Increasing government spending by $550 billion over two years is one plan for fixing the economy. It may not work, but it’s definitely a plan and it definitely implies tax increases in the future. Senator Jim DeMint has an alternative idea: Cut taxes so that investors and entrepreneurs are rewarded for creating new value and new jobs for the economy. The key elements of DeMint’s plan are to lower the top marginal income tax rate, lower corporate taxes, and simplify the tax code. He also wants to repeal tax increases that already scheduled to take place in 2011 such as the hike in capital gains taxes, the expiration of the child tax credit, the reversion of the death tax, and the automatic increase of the alternative minimum tax. DeMint spoke about his plan yesterday at The Heritage Foundation. Take a look:

The Ocean State Policy Research Institute is one of the many think tanks fighting for freedom on the front lines of state policy. The group was created in 2007 by William Felkner to provide a voice for free markets ideas in a state that had been dominated by liberal ideas for over six decades.

Felkner got involved in the world of public policy as a graduate student at Rhode Island College’s School of Social Work. While enrolled there, he interned for Governor Carcieri, researching welfare reform, ultimately helping the governor reform the state’s dysfunctional welfare system into a work-first model. That experience didn’t sit well with Felkner’s liberal professors, who refused to allow him to write his master’s thesis on welfare reform. Felkner has sued the college for violation of his civil liberties and the case is still pending.

Last year, OSPRI launched a major effort on the transparency front with its Web site, http://transparencytrain.org. The site makes posts all the information from the budgets, payrolls, contracts, and the check registers of the state government as well as of every city, town, and school district in the state.

We caught up Mr. Felkner today to talk about the situation in Rhode Island:

On the state’s finances:

We’re operating at a million-dollar-a-day deficit for the current budget, and we’re already about half way through it. We expect another upwards of half-billion dollar deficit. And again our general revenue fund is only about three and a half billion, so it’s a substantial percentage that we need to address. Now the governor’s done a few things last year. I mentioned the welfare reform. I think that’s going to be a tremendous help in saving money.

Another item that people around the country should watch is the global Medicaid waiver we were recently granted from the federal government. Essentially what we are looking to do is the same thing that happened with welfare back in 1996—to empower the states with a block grant but more freedoms. We’re doing that with Medicaid. And essentially we’re going to change it into more of a consumer/individual liberties/personal responsibility system just like in welfare where we are going to try to empower more of the community, more of the family versus relying so much on government.

On public employee unions:

Of the three main changes that happened in addressing the deficit last year, which again rolls over to this year, the three points were welfare/health care reform, aid to cities and towns, and dealing with the public employees. The governor had implemented several strategies and of course Council 94, the union, took us to court, and that’s been a battle back and forth. So we haven’t realized those savings.

The governor’s come out again this year with this supplemental budget with a tremendous amount of articles addressing everything from no minimum standards, changing in the pension retirement age amounts. Article 26 is my favorite where he’s asking all public employee contracts be presented to the public for 30 days prior to ratification. So there’s a tremendous amount of cost savings available to us if we can get these articles through.

On the disposition of his suit against Rhode Island College School of Social Work:

The last we’ve heard was is that they have asked if I would be interested in a settlement where they would not admit civil rights violations, and I rejected that. So that’s where it sits right now.  

(We’re thinking about launching “The View from …” as regular feature on the blog here at InsiderOnline. Let us know what you think, especially if you have suggestions.)

The “stimulus” spending bill now being debated in Congress is supposed to create 3.7 million new jobs, but The Heritage Foundation points out some reasons to question that calculation.

Christina Romer, chair of the President’s Council of Economic Advisers, and Jared Bernstein, the Vice President’s chief economist produced the administration’s estimate, which relies on an assumption that each new dollar of government spending will actually add $1.50 to the economy. Government spending is said to create a multiplier effect because the original spending induces others to spend more money as well. This GDP multiplier of 1.5 was estimated by the Federal Reserve’s FRB/US model and a leading private forecasting firm.

However, notes Heritage’s Curtis S. Dubay, Karen Campbell, and Paul L. Winfree:

Economists generally estimate the size of the spending multiplier in their analyses by looking at historically similar experiences. Romer and Bernstein, however, rely on a model based on historical data that is not comparable to current economic conditions, because an increase in government spending as large as this one has never been tried as a stimulus before. Rather than take the time to estimate a more accurate multiplier, Romer and Bernstein use one estimated for much lower levels of spending and assume it applies to the massive spending program under analysis.

They then apply the spending multiplier to the proposed total spending in the stimulus package. They ignore the fact that the stimulus package contains spending on a variety of items—everything from money for the National Endowment for the Arts and new sod for national monuments to infrastructure spending. Romer and Bernstein, therefore, assume that all spending affects the economy equally.

An additional problem is that Romer and Bernstein apply a rule of thumb that says a 1 percent rise in GDP produces 1 million new jobs. But, write Dubay, Campbell, and Winfree, “the relationship is actually the other way around. Production and work create GDP, so it is more accurate to say that 1 million more jobs produce 1 percent more GDP.”

If a GDP multiplier of 1.5 is a constant for all government spending, then why don’t they propose spending $10 trillion to make us $15 trillion richer?

One argument for government managing the business cycle is that deflations are painful and take too long to play out. But couldn’t at least some of that pain be avoided if unions refrained from making stupid wage demands just as the economy is heading south?

Boeing announced today it was cutting 10,000 jobs, or 6 percent of its workforce. Overall, the company suffered fourth-quarter losses of $56 million. Those results, however, included a $1.2 billion loss stemming from the machinists strike in the fall. In August, Boeing had offered the machinists raises of 5 percent, 3 percent, and 3 percent in a three-year sequence. Instead the machinists struck for 53 days and won raises of 5 percent, 3 percent, 3 percent, and 4 percent in a four-year sequence. Now about 10,000 of those workers are seeing no raise and no job at all. They turned down a three-year deal to get a four-year deal, and they got a no-year deal.

What will those workers do now? Perhaps they’ll find employment in a right-to-work state, where unions don’t have so much power to strangle businesses.

(Amber Gunn and Sonya Jones of the Evergreen Freedom Foundation now get to say “I told you so.” Back in September, they wrote to the editor of the Daily Herald: “If Boeing machinists are not careful, they will bargain their jobs out of existence.”)

The Congressional Budget Office has caused a furor with its estimate that only $110 billion out of $355 billion in proposed stimulus spending would actually be out the door before the end of 2010. But it probably wouldn’t have surprised John Maynard Keynes. In 1942, Keynes wrote:  

Organized public works, at home and abroad, may be the right cure for a chronic tendency to a deficiency of effective demand. But they are not capable of sufficiently rapid organisation (and above all cannot be reversed or undone at a later date), to be the most serviceable instrument for the prevention of the trade cycle.

