The slow march toward socialism that The Great Schump foresaw

“In his 1942 book, Capitalism, Socialism and Democracy, Joseph Schumpeter asked the essential question: “Can capitalism survive?” His unsettling answer was, “No. I do not think it can.” Schumpeter’s words were in no way meant to denigrate capitalism, instead he felt “its very success undermines the social institutions which protect it.”

History in many ways proved his views prophetic. The success of capitalism means that many are allowed to do things that have nothing to do with productivity. And from government and academic elites that frequently seek to undermine the very system that enabled their cushy jobs, to foundations created by capitalist profits that often dismiss same, the commercial success wrought by the pursuit of profit has created an unproductive elite that lives off the very business profits that it regularly casts a skeptical eye on.

Schumpeter was of course talking about a United States that he envisioned post World War II, but his fears then don’t stray too far from the concerns of many today. Indeed, he worried that as wars usually accrue to the power of the state, that heavy government spending “would likely evolve into total government control over investment.” So far we’ve got the stratospheric spending to the tune of a $3.6 trillion budget, and from planned investment in everything from green energy to mortgage securities to autos, it seems that the alleged good that comes with government largesse will morph into the bad of government-directed investment.

On the business front, Schumpeter envisioned what would essentially be a two-tier system in which the government would largely stay out of the doings of retailers, laborers and clerks, all the while nationalizing what some call the “big business” parts of the economy. So while the hapless Fed Chairman Bernanke not long ago suggested that bank nationalization would not materialize, a few days later the federal government took an 80 percent ownership stake in Citigroup, the largest bank in the United States.
...
Schumpeter may have been early in his suggestion that socialism would win out over capitalism, but this in no way detracts from his visionary predictions. In much the way that he foresaw, we’re on a slow march toward socialism; one that insures a more austere future for rich and poor alike.”

John Tamny, “Schumpeter, and the Slow March Toward Socialism?”, RealClearMarkets (19 March 2009).


John Tamny is editor of RealClearMarkets, a senior economist with H.C. Wainwright Economics, and a senior economic advisor to Toreador Research and Trading.

Joseph Schumpeter is probably my favorite economist but he is not easy to understand. He had a magnificent "vision" of how economies worked and celebrated capitalism and the entrepreneur because of their dynamism and the way they transformed the world and raised the possibilities for mankind.

Schumpeter is said to be a conservative, anti-socialist Marxist because they shared the idea of a "grand vision" of how economies change over the course of time. In Marx's case, he thought (like Schumpeter) that capitalism was very productive but Marx also thought that as capitalism raised productivities the masses of workers would find their incomes falling to subsistence and the few remaining capitalists would have greater and greater incomes. In Marx’s view, the workers would become so many and so oppressed and the capitalists so few and so rich, that a revolution would take place and the workers would revolt and usher in socialism. Capitalism's failures would bring capitalism's demise.

Schumpeter's view was very different. He agreed that capitalism was very productive but said that instead of the distribution of income becoming increasingly unequal, the fruits of advance would be spread over the population. That is of course good. The hero of Schumpeter's story is the entrepreneur. The entrepreneur disturbs the smooth functioning of the economy through "a gale of creative destruction" in industry after industry where old products and old ways of doing things are replaced by the new. This, he tells us, is the cause of economic development, and it proceeds in a cyclical fashion along several time scales. Schumpeter believed that a highly developed capitalist banking system promoted growth and development by channeling bank credit to the entrepreneur and financing new projects. The process of bank-financed creative destruction would benefit the lower classes more than the rich because it would lower prices of all goods and services to everyone.

But the very act of raising everyone's income, in the mind of Schumpeter, would change the "social atmosphere" surrounding capitalism. The very success of capitalism, to his mind, will lead to the formation of large corporations and a fostering of values, especially among intellectuals, of hostility to capitalism. The intellectual and social climate needed to allow entrepreneurship to thrive will increasingly be eroded and capitalism will be succeeded by socialism of some form or another. There will not be a revolution, but merely a trend in parliaments to elect social democratic parties and introduce social welfare policies, which will hobble entrepreneurs.

