Donald Trump Cannot Increase Aggregate Demand

This article was first published by me on Talkmarkets: http://www.talkmarkets.com/content/bonds/donald-trump-cannot-increase-aggregate-demand?post=116910&uid=4798

The entire logic of Donald Trump's policy rests on the assumption by some economists that Trump can boost aggregate demand in the economy. However, it appears that the Fed and Trump want two different things.

Donald Trump wants to give a supply side boost to the economy. However, even Arthur Laffer said that giving a boost through supply side economics only increases economic activity if the original taxes on corporations and marginal taxes on individuals are very high. In Ronald Reagan's time they were very high. Now they are not so high. But, Laffer has recently said that Trump's plan will work. 

Arthur Laffer Public Domain


However, the Laffer Curve was born this way:

The idea that lower tax rates could translate into higher total tax revenue is described by the “Laffer curve.” Legend has it that supply-side economist Arthur Laffer sketched the curve on a cocktail napkin at a Washington restaurant in 1974, showing it to then-Ford administration officials Donald Rumsfeld and Dick Cheney. At a tax rate of 0%, total tax revenue would, of course, be $0. At a tax rate of 100%, Laffer argued, it would also be $0, since the tax would kill all incentive for people to engage in the taxed activity. Therefore, he concluded, tax revenues would not keep rising with increasing tax rates. At some point, increasing tax rates would reduce total tax revenue—and diminishing tax rates would increase it.
But rates are pretty low now. Also, with Reaganomics, using Laffer's ideas, spending continued and the national debt doubled. Reagan pushed the US out of recession by doubling the national debt and by giving big tax breaks to everyone, including the poor and middle classes. This understanding of economics was likely why Richard Cheney said over 20 years after the meeting that "deficits don't matter".

It is unlikely that congress would go along with that now. The Trump plan now is to cut taxes, mainly for rich people and corporations, and use private business to create infrastructure with that tax break. This infrastructure will be owned by the corporations that fund it!

This is a really bad idea. It will put a burden on regular folks who aren't getting the big tax breaks. Private construction of infrastructure like toll roads are key to Trump's plan. And of course, Google Maps now has a way of helping everybody avoid toll roads. People hate toll roads. Millennials despise them. Google Maps is not always accurate, but it is possible to calculate the cheapest route for you based on your wage versus the cost of a toll road or the alternative detour.

Toll road bankruptcies have become a major scam, from Indiana, to Texas to Orange County, California. In my opinion toll roads are just a sophisticated subprime like scam, where profits are privatized and losses are socialized.

Also, Donald Trump is serious, it appears, about applying tariffs. Just like toll roads and private infrastructure, tariffs are a tax on the regular consumer. Trump could end up destroying aggregate demand. We could slow down incredibly in Donald Trump's first term.

Once people realize that Trump is not serious about helping the seniors who voted for him, their spending habits may have to change. All of this impacts aggregate demand. Rich people getting the bulk of the tax breaks impacts aggregate demand. As Nick Hanauer has said, rich people like himself can only spend so much.

The Fed wants interest rates to be a little higher. The Fed could care less about increase in aggregate demand. But the Fed wants somewhat higher interest rates in order to cushion in a downturn and to give banks more bailout money, as IOR increases as interest rates rise. But the Fed may be fearing an inflation that is not real, at least in the manufacturing sector, as capacity utilization is way down. 

But the Fed will crush home ownership and car financing, with higher rates. So economic activity will likely be shifted to infrastructure, private infrastructure activity and away from housing and autos. Bridges could be built to nowhere, because ultimately, the private company can walk away, leaving government with the bill.

We should be clear, Donald Trump's plans are not Reaganomics. Donald Trump's plans do not give significant tax breaks across the board, But Ronald Reagan gave tax breaks across the board and many for the first time did not pay tax at all.

Since that time, Republicans like Mitt Romney have wanted those paying no tax to start paying taxes. I can't imagine how that could possibly boost sales at the cash register. Trump wants to tax internet purchases. He wants to tax regular people by hidden taxes. Donald Trump is potentially an aggregate demand disaster waiting to happen:

Lower and middle-income parents actually might do better if Trump adjusts his proposals to the House GOP plan. Under his current proposal millions of families -- especially those with single parents -- might pay more under Trump's plan because in addition to hiking the lowest income tax rate, he'd also get rid of personal exemptions and head of household status. 
Donald Trump could become a Charles Dickens nightmare if he doesn't come to his senses. And aggregate demand cannot improve if people fear he is going to turn America into Sparta. I liked Athens much better. People have a right to fear. The Donald has given people no legitimate reasons to believe he will restrain his warlike tendencies if his plans fail.  I would prefer to take the glass half full view, that desire for war is not a driving force in Donald Trump's personality. 

Ultimately, the age old problem of getting money into the hands of people that will spend it becomes crucial. Kyle Bass says helicopter money is the only way out. Hopefully the Fed and Trump would encourage HM rather than war as a means of spurring aggregate demand. Happy 2017.  


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