That’s from Collected Writings, vol. XXVII, p.122, says Mario Rizzo at the blog Think Markets.  

Keynes’s writings, of course, are cited as intellectual support for fiscal stimulus policy, but the enthusiasts for infrastructure spending must have missed this passage.

The Cato Institute has published an ad in the New York Times, signed by over 200 economists, stating that more government spending is not the right policy for promoting economic growth. The ad states:

More government spending by Hoover and Roosevelt did not pull the United States economy out of the Great Depression in the 1930s. More government spending did not solve Japan’s “lost decade” in the 1990s. As such, it is a triumph of hope over experience to believe that more government spending will help the U.S. today. To improve the economy, policymakers should focus on reforms that remove impediments to work, saving, investment and production. Lower tax rates and a reduction in the burden of government are the best ways of using fiscal policy to boost growth.

Among the signers is Nobel Prize winner James Buchanan. In an interview last month with ABC’s George Stephanopolos, Vice-President Joe Biden had claimed: “Every economist, as I’ve said, from conservative to liberal, acknowledges that direct government spending on a direct program now is the best way to infuse economic growth and create jobs.”

Paul Krugman really, really wants to marginalize economic conservatives in the national debate over government involvement in the economy. In his New York Times column from Monday, he instructs readers to write off as dishonest flacks anybody who makes any of the anti-stimulus arguments he subsequently goes about debunking. The most interesting of his points is this:

… write off anyone who asserts that it’s always better to cut taxes than to increase government spending because taxpayers, not bureaucrats, are the best judges of how to spend their money.

Here’s how to think about this argument: it implies that we should shut down the air traffic control system. After all, that system is paid for with fees on air tickets — and surely it would be better to let the flying public keep its money rather than hand it over to government bureaucrats. If that would mean lots of midair collisions, hey, stuff happens.

The point is that nobody really believes that a dollar of tax cuts is always better than a dollar of public spending. Meanwhile, it’s clear that when it comes to economic stimulus, public spending provides much more bang for the buck than tax cuts — and therefore costs less per job created (see the previous fraudulent argument) — because a large fraction of any tax cut will simply be saved.

This suggests that public spending rather than tax cuts should be the core of any stimulus plan. But rather than accept that implication, conservatives take refuge in a nonsensical argument against public spending in general.

The funny thing about trotting out the “public goods” argument here is that pretty much everybody understands that the stimulus argument is precisely not a public goods argument. That is to say, the premise of the pro-stimulus position is that the government just needs to move money around, not necessarily to provide things the public values but cannot get except through government. Some proponents are quite candid about this point. On Monday, Dean Baker explained the theory to News Hour:

… to put it crudely, you have to spend money. You know, we heard a discussion, is this a good way to spend money, sod on the mall? I mean, I actually don’t mind the mall looking nice. But the point is, you’re employing people.

Even if it’s wasteful, there’s a line — you go back to Keynes — there’s a line where he says, “We could pay people to dig holes and fill them up again. At least we’ve employed them.”

Taxpayers who hear such lines might reasonably wonder how Keynesian policies will improve the economy. Rather than provide any evidence that Keynesianism works, Krugman seeks to turn the terms of debate on their head. He reasons, since some of the stimulus might end up being spent on things that could be justified as public goods, then any concerns about whether the spending as a whole will provide appropriate value are bad-faith arguments. That’s a really convenient formula for those who want to expand government. It amounts to: “Shut up, taxpayer, we’re busy stimulating the economy.”

Consumers reveal preferences quite different from politicians when it comes to the fuel efficiency of automobiles, notes Ron Bailey:

Whatever Americans might tell pollsters, they voted quite differently with their pocketbooks. For example, CAFE standards on passenger vehicles had a big unintended consequence—the rise of sport utility vehicles (SUVs). Mileage standards for light trucks were set lower at 20.7 mpg and SUVs and minivans qualified as light trucks. In 1975, only 20 percent of vehicles sold were light trucks, but by 2002, that had risen to more than 50 percent of vehicles. In 2002, the San Francisco Chronicle reported that the EPA's 10 most fuel efficient models constituted less than 2 percent of auto sales. As recently as 2007, none of the top 10 vehicles chosen by consumers voting at the popular website CarGurus.com had an average gas mileage that met current federal CAFE standards

Yet, California wants to impose higher fuel efficiency standards than those that the feds impose, and President Obama is of a mind to let those states do so. Yesterday, he ordered EPA to review the Bush administration denial of California’s request to set its own standards. The feds mandate that automakers must achieve a fleet average of 35 miles per gallon by 2020. California and 13 other states want to accelerate that requirement to the year 2016 and then require the automakers to reach a target of 42 miles per gallon by 2020. The Energy Information Administration estimates that these standards would increase the cost of the average car by nearly $1,900.

Caroline Baum’s diagnosis of the situation:

Someone returning to Earth from a yearlong sojourn in outer space could be excused for feeling disoriented.

After all, when said space traveler departed our fair planet, the U.S. economy was buckling under the weight of the burst housing bubble. The blame game was in full swing, with the villains ranging from Alan Greenspan and his easy money policies to consumers borrowing and spending beyond their means to financial institutions enabling profligate spending to a misallocation of capital to housing.

Fast forward one year, the crisis is still going strong, the villains are still under attack, yet something curious has happened: The policies and actions responsible for the economy’s illness are now being prescribed as cures.

Max Schultz thinks Obama’s decision to allow California to set its own emissions standards is bad news for consumers:

It’s already quite costly for the nation’s automakers to meet federal mileage-efficiency mandates, which are uniform for the entire country. It would be cost-prohibitive for them to have to tailor their product lines to satisfy rules and regulations for 50 different states. Henry Ford showed that mass production is the key to making cars affordable for the common man. Even if California were the only state with its own separate standards, allowing it this privilege would toss Ford’s cost-lowering efficiencies out the window. Because of California’s enormous automobile market—its population is nearing 40 million people, and more than half are licensed drivers—carmakers would likely adjust their entire fleets to meet California’s strictures. The practical effect would be that cars manufactured in Detroit and the South would cost more and be made of lighter, less crash-resistant materials. Translation: higher sticker prices and more highway fatalities nationwide.

Don’t we want Detroit to start making cars that people actually want to buy?

