Taxes and Trump

[moda0306]

I was wondering when we'd have another good old fashioned MR brawl in here.

I want to point out that this time it wasn't me that started it!  I wanted to keep to revenue neutrality for a reason, dammit!


Just when I thought I was out... They pull me back in.

[MediumTex]

MT, I agree.  I'm not a doom porner guy, and I'm not hanging out with Peter Schiff and trading my family for bullion.  But at the same time, I think that our overall risk has increased.  Our present debt service as a fraction of GDP is reasonable, but it would not be if interest rates rose.  They may not rise, and in fact I don't expect them to rise, but IF they did rise significantly, our debt service to GDP ratio would be pretty painful.  Then deficits would matter, and worse, our deficit spending would rise and our debt could go into an uncontrollable upward spiral. 

I don't think this scenario is likely, but I also don't agree with the statement that "deficits don't matter."

Happily, what you are describing would probably happen to Japan long before it happened to us, since they have about twice the debt of the U.S., with even lower interest rates.

When building your mental models of how this is all supposed to work, don't forget to include demographics as a key variable.  A mature western industrial economy with unfavorable demographics tends to experience very low interest rates as lenders find it harder and harder to find demand for new credit.  Since the public debt markets always compete for borrowers in the shadow of the private credit market, soft demand for private sector credit tends to push interest rates on public debt down as well.

Bad demographics creates a nagging and persistent feeling of overcapacity in the economy.  It's like the weird feeling your clothes would have if you were slowly shrinking to perhaps 80% of your current size.

[jafs]

I had to go and look up what happened in 2011-on.  Possibly in response to the credit downgrade, which was linked to a lack of reasonable plan for decreasing deficits, the government passed the budget control act of 2011, which set in place a plan for deficit reduction.  Then, from 2011 onwards, the deficit steadily decreased.

So it seems more reasonable that what happened was that the government dealt with the underlying issue that prompted the credit downgrade, and deficits decreased, creating more confidence in Treasuries, which is why demand was still good and rates fell.

No relationship between national debt and interest rates, other than seemingly the higher the debt goes, the lower interest rates go.  The national debt is, of course, just the accumulation of prior budget deficits.

You are positing a relationship that simply doesn't exist.

[img width=500]http://3.bp.blogspot.com/-OsYgZZ7G_Os/V ... BRates.jpg[/img]

[jafs]

I was wondering when we'd have another good old fashioned MR brawl in here.

I want to point out that this time it wasn't me that started it!  I wanted to keep to revenue neutrality for a reason, dammit!


Just when I thought I was out... They pull me back in.

But "revenue neutrality" only matters if deficits/debts matter, right?

Otherwise, who cares?  We could implement all of B. Sanders' ideas without raising tax revenue one dime, and just borrow what we need.

[jafs]

Generally speaking, there is a connection between debt ratings, perceived risk and interest rates, isn't there?

When somebody goes to a bank, they can usually get a better interest rate if their credit score is higher.
Companies can pay lower rates for highly rated bonds than they can for "junk" bonds.
And municipal bonds also work similarly, as far as I know.

So why would this relationship disappear when it comes to federal bonds?

[Xan]

But "revenue neutrality" only matters if deficits/debts matter, right?

Otherwise, who cares?  We could implement all of B. Sanders' ideas without raising tax revenue one dime, and just borrow what we need.

There are plenty of reasons to be against government action in whatever area.  It's just that "running out of money" isn't necessarily one of them.  To borrow an analogy of Moda's, when the Panthers put up 49 points on the Cardinals in the NFC Championship Game, there was no worry about the stadium running out of points.

[Pointedstick]

Generally speaking, there is a connection between debt ratings, perceived risk and interest rates, isn't there?

Yes, but the relationship can change substantially depending on the borrower.

When somebody goes to a bank, they can usually get a better interest rate if their credit score is higher.
Companies can pay lower rates for highly rated bonds than they can for "junk" bonds.
And municipal bonds also work similarly, as far as I know.

So why would this relationship disappear when it comes to federal bonds?

