The House of Representatives has just passed the largest tax and spend bill in history. The bill calls for about $2.2 trillion in new spending and $1.84 trillion in new taxes. While the bill will improve the social safety net and tackle climate change, the spending will ignite further inflation and the tax increase will slow economic growth.
CBO Puts Price of Bill at $360 Billion
The Congressional Budget Office (CBO) estimates the deficit will increase by more than $360 billion over the next decade as a result of this bill. Since prior CBO projections indicated that annual deficits could average about $1 trillion for the next decade, this bill just makes a terrible fiscal situation even more terrible.
The Biden administration is misrepresenting the bill. Officials in the administration claim it will reduce healthcare cost, housing expense and childcare costs for Americans. That’s not exactly true.
What they meant to say was that those costs will be reduced for some lower-income families. But it is not because the cost is actually going down. Rather, it is because other taxpayers will pay the cost for these lower-income families. The truth is that when the government gets involved, total cost almost always increases.
The bill also wants to encourage the use of electric vehicles and other green energy. To accomplish that, tax credits will be given to reduce the cost to the consumer. Again, that doesn’t mean lower costs. It just means that taxpayers will pay part of the cost for consumers.
Biden claims that this massive amount of new government spending on top of the massive increases in government spending of the past two years, will not be inflationary. Again, he is misleading the public.
Biden says that if the government spends $2 trillion, but increases taxes by $2 trillion, the bill is completely paid for and there will be no impact on inflation. That is not correct.
If the government spends a dollar it increases demand, which leads to higher prices. If it taxes a dollar, that will not necessarily decrease demand by the full dollar, especially when the taxes fall on the wealthy.
Taxes Mean ... Less Money
The fact is, increasing taxes reduces disposable income. After paying taxes, higher income earners spend to support their lavish lifestyle, but still use a large portion of their disposable income for their investments. If their taxes are raised, they will continue to spend on their lavish lifestyle. They will simply have less to invest.
Since their consumption does not decrease, there is no decrease in demand, so the increase in government spending increases demand and is inflationary.
Raising taxes on the highest income earners will also lead to slower growth and even more long term inflation. That’s because new capital needed for growth in a capital intensive economy comes from the disposable income of the highest income earners, corporate retained earnings and from the gain on the sale of capital goods.
By raising corporate taxes and raising taxes on investments, that makes capital more efficient, but there will be less new capital created. Since the federal government is $30 trillion in debt and climbing, much capital is removed from capital markets. With less capital creation, that leads to a capital shortage.
A Stranglehold on Businesses
If business can’t raise sufficient capital, they can’t expand. If business can’t respond to the huge increase in demand by increasing output, they will be forced to raise prices.
That leads to a stagnant economy with rapidly rising prices. We call that stagflation.
Finally, this bill reduces the efficiency of capital by taxing stock buybacks. In the past decade, stock buybacks have totaled $5 trillion. Biden says this is just a windfall for stockholders, and it reduces business investment. The reality is much different.
When a corporation has profits that exceed its dividend requirements and investment opportunities, it must decide what to do with the excess funds. A corporation could just decide to increase its dividends. But often stockholders don’t want extra dividends because it increases their tax liability.
Instead, some stockholders say that they have better investment opportunities than the corporation, so they offer to sell some shares back to the corporation. The other stockholders agree. Instead of receiving a dividend, the price of a share of stock goes up by the same amount of what the dividends would have been. And they don’t have to pay any taxes until they sell.
Meanwhile, the ones who sold their shares, invest the where the economy really needs those funds. That leads to more growth.
Let’s hope the Senate does not pass this bill. This is the wrong time for a tax-and-spend bill that leads to more inflation, larger deficits and slower growth.
Michael Busler is a public policy analyst and a Professor of Finance at Stockton University in Galloway, New Jersey, where he teaches undergraduate and graduate courses in Finance and Economics. He has written op-ed columns in major newspapers for more than 35 years.
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