Tax cuts won't do the heavy lifting this time

The GOP believes that tax cuts are the best way to stimulate the economy. Republicans would say that tax cuts are preferable to government spending because the American people know best how to spend their money and that the government has a poor track record for effectively spending tax dollars. But Daniel Gross makes a strong case that the traditional wisdom doesn't apply in this recession.

The whole idea behind tax cuts stimulating the economy is that Americans will spend the newfound discretionary income they have when their taxes are cut. It seems logical that if there are less withholdings, she'll buy that new pair of shoes she's had her eye on with the extra money she finds in her paycheck. Or if his income tax refund is unexpectedly large next year, he'll finally buy that widescreen HD TV that's been tempting him lately. Maybe the simultaneously increasing take-home pay and price of gasoline will convince you to finally buy that hybrid car you've been considering (as long as the desperate Big Three are offering so many incentives nowadays).

It makes sense, right? After all, we Americans love instant gratification and we're certainly not savers. Well, maybe it does not make so much sense this time. There are some factors that make this recession unique.

First of all, there is less job security than ever in today's workplace. There are now fewer career employees than ever and we have the highest rate of unemployment in many years. Worse yet, it's plummeting faster than it has in recent recessions:
(Click chart above to see in full-size from House Speaker Nancy Pelosi's office)
With the large number of unemployed Americans, there are fewer tax payers to spend the tax cuts. This alone reduces the impact the tax cuts will have on the economy.

Add to that the fact that Americans that are still employed lack confidence that they will stay that way long term. Not knowing how long it would take them to find a replacement job in this tight job market, American's feel that they need a larger safety cushion than usual right now. If they would want to have health insurance should they become unemployed, COBRA would be a substantial additional expense that they don't have while employed. Subsequently, Americans are much more likely to save their tax cuts for a rainier day than they are to spend them. While that's fiscally healthy for the individual, it's not stimulating to the economy.

To further exacerbate matters, the housing market is at the root of this economic downturn. During the housing boom, Americans were spending Bush's tax cuts hand over fist on their homes. They improved their homes to accelerate its appreciation. With home values falling like a rock in this recession, homeowners will not be spending their tax cuts at Home Depot because to do so would just be throwing good money after bad. Many homeowners are seeing their ARMs reset, so they will just spend their tax cuts on their higher mortgage installments (to banks likely to go bankrupt anyway). Renters will not likely spend their tax cuts on buying a home because of the concern that their mortgage would just be underwater a few months later.

Finally, there are Americans' retirement accounts to consider. The shrinking Dow reflects Americans' IRAs and 401(k)s. Losing 45% of their nest egg in less than a year, Baby Boomers are postponing the retirement they planned. Instead, they will just have to plow their tax cuts back into their retirement accounts to make up for their recent losses.

Of course, these factors will not completely eliminate the stimulative effect of tax cuts. Nonetheless, they will certainly significantly diminish the tax cuts' impact on this recession. The economic stimulus bill that just passed congress this weekend was the right recipe for this recession. Although it has some tax cuts, it's more heavily weighted to investments in America's future -- monies that we know will be spent.

Maybe the sky really is falling

When Secretary Hank Paulson started running around like Chicken Little telling everyone the sky is falling, I thought it was just hyperbole. After all, former president Bush had been employing scare tactics to control the American people for years. So when the Fed came to the rescue with a $700-billion economic rescue plan, I questioned if it really was necessary.

Then I saw the video of Representative Paul Kanjorski, a Democrat from Pennsylvania, talking about the events that led up to Paulson's histrionics (below). It made me think twice about just how bad things might really have been. Kanjorski said of the day that Paulson visited congress with his dark news:

On Thursday, at about eleven o'clock in the morning, the Federal Reserve noticed a tremendous draw-down of money market accounts in the United States to the tune of $550-billion being drawn out in a matter of an hour or two ... We were having an electronic run on the banks. They decided to ... close down the money accounts, and announce a guarantee of $250,000 per account so there wouldn't be further panic ... If they had not done that, their estimation was that by two o'clock that afternoon, $5.5-trillion would have been drawn out of the money market system of the United States, would have collapsed the entire economy of the United States, and within 24 hours the world economy would have collapsed.

Why didn't Paulson tell us about this activity then? Well, obviously because it probably would've scared investors even worse than they already were right in the middle of what turns out was a significant run on the investment banks. But what were these people thinking? Didn't they realize that money market funds don't evaporate in value like the bank securities were doing and that their investment accounts were insured by the feds in the event of a bankruptcy like Lehman Brothers?

Apparently, they didn't. Just watch this video, listening up sharp at 2:10 in, to hear a little told story about what was happening during those days:
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California steals from its taxpayers

I visited the Franchise Tax Board's website to check on the status of my state income tax return today. Imagine my surprise to see their reply was "your refund cannot be issued at this time." How would they respond if I owed them money but instead of paying, I told them that their payment cannot be issued at this time? They would charge me penalties and interest.

The Franchise Tax Board passed the buck. They went on to say:

Due to the state's persistent cash and budget problems, the State Controller has directed FTB to stop sending refund requests to the State Controller's Office for payment. Refund payments will resume when the State Controller indicates there is enough cash available to make refund payments.

That excuse is not good enough. If I owed it taxes, the state wouldn't accept a claim by me that I don't have enough cash available to pay them as an excuse. I shouldn't have to accept it from them.

My refund (and I don't call it a "tax" refund because it's not taxes -- it's my earnings) is not the state's money and it never was. I didn't want the state to have my money in the first place. The only reason they have it is because they forced my employer to withhold it from my paychecks.

Since it's not the state's money, the controller shouldn't have spent it. They should have secured it in a trust fund or some kind of escrow account. After all, that's what the state requires of businesses that hold their clients' monies. Apparently, the state does not believe that 'what's good for the goose is good for the gander.' So I won't bother charging the state a penalty for not refunding my money in a timely manner.