What I think you're missing is that the things that affect your rating changes depending on who or what you are. An individual's credit rating is volatile since individuals' income is, from a financial perspective, fragile. Lose your job and lose your income. Lose your business and you lose your income. Etc. But state and local governments have taxing power, which makes their revenue streams more durable. People will endure rising taxes for quite a long time before they get fed up and leave, and the tax base won't collapse unless the government is severely mismanaged. At the federal level, revenue is even more durable: federal taxation power is even stronger, and being the world's reserve currency even requires some yearly borrowing to create a bond market so that the real of the world can save in the reserve currency.

[jafs]

Ok.

But with bonds, individuals (or businesses) are the lenders, so they're analogous to the banks.  And, just as with the banks, they get to decide whether or not they want to lend money to various entities, like municipal or federal governments.

And, just like banks, people generally want to lend money if they will make money from the transaction, and if the risk (or perceived risk) is in line with the rate of return they'll get, right?

So, just as a bank will charge a higher-risk borrower higher interest rates to compensate for that risk, one would think that people would demand higher interest rates for riskier government bonds.

In practice, I would guess that this would mean that the government issues a bunch of bonds at a certain interest rate, but doesn't get as many buyers as they'd like, and so they have to increase the interest rate to attract more buyers.

[MediumTex]

Ok.

But with bonds, individuals (or businesses) are the lenders, so they're analogous to the banks.  And, just as with the banks, they get to decide whether or not they want to lend money to various entities, like municipal or federal governments.

And, just like banks, people generally want to lend money if they will make money from the transaction, and if the risk (or perceived risk) is in line with the rate of return they'll get, right?

So, just as a bank will charge a higher-risk borrower higher interest rates to compensate for that risk, one would think that people would demand higher interest rates for riskier government bonds.

In practice, I would guess that this would mean that the government issues a bunch of bonds at a certain interest rate, but doesn't get as many buyers as they'd like, and so they have to increase the interest rate to attract more buyers.

Being world reserve currency means that some parties have no choice but to put their money in treasuries.

If you're China and you've got $100 billion to park somewhere because you just got paid for an armada of plastic crap that the U.S. ordered, where are you going to park that $100 billion you just received?

What choices do you have? 

[Cortopassi]

Gold, baby! 

[jafs]

But with bonds, individuals (or businesses) are the lenders, so they're analogous to the banks.  And, just as with the banks, they get to decide whether or not they want to lend money to various entities, like municipal or federal governments.

And, just like banks, people generally want to lend money if they will make money from the transaction, and if the risk (or perceived risk) is in line with the rate of return they'll get, right?

So, just as a bank will charge a higher-risk borrower higher interest rates to compensate for that risk, one would think that people would demand higher interest rates for riskier government bonds.

In the 2011 debt ceiling crisis, S&P lowered the U.S.'s credit rating, and interest rates *dropped*.  MediumTex put up some charts that showed how interest rates have continued to fall, even as U.S. government debt has continued to rise.  Here's another (click on it to make it bigger).  It plots the 10-year treasury rate (on the y-axis) vs. debt/GDP on the x-axis.  It is in essence the same information as shown in one of MediumTex's charts, but with the time element removed.

[img width=500]https://research.stlouisfed.org/fred2/g ... png?g=3h1h[/img]

So, just as a bank will charge a higher-risk borrower higher interest rates to compensate for that risk, one would think that people would demand higher interest rates for riskier government bonds.

It seems to me that your perception of what people ought to be doing isn't quite right.  You can keep banging your head against a wall, wondering why everyone doesn't do what you think they ought to, or you can ask yourself if your perception needs to change.

So, if the US bond rating dropped to a "D" instead of a "AA+", you think everybody would buy US bonds at low interest rates?  The change from "AAA+" to "AA+" is a pretty small one, and means that our bonds are still very highly rated.

[jafs]

Ok.

But with bonds, individuals (or businesses) are the lenders, so they're analogous to the banks.  And, just as with the banks, they get to decide whether or not they want to lend money to various entities, like municipal or federal governments.

