By constitutional authority, economic policy is in the hands of Congress. Some economists believe that is the reason it doesn’t work right. Some even believe that is why it will never work right.
There are three reasons why economic policy doesn’t work as well as the textbooks say it should. The first and most obvious one is, of course, politics. The political parties rarely agree on economic policy, and if that isn’t enough there is often significant dissent within the parties themselves. Result: Inaction.
The second reason is timing. Economic data on what 300 million people are doing takes a while to sort out. Computers have been of great help in this process, but it still takes time. And in a fast-moving economy like today’s, it is still very possible, for example, for Congress to apply the accelerator just when it should be tapping the brake pedal.
The third reason is really an amalgam of the other two — politics and time. This is what we might call the “dithering effect” in which pondering an economic policy becomes an economic variable in its own right – having its own economic impact and market value. Simply raising the possibility of a change in economic policy creates a market for lobbying effort, and the longer that Congress fusses over the details, the larger the resultant cash flow from lobbyists.
In the first quarter of this year, registered lobbyists spent over $1 billion trying to get their views adopted by government officials making regulatory changes and Congress considering legislation on health insurance, border walls, and tax reform. How much influence they had is not known, but it was a significant effort.
The dithering effect is the enemy of Congressional action. One of the commentators on television recently said about the tax reform bill that Congress had better get itself together and pass it, before the lobbyists and special interests have time to pick it apart. That is probably an accurate observation, but it clearly runs in direct opposition to the dithering effect, especially with an upcoming election and its costs more and more on politicians’ minds.
The main legislative items on the current Congressional agenda are health insurance; and tax reform. Both are of great interest to lobbyists, of course, but tax reform is of particular interest to economists who are trying to figure out how long it will take for the full impact of tax reductions to be felt and, just as importantly, how big that impact will be. In both questions the uncertainties outnumber the known facts by three to one.
What makes the tax cut so difficult to predict this time is not just the structural changes in the American economy that have occurred since the last major tax cut in 1986. It is also the counter-policy effects of the Federal Reserve’s financial market operations.
It is safe to say that the main structural change we have to address with is technology. In a market economy like ours, a technology sector driven by startups is in a constant battle between two major forces: efficiency and innovation. Innovation is by its nature inefficient in that it ruins the efficiency of previous, now obsolete technologies. By contrast, a high-efficiency organization is one that gets the absolute maximum from existing technology.
As the technology sector of our economy matures, its largest firms, in search of greater efficiency and profit, begin to dominate the pace and shape of innovation. This will lower the rate of capital destroyed by obsolescence.
The real kick from a tax reduction comes from the higher levels of investment it will promote. That is where the new jobs and payrolls come from. Some of the increased investment expected from the proposed legislation will come rapidly as firms respond to the increased consumer demand fed by lower individual tax rates. Some of the increase, though, will take more time as firms make investment decisions based on estimated future demand.
Uncertainties accompany every economic policy decision, but this seems to be an ideal time for a tax cut, both corporate and individual. The doubts and questions all surround the quantity and speed of the economic boost a tax cut will bring. There is little question that a boost there will be.
The timing also seems perfect with respect to the risk of inflation, which a sudden injection can cause. It is the perfect offset to the subtractive effects of the Federal Reserve’s planned interest rate hikes and selloff of its huge mortgage bond portfolio.
Economic policy makers in Congress have a rare opportunity to set a new course for our prosperity. We can only hope that they take it before dithering and lobbying ruin it.
James McCusker is a Bothell economist, educator and consultant.