As Americans watch the latest EU fiscal crisis unfold, what lessons can we learn from it? Dan Mitchell brings us a new video from the Center for Freedom and Prosperity with five key takeaways for US policymakers, as part of their Econ 101 video series. The first two are the most applicable in the short term:
1. Higher taxes lead to higher spending, not lower deficits. Miss Morandotti looks at the evidence from Europe and shows that politicians almost always claim that higher taxes will be used to reduce red ink, but the inevitable result is bigger government. This is a lesson that gullible Republicans need to learn – especially since some of them want to acquiesce to a tax hike as part of the “Supercommitee” negotiations.
2. A value-added tax would be a disaster. This was music to my ears sinceI have repeatedly warned that the statists won’t be able to impose a European-style welfare state in the United States without first imposing this European-style money machine for big government.
3. A welfare state cripples the human spirit. This was the point eloquently made by Hadley Heath of the Independent Women’s Forum in a recent video.
4. Nations reach a point of no return when the number of people mooching off government exceeds the number of people producing. Indeed, Miss Morandotti drew these two cartoons showing how the welfare state inevitably leads to fiscal collapse.
5. Bailouts don’t work. This also was a powerful lesson. Imagine how much better things would be in Europe if Greece never received an initial bailout. Much less money would have been flushed down the toilet and this tough-love approach would have sent a very positive message to nations such as Portugal, Italy, and Spain about the danger of continued excessive spending.
Point 5 is meant to apply to nations, but it applies to quasi-public institutions as well. Not only have Fannie and Freddie failed to prosper, the bailout of the two GSEs has done nothing to keep the FHA from following their exact same path, pushed by the same social engineering impulse that brought us the housing bubble and financial collapse. Bailing out Fannie and Freddie removed the moral hazard created by the policies at the FHA, and don’t be surprised when we end up with a new problem in government-backed MBSs all over again.
The most salient point for contemporaneous American policymaking is the first. While we debate over how to address our soaring deficits, Europe has proven that raising tax rates doesn’t solve the problem. It’s also worth looking at American history and pointing out that lowering tax rates produces a longer-term boost to revenues, but even that doesn’t solve deficit problems. The deficit problem is one created entirely by overspending, and can only be solved by addressing the actual problem. This chart from Heritage shows the issue of spending versus revenue over the last 50 years, expressed as a percentage of GDP:
Our chronic problem has been the gap between our level of spending (20.3% of GDP) and our revenue (18.0%) of GDP. Note that the exact same tax regime that existed in 2007 and produced slightly higher revenue than the historical average is still in place today, which shows that tax rates really aren’t an acute problem. Our acute problem is that we have escalated spending levels dramatically, and that is what we need to address, not the tax rates.