The Fiscal Cliff: A long term solution

American politics has come to systemic paralysis, a lack of creativity, and is constantly stuck between two of the same old answers, which don’t get at the core of the problem.

One solution to raising revenues and balancing the budget… tax the wealthy.  This is based on the correct idea that the top earning 1% in this country are extremely high earners, and more money can do very little to help their welfare.  Meanwhile the country is facing serious economic constraint and could simply use some help.  It is perhaps ignorant to call those top 1% the “productive members of society”.  At the same time, we must understand that in some ways this elite group have played the game which we have constructed and been very successful.  In many cases, they are creating value for society, (one major exception being financial speculation sectors). Their visions and management (along with institutional support) have led toward job creation, innovation, cheaper products, and products which consumers buy.  In the words of ex-world bank Economist Herman Daly, “We have to raise public revenue somehow, and the present system is highly distortionary in that by taxing labor and income in the face of high unemployment in nearly all countries we are discouraging exactly what we want more of. The present signal to firms is to shed labor, and substitute more capital and resource throughput, to the extent feasible.”  In some ways, taxing the wealthy does seem counter-intuitive when attempting to raise revenues, bring jobs home, and remain competitive.

This view leads to the second option which is, lower taxes and allow the free-market to innovate, grow, and therefore create more revenue without raising taxes. A couple of reasons that this is not “just”:  1)  The government needs revenue, and a small percentage increase for the wealthiest tax payers makes an enormous difference in comparison with taxes on the middle class or poor.  2)  The public certainly do support the wealthy.  Infrastructure, a stable economy, laws, consumers, labor, academic excellence, a healthy society, publicly funded research and development, subsidies: These all contribute to the 1% shine.  3) The reason which no one ever mentions: Externalities.

How do we balance these seemingly opposing views?  Tax the takers, not the makers.

The cliff is a glacier?

A long term solution will mean avoiding the edge of the cliff, and ensuring that the foundation of our economy does not crumble.  The balance sheet must come to include natural capital. While countries have historically subsidized throughput from ecosystems in order to stimulate economic growth, Herman Daly argued in 1994 that counting the consumption of natural resources as income is backwards as the definition of income is “the maximum amount that a society can consume this year and still be able to consume the same amount next year.”  While privatizing profits from resource consumption and externalizing costs has been a strategy for raising GNP in the past, we have long since understood the flaws in this approach.  Yet, with the politics of the United States the question remains, tax the wealthy or free the “productive members”.  With an economic paradigm which takes “natural capital” into account, the phrase “producer” may gradually be applied to different sectors of the economy.  To deny that “productive” members of society exist certainly is being over-egalitarian.  To deny that “takers” exist in the 1% is ludicrous as well.  For instance, in 2008 ‘The Economics of Ecosystems and Biodiversity’ (TEEB) found that the top 500 companies of the world cost global economies 6.8 trillion dollars annually in lost ecosystem services.

Adam Smith understands the needs to tax the wealthy. “It is not very unreasonable that the rich should contribute to the public expense, not only in proportion to their revenue, but something more than in that proportion.” Daly agrees with Smith in that the “income tax structure should be maintained”.  At the same time however, as we redefine what contributes to national wealth we may be able to move toward an even more just solution. Daly continues, “Tax labor and income less, and tax resource throughput more.”

Herman Daly’s advice, from 1994 seems increasingly applicable today.  “It would be better to economize on throughput because of the high external costs of its associated depletion and pollution, and at the same time to use more labor because of the high social benefits associated with reducing unemployment.”

While Obama’s carbon tax was shut down early in his first term, perhaps it could become a part of the current negotiations. For this to become possible, it seems the congress and our nation as a whole could use a crash course in the importance of “natural capital”, so that we might continue to shift toward an economy which serves its purpose and rewards the productive members of society.

Daly’s full speech can be viewed at:

http://www.whirledbank.org/ourwords/daly.html