alaska’s Arctic National Wildlife Refuge. When they hit $4, opinion shifted. The Santa Barbara County Board of Supervisors and Florida Gov. Charlie Crist suddenly favored offshore oil drilling. As for Alaska, nuke the caribou!

Obama in his chosen city of Chicago always assumed that the private sector would be eternally bounteous. As a community organizer following the formulas of Saul Alinsky, he assumed the political establishment would always be there and that if you organized smartly enough, you could get a chunk out of it.

When he decided that community organizing was small change and went into the politics business, he, like all Chicago politicians, assumed the private-sector economy would always be bounteous and that if you shook its members down and taxed them, you could always get a bigger chunk out of them. And it has mostly worked that way in Chicago.

But America is not just Chicago writ large. The Obama tax plan, combined with major state tax plans, puts not a three in front of the high earners’ tax rate as the Clinton plan did, it puts a four or a five in front of it. And at that point, I fear, the animal spirits of high earners are going to be directed away from productive investment and toward tax avoidance and tax shelters. Away from creating new enterprises that can provide avenues upward for any and all, and toward gaming the system for the well-connected and shrewd insiders. Away from an economy that grows more than anyone imagined and toward an economy where system-gamers take shares of a static pie away from the rest of us. Is that where we really want to go?

Michael Barone is a senior writer for U.S.News & World Report and principal coauthor of The Almanac of American Politics. Click here to contact him.




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» on 03.06.09 @ 03:45 AM

These are just Rush Limbaugh talking points. You Republicans should just accept the fact that President Obama won, and go lick your wounds in silence far, far away. No president in history has had higher approval ratings at this stage of the the game, nor has anyone ever done so much in such a short time. It’s refreshing to have a president who deserves our respect.

» on 03.06.09 @ 06:25 AM

What the world needs now: Less J. M. Keynes and more Ludwig von Mises!  Is there someone from the Hillsdale College (Hillsdale, MI) faculty willing to offer a tutorial prior to their July elder hostel series on that campus?  I keep writing ‘Imprimis’ magazine, but no one answers.  Surely if anyone had those proper responses, it would most likely come from Hillsdale, n’est pas?

» on 03.06.09 @ 08:11 AM

“These are just Rush Limbaugh talking points.”

Clever. You come up with that talking point on your own or is it from the Obama campaign?

» on 03.06.09 @ 10:32 AM

patty, you need to get your facts from someplace other than the daily kos or the democrat underground.  At inauguration, Kennedy had a 72% approval rating and Eisenhower was the same as Obama at 68%. According to the 2/23 gallup poll, his approval ratings are sinking (at the same 1 month mark, jimmy carter (73%) and George Bush 41 (63%) matched or exceeded his sinking approval rating of 63%). What’s interesting to note is his quickly rising disapproval rate (from 12% at inauguration to 24% at 2/23/09). More and more people are seeing the community organizer socialist they elected for what he is.

http://www.gallup.com/poll/116026/Assessing-Obama-Job-Approval-One-Month-Mark.aspx

» on 03.06.09 @ 10:47 AM

Gallup Poll Approval Ratings
Released 3/5/2009: Obama approval rating 61%, disapprove 28%
Released 3/7/2001: Bush approval rating 63%, disapprove 22%

» on 03.06.09 @ 11:06 AM

Oh yes, Patty, just be ignorant and instantly dismiss any talk against Obama as “just Rush Limbaugh talking points”. Put your hands over your ears, don’t even listen and hum loudly, like a fool.
No president in history has ever done so much fear-mongering and lying in order to push through the largest spending package in history either! No president in history has ever caused the Dow to drop every time he acts or opens his mouth either, all the while blaming it on the economy he “inherited”. A true leader would inspire confidence in the markets, rather than constantly telling everyone what a “crisis” we are in to give him an excuse to rob the treasury and spend it on his agenda. Wall street is not stupid and for an accurate rating of Obama’s achievement just watch as the air is being slowly let out of the economy here:

http://moneycentral.msn.com/investor/charts/chartdl.aspx?D3=0&D5=0&D4=1&ViewType=0&CE=0&ShowChtBt=Refresh+Chart&DateRangeForm=1&Symbol;=$INDU&C9=0&DisplayForm=1&ComparisonsForm=1&CP=0&PT=4

» on 03.06.09 @ 03:11 PM

Fascinating how few respondents actually are weighing Mr. Barone’s points, rather
than shooting spitballs at each other.