Thus, the very success of the capitalist, or entrepreneur, would make his role less and less important to society, and give rise to a critical frame of mind about everything business and economic. After all, if you have a high income and it seems to you natural and inevitable that it will continue, why do you care about the capitalist process that brought it into being?

So, capitalism and all its attributes will begin to be attacked. Schumpeter says, in particular, that "intellectuals" turn against the very system that supports them. ("Intellectuals", to Schumpeter, encompass all those who make a living with their head rather than their hands, specifically, college professors, lawyers, journalists, and writers.) Capitalism created the productivity on which a modern economy is based and on which all aspects of its society feed, especially the intellectual class. But people do not understand this, especially intellectuals, and they become hostile to the very social order which created them and sustains them. They increasingly attack capitalism and the function of the entrepreneur, and as they do so the entire system weakens and declines, intellectuals included.

To Schumpeter, capitalism creates a broad-based prosperity but that prosperity is unappreciated and its source is misunderstood. In their efforts to replace the entrepreneur as the most important group in society, intellectuals and politicians attack the very basis of a productive economy and it is lost. Capitalism's productivity creates the intellectual class, and the intellectual class destroys capitalism. In this sense, Capitalism's successes would bring about capitalism's decline.

Marx and Schumpeter see the same future for capitalism: It ends. But the reasons it ends are very different.

As to reality, the colleges and universities of America, not to mention the press, are full of so-called intellectuals that hate America and everything it stands for. The Great Schump would understand.

How to recover the AIG bonuses

“Larry Summers claims that nothing can be done about the AIG bonuses.

As a former Secretary of the Treasury, he should know better.

Treasury Secretary Tim Geithner should direct the Commissioner of Internal Revenue to challenge the AIG bonuses as unreasonable compensation under the Internal Revenue Code. Finding the AIG bonuses to be unreasonable compensation would render them nondeductible for federal tax purposes, and would strengthen potential shareholder derivative suits to recapture The Great AIG Giveaway.

Section 162(a) of the Internal Revenue Code declares:

"There shall be allowed as a deduction all the ordinary and necessary expenses paid or incurred during the taxable year in carrying on any trade or business, including . . . a reasonable allowance for salaries or other compensation for personal services actually rendered."

In Gordy Tire Co. v. United States (155 Ct. Cl. 759, 1961), the United States Court of Claims declared that determinations of the reasonability, and thus the tax deductibility, of compensation should consider the "foresightedness and business acumen" of the individuals receiving such compensation. AIG's head honchos exhibited about as much foresightedness and business acumen as the captain of the Titanic. ....

If the AIG bonuses are determined to be unreasonable compensation, AIG would be unable to deduct such compensation for federal income tax purposes. The American taxpayers would thereby recoup some of the money they advanced to keep AIG solvent, money which wound up instead in the pockets of AIG's managers. Even if AIG does not owe any federal income tax this year, challenging the bonuses as unreasonable compensation prevents AIG from carrying the deduction forward for use as Net Operating Losses (NOLs) to offset future corporate earnings and thereby reduce AIG's future income taxes.

Determining these bonuses to be unreasonable compensation will also benefit AIG's shareholders. Corporate law allows a shareholder to bring a derivative action against the board of a corporation for recovery of excessive executive compensation. These shareholder claims will be buttressed by an IRS determination that the AIG bonuses are unreasonable. ....

Larry Summers says that the United States government is powerless to stop the unreasonable AIG executive compensation. He should know better. Mr. Summers: Yes you can.”

Aaron Zelinsky, "Larry Summers: Stop the AIG Bonuses. Yes You Can.", Huffington Post (15 March 2009).

http://www.huffingtonpost.com/aaron-zelinsky/larry-summers-stop-the-ai_b_175151.html

Aaron Zelinsky is a member of the Yale Law School Class of 2010 and an Articles Editor for the Yale Law Journal.

I must say I am of decidedly mixed view on this.

There is no doubt that the executives at AIG and other financial institutions do not deserve a bonus. Given their performance in recent years, it would be more appropriate to fire them.

In my view, this problem can be traced to the decision to bail out these firms rather than close them down and re-organize them. Bailing out these firms, rather than letting them go bankrupt and picking up the pieces, means accepting all the legal obligations of these firms that are in place.