And, just like banks, people generally want to lend money if they will make money from the transaction, and if the risk (or perceived risk) is in line with the rate of return they'll get, right?

So, just as a bank will charge a higher-risk borrower higher interest rates to compensate for that risk, one would think that people would demand higher interest rates for riskier government bonds.

In practice, I would guess that this would mean that the government issues a bunch of bonds at a certain interest rate, but doesn't get as many buyers as they'd like, and so they have to increase the interest rate to attract more buyers.

Being world reserve currency means that some parties have no choice but to put their money in treasuries.

If you're China and you've got $100 billion to park somewhere because you just got paid for an armada of plastic crap that the U.S. ordered, where are you going to park that $100 billion you just received?

What choices do you have?

That's interesting. 

Aren't there other ways that they could invest that money?

About 2/3 of the debt is owned domestically, with about 1/3 owned by foreign countries, with China owning about 7% of it.  So there are a lot of domestic buyers, aren't there?

It also looks as if the largest holder of us bonds is our own government, which owns about 40% of the national debt.  This is a bizarre situation, for sure, but I'm not sure that it means normal demand forces don't apply for other entities.

[Libertarian666]

Ok.

But with bonds, individuals (or businesses) are the lenders, so they're analogous to the banks.  And, just as with the banks, they get to decide whether or not they want to lend money to various entities, like municipal or federal governments.

And, just like banks, people generally want to lend money if they will make money from the transaction, and if the risk (or perceived risk) is in line with the rate of return they'll get, right?

So, just as a bank will charge a higher-risk borrower higher interest rates to compensate for that risk, one would think that people would demand higher interest rates for riskier government bonds.

In practice, I would guess that this would mean that the government issues a bunch of bonds at a certain interest rate, but doesn't get as many buyers as they'd like, and so they have to increase the interest rate to attract more buyers.

Being world reserve currency means that some parties have no choice but to put their money in treasuries.

If you're China and you've got $100 billion to park somewhere because you just got paid for an armada of plastic crap that the U.S. ordered, where are you going to park that $100 billion you just received?

What choices do you have?

I think you can guess what I would do.

[moda0306]

@realfakeDonaldTrump was my invention.

http://simitator.com/generator/twitter/tweet

Holy crap!  Good one.  This must be what getting Punk'd feels like.

I just realized all of these are possible:

• Get punked by a fake Trump twitter.
• Get twittered by a fake punk Trump.
• Get Trumped by a fake twitter punk.

Imagine the face of Justin Timberlake thinking he's having his house foreclosed on with movers and everything (actual Punked episode).

Subtract 3 inches of height and add 15 lbs of weight, and take away the good looks.

That's me trying to process Trump being an MR'ist after all my anti-Trump ranting and endless MR supporting threads.

[jafs]

So, if the US bond rating dropped to a "D" instead of a "AA+", you think everybody would buy US bonds at low interest rates? 

No legitimate organization would give the US bond market a "D" rating today.

And if the U.S. truly deserved such a rating, I think there would be much bigger problems than the rating itself.

That could all be true.

I was just trying to find out if you really think that credit ratings have no effect at all on bond interest rates - it's a thought experiment.

Having looked into it a bit more, it seems to me that the fact that we own almost half of our own debt is a big factor - if we're willing to lend to ourselves at low rates regardless of things that might give other entities pause, then that creates a market for our debt that isn't as subject to normal forces.

How the federal government can "lend" money to itself and whether or not that makes any kind of reasonable sense is another question.

[Libertarian666]

So, if the US bond rating dropped to a "D" instead of a "AA+", you think everybody would buy US bonds at low interest rates? 

No legitimate organization would give the US bond market a "D" rating today.

And if the U.S. truly deserved such a rating, I think there would be much bigger problems than the rating itself.

No, that rating should be "XXX", as in "adults only".

[MWKXJ]

Sorry if that all seems complicated.  When you try to talk about the flaws of our current tax-code and the benefits of one going forward, you essentially need to say WHY the current complications need to go rather than talking about "a few brackets" and getting rid of "some deductions."

Nice, detailed analysis of Trump's plan, Moda.  Enjoyed reading it.

