'Class warfare'? About time!

Posted Wednesday, September 21, 2011 in Analysis

'Class warfare'? About time!

The pyramids of Giza, which have nothing to do with Ponzi schemes really.

by Gina Hamilton

"Class warfare!" cries the Republican Party, in response to an ... eminently reasonable ... plan to increase taxes on millionaires by the White House, as part of a jobs bill desperately needed by every other class in America.

The concept would be simply amusing if it weren't for the sad truth. 

The GOP has been waging class warfare on the rest of us for a very, very long time.  So have the Democrats, it might be argued, but they, at least, have tried to mitigate their economic disaster zones by making it appear that the poor and working classes have some hope, and that the great middle class had some opportunity - through supported education, through small business loans, and through assistance to homebuyers and veterans - to have some mobility in this supposedly 'classless' society.

What is astounding is the number of poor and middle class people, who have no business buying into the 'anyone can become a gazillionaire so you'd better protect us' mythology of the Republican Party who actually do buy into it. 

No, boys and girls, we aren't going to become gazillionaires, and I promise you that if by some miracle or Powerball ticket we do, we aren't going to miss that extra 10 percent of our income.  We won't be ploughing it into the economy; we won't be 'job creators'; we won't become guilt-edged Rockefellers or Carnegies, buying national parks and libraries for the great unwashed masses to atone for the way we treated our workers in life.

No, we'll do what the real gazillionaires (with a few notable and noble exceptions) do ... shelter our ill-gotten capital gains in the Turks and Caicos, and spend the rest of our lives drinking pina coladas from comfy deck chairs, or building rocket ships to space or two-centimeter hand-held computers just because we can, or spending our lives trying to get ever richer on the theory that he who dies with the most money wins.

Besides, frankly, the gazillionaires have had their chance since 2000 to prove what excellent stewards of the economy they are.  And guess what? It turns out, they really suck at it.  They became greedy and grasping - imagine that.  It's not that they weren't greedy and grasping before 1995, but several government rules dating from the Great Depression and even earlier kind of reined them in.  In 1999 and 2000, some of those laws were repealed; others were repealed later in the new century.

The thing is, the so-called smartest guys in the room really, really believed in their heart of hearts that the gazillionaires would act in their own economic best interests, and curb some of their own worst personal excesses.  They didn't do either, and together, they caused an economic collapse that rivalled 1929.

Smart guys like Alan Greenspan, the silverback of the Fed, who confessed in a moment of startling clarity in October 2008 that he had 'made a mistake' in assuming that free markets would regulate themselves, suddenly weren't quite so sure that Milton Friedman was totally right, and that John Maynard Keynes was so totally wrong. 

Indeed, if the Friedman boys had only just read Keynes' economic theory instead of just complaining about it, they would have seen a lot that jibed with Reaganomics, as well as the New Deal.  However, Friedman and Keynes parted company on one major issue, and that issue was too close to the corporate heart to be ignored if you wanted to be reelected or reappointed - government regulation.

Since the 1980s, Friedman's star has been in ascendance, but the man himself, who died in 2006, never having seen his anti-regulation theories fail so spectacularly, was not entirely an evil fairy.  He did believe in social supports, such as unemployment insurance, 'negative income tax' (basically social welfare for those earning low incomes or having no income), and even ... oh, horrors! ... government-supported education and health care, which he believed should be handled by vouchers.  To the end of his life, he considered himself a 'classical liberal', and espoused many libertarian positions.  He considered his greatest accomplishment the abolition of the draft - not an economic issue at all.

But Friedman had this persistent little bee in his bonnet about government regulation.  He and his students, who have filled most academic and government economics positions since the 1980s, claimed that government regulation stymied capitalism, and that the market would be 'smart enough' to act in its best interest.

In fact, what we saw in 2008 and beyond was the free market engaging instead in a rather elaborate and nasty game of the Prisoner's Dilemma, and each player in the game was determined to be the first one to confess, and to hell with the other players.

As anyone who has studied game theory knows, the best course of action in the Prisoner's Dilemma is for all prisoners to sit tight and remain silent.  Instead of one or more of the conspirators going to prison for life, by remaining silent the cops can only pin a lesser charge on all of them, and they all get out in a few months.  In the case of the economy, the enlightened prisoner (or investor) should behave rationally, not take extensive risk, and play as though a rising tide lifts all boats.  He earns money - not gazillions, but enough to be comfortable, and so does everybody else. That's what Friedman's rationalism expected people to do ... to engage in rational self-interest. 