Wall Street Journal reports:

According to Congressional Budget Office estimates, a mere $26 billion of the House stimulus bill’s $355 billion in new spending would actually be spent in the current fiscal year, and just $110 billion would be spent by the end of 2010.

On the other hand, $355 billion worth of cuts in marginal tax rates would immediately change incentives to work, save, and invest.

The figure at right (via The Foundry) charts the path of the balance between private and public control of health care spending. The government is expected to control nearly half of all outlays for health care by the year 2017. This is the path under current policies, but the “two year” stimulus package under consideration in Congress devotes an additional $87 billion to cover states’ obligations under Medicaid, and another $39 billion for subsidizing health care for unemployed workers. Then there is the separate expansion of the State Children’s Health Insurance Program that Congress has planned that will add tens of billions per year to federal health care outlays.  

In addition to increasing the burden on taxpayers, a Medicaid bailout and an SCHIP expansion does nothing to fix the underlying source of states’ fiscal troubles: the federal matching-rate funding structure that rewards states for expanding programs but penalizes them for reining in spending.

This incentive structure already poses a huge problem for efforts to reform the programs, as AEI’s Michael Greve has noted:

In principle, everyone knows how to make Medicaid fiscally sustainable, both for the federal government and the states: cap the program at some level and perhaps recategorize the populations and services that qualify under the program. All states, however, regardless of party and fiscal condition, unanimously denounce even rhetorical gestures in that direction. … Medicaid has created a political wonderland: To a man and woman, public officials who know the program to be ruinous to their states nonetheless clamor for more of the same.

Nina Owcharenko and Dennis Smith of The Heritage Foundation point out that additional funding for these programs will only worsen Medicaid’s bad incentives:

The policy would penalize states that have been fiscally conservative and reward states that have spent without caution. According to the National Association of State Budget Directors, states project they will end FY 2009 with balances as a percent of expenditures of 7.0 percent, compared to the 30-year average of 5.7 percent. … There is great variation on a national and even regional basis. For example, Illinois expects a 1.6 percent balance, but neighboring Indiana projects a 10.2 percent balance. The responsible officials of Indiana have made some tough decisions to maintain adequate reserves, while the governor in Illinois has expanded public programs despite the state’s inability to pay its bills on time. So under the proposed economic plan, federal taxpayers in Indiana are bailing out Illinois and rewarding their mismanagement of the program, sparing them the unpleasant business of raising even higher taxes on Illinois voters.

They also point out that two years from now, when federal funding falls back to the normal level of the matching rates, states will face a large one-year jump in spending:

As an example, assume a state spends $5.2 billion on Medicaid, which consists of $2.7 billion in federal funds and $2.496 billion in state funds. The state receives an addition $319.6 million as a result of the temporary increase, changing the respective shares to $3.124 billion in federal funds and $2.176 billion in state funds. The following year, inflation increases total spending by 8 percent to $5.6 billion. Because the temporary federal increase has expired, the federal share will fall back to $2.92 billion and the state share will be $2.695 billion. This is an increase in state funds of $519 million or 23.9 percent from the previous year. Of the $519 million increase, $199.68 million is due to the 8 percent inflation increase and $319.6 million is attributed replacing the decline in federal funding.

Will states that expand Medicaid eligibility today, suddenly curtail it two years from now? And if they loved the first two years of bailouts, why would states not ask for more down the road?

Conservative activist Paul Jacob, local Tulsa activist Rick Carpenter, and petition campaign consultant Susan Johnson got some good news late last week: Oklahoma Attorney General Drew Edmondson announced he was dropping the charges of conspiracy to defraud the state that he had filed against the three in 2007.

The decision is also a belated victory for free speech and citizen participation in the political process.

In 2005, Jacob, Carpenter, and Johnson had organized two petition campaigns for ballot measures, one for a Taxpayer Bill of Rights, another for a measure strengthening property rights. The activists had asked state officials whether non-residents could move to the state, declare residency, and immediately begin collecting signatures for ballot initiatives. Relying on a 2001 state supreme court decision, state officials had told the activists that non-residents could indeed immediately begin circulating petitions after declaring residency.

However, the state supreme court subsequently reinterpreted the law as requiring circulators to intend to reside permanently in the state. The court also threw out the signatures and blocked the measures from appearing on the ballot, without hearing from any circulators whose residencies had been challenged by opponents of the initiatives.

Edmondson then filed charged of conspiracy to defraud the state against the three.

But last month, in response to a challenge by the group Term Limits Now, the U.S. 10th Circuit Court of Appeals struck down the Oklahoma law as an unconstitutional abridgement of free speech. The court ruled that the state had failed to show that the ban on out-of-state signature gatherers was narrowly tailored to protect the integrity of the initiative process.

Even though Edmondson has now decided not to appeal that ruling, and has dropped the charges, the case remains troubling. Jacob, Carpenter, and Johnson were dragged in front of a grand jury in handcuffs, were under indictment for 14 months, spent thousands of dollars on legal fees, and, if convicted, they each could have faced 10 years in prison and $25,000 in fines. On the other hand, the political forces trying to thwart limits and accountability on government were able to spend taxpayer money pursuing their case, succeeded in removing the measures from the ballot, and now face no consequences for their efforts to suppress political speech through enforcement of unconstitutional laws.

Oklahoma owes the three apologies and compensation for their trouble; and then they owe them thanks for trying to make their government more accountable. The state should also get ready to see Paul Jacob renew the fight for reform. He writes in a recent column at Townhall:

In Oklahoma, citizens are demanding reform. Legislation that would open up the state’s initiative system and make it usable again is under consideration.

I’m not through fighting back, either. Working for Citizens in Charge and Citizens in Charge Foundation, I’m more driven than ever to work with people all across the political spectrum to protect and expand the right of the people to check their government through initiatives, referendum and recall.

SEE ALSO: “To Petition or Not to Petition,” by Isabel Santa, The Insider, Spring 2008.

ReadtheStimulus.org, which we mentioned last week, has now indexed 1,588 pages of searchable text related to the economic stimulus bill. As the legislative process does with most bills, it is growing new documents like Topsy. In addition to the original bill, there is now available the committee report on the bill; amendments offered on energy, health care, taxes, telecommunications; and a new version of the bill introduced on Friday.

Just wait till the Senate starts printing stuff. Keep up with how your money is being spent by checking out ReadtheStimulus.org.

Dan Mitchell: “If government spending was the key to growth, North Korea would be an economic nirvana.”

Reason’s Robert Poole explains why mobility matters and how “green” infrastructure investments might get in the way of fixing congestion.

