The second that anybody says that tax cut are needed, somebody will scream that only the rich will benefit. You’ll see memes from Bernie Sanders and Occupy whatever on how the rich are taking food from babies if any tax cuts occur and that the “Evil Republicans” want to take money away from “hard working Americans.” Every time a tax cut of ANY kind is heard, the chorus starts. There’s a couple of problems with this. Americans can’t work hard if there are no jobs and If they ARE working hard they don’t need taxpayer’s money anyway.
What the people intending to “punish the rich” never seem to understand is that what happens is that the money they are trying to tax gets diverted to place where the taxman can’t touch it. It goes into tax free investments, overseas and into things like bad art. It goes into assets that don’t produce any income. Good for the Jeff Koons of the world. Not so good for companies looking for investment money.
The whole game becomes “Brewster’s Millions” where the key to winning is making transactions without showing any money as income. Anybody else remember the 1970’s and the days of tax shelters for every need.
High taxes on income don’t touch billionaires, the uber wealthy because they just use the money they can get from draining a little off of their capital gains. But since there’s no real way to get real returns the money is just kept in place in assets that slowly appreciate or depreciate very slowly. Which is good for them.
Which is bad for growth and jobs. Yet over and over all we here from one political party is that we need to punish the successful. For what? Making others look bad because they were able to create something that people wanted and do well by doing good. What good does that do for anybody?
The big problem is that the high taxes all seem to be about envy. The people who always want those taxes to punish people. The fact that the people actually hurt are not the people that the taxers want punished never seems to enter the taxers imaginations. Even when a tax collects almost nothing in revenue and hurts people that can’t escape the punishing taxes like small businesses and the employees of those businesses who all too frequently lose their jobs because the businesses are forced to close. Yet even in the face of lost businesses an increased unemployment some people just can’t let go of wanting other people’s money.
These people are so afraid of imaginary things that might happen such as the formation of an American landed aristocracy that they cannot see the damage that things like a high death tax and income do. What they don’t understand is that the damage is measured in wealth destroyed or not created in the first place.
I think to understand why tax cuts work you have to understand that money has what Claude Shannon called entropy attached to it. Shannon’s entropy wasn’t a measure of disorder, but a measure of information content “Wealth” is actually a measure of entropy. Not thermodynamic entropy, information entropy.
Entropy is the measure of information value in a signal. The higher the entropy the more information is separated from the noise. In an economy most of what is going on is noise, the more or less constant rumble of repeated transactions that don’t change very much.
Because entropy is measure of information attached to an asset, money has the lowest possible entropy. Ideally cash doesn’t any information at all. That’s how a medium of exchange works. Of course any transaction involves information. It’s the entrepreneur’s role to discover those nuggets of information and convert them to assets with value. That’s how wealth is created.
The problem with high taxes is that they create an enormous entropic drag. High taxes take money that could be used to create assets and keep in low entropy. It sloshes around, but no wealth is created. In fact wealth is ruthlessly destroyed as the taxes distort how businesses operate.
Senator Gramm’s bullet list is pretty comprehensive. It’s important to remember that the actions of the current administration are over and above the accretion of rules and taxes that’s been going on off and on for over a century.
The amazing thing is what happens when even a little tax cut is enacted. The effect is like pouring LOX on fire. Whoosh, the economy takes off like a rocket. Any little innovative or entrepreneurial embers almost explode with creative energy.
This isn’t a one time occurrence either. Just about every time taxes are cut a boom is the result. This is especially true at the bottom of business cycle where the entropy from new entrepreneurs and the creativity of inventors and designers is necessary to overcome the senescence of the old crumbling enterprises that are gummed up in obsolete business models and red tape.
The cutting of red tape and the large tax cuts were why the Reagan boom happened. The tax cuts allowed the creation of a lot of very high entropy enterprises based on the technological revolution created by the use of integrated circuits in small computers. I think, that unless you lived through it it’s hard to understand just how big a boom that was and what a sea change the 1980’s were from the senescent 1970’s with great companies and industries dying all over the place.
That’s in contrast with the current economy where we have the senescent industries dying all over the place, but none of the entropy creating entrepreneurial activity. Of course the slow death of the aluminum and steel industries hasn’t caught the media’s attention like the death of the railroads did in the 1970’s.