Regarding your proposal for a replacement tax code:  Personally, I'd opt for a taxing scheme which adhears to a "creative destruction" philosophy: a flat, transparent, consumption tax.  In other words, when one pays for something one sees a line marked "Federal 25%" right below any state and local sales taxes.  Would I enjoy paying it?  Hell no! ...but neither would millions of other Americans, and it's precisely that anger which might---finally---result in fiscal prudence at the national level.

Moreover, the "Federal 25%" rate would be set to whatever percentage is necessary to *honestly* begin paying down the nation's debt in the span of say, a single congressional or presidential election cycle.  Consequently, the rate could be far higher than 25%.  If and when the debt is ever paid down the rate would be---possibly---lowered in keeping with the fiscal year's adopted budget.  Of course, if the Federal government continues to overspend, the rate will never be reduced and the public ire will only increase.

I can't think of any other tax plan which is both more brutally honest to the taxpayer, and, more effective at curbing government excess.

But let's talk about a "consumption" tax.

First off, I've worked in sales tax (a consumption tax), and it's sort of a nightmare.  What is a sale?  If I sell you my time, what about my time and a tax return?  What if I sell you consumer good?  What about a capital good (machine, car)?  What about real estate?  What is consumption?    Many of the things we "buy" don't get "consumed" right away.  A lot of things we buy are labor, not a good.  These are treated in a myriad of ways by our sales tax system.  It's really complex.  Much more-so than an income-tax system could be.  And it seems a lot more arbitrary to me where to draw the line, to boot?

Also, if we're going to stay revenue neutral including FICA/Medicare taxes, how large would that tax have to be?    I know I know.... REPEAL ALL PROGRAMS!  But really?  Can't we solve one big problem at a time?  If government excess is TRULY the main problem, and we should repeal 90% of what the government does, then how we tax barely matters, so why bother coming up with a fancy new tax code?  It's not worth worrying about it.

But if we ARE going to have a federal government that does social insurance, military, etc, then we can STILL improve our tax system to realize that, and have to act in that reality.  We don't have to solve all of our problems at once.  And I don't think a consumption tax would really solve any, and would cause a whole new slew of problems.

A flat consumption tax is not being suggested for its simplicity, Moda, but rather, for its transparency.  Most proposals for modifying the tax system follow a philosophy of making the tax burden as heavy as possible for the fewest number of people and as hidden as possible for the greatest number of people, i.e. "progressive".  While it may seem counterintuitive, the danger in cordoning off the highest taxes to a small proportion of the electorate is that the majority of the electorate is never properly invested in the issue of government spending.  People engage in politics when issues personally touch them, hence, if and when the middle and lower classes---who constitute the vast majority of the electorate---pay a flat percentage of the national tax burden the issue of government waste will be cast in an entirely different light in the nation's discourse.  The ability to cinch the Nation's purse strings is one of the cardinal powers of Congress, but Congress has seldom been pressured to exercise this power by its distracted electorate.  A populace actively involved in its government expenditures, on the other hand, could prevent not only misappropriations toward social programs (such as social insurance) but also more "right wing" waste, such as reckless overseas adventures.

Also, I disagree with the notion that consumption taxes are fundamentally any more complicated than the national income tax system currently in place.  Sales taxes are in place in communities throughout America, and many of the local governments employing them are small, of limited means, and highly accountable to their citizens (think townhall meetings).  Such an environment does not normally produce sophisticated systems rife with loopholes.  The IRS, on the other hand, is vested with the monolithic power to, in effect, surveil each individual in the citizen body, monitor their income for irregularities, and independently audit taxpayers.  The former system collects taxes in conjunction with day to day commerce, the latter collects taxes through direct payroll withholding and annual billing based on, again, surveillance.  The former system is passive, the latter is active (aggressive?).  There would no doubt be tax evasion with consumption tax, but, there is already evasion in the Federal income tax system in terms of loopholes and tax-attorney privilege, not to mention the uncertain flux of shifting tax rates and brackets depending on which group succeeded in legislating in favor of their interests in a given election cycle.  No, I can't see how a sales tax could be considered more complicated than a national income tax.