Global warming is increasingly becoming a license for government busybodies to micromanage other people’s lives. In addition to encouraging people to take vacations closer to home and waste less food, governments are now encouraging people to eat less meat in order to reduce greenhouse gas emissions. The Guardian reports that the German government has adopted this attitude, too:

Germany’s federal environment agency has issued a strong advisory for people to return to prewar norms of eating meat only on special occasions and otherwise to model their diet on that of Mediterranean countries.

Germans are among the highest meat consumers in Europe, obtaining around 39% of their total calorie intake from meat and meat products, compared with 25% in Italy.

“We must rethink our high meat consumption,” said Andreas Troge, president of the UBA, the government’s advisory body on environmental issues.

“I recommend people return to the Sunday roast and to an orientation of their eating habits around those of Mediterranean countries.”

(VIA Transatlantic Politics)

Jagadeesh Gokhale has produced some grim estimates on the long-run fiscal outlooks for European nations, and in general the situation is similar to that in the United States: Current policies—namely health care and retirement benefits—imply future obligations that governments cannot meet without raising taxes. In both Europe and the United States, shifting demographics means there will be fewer and fewer workers paying the taxes that support current retirees.

Gokhale calculates that the unfunded obligations of an average European country amount to 8.3 percent of its gross domestic product between now and 2051. In order to finance those obligations, says Gokhale, “the average EU country would need to have more than four times (434 percent) its current annual GDP in the bank, earning interest at the government’s borrowing rate.”

Some countries are better than others, though. The three countries with the lowest fiscal imbalances are Estonia (3.1 percent), Ireland (3.5), and Lithuania (3.8). The three countries with the worst fiscal imbalances are Malta (12.8 percent), Greece (10.9), and Portugal (10.1). For the United States, the figure is 8.2 percent.

According to Gokhale, if European countries were to simply increase taxes as their future obligations come due, then the average European country will need to raise its tax rate to 55 percent of national income by 2020, 57 percent by 2035, and to more than 60 percent by 2050. Currently, government spending in Europe averages about 40 percent of GDP.

Gokhale predicts that unless European nations commit to policy reforms that emphasize private savings instead of public insurance, the project of European monetary union will run aground as governments decide they need more fiscal and monetary flexibility than a monetary union allows.

Visit ReadtheStimulus.org if you want to find out how Congress wants to kick start the economy with hundreds of billions of dollars in new spending. The site has posted searchable text of the stimulus bill, the American Recovery and Reinvestment Act of 2009.

The site also has a comments system that lets you post comments on each page of the bill and see what others are saying. Also, the site’s publishers and its readers have collaboratively used Google.docs to produce a spreadsheet detailing the spending and tax provisions contained in the bill.

How much can government spending stimulate an economy? Economist Robert Barro considers the evidence of U.S. military spending:  

I have estimated that World War II raised U.S. defense expenditures by $540 billion (1996 dollars) per year at the peak in 1943-44, amounting to 44% of real GDP. I also estimated that the war raised real GDP by $430 billion per year in 1943-44. Thus, the multiplier was 0.8 (430/540). The other way to put this is that the war lowered components of GDP aside from military purchases. The main declines were in private investment, nonmilitary parts of government purchases, and net exports – personal consumer expenditure changed little. Wartime production siphoned off resources from other economic uses – there was a dampener, rather than a multiplier.

We can consider similarly three other U.S. wartime experiences – World War I, the Korean War, and the Vietnam War – although the magnitudes of the added defense expenditures were much smaller in comparison to GDP. Combining the evidence with that of World War II (which gets a lot of the weight because the added government spending is so large in that case) yields an overall estimate of the multiplier of 0.8 – the same value as before. (These estimates were published last year in my book, “Macroeconomics, a Modern Approach.”)

There are reasons to believe that the war-based multiplier of 0.8 substantially overstates the multiplier that applies to peacetime government purchases. For one thing, people would expect the added wartime outlays to be partly temporary (so that consumer demand would not fall a lot). Second, the use of the military draft in wartime has a direct, coercive effect on total employment. Finally, the U.S. economy was already growing rapidly after 1933 (aside from the 1938 recession), and it is probably unfair to ascribe all of the rapid GDP growth from 1941 to 1945 to the added military outlays. In any event, when I attempted to estimate directly the multiplier associated with peacetime government purchases, I got a number insignificantly different from zero.

In other words, if the government puts people to work digging ditches that don’t need to be dug, we’ll probably get more useless ditches but less of everything else.

If taxpayers end up bailing out public pension funds, too, they can thank unions for that, as well. The unions, through their representation on the boards of pension funds, have promoted the idea that pensions should target investments to achieve political goals in addition to producing a return for pensioners. But it turns out that investing based on a company’s carbon footprint isn’t the best strategy. As John Entine points out, socially responsible investing has exacerbated the losses that pension funds have suffered because of the economic downturn:

Many of the largest socially responsible mutual funds, including a leading benchmark, the Domini Social Index, have been laggards for years. The Sierra Club’s high-profile social fund, which had regularly trailed the benchmark S&P 500 index by about 6 percent a year, liquidated in December, a victim of its poor performance record. As recently as last November, 76 out of the 91 socially responsible stock funds were underperforming the Dow, according to the investment research company Morningstar. …

Even before the sell-off, in the summer of 2008, while nearly 90 percent of nonunion funds met minimum safe funding thresholds—meaning they had adequate cash on hand to pay their benefits—40 percent of union funds were at risk.

Entine predicts that public pension funds will begin imploding this year.

William Easterly’s great book, The White Man’s Burden, is being made into a full-length feature documentary, with a planned release in 2010. Easterly’s book tells the story of how the rich nations have spent $2.3 trillion “developing” Africa, but, for want of $5 mosquito nets, still can’t prevent malaria from killing 3,000 children every day in Africa.

Anyone who has ever made use of the Bloglines search function just to see what people are saying about a particular topic knows that the blogosphere is filled with inane commentary. It is standard practice on blogs to offer attitudes and beliefs in lieu of facts and evidence, but beyond that there is too often a failure to make even a rudimentary attempt to understand what one is talking about. And so it is with much lefty commentary now being offered about the 2009 Index of Economic Freedom, released earlier this week by The Heritage Foundation and the Wall Street Journal.

What makes the inanities worth noting is that despite the varied craziness of the commentary, there are some basic patterns of misunderstandings that are worth correcting. This is not to say that reasonable objections to the Index aren’t possible. Merely that there are a few basic and—one would have thought—easily discoverable facts about the Index with which any reasonable commentary should be conversant.