These bonuses are part of a labor contract of the executives with AIG that is still in force. As such, the contracts should be honored and the bonuses paid. To quote President Obama’s top economist, Larry Summers, on the matter: "We're not a country where contracts just get abrogated willy nilly." He is right. A contract is a contract.

Mr. Zelinsky has a good idea on how to recover the bonuses. But it is too cute. Like it or not, these bonuses are a continuation of previous practice on Wall treet. For this reason, they should not be seen as extraordinary or unreasonable.

It was a mistake to start down the road on bailouts and it would appear there is no end to it and the trouble the bailouts bring. The question for the country is whether we can continue to travel this road. It’s not just that it’s expensive. It’s just increasingly stupid.

Tim works frantically (and frightenly) to save the country and the world

“In the six weeks since Mr. [Timothy F.] Geithner took over as Treasury secretary, he and a skeleton crew of unofficial senior advisers have been racing to make decisions that will shape the future of the banking, insurance, housing and automobile industries.

But even as he maintains a frenetic pace — unveiling plans, testifying before Congress and negotiating new bailouts with the likes of Citigroup, General Motors and the American International Group — there are signs that events are getting ahead of him.

Administration officials say they are postponing their plan to produce a detailed road map for overhauling the nation’s financial regulatory system by April, in time for the Group of 20 meeting in London. Though officials say they will still develop basic principles in time for the meeting, the plan will not include much detail.

Treasury officials are also still scrambling to decide details of their plan to buy up as much as $1 trillion in toxic assets from the nation’s banks, one month after being widely criticized for presenting a plan that lacked any specifics on how it would work.

Analysts say it is far too early to know if Mr. Geithner and his team will be effective.”

Edmund L. Andrews and Stephen Labaton, “Geithner, With Few Aides, Is Scrambling”, The New York Times (8 March 2009).

http://www.nytimes.com/2009/03/09/business/economy/09treasury.html?_r=2&hp


Edmund L. Andrews and Stephen Labaton write for The New York Times and the International Herald Tribune.

This is absolutely frightening. One man -- one man -- and a few other faceless creatures reporting to him are supposed to do all this. By themselves, no less, perhaps consulting now and then with a Congresscritter or two and chatting over the phone with a couple of empty suits from the Fed and the Executive Branch. Are we to understand that a few people who no one heard of a year or two ago are going to spend trillions of dollars any way they want and in doing so determine the economic fate of over 300,000,000 people and affect the lives of every person on the planet?

It is not just that this is an impossible task, however frantically they work. It is the fact that the task cannot be anything other than the work of a dictator -- or in this case, a hireling reporting to someone who must think of himself as the country rather than as a servant of the people seeking their consent in making critical decisions affecting its future.

How did it come to pass that Americans have lost control of their fate and been reduced to this state of affairs?

Federal tax burden on the rich and poor

“From a recent CBO [Congressional Budget Office] report, here are effective tax rates (total taxes divided by total income) [of household income] for 2005, the most recent year available:

Per cent of
income paid Average
in taxes income ($)

Lowest quintile: 4.3 percent 15,900
Second quintile: 9.9 percent 37,400
Middle quintile: 14.2 percent 58,500
Fourth quintile: 17.4 percent 85,200

Percentiles 81-90: 20.3 percent 120,600

Percentiles 91-95: 22.4 percent 161,800
Percentiles 96-99: 25.7 percent 269,800
Percentiles 99.0-99.5: 29.7 percent 588,100
Percentiles 99.5-99.9: 31.2 percent 1,207,200
Percentiles 99.9-99.99: 32.1 percent 4,699,500

Top 0.01 Percentile: 31.5 percent 35,473,200

N.B.: These figures include all federal taxes, not just income taxes.

That is, even before the Obama tax hikes, the rich face average tax rates more than twice those of the middle class, and about seven times those of the lowest quintile. These data do not tell you the optimal degree of tax progressivity, but they do describe the starting point from which policy is working.”

