Well Rumsfeld is finally gone, pushed out for being half right. He was right about how easy it would be to topple Sadaam, but wrong about how easy it would be to get Iraq up and running and get out. Too bad he wasn't completely wrong. By the time we took over the place, we'd have had enough troops, and we might be out by now. There is no such accountability in the economic policy realm, where interest trumps ideology and the same mantras are repeated regardless of the evidence. For example, what about all those Republicans who claimed that cutting taxes on investment returns, but eliminating tax breaks for consumer debt, would encourage savings and investment?
The latest housing report from The Office of Federal Housing Enterprise Oversight (OFHEO) contains data on the personal savings rate over time. The data includes the following:
October 1980: 10.4%
October 2006: -0.6%
A little history. In 1980, all forms of consumer interest were tax deductable. If you had a credit card debt, you deducted the interest paid each year from your taxes, a big savings to the affluent because marginal tax rates were high. And, at the time, there were few forms of tax-deferred savings. You stock dividend, bond interest payment, or savings account interest was taxed at that same high rate. The reason? To favor the less well off, who tended to be debtors, while taxing the better off, who tended to have investment income. One of the big issues at the time was the lower level of savings in the United States compared with Europe and Japan, which some feared might lead to a decline in manufacturing. The incoming Republicans claimed that the tax structure discouraged “savings and investment,” and reversing the incentives would eventually trickle down to the non-rich. The change in incentives encouraging savings, at least, made sense to me at the time.
The Republicans got their way. Over time, all forms of consumer interest save mortgages were gradually made taxable. And with IRAs, 401Ks, 529s, Roth this and that, virtually all middle class investment returns were made tax exempt or deferred. For the better off, there were steep cuts in taxes on dividends and capital gains. And even for simple interest income, the tax rate is much lower in 2006 than it was in 1980.
It isn't just the tax code that has turned in favor of a higher savings rate. Inflation is far lower, meaning investment gains aren't erroded away as quickly (though those returns have also fallen). According to an alternative theory of savings rates, the propensity to save depends on one's point in the lifecycle. In young adulthood, with lower incomes and childcare responsibilities, people borrow to buy homes and other assets. In late middle age, at an income peak but with retirement looming, people save and pay off debts. Well, the entire baby boom generation, of which I am at the back end, is in mid-to-late middle age. They ought to be saving. But on a net basis, they are not.
So we can now see clearly the importance of tax incentives in the financial choices of Americans. Adn the Republican theory can be placed in the dustbin of history. But not those who promulgated it, because since the actions sparked by the theory fit the self-interest of a prominent group of people, they continue to be thought of as seers and recycled though a series of high level posts. Despite having been as wrong as anyone has been about anything. All they did was, by raising public debt, exacerbate a decline in U.S. savings their incentives did nothing to cure.
An alternative theory? Perhaps it is a crisis of expectations. One can't help but marvel that the Chinese are deliriously happy with their rising standard of living, so happy that they are socking away a huge share of their rising incomes because they are so thrilled with what they already have. Meanwhile Americans, far richer, are miserable because in many cases their standard of living is going down, and in nearly all cases is failing to keep up with the lifestyle of those on television. They are borrowing to keep up. That cannot go on forever.
In the end, culture matters more. Politically, the generation now in charge has shown a terrific willingness to sacrifice the circumstances of future generations to have more for itself, passing unsustainable senior benefits, loading debts on top of that, and always foisting any required sacrifices on the young. This has confused and upset me. The data shows, however, that Americans not only have little regard for the common future, or even their own children's future, they also have little regard for their own future. We have a culture completely gone over to satisfying the chemical messages all of us have going to our brain, which though they differ in details at base amount to "I WANT FOR ME NOW!" What we want is more than we produce, no matter how hard we work, and Americans do work hard.
Expect a crisis of dashed expectations when that work doesn't produce the lifesytle people had hoped. The Republicans did much to create the mess that is coming. People did much of it as individuals, through their lack of savings and investment. Democrats contributed just a little to this particular mess. They would have been better off waiting a couple of years to take control of Congress.