First of all—a minor point here—the Index of Economic Freedom is not published by the American Enterprise Institute. With respect to our friends at AEI, we can’t figure how anyone could get that fact wrong. Perhaps some lefty bloggers are, like the German generals with their von Schlieffen plan, so fixated on attacking in one direction that they can’t disengage from bashing the architects of the surge. Whatever!

On a more substantive level, there is confusion about how the Index is produced and what it means. Matt Yglesias, for instance, says that the Index proves Heritage wants the United States to become more like a dictatorial city state—hence Hong Kong’s perennial ranking as the freest economy in the world.

In the same post, Yglesias also contends that the rankings don’t mean what Heritage thinks they mean, because some of the top-ranking countries have government-run health care and strong labor unions. So, in Yglesias’ imagining of things, the rankings are nothing more than a reflection of Heritage’s preferences—except when they are not.

Other bloggers also concern themselves with identifying examples that somehow “disprove” the rankings. Some lefty bloggers defend the socialist drift in Latin American, while claiming that relatively low rankings for countries like Bolivia and Cuba reveal Heritage’s bias.  

In fact, the rankings do not reflect any subjective judgment on the part of Heritage about the merits of particular countries. The rankings reflect the method by which the country scores are calculated. That method is easily discoverable by anyone who bothers to consult the book’s appendix—which is to say, by anyone who can load a Web page on their computer. A casual scanning of the appendix reveals that each of the ten components of the Index is determined either by a formula or a strict set of criteria for assigning scores. In some cases the scoring incorporates calculations from sources such as Transparency International or the World Bank’s “Doing Business” report.

If there is a problem with the rankings, then there must be a problem with the method. What is that problem? The aforementioned bloggers don’t say, because they don’t examine the method. Since Matt Yglesias cites the results approvingly, we can only assume he agrees with the ranking’s emphasis on limited government, low taxes, low regulation, property rights, and labor freedom.

Other lefty bloggers do have issues with the method, but here they reveal their ignorance of the concept of “scope.” Some bloggers, for instance, criticize the Index for failing to incorporate measurements of democratic governance or non-economic human rights into the scores.

But Heritage does not claim that economic freedom is the end-all-be-all of assessing a country’s institutions. Economic freedom is one dimension of freedom. Reasonable people can disagree about whether economic freedom is more or less important than democracy. But to measure one is not at all to say that the other isn’t important, too.

Social scientists consider many interesting questions about the relationship between economic freedom, democracy, and human rights. Do they reinforce each other? Is one more important than the others? In order to assess such questions, one needs first to measure them separately.

Nobody at Heritage denies that Heritage favors economic freedom. So it’s not exactly an exposé for a blogger to point out that Heritage’s Index of Economic Freedom measures economic freedom and not some other thing.

What all this reveals is a deep ignorance by these bloggers about what the rankings demonstrate. Or course, by themselves the rankings don’t demonstrate anything—because they are just a type of data. But producing that data is the first step in answering important questions such as whether economic freedom is good for economic growth, promotes democracy, increases respect for human rights, or leads to greater environmental protection.

These are questions about which lefty bloggers have nothing to say because they are so fixated on bashing Heritage (or AEI!) simply for being a conservative think tank. But, again, it is easily discoverable that economic freedom is highly correlated with measures of human well being. Anybody who wonders whether these connections are robust should consult pages 3 and 5 of the Index to see for themselves. As the charts on those pages show, there is a strong association between economic freedom, economic prosperity, democratic governance, environmental protection, and the U.N.’s human development index (a broad measure of quality of life). Many academics—some at Heritage, some at other think tanks, many working at colleges and universities around the world—have studied the connection between economic freedom scores and other indices of human well being. And they have been studying these questions for many years now. The results of those labors also confirm that economic freedom has many benefits for human beings—both economic and non-economic—and they have been catalogued in a recent Pacific Research Institute monograph, The Sizzle of Economic Freedom: How Economic Freedom Helps You and Why You Should Demand More.

Yo, bloggers: These are the sort of findings that demand your attention. Instead of worrying about whether Venezuela is really worse than the Democratic Republic of the Congo, you should be asking how both of those countries could do better for their citizens by increasing economic freedom.

Lawrence McQuillan and Robert Murphy of the Pacific Research Institute have produced a catalog of the benefits of economic freedom, as identified by the most recent academically rigorous peer-reviewed studies. According to McQuillan and Murphy’s literature review, more economic freedom leads to higher personal income, less unemployment, faster economic growth, more macroeconomic stability, greater capital investment and productivity, more business startups, more entrepreneurship and innovation, a better educated workforce with parental school choice and school competition, less poverty and inequality, better health, greater population inflows, a cleaner environment, better quality of life, and more democracy and peace.

Who wouldn’t want a little more economic freedom?

SEE “The Sizzle of Economic Freedom: How Economic Freedom Helps You and Why You Should Demand More,” by Lawrence J. McQuillan and Robert P. Murphy, Pacific Research Institute, January 2009.

Few have questioned why Japan’s supposed “cities of the future” are unable to do something as basic as burying telephone wires; why gigantic construction boondoggles scar the countryside (roads leading nowhere in the mountains, rivers encased in U-shaped chutes); why wetlands are cemented over for no reason...or why Kyoto and Nara were turned into concrete jungles...

That’s a quote from Michael Kerr’s Tales from the Dark Side of Japan, which Tyler Cowen recommends as a source on Japan’s infrastructure binge during the 1990s and from which he pulls more quotes at Marginal Revolution. The Japanese experience should caution U.S. policymakers against the notion that increasing infrastructure spending is the magic lever that grows an economy. In a recent Heritage paper Ron Utt notes:  

Cutting spending seems not to have deterred prosperity in most of the European countries that have done so since 1990, while the relative prosper­ity of the Japanese has been on the decline as gov­ernment spending has advanced. After peaking at 86 percent of U.S. income in 1991 and 1992, Japa­nese income continually fell behind the U.S., and by 2000, Japan’s per capita gross national income had fallen to 73.7 percent of that of the U.S. despite the increased spending stimulus in Japan during the 1990s and into the 2000s. This decline in relative performance reflects the fact that the Japanese econ­omy grew at an annual rate of only 0.6 percent between 1992 and 2007. In 1991, only the United States, Austria, and Switzerland had higher per cap­ita incomes than Japan. By 2006 (the most recent OECD numbers), Japan’s per capita income was surpassed by Austria, Australia, Belgium, Canada, Denmark, Finland, Ireland, Holland, Switzerland, Sweden, and the U.S.