Consumption taxes are generally understood to be regressive.

And, a very likely response to heavy consumption taxes would be less consumption, which would hurt the economy and also not provide the desired government revenue.

Precisely.  A flat consumption tax is intended to be regressive and irritating.  Citizens should be maximally aware that taxation happening and actively involved in what their labors are being used to procure.  Declining consumption is one of many ways for the public to make their voices heard and a powerful incentive for representatives to close the government's purse strings.  This speaks strongly in favor of a flat consumption tax; an agitated citizen is an involved citizen.

[jafs]

I like the idea of people knowing how much our government is spending, rather than that being hidden.

It's possible if that were the case, people would be very interested in making sure that it was being spent well.

But regressive taxes hurt people who are at the bottom, and I don't like that.  Also, if people consumed less, and tax revenue went down, then the government would just borrow more, I would think.

[Libertarian666]

So, if the US bond rating dropped to a "D" instead of a "AA+", you think everybody would buy US bonds at low interest rates? 

No legitimate organization would give the US bond market a "D" rating today.

And if the U.S. truly deserved such a rating, I think there would be much bigger problems than the rating itself.

Do any of the bond rating agencies have any legitimacy after 2008?

Is the Pope Jewish?

[MediumTex]

No legitimate organization would give the US bond market a "D" rating today.

And if the U.S. truly deserved such a rating, I think there would be much bigger problems than the rating itself.

Do any of the bond rating agencies have any legitimacy after 2008?

Is the Pope Jewish?

Does a bear bundle mortgages in the woods?

[MachineGhost]

I have an even simpler plan.

Eliminate all Federal taxes and let the Fed print whatever money the Federal government wants to spend.

Since the US is a "currency issuer" and therefore doesn't have to worry about hyperinflation, this is the simplest and most effective tax reform plan possible!

Except that won't work.  The currency won't have any value without taxation.  It has to be backed by productivity or people won't have any reason to accept it.

I'm sure you were being tongue in cheek as the resident diehard gold bug.  That 35% collectibles tax has to bite.

[MachineGhost]

As far as the rest, I'm not going to get into that whole thing again - I understand that you have a very strong view of how the monetary system works and think I'm dead wrong that deficits/national debts matter.

They matter, but not for solvency issues, only credibility and inflation.

Just look at asset vs liability balance sheet for the USA nd you'll see the assets are several times higher than the liabilities.  That's why deficits/debts don't currently matter.

At some future point the compounding of interest owed is liable to take up the entire cash flow of tax revenues and then you got a epic problem that real assets will come in handy for.

[MachineGhost]

I like the idea of understanding how things actually work - it's a good place to start from.  But I also find that most things aren't completely captured by one ideological system - it's why I hold a mix of different ideas from liberal, conservative and libertarian philosophy.

MR isn't ideological; it's descriptive.  What you disagree with will be your own ideology thats at conflict with operational reality.

[MachineGhost]

Well, things work until they don't, sometimes.  And, I've never said we shouldn't have any debt, just that I'd like to see a more reasonable level of it, and not have it increasing every year by half a trillion to a trillion dollars.

We're not even remotely near an "unreasonable level" of liabilities vs assets.  Japan is far ahead of us and in worse economic shape and they have no issues.

[MachineGhost]

I think the MR truth is just a tiny bit overplayed though.  While I agree with the basic concepts, I think we also need to be clear that there are limits ... we just don't know where those limits are.  Granted, the nation's finances are completely different than a household budget, but that doesn't mean that "deficits don't matter"  (Cheney).  It just means something like "Deficits haven't mattered much yet.  They probably will at some level of debt and interest rates, but we don't know what those levels are, so we're really kinda just rolling the dice and hoping things continue on without blowing up."

But its not a problem so long as yields are free to rise to reflect lower credit confidence and yields are higher than inflation as inflation is the only way the real value of that debt is getting whittled down.  It's not as if it'll ever be paid off.  It's really not a problem unless the Fed or Treasury fucks it up.  And that's why we hold gold.