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The President Got It Right

When President Obama spoke to military service members at the Washington Navy Shipyard on August 5th, he made a comment that received little attention but demonstrates that he understands what our nation needs economically.  According to the President: “We need to create a self-sustaining cycle where people are spending and companies are hiring and our economy is growing.”  Source. The question is: How do we get there?

To create the economic climate he desires, the President would be well advised to consider relying on the private sector.  The government is simply unable to create a self-sustaining cycle of spending and hiring.  While government spending can temporarily boost particular economic sectors, it has a very limited impact on the overall spending or investment. At best, it creates a temporary, inflated and false economy.  This true for a number of reasons.

First, the government is not self sustaining.  It survives by taxing the income the private sector generates or borrowing based on the ability of the private sector to continue generating income and tax revenue.  The government can neither function nor survive without private sector tax revenues. Government is unable to create a self sustaining economic cycle because government itself is dependent on the success of the private sector.

Second, spending tax dollars fails to materially increase overall spending because the people who earned the money in the first place are fully capable of spending it and generally do so without government assistance.  The government can more specifically direct spending to projects or industries it favors, but this has little impact on overall spending.

Third, even when the government spends borrowed money it is only reducing private sector spending in the future when it must use tax revenues to repay its debt.  If the government uses existing tax revenues to repay its debts, it is diverting monies from other potential spending projects.  If it increases taxes to cover the debt, it reduces private sector spending stifling economic growth.

Finally, government stimulus spending must stop at some point.  When it does, any increase in spending or economic activity it falsely created vanishes because it was never self sustaining in the first place.

An approach that assumes the government can continually tax the private sector and spend the monies the private sector generates; thereby initiating a cycle of spending and hiring that goes on ad infinitum, is doomed to fail.  It is the economic equivalent of perpetual motion:  Both are unrealistic.

Of perhaps greater concern is the fact that the current uncertain business environment will negate the positive impact of any government spending designed to stimulate job creation.  Absent a business friendly environment that encourages growth, stimulus spending will have virtually no long term impact, much like planting seeds in a barren field.  It is simply unrealistic to believe that a cycle of taxing and spending to generate economic growth will have a positive impact while the government simultaneously discourages private sector investment and growth.  Private sector businesses grow by reinvesting their profits or borrowing funds for growth which they repay from their profits.  Reinvesting after tax profits (either directly or to service growth related debt) is the major driver of private sector growth.  Government action that reduces those profits also reduces growth and diminishes economic prosperity.  The threat of increased taxes alone discourages growth as it indicates a willingness to reduce profits. As businesses anticipate that the government will diminish the monies they have available for growth, they reasonably decline to grow.  It is absurd to ask American businesses to grow while simultaneously threatening to confiscate both the funds currently available for growth and future after tax profits that may result if businesses choose to risk their funds on growth.

Similarly, it is counterproductive to pressure American businesses to hire while simultaneously increasing labor costs.  Businesses do not hire people because they get a tax break.  They hire people because they believe a new hire will advance the interests of a growing business and increase their profits.  Simply stated, businesses hire people because they need them.  The ability to generate profits and hire new employees is what creates self sustaining economic growth. American businesses at every level are anticipating with dread the increased labor costs they are about to incur as a result of health insurance reform under the PPACA.  No one wants to hire people only to fire them because the cost of health insurance makes retaining them unprofitable. Unprofitable businesses are self destructive rather than self sustaining.

While increased tax rates and health insurance reform are currently two of the biggest creators of uncertainty in the business community, there are other concerns.  The NLRB’s aggressive defense of labor unions, the EPA’s war on energy and efforts to restrict the use of carbon fuels by making them economically unfeasible, the vast labyrinth of outdated, inconsistent and over lapping federal, state and local regulations that business must overcome all discourage both the growth of existing businesses and the creation of new businesses.   Growth and the creation of new businesses go hand in hand with job creation and prosperity.

President Obama is right.   We need a self sustaining cycle of spending and hiring.  I would amend his statement to add that what we really need is a self sustaining cycle of growth and job creation that leads to consumer spending spurring further growth and further job creation.  Even the government will benefit in the end as the private sector creates an increasing number of taxpayers with higher taxable incomes generating more tax revenue without the need for higher tax rates.  Government stimulus spending alone is unable to create self sustaining economic growth.  In the end, the private sector must create jobs and growth.  At some point, we must allow the American free enterprise system to do what it does best:  Generate growth and create self sustaining jobs that enable consumer spending all of which leads us inexorably to prosperity.

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