In the last 25 years, the ratio of executive pay to “average worker” pay is the highest
since the start of the Great Depression.

During that time, America has lost market share in every major industry that produces products - rather than offers service, or manipulates money - except for three.

Over the same period, the gap between those the Commerce Department defines as
“rich” or “very rich” and all other income groups has grown to its largest width since
before World War II.

Mr. Barone is a creature of the Washington-NY axis, buffered from real world issues
by spending so much of his life with his fully allocated living costs buffered by
generous subsidies from think tanks and corporate “lecture fees”.

His ability to experience or comprehend what other Americans (beyond corporate executives or the rich) are living through in these tough times is extremely limited.

» on 03.06.09 @ 05:07 PM

“No president in history has ever done so much fear-mongering and lying ...”

How soon we forget: Bush was the king of fear-mongering and lying.  He abused the events of 9/11 to get us into an unjustified war and to take away our civil liberties.  And Bush’s fear-mongering and lying caused countless deaths as well as the economic mess we’re in today.  Obama is just trying clean up the Republican mess.

Patty is right on!

» on 03.07.09 @ 10:21 AM

Trek to Insanity, GW was not fear mongering, he had a hole in the ground where the WTC towers once stood, a hole in the Pentagon and a hole in the ground in Pennsylvania to remind him that terrorism was now on American soil. I know you rabid Bush haters care more about Gore losing the election in 2000 than any other event in history, but he did and its time for you to get over it. Your man is now in charge and our nations wealth and ability to create wealth is leaving in a very big hurry and as long as the inmates are running the asylum it won’t come back. When you European socialist worshipping sycophants realize that the only thing that kept Europe’s socialist system from collapse was a wealthy American market and the wholesale importation of immigrants (mostly Muslim) and now those immigrants, in all the entitlement mindedness of a good European socialist, want their piece of the ever diminishing pie, things are getting down right nasty over there. What a great model for our loser, lefty, loonies here to follow. You are seeing now the draining of capital out of the country as the “O” roles out his Euro-socialist policies in the guise of economic “stimulus”. By the time you realize that the poverty you are in will never be abated, that you are nothing more than a worker in the “workers paradise” it will be far too late. Happy trails moron, you finally got what you wanted, enjoy the ride down.

» on 03.07.09 @ 08:42 PM

“Why was I wrong? Because, I came to think, the Clintonites managed to hit a sweet spot with the 39.6 percent rate. It was a number that started with a three.”

Hey, now there’s some sophisticated analysis.

I have another theory: Barone was wrong because he’s an ignorant, dimwitted ideologue that only a fool would take seriously.

» on 03.08.09 @ 06:03 AM

Jay, I get your point, but sadly, sometimes it really does all come down to the psychology.  It’s the same reason retailers list something for $19.99 instead of $20.  Then they can claim that it’s UNDER $20.  Before tax, of course.

» on 03.09.09 @ 12:03 PM

and maybe no one will notice that the ‘facts’ as you use them are lies.  The highest rate on income does not start until a substantial amount of earnings are already in your bank having been taxed at an ESCALATING rate.  There are literally thousands of Limbaugh/right wing sycophants who DO NOT GET this idea.  The alleged 50% rate does not start until numbers so far above what most people in this country earn that they are fantasies for them.
On top of which the super rich have huge gimmicks written in the tax law to avoid these rates by characterizing their income as “capital gains” which the have made taxable at just 15%.  This is a rate lower than Joe the plumber would pay on his $50K annual income (if he has a job).
I know that the business of wealth is to maintain wealth and honesty doesn’t matter.  Hopefully, however your own sense of personal integrity (???) might cause you to be embarrassed when you put forth lies such as this op ed.

» on 03.09.09 @ 09:53 PM

Smear or Fear? Who in the world makes money only to have the government confiscate it? Why does the left always think that because someone makes a million bucks that you or anyone else is entitled to it? The whole idea of progressive taxation is regressive. It penalizes success, it says if you are smart enough and work hard enough you will pay for all those who aren’t and don’t. Most of the top earners get what they deserve, they earned it, it is not yours or anyone else, so get your damned hand outta their pocket. The government is embarking on a policy of punish success and reward failure. It won’t work, it never has and the deflation of the markets right now says that investors ain’t gonna stick around for the new Bolsheviks to loot them.

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