The panel designated by Congress to look over Treasury’s shoulder as it implements the Troubled Assets Relief Program isn’t terribly sure what Treasury has accomplished with the first $350 billion it was given. The panel released a report on Friday upbraiding Treasury for its lack of transparency in using TARP funds. Some excerpts:

The Panel still does not know what the banks are doing with taxpayer money. Treasury places substantial emphasis in its December 30 letter on the importance of restoring confidence in the marketplace. So long as investors and customers are uncertain about how taxpayer funds are being used, they question both the health and the sound management of all financial institutions. The recent refusal of certain private financial institutions to provide any accounting of how they are using taxpayer money undermines public confidence. … For Treasury to advance funds to these institutions without requiring more transparency further erodes the very confidence Treasury seeks to restore. …

Currently, Treasury’s strategy appears to involve allocating the majority of the $700 billion to “healthy banks,” banks that have been assessed by their regulators as viable without federal assistance. Of course, whether a bank is “healthy” depends critically on the valuation of the bank’s assets. If the banks have not yet recognized losses associated with over-valued assets, then their balance sheets – and Treasury’s assessment of their health – may be suspect. Many understood the purpose of EESA to be providing assistance to financial institutions that were “unhealthy” and at risk of failing. Such institutions were at risk, the public was told, due to so-called toxic assets that were impairing their balance sheets. EESA was designed to provide a mechanism to remove or otherwise provide clear value to those assets. The case of Citigroup illustrates this problem. Treasury provided Citigroup with a $25 billion cash infusion as part of the “healthy banks” program whereby Treasury made nine initial investments in major banks. About two months later, Treasury provided Citigroup with $20 billion in additional equity financing, apparently to avoid systemic failure, but it did not classify that investment as part of the Systemically Significant Failing Institution program (SSFI program). These events suggest that the marketplace assesses the assets of some banks well below Treasury’s assessment. To date no such mechanism to provide more transparent asset valuation has been developed, meaning that the danger posed by those toxic assets remains unaddressed. The bubble that caused the economic crisis has its foundations in toxic mortgage assets. Until asset valuation is more transparent and until the market is confident that the banks have written down bad loans and accurately priced their assets, efforts to restore stability and confidence in the financial system may fail. …

The Panel’s initial concerns about the TARP have only grown, exacerbated by the shifting explanations of its purposes and the tools used by Treasury. It is not enough to say that the goal is the stabilization of the financial markets and the broader economy. That goal is widely accepted. The question is how the infusion of billions of dollars to an insurance conglomerate or a credit card company advances both the goal of financial stability and the well-being of taxpayers, including homeowners threatened by foreclosure, people losing their jobs, and families unable to pay their credit cards. It would be constructive for Treasury to clearly identify the types of institutions it believes fall under the purview of EESA and which do not and the appropriate uses of TARP funds.

Back in September, a number of people warned that the bill creating TARP gave too much discretion to the Secretary of the Treasury and provided too little oversight. For instance, Andrew Grossman and Todd Gaziano warned that the drafts of the bill

… provide almost no meaningful standards to cabin the secretary’s discretion on what debt he may buy, for what purposes, to whom he may sell it, and on what terms. The definition of “troubled” assets is also unreasonably open-ended and not subject to judicial review. The two sweeping, subjective findings the secretary must make in the Administration proposal (three in the House bill) do not seriously limit his subsequent actions. Coupled with the existing limitation on judicial review, his discretion to manage “troubled” markets, “provide stability,” or “prevent disruption” is almost limitless. Equally important, that a particular market is “troubled” or that there is a risk of “disruption” is still a questionable ground for action if there is no legitimate government interest involved. The statute should set forth some objective criteria that connect the particular market problem with a traditional government purpose—e.g., currency stabilization. That connection should not be fictionalized or unreasonably tenuous, or it will simply serve as a bad precedent for other questionable delegations. With regard to all of these factors, the objective criteria must actually operate to guide and sometimes limit the secretary’s exercise of discretion and not merely serve as a hortatory preamble for congressional action.

Nevertheless, President Bush (in a move President-elect Obama supports) has asked Congress to approve the second tranch of $350 billion for Treasury.

Philip Levy of the American Enterprise Institute writes:

Hey everybody, I found the stimulus. And we’re in luck – it requires no additional action on Congress’s part. It’s already in the works.

The Congressional Budget Office projected last week that even without a stimulus package, the federal budget deficit will hit $1.2 trillion this year. That’s 8.3% of gross domestic product. Followers of the late John Maynard Keynes should be thrilled. Such a gap between government spending and taxes was just what he prescribed to stimulate a slumping economy.

And yet the stimulus enthusiasts seem unsatisfied. President-elect Barack Obama argues that this level of stimulus would leave us with shattered dreams and long-lasting torpor. Our only chance is to adopt his plan of $800 billion in additional stimulus spending over the next two years. So $1.2 trillion in deficit spending leaves us in despair, but $1.6 trillion in deficit spending brings prosperity.

The previous post-war record for deficit spending, notes Levy, was 6 percent of GDP in 1980.  

According to the Government Accountability Office, the Internal Revenue Service could be putting individual taxpayers at risk of becoming victims of identity theft. The GAO says the IRS has not implemented all of the information security measures that it should in order to protect sensitive taxpayer information from unauthorized access. The GAO has issued numerous reports identifying the problems, but according to the latest GAO report (Via The Swine Line), released Friday, 57 percent of previously identified weaknesses remain unresolved.

Here are a few highlights from that report:

• “… usernames and passwords were still viewable on an IRS contractor-maintained Web site at one of its data centers. In addition, the agency continued to store passwords in scripts and did not enforce the use of strong passwords for systems at another data center. As a result, increased risk exists that an individual could view or guess these passwords and use them to gain unauthorized access to IRS systems.”

• “IRS permitted users more privileges on its systems than needed to perform their official duties. For example, IRS integrated network device controls with its Windows management controls that could provide users with excessive access to its network infrastructure. According to IRS officials, the agency made a cost-based decision to implement this configuration. In addition, IRS did not restrict access to sensitive personally identifiable information. To illustrate, the agency allowed authenticated users on its network access to shared drives containing taxpayer information, as well as performance appraisal information for IRS employees including their social security numbers. This information could allow someone to commit fraud or identity theft. In another example, the agency did not restrict access to tax data for a major corporation and allowed all employees with network access the potential to view this information.”

• “Although IRS had implemented controls to encrypt information traversing its network, it did not always ensure certain sensitive data was encrypted. For example, one data center has not yet disabled unencrypted protocol services for all its UNIX servers. Similarly, at another center, users’ login information is still being sent across the IRS internal network in clear text, potentially exposing account usernames and passwords. More importantly, IRS continues to transmit data, such as account and financial information, from its financial accounting system using an unencrypted protocol.”

