February 23, 2004

Andrew Sullivan's Tax Challenge

Andrew Sullivan wants a war tax but isn't very happy about it and is asking for alternative ideas. Well, here's mine. But first, some facts:

1. The reason we aren't economically tanking right now is that Asia, especially the PRC, is irrationally buying up our sovereign debt for their own reasons. They are likely to continue doing so.
2. We have created a nightmare of unsustainable generational obligations (entitlement programs) that could only be met by banning the pill and condoms, recreating an America with an average family size of 5-6 kids. The only successful model for dealing with this sort of problem is to migrate to private accounts and spend a significant amount on transition costs (in our case, about a trillion dollars).
3. We used to have a 2% telephone tax to pay off the Spanish American War. It had a sunset provision of every two years. It was finally put to rest by the Gingrich Congress.

So we have two potential revenue sources, cheap borrowed money so PRC workers don't rebel against their communist masters and a 'temporary' war tax that is likely to last into the next (22nd) century. Since the PRC, Japan, and all the rest are going to distort our debt markets by bidding up the dollar no matter what we do on the war tax, I say let those countries who desperately need to keep their currencies low vis a vis the dollar fund things to get us out of our financial jam.

The PRC is likely to continue its policy of unreasonably swallowing US sovereign debt for the foreseeable future as it has hundreds of millions of workers to keep happy and it won't be able to keep up without an astounding amount of exports. It's running along the high wire without a net and can't afford to stop buying Treasuries.

Yes, the deficit will explode. But right now we're facing national bankruptcy and a little thing like war spending isn't going to do anything more than push the default date a little, this way or that. The big monetary killer is Social Security and other mandated programs. They need to be made as similar as possible to their private counterparts and partially or wholly privatized as quickly as possible.

As these programs become partially, then wholly privatized, the new dispensation will create huge new pools of capital to fund businesses and grow the economy, increasing national income and reducing our debt burden as a percent of GDP. Then, in a few decades when the great PRC transition is over and the PRC wants to unwind its dollar position, the US will have the wherewithal to redeem those notes as they will have been converted into stock market investments and will have created sufficient taxable wealth that redemption will be possible without collapse.

But what if we raise taxes with inflation at about 1% and Asia, especially the PRC committed to pumping up the dollar? Classic free market ideology that dates back to Adam Smith advises that we don't retaliate with a trade war. But at the same time, this is a purposefully distortive policy on the PRC's (and others') part. So how will we handle the deflationary distortion as we raise taxes?

Posted by TMLutas at February 23, 2004 04:03 AM