Greg Mankiw, “Tax Rates of the Rich and Poor”, Greg Mankiw's Blog (26 February 2009).

http://gregmankiw.blogspot.com/


N. Gregory Mankiw is professor of economics at Harvard University and a former Chairman of President George W. Bush’s Council of Economic Advisors. His textbook is used in Regent’s Principles of Economics course.

Income in the above table include the entire range of pre-tax income available to households: Wages, salaries, self employment income, rents, taxable and nontaxable interest, dividends, realized capital gains, cash transfer payments, and retirement benefits such as Social Security, Medicare, and federal unemployment insurance plus various in-kind benefits such as food stamps, school lunches and breakfasts, housing assistance, and energy assistance). Taxes paid include Federal direct taxes such as income taxes and social insurance taxes and indirect Federal taxes such as corporate income taxes and the excise tax. The data do not include state and local taxes. DOW added the data relating to income to the above table. The CBO report can be downloaded from: http://www.cbo.gov/ftpdocs/98xx/doc9884/12-23-EffectiveTaxRates_Letter.pdf.

It is true that the richest one-hundredth of one per cent of households (“the richest among the rich”, in number, less than 11,500 households) have a disproportionate share of total household income but they also pay a very disproportionate share of Federal taxes. As an example, according to the CBO report, these households, only 11,500 in all in the country, pay 31½ of their income in Federal taxes, as shown above. But this small group of people account for 6½ per cent of all Federal taxes paid by all households and 8 per cent of all Federal income taxes paid. In contrast, the income tax liability of the two lowest quintiles, comprising 40 per cent of all households, is -7.5 per cent, meaning 45,800,000 households receive in total a net inflow of income -- a subsidy -- from the Federal income tax system equal to 7.5 per cent of all income tax receipts. This subsidy reduced their total liability for all kinds of Federal taxes to less than 4½ per cent of their household income, as shown in the above table.

In the campaign leading up to November’s election candidate Obama promised to remove even more households from the income tax rolls as he further raised taxes on the “rich” and expanded the subsidy to lower income households. This would further skew the differences in tax liabilities and benefits between these two groups.

To gain an idea of the total tax burden on American households one must also consider state and local taxes. In 2005, these taxes were more than 15 per cent of the national income. Because the “rich” pay a higher proportion of these taxes, it is likely that their share of these taxes was more than 20 per cent of their household income in that year. From the table above, one can see that the top 1 per cent of income earners pay nearly 30 per cent of their household income in Federal taxes. Adding the 20 per cent state and local tax burden to a 30 per cent Federal tax burden is a crushing burden on any family.

Further raising taxes on so-called “rich” families, as the Administration proposes, would transform a group of people already carrying far more than their "fair" share of the burden into slaves of the state.

Don Boudreaux on the market's unsung successes

“It's become an article of faith among lots of people that recent events prove (or at least suggest) that markets don't work very well.

Let's assume -- contrary to what my assessment of the evidence tells me -- that the housing bubble and its crash, along with the current ills suffered by Detroit and other sectors, are exclusively the fault of the market.

How much skepticism of markets would this fact generate relative to the amount of skepticism that is justified? I think way too much. The reason is that market successes go unnoticed and, hence, unappreciated.

The vast majority of market exchanges and relationships work smoothly and to the advantage of all participants. Indeed, the market works so well and so consistently that it creates ever-higher expectations among the broad populace. When these expectations are dashed, if only for a handful of persons and if only rarely, the market is deemed to have failed.”

Don Boudreaux, “The Unsung Successes of the Market”, Café Hayek Blog (2 March 2009).

http://cafehayek.typepad.com/hayek/


Donald J. Boudreaux is chairman of the department and professor of economics at George Mason University. He blogs at Café Hayek with Russell Roberts.

The point that Professor Boudreaux makes is a simple one. We must look at both the successes and failures of free markets and consider things both seen and unseen before we judge whether a market is on balance operating to the benefit of society.

Moreover, when we consider regulating markets we must also understand that if we interfere with the normal operation of a market it generates windfall gains and losses to market participates in ways that can to some degree be predicted by some participants. Because the effects of government controls can be foreseen, special interests attempt to shape regulation in their favor and benefit from any actions the government takes, usually at the expense of many others. Almost everyone changes their behavior in the face of the changed circumstances brought about by regulation. For this reason, in economic terms regulation inevitably introduces a net loss to the economy as a whole to the extent that many transactions that would have taken place without regulation do not take place once government controls are introduced, because the set of mutually acceptable possibilities has been reduced.