• “IRS did not always effectively monitor its systems. For example, IRS had not configured security software controls to log changes to datasets that would support effective monitoring of the mainframe at one of its data centers. In addition, other weaknesses include inadequate logging of security-relevant events for UNIX and Windows servers at one data center and for UNIX servers at another. By not effectively logging changes to its systems, IRS will not have assurance that it will be able to detect unauthorized system changes that could adversely affect operations, or appropriately detect security-relevant events.”

• “… at three locations, IRS did not remove application access within 1 week of separation for 6 of 17 (35 percent) separated employees we reviewed. IRS also did not deactivate proximity cards immediately upon employee separation at one of its facilities.”

Also, according to the report, the Internal Revenue Service is a really big and complex organization, which might be one reason why it is difficult for the IRS to implement effective information security measures.

IRS has demanding responsibilities in collecting taxes, processing tax returns, and enforcing the nation’s tax laws, and relies extensively on computerized systems to support its financial and mission-related operations. IRS collected about $2.7 trillion in tax payments in fiscal years 2008 and 2007; processed hundreds of millions of tax and information returns; and paid about $426 billion and $292 billion, respectively, in refunds to taxpayers. Further, the size and complexity of IRS adds unique operational challenges. The agency employs tens of thousands of people in its Washington, D.C., headquarters, 10 service center campuses, 3 computing centers, and numerous other field offices throughout the United States.

Since we have such great empathy for the Internal Revenue Service, we’d like to suggest a way to make the agency’s job easier. Here’s an illustration of how that might be done:

This is what a typical tax return would look like under a flat tax system. For more on that, see Robert Hall and Alvin Rabushka’s The Flat Tax.

Included in the 2009 Index of Economic Freedom is a very good chapter by Stephen Moore reviewing how many countries—including a few nominally socialist ones—have achieved impressive economic growth in the past couple of decades by embracing the supply-side prescription of cutting tax rates. Lamentably, U.S. corporate taxes are now 50 percent higher than those of its international competitors, and opinion in the United States seems to be moving toward supporting higher taxes.

Terry Miller reviews some of the findings of the 2009 Index of Economic Freedom in today’s Wall Street Journal:

The positive correlation between economic freedom and national income is confirmed yet again by this year’s data. The freest countries enjoy per capita incomes over 10 times higher than those in countries ranked as “repressed.” This year, for the first time, the Index also correlates economic freedom with important societal values like poverty reduction, human development, political freedom and environmental protection. The linkages are robust, with economically freer countries performing significantly better on every indicator of well-being.

Those tempted to abandon the free market and capitalism in the current crisis need to look carefully at the record of countries moving down that path. In 2009, it is Zimbabwe that has lost the most economic freedom, dropping 6.7 points on the Index’s 0-100 scale and falling to next-to-last place. Deficit spending, the expropriation of land and resources, and government support of favored enterprises have destroyed the economy; hyperinflation and corruption have devastated the nation.

Venezuela recorded the second largest drop in the Index, losing 4.8 points as a result of price controls, currency devaluations, nationalizations and the corruption that characterize Hugo Chávez’s brand of Bolivarian socialism.

The 2009 Index of Economic Freedom, released today by The Heritage Foundation and the Wall Street Journal, provides further demonstration that economic freedom is good economics. The Index also finds strong associations between economic freedom and measures of democratic governance, quality of life, and environmental protection.

The Index’s measurement of economic freedom reflects the degree to which individuals are free to start businesses, pursue a career of their choosing, or otherwise direct their own economic affairs without interference from the government. For each country, a score between zero and 100 is calculated based on factors such as the size of government, monetary stability, openness to trade and investment, the ease of starting a business, levels of corruption, and the protection of property rights. (For more on the Index’s methodology and the 10 components of economic freedom, see Chapter 1.)

Comparing economic freedom scores with economic growth and other indices of human progress yields findings that all policymakers should note—especially those tempted to think that more taxing, more spending, and more regulating are the way to fix the economy.

LINKS: Country Scores, Executive Summary, The 10 Economic Freedoms, Download the Book, Get the Raw Data.

If Congress passes a fiscal stimulus plan, can we trust the government to tell us if the plan is working? Probably not. John Tamny, editor of RealClearMarkets, says many government-produced economic statistics are either misleading or lagging too much to be of any use. He points out for instance, that while trade deficits are often thought of as a sign of weakness, they merely indicate a surplus in the capital account: If the United States sells fewer good and services abroad than it buys from abroad, then, by definition, it must finance those purchases with sales of assets such as land and equities to foreigners. The willingness of foreigners to buy U.S. assets reflects confidence in the U.S. economy. The savings rate is another misleading statistic, according to Tamny. The government often reports a low or negative savings rate, while at the same time reporting total wealth in the United States of around $50 trillion. The discrepancy results from the fact that capital gains are not counted in the savings rate. Yet another misleading statistic is employment. Tamny points out that growth in employment has been a nearly constant feature of the economy since the 1970s. That’s true, he says because as long as the government doesn’t interfere, an increasing population leads to more people having jobs. But constant job growth doesn’t mean that the economy has been uniformly good. Says Tamny: “It’s better to look at the quality of jobs and economic dynamism forever revealed by the stock market. In that case, jobs were plentiful and good under Reagan/Clinton in ways that the Carter/Bush eras have not measured up too.”

And, of course, there is gross domestic product. Tamny observes that government spending, which removes capital from the private sector and thus retards economic growth, nevertheless adds to gross domestic product. Says Tamny: “Rather than using government statistics to understand our economic situation, we would do better to reference [stock] market prices. Market prices serve as the world’s great voting booth when it comes to the health and direction of the economy.”

If using less energy is a good thing, then doesn’t Vladimir Putin’s face belong on those “I will” posters that Chevron has been putting up everywhere? The Competitive Enterprise Institute thinks so, anyway:

As the country contemplates whether more government involvement in the economy will stimulate growth, it’s worth remembering than Franklin Roosevelt’s New Deal never succeeded in reducing unemployment below 20 percent:

At NPR, Russ Roberts takes on Robert Reich over how to stimulate the economy.

Many people who think they oppose censorship are actually active supporters of it. How does one support censorship without knowing it?  

When government interferes, as it often does, in the operations of markets, it is interfering with a highly efficient system for distributing specialized knowledge to those who can best make use of that knowledge. Market prices provide signals about what people value. Without those signals, consumers would have neither the means nor the incentive to weigh how much they value a good or service against the value of the resources used to make that good or service. And without price signals, producers would have no means to calculate whether making one product is a better use of inputs than making a different product.