But people learned to be selfish in the 80s, and changes to the stock and bond markets made it possible to get in, get rich, and get out, often on the same day.  The same was true of the housing market. So these odd little things called 'bubbles' started appearing as regulation began to wind down.  A particular market - say, the housing market to take the latest example - ballooned up and those left inside the balloon when it burst took the fall, while those clever enough to get out of the market early made their millions and invested it somewhere safer.  Usually, it was those already wealthy enough to play who got in first, so the rich continued to get richer, while the poor and middle class, who may have had to take time to get some funds together first before getting in, or institutional investors, whose trustees take a little longer to make decisions about investments, were left holding the now-deflated balloon, with no way out.

That accounts for the extraordinary number of foreclosures and people struggling with underwater mortgages today, but it also accounts for any other situation in which an economic bubble made a few richer, while the vast majority, trying to play, ended up poorer and not necessarily wiser.

So much for 'anybody can become a gazillionaire'!  Essentially, a bubble is a giant Ponzi scheme, and like any pyramid scheme, those who get in late get hurt the most, and most of them are the least likely to be able to absorb the losses that come with the bubble bursting.

What put a damper on this kind of nonsense throughout most of the 20th century was two-fold.  First, a strong regulatory regimen kept banks and housing lenders and insurance companies and other people entrusted with the public's money honest and single-mindedly focused on the issue at hand.  Commercial banks handled checking accounts, savings accounts, and CDs; they lent funds for homes, cars, and boats.  They did not invest their customers funds in risky credit default swaps, or stocks, for that matter.  Investment banks steered clear of mortgages and other basic banking issues.  Credit default swaps were illegal from 1908 until 2000.  Banks could not sell insurance of any kind - it was rightly considered a rather serious conflict of interest. 

The banks did not set these rules up on their own, friends; the federal government did that.

The other thing that kept bubbles from happening was part of the tax code.  For many years, from the postwar period until the 1980s (oh, that evil decade again), income tax was highly progressive and the highest marginal tax rates were in the 90 percent range in the 1950s.  They dropped steadily until the 1970s, but the brackets remained very progressive, with the wealthy paying a considerably higher rate than the poor.  So even if a gazillionaire happened to appear on the scene (and there were a few, but no one had heard of billionaires outside of Saudi Arabia yet), he was a lot less likely to have so much disposible income that he could create a Ponzi scheme with it. Today, that's obviously not the case.

The standard of living in the U.S. was high back then ... higher than it is today, even having just fought a grueling and very expensive war that still needed to be paid for.  Although the relative cost of living was smaller, it was possible for a family to buy a first home and live well on one income.  Schools were better because they were better supported, both in terms of relative property tax income and parental support inside and outside of the institutions.  The same property taxes supported libraries, quality roads, parks, and many other local amenities. Two cars were rare, but they weren't generally necessary because there was a strong system of public transit, including in most of the state of Maine.  Employers offered health care and generous benefits, as well as living wages. Workers could take a day off sick without bankrupting their family. People took their kids on vacation and saw the country through the windows of station wagons and small RVs, on a brand-new interstate highway system, thanks to nearly universal vacation time written into labor contracts.

Today, both parents ... if they are still together ... have to work to support the family.  Sick time and vacation time are vanishing, and defined benefit pensions have morphed into defined contribution stock and bond systems that puts the working class at the mercy of stock brokers and institutional investment analysts who are still a bit confused about the new economic realities we face.  The family may own two cars, but they're both needed all day as public transit vanishes, and both parents have to commute to work. The companies may or may not even offer health care, putting more and more kids on state-supported health care systems that are overloaded and underfunded.

Keeping the tax rate moderately high also actually encourages - that's right, encourages - job creation.  Why? Because wages and benefits are 100 percent tax deductible to businesses. If the tax rate is higher, businesses will be much more likely to invest in their businesses through job creation and other means than to pay taxes at a higher level.  Higher taxes would also encourage job growth for Americans, especially if tax loopholes for offshore operations are firmly closed.

Of course, none of that is likely to happen this go-around.  But President Obama, by taking the first step in demanding higher tax rates for millionaires, is beginning a long and difficult process of moving the American economy back to a long-abandoned middle road.  With luck, regulation will resume in a meaningful way, too, and the see-saw of the bubble and bust cycles will soon be a thing of the past.

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