All the entrepreneurial activity these days seems limited to Apps for telephones that get valued far above sanity because there are no other investments being made that make sense and money’s cheap anyway. Money’s because no entropy is being added to it. The fed has created money without energy or real value. Which most of the banks have been pushing around and using government bond and companies have been using to reverse water their stock by buying it back.
None of this is doing what needs to be done, which is creating high entropy economic activity. The energy seems to have gone out of the economy. Or there’s a huge drag on the economy.
Because the taxes and red tape have made investing in new enterprises such a large gamble for such low returns that the markets have turned to gambling and such dubious instruments as credit default swaps. Instead of being a long term determinator of value and judge of entrepreneurial success and judgment the markets have been reduced to casinos where bets are placed and microsecond changes in price are considered as gains.
What creates is a climate of bad corporate behaviors that only exacerbates the problems. Rather than making long term investments in product and product development companies are buying other companies at a premium and then dropping the products as failures if the quarterly income goals are not met. In a world governed by the minute to minute stock price there’s no room for long term plans.
As for the creative entrepreneur the key words are exit strategy. Where once a founder cold stick around and build the business the tactic now forced upon him by investors is to sell out before the bloom comes off the rose. Take the money and run might work for the founders and investors. For the carcass sold to the highest bidder, not so much.
When investing stops we longer have a future. All that’s left is a long slow decline into a lower standard of living for everybody. Replacing long term investing with short term bet placing may look like the markets are functioning, but it’s not real. It’s just playing with the equivalent of Monopoly money with difference that the money doesn’t actually belong to the players.
We know that low taxes work. We know because it’s been done before. if you don’t like the Reagan cuts, well there’s the case for the 1920’s. Or Kennedy’s cuts. Treasury Secretary Andrew Mellon laid it all out here in his book. The only people who end up paying those high taxes are the one time transaction people and the idiots. The revenue collected does not justify the tax.
Consider what it took to get a reasonable ROI in the 19th Century as to what it takes now. In the 19th Century, with it’s low taxes mostly taken on consumption, all that needed to be considered was labor and capital depreciation, and both of those costs were low. Which meant that ROIs were easy to achieve. A dollar didn’t have to work very hard entropically to make another dollar.
In a high tax regime like we have today, the situation is completely different. Most people don’t see beyond the obvious, but all those taxes and regulations have to be paid for. They are paid for with money that would have used to go for investment. High taxes are paid for with wealth that isn’t created.
Fundamentally money is low entropy. It only has value in what can be exchanged for it. When you coerce the conversion of assets to money You destroy wealth because you remove the information that made the asset valuable in the first place. An enterprise is only valuable when the people in charge have the drive to make it successful and the knowledge to make it work.
I get it. There’s income inequality out there. It’s interesting that income inequality has become worse as the taxes have gone up. Interesting but not surprising. The thing is that no Socialist welfare state has ever solved the income inequality problem. The reason is that Socialism in whatever form sucks all the entropy out of the economy. That’s because entropy is disruptive and central planners do not like disruption.
To see the effect of how the welfare state sucks the entropy out of an economy one needs to look at two places that seemingly have the exact opposite economies than the maybe should. The first is Hong Kong. Resource wise, Hong Kong has next to nothing. In 1950 the colony was little more than a fishing village that was a pimple on the Chinese coast.
Because of a unique official, John Cowperthwaite, What the Colony did have was the freedom to create and grow. And low taxes, very low. Which allowed an environment where more economic entropy has been created than anyplace or time with the possible exception of gilded age America. From this the people of Hong Kong have gone from being among the poorest in the world to some of the wealthiest.
Compare that to Venezuela. Venezuela, by any standard should be a rich country. It’s awash in abundant resources, especially oil. It has a salubrious climate and in the 1950’s had a living standard second only to the US in the Western hemisphere. Yet Venezuela is an economic basket case with nothing on shelves and high rise buildings converted into slums.
This is what happens when the government sucks all the entropy out of an economy. The economic energy, creativity and life go away and no amount of coercion and shooting people can bring it back. All that’s left is the long slow decline into the dark pit of despair.
So when you when you hear somebody demogouging about tax cuts and the rich, just think about Hong Kong and Venezuela and say , so what? What does it matter if somebody keeps their own money. Remember that the people who are using envy and greed to moralize their immoral actions are attempting to drain the entropic life out of economy. So when somebody says that tax cuts are only for the rich or tries to use the excuse that some people need to be punished, just say, “so what.”
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