Granted at times free markets fail and take far too long to adjust and adapt to new trends and circumstances. And all too often they are uncertain in their operation and their implications for participants. But before we reject free markets in favor of government direction and control, we must consider the market’s unsung successes and all those transactions that wouldn’t take place if we adopted regulations and controls.

Joseph and the famine and Obama and the crisis

From the Book of Genesis, Chapter 47:

13: And there was no bread in all the land; for the famine was very sore, so that the land of Egypt and all the land of Canaan fainted by reason of the famine.

14: And Joseph gathered up all the money that was found in the land of Egypt, and in the land of Canaan, for the corn which they bought: and Joseph brought the money into Pharaoh's house.

15: And when money failed in the land of Egypt, and in the land of Canaan, all the Egyptians came unto Joseph, and said, Give us bread: for why should we die in thy presence? for the money faileth.

16: And Joseph said, Give your cattle; and I will give you for your cattle, if money fail.

17: And they brought their cattle unto Joseph: and Joseph gave them bread in exchange for horses, and for the flocks, and for the cattle of the herds, and for the asses: and he fed them with bread for all their cattle for that year.

18: When that year was ended, they came unto him the second year, and said unto him, We will not hide it from my lord, how that our money is spent; my lord also hath our herds of cattle; there is not ought left in the sight of my lord, but our bodies, and our lands:

19: Wherefore shall we die before thine eyes, both we and our land? buy us and our land for bread, and we and our land will be servants unto Pharaoh: and give us seed, that we may live, and not die, that the land be not desolate.

20: And Joseph bought all the land of Egypt for Pharaoh; for the Egyptians sold every man his field, because the famine prevailed over them: so the land became Pharaoh's.

21: And as for the people, he removed them to cities from one end of the borders of Egypt even to the other end thereof.

22: Only the land of the priests bought he not; for the priests had a portion assigned them of Pharaoh, and did eat their portion which Pharaoh gave them: wherefore they sold not their lands.

23: Then Joseph said unto the people, Behold, I have bought you this day and your land for Pharaoh: lo, here is seed for you, and ye shall sow the land.

24: And it shall come to pass in the increase, that ye shall give the fifth part unto Pharaoh, and four parts shall be your own, for seed of the field, and for your food, and for them of your households, and for food for your little ones.

25: And they said, Thou hast saved our lives: let us find grace in the sight of my lord, and we will be Pharaoh's servants.

The Holy Bible, Genesis 47, 13-25 (King James version, from Electronic Text Center, University of Virginia Library).

http://etext.virginia.edu/etcbin/toccer-new2?id=KjvGene.sgm&images=images/modeng&data=/texts/english/modeng/parsed&tag=public&part=47&division=div1


The Bible is rich in stories of past events that read like today and always provide a warning for today. Genesis, as one example, describes the world of all-powerful Pharaoh at the time of Joseph. In a dream Pharaoh is given a vision of a period of prosperity and penury, which Joseph interprets as a forecast of what is to come. Seven bountiful years of abundant harvests, Joseph tells Pharaoh, were to be followed by seven years of famine when, evidently, the overflowing waters of the Nile would fail to appear and the land would not produce its bountiful harvest.

As the famine began to take its toll, people became increasingly willing to give up anything in return for food. First they paid for grain with money, until the money ran out. Then they paid with their cattle and livestock, until they had no livestock. When Pharaoh had all the money and livestock and the people again became hungry, all they had left was their land and themselves, which they gave up for a meal. Having given up their money, livestock and land, they were reduced to bondage and serfdom. And still the people grew hungry, and in return for seed to grow more food they agreed to give back one-fifth of what they grew. In this story, over time, as people faced an increasingly difficult situation, independence and exchange gave way to serfdom and dependence and taxation, and through it all people moved willingly and with gratitude to those who became their taskmasters, even someone like Joseph, who while he gained nothing for himself yet he made them and their children servants forever.