J. R. Clark and Dwight R. Lee develop this theme in a recent article in the Cato Journal, arguing that government interference in markets is a kind of censorship because such interference obstructs the exchange of information that people would otherwise find valuable. Clark and Lee point out, for example, that when government controls the financing and the operation of schools, there are no price signals at all at work. Parents do not pay for their children’s education directly; rather taxpayers fund the schools. Parents thus do not receive a price signal about the cost of the education their children receive. And because students often have no choice but to attend an assigned school, parents cannot express dissatisfaction by choosing a different school. Schools are thus deprived of knowledge about parents’ and students’ preferences, as well as the incentive to respond to those preferences.

By noting the connection between government intervention in markets and censorship, Clark and Lee have helped to highlight the harms of such intervention that often go unrecognized. Hopefully, those with a philosophical commitment to the free exchange of information will think carefully before expressing support for policies that actually get in the way of the free exchange of information. Such policies include, but are not limited to, agricultural support programs, health insurance mandates, trade barriers, the legal privileges of labor unions, occupational licensing, and antitrust laws—and government-run education monopolies.

At American Spectator, Peter Ferrara has a very thorough review of what’s wrong with the Keynesian-style stimulus plan President-elect Obama has proposed. In addition to pointing out the main flaw in the Keynesian model—that government can’t add anything to the economy without first taking it away somewhere else—Ferrara offers the following points:

• Obama’s plan includes a one-year tax credit to business of $3,000 for each new job created. But Congress already tried something similar in the 1980s: the Targeted Jobs Tax Credit.

Studies of these tax credits over the years have concluded that the credits have mostly gone for workers that would have been hired anyway, with little if any net new jobs created. And this does not include the jobs lost from the private sector when the government borrowed the additional funds to cover the tax credits. Steve Entin of the Institute for Research on the Economics of Taxation argues that such a tax credit is unlikely to stimulate much employment when the economy is down and businesses are not expanding. “Given the current degree of uncertainty about where the economy is headed,” he writes, “the credit is not likely to achieve much for many months, until we are already on the upturn, at which time it would not be needed.”

• The plan spends several hundred billion on infrastructure, but

Such infrastructure spending was the central strategy Japan used to counter its severe economic downturn of the 1990s, which nevertheless continued for over 10 years. In the U.S., these infrastructure projects take years to get up and running, and are often bogged down by lawsuits relating to the environment and other factors, leaving such projects unsuited for short-term stimulus spending.

• The plan includes a $500 tax rebate, which is the wrong kind of tax cut for stimulating the economy. Rebates, unlike reductions in marginal tax rates, do not produce economic growth because they don’t change incentives to work, save, and invest. The government already tried to stimulate the economy by sending out rebate checks worth $131 billion last year. Obviously, that didn’t work. Further, the bottom 40 percent of income earners do not pay any income tax at all, so the portion of the rebates given to these earners is really just a spending program administered by the Internal Revenue Service.

Ferrara’s proposes an alternative stimulus plan that (1) reduces the 25 percent income tax rate on the middle class to 15 percent, leaving 90 percent of income earners paying 15 percent or less, and (2) drops the corporate tax from its current level of 35 percent down to no more than 25 percent.  

The House Republican Leader’s office has collected numerous comments from economists on why an increase in government spending is a bad stimulus plan.

An important point made by many of these economists is that no government spending is ever justified unless it provides greater value than what the private sector would have done with the money. Do we really think that Congress in a time of economic distress will become even better at spending our money than it normally is?

At the Commonwealth Foundation’s policy blog, Nathan Benfield has collected comments from a number of economists who think that a fiscal stimulus plan is a bad idea.

The Empire Center for New York State Policy has enhanced its online database of public spending by adding payroll data. At SeeThroughNY, you can now look up the salaries and job titles of over 425,000 employees of the state government.

Before trying to stimulate the economy with new spending approaching a trillion dollars, members of Congress should wrap their heads around the totally obscure data that Tad DeHaven of the Cato Institute has helpfully unearthed (from the government itself!):  

According to U.S. Bureau of Economic Analysis numbers, combined federal, state, and local expenditures in 2000 were an already unhealthy 30% of GDP. Eight years and two recessions later, government spending now sucks up 35% of the nation’s economy and is trending higher. During that time we have witnessed the first $2 trillion federal budget and the first $3 trillion dollar budget.

With all the money federal, state, and local governments have been spending shouldn’t we be experiencing a boom? It would seem to me that proponents of government spending as a cure for our economic cold have it backward.

President-elect Obama wants to lure conservative support for his stimulus package by including tax cuts in the package. Will it work? Not if conservative legislators remember the principle that there is no such thing as a tax cut without a spending cut. Spending not paid for now is a promise of tax increases in the future. If, as the Politico reports, 60 percent of the stimulus package will be in the form of spending and the total package is $700 billion, then the spending (promises of tax increases in the future) amount to $420 billion. (And the spending figure will be higher if any tax credits are refundable—meaning that the IRS would pay the credit to those who owe no tax liability in the first place.)

A tax cut not accompanied by a spending cut could still be worthwhile if it increases incentives to work, save, and invest. The Obama tax cuts are reported to include a $500 “making work pay” tax credit. But no matter what you call it, a lump sum tax credit does not increase incentives to work, save, and invest. That’s because a lump sum credit, unlike reductions in marginal tax rates, does not lower the cost of engaging in productive activity.

Politico’s Mike Allen reports: “… officials say the tax cuts will be based on historical and empirical evidence of what works, not ideology.” If that’s true, then Obama’s advisors should review the disparate impacts of the 2001 and 2003 tax cuts. In a 2005 paper for The Heritage Foundation, Dan Mitchell noted:

·  Economic growth since the 2003 tax cut has averaged nearly 4.4 percent on a yearly basis, compared to just 1.9 percent in the period following the 2001 tax cut. …

·  Net job creation since the 2003 tax cut has averaged more than 150,000 per month, compared to declining job numbers in the period after the 2001 tax cut.

What made the 2003 taxes more effective than the 2001 tax cuts? Mitchell points out that the 2001 tax cuts consisted largely of rebates and credits with only minor and phased-in cuts to rates. The 2003 tax cuts, by contrast, consisted of reduced taxes on new business investment, accelerated income tax reduction rates, and a reduction in double-taxation of dividends and capital gains.

While there are many factors that can influence economic growth, the results of the 2001 and 2003 cuts support the argument that lowering marginal rates, not lump sum rebates or credits—as Obama has proposed—are more likely to help the economy grow.