11/19/2012

The Fiscal Cliff, Currency Devaluation, and You

When it comes to the alleged “fiscal cliff”, both supply-siders and Keynesians are in agreement that jumping off would bring tragic economic consequences. However, conventional wisdom is nearly always wrong, and I believe it’s wrong here.


We won’t reach the fiscal cliff because the incentives that drive politicians ensure a deal.


With the economy still limping, very few politicians will want to be on record as having voted to raise rates of taxation. Every member of the House of Representatives is up for re-election in 2014, a third of all senators are, and they’re not going to vote for large tax increases. Considering spending, though it nearly always occurs at the expense of growth, politicians exist to spend our money. We’ll never jump off the "fiscal cliff".


For Keynesians like Obama and his advisers, they’re deluded by the false belief that government spending is an economic stimulant. So automatic reductions in spending by the feds would directly subtract from GDP growth.


The Keynesians are actually right. GDP would decline in the very near term amid automatic spending cuts, but all this tells us is that Gross Domestic Product is a worthless number.


Economies are nothing more than a collection of individuals, and when we break the U.S. economy down to the individual, it’s easy to see how wrong the Keynesians are. Indeed, are you better off when the federal government taxes away your earnings and consumes limited capital that might otherwise fund a future Apple? No? Well, you’re the economy.
In short, government spending is an economic retardant.


What’s missed by some, but not all supply-siders, is that we’re already in a recession. GDP is once again a worthless number, but if we remove the economic wet blanket that is government spending from the calculation, there’s not much growth to speak of at all. The FED has injected trillions in fiat electronically printed dollars into the world economy. This is the classic definition of inflation - currency devaluation.


When money is devalued, the size of our paychecks shrinks. Supply-siders correctly understand that income taxes eviscerate our paychecks, but not enough understand that currency devaluation achieves the same, and that’s why devaluation always correlates with slow growth. Devaluation is a tax on work.


Tax cuts on income, investment returns and dividends are great, but they’re largely irrelevant at the moment. Worse, their wonders are being discredited by dollar destruction that began under George W. Bush, and that has continued under President Obama.


We’re never going to reach the fiscal cliff given the incentives that drive politicians. Government spending reduces real growth, while tax cuts only work if they’re paired with a strong dollar. Both supply-siders and the Keynesians miss the point.