Following a worldwide economic upturn of seven years, this country and the rest of the world have now entered what would appear to be a prolonged period of pronounced economic decline and spreading turmoil. World trade and industrial production have collapsed, bank failures and corporate bankruptcies are accelerating everywhere, plant closings and housing foreclosures are on the rise, currencies are teetering in foreign exchange markets, and many tens of millions are unemployed across the planet. In the midst of this worsening situation, government budgets are not only strained but under immense pressure to repair their insolvent financial systems, boost domestic levels of economic activity and employment, and address the need to encourage a buoyant international economy from whence much of their past rising productivity can be traced. And like the Pharaoh of millennia ago, governments and their leaders are increasingly besieged by scared people to help them through this crisis.

And like the people of millennia ago, the lure of serfdom for the feeling of security haunts the thoughts of those who have lost so much and fear so much for the future. In the back of their minds is the same natural inclination of mankind for someone to take charge in a crisis and save them from the catastrophe that threatens their future and that of their children. Many of these people see Barack Obama as a leader that appears to be just like Joseph: Confident and self-assured, intelligent and forward-looking, strong and stern at times and yet considerate and compassionate when necessary. And in some ways, as a leader in the midst of a crisis he seems to act just like Joseph: Always acting in the name of the state, always after people’s money, always promoting a vision of immediate hardship but ultimate achievement, always sure of his own message and what needs to be done, and in the end, when people are weak in their love of freedom, always furthering their dependency on the state.

However, Joseph also re-planted the seeds of private ownership and self-reliance when he initiated a policy of letting the Egyptians keep 80 percent of the crops grown from the seed Pharaoh gave them (Genesis 47:23-26). While the government provided the bare necessities to keep life going during a time of unprecedented need, under Joseph’s wise direction it also laid the foundation for long-term stability and prosperity in which the worker could keep the most of his increase and in which he assumed responsibility to feed himself and his children (47:24). This is in keeping with the Biblical principles of private ownership of property (Exodus 20:15), people being rewarded for their hard work (Romans 4:4; 1 Timothy 5:17,18; cf. Proverbs 6:6-11), and the supreme importance of providing for one’s own family, which outweighs even our responsibility to other “spiritual” priorities (1 Timothy 5:8).

Where Obama differs from Joseph is in the American president’s desire to “re-make” America into a country of continuous collectivist responsibility for one another rather than a nation of self-reliance and dependence upon the family unit. Obama’s vision in contrast denigrates the role of the family by reassuring the public that the government (i.e. “your neighbors”) will assume responsibility for the needy via a plethora of new government programs. Thus families need not keep track of hurting relatives because the state promises to do so, albeit in a colder, more sterile fashion. Rather than allowing families to keep the vast majority of their income, as Joseph did with his 20 percent tax rate, President Obama is raising taxes to confiscatory levels, so that parents will bequeath less to their children and have less to invest in their neighbors’ businesses. This will stagnate or stifle economic growth, depressing wages and our overall standard of living for years to come. Instead of encouraging each family to grow its own wealth and take care of its own, as Joseph did, Barack Obama is enlarging the role of government and “collective” responsibility, in which it is not clear who exactly is responsible for another human being other than the collective “whole.” In these and many other ways he is trampling God’s wisdom for ordering society.

Joseph took his people through a crisis situation but laid the groundwork for them to become self-sufficient when times returned to normal. Barack Obama is taking a crisis and using it to increase Americans’ dependence upon the government for important commodities like food, health-care, housing, education, energy, and their retirement incomes, among other things. The huge and expensive government infrastructure he is expanding will be difficult to shrink if too many Americans grow lazily accustomed to it. At the same time, it is hard to imagine how the government can deliver all that it is promising to give through such a complex and bankrupt bureaucracy. One must wonder why Mr. Obama does not follow the example of Joseph in providing intensive assistance only for the short run and otherwise throwing the responsibility for long-term prosperity back to the individual American and his family, where such responsibility belongs.

The real threat of the current economic crisis is that desperate citizens are willing to enter permanent servitude in a false rush to alleviate their immediate misery. President Obama seems to be the right man to hasten this rush into serfdom.

A tip of the hat to my daughter Joy for her contributions.