Caught between the arguments of the supply side economists on one hand and the labor and consumer side economists on the other, the captain of the ship of state must decide how he is going to allocate the tax breaks among all the parties that come knocking at his door and yet keep the economic engine humming at maximum potential.
The supply side economists want the businesses to get most of the breaks but the labor and consumer side economists want the workers and the consumers to get them. Both sides articulate powerful arguments to buttress the merit in their economic philosophy and so, what’s a captain to do?
At first, our captain sets aside the arguments he heard from either side of the divide and paints a mental picture of the situation to help him visualize it. He imagines himself in the role of the farmer who must decide how much of the seeds he will plant (which is the analogy to giving the breaks to business) and how much of the seeds he will store to feed his family as they await the next harvest (which is the analogy to giving the breaks to consumers.)
But then the captain realizes that things are more complicated than this because there are many types of businesses, each standing at a different level of worthiness. And the last thing he wants to do is help them all without distinction or choose between winners and losers. Still, because there is no getting around the capitalist dictate that choices must be made, he struggles to find a way that will let the marketplace make the choices.
After giving it some thought, he realizes that unlike the farmer who has only himself and his family to contend with, he must regard himself as head of a massive ship of state that is navigating difficult waters and where he is responsible for people with all sorts of needs and responsible for a physical plant that is in need of all sorts of attention.
And so, to refine his understanding of this reality and to find a way to better formulate and implement the decisions he will be called upon to make, he goes over the arguments of the economists and paints a more comprehensive picture of the situation, one that he believes takes into consideration all the elements of this complex issue.
He recalls that the supply side economists spoke about the need to encourage new businesses to open and old ones to expand. They also spoke of people who have good ideas that need financing. Well, he knows as much as anyone there is two types of financing: There is equity financing where the financier and the owner of a potential venture enter into partnership. And there is debt financing where the financier lends money to those who have collateral they can pledge against the loans they seek.
However, the people who have ideas and no money of their own find it difficult to borrow because they usually have no collateral that they can pledge. And so they turn to the venture funds with whom they seek to enter into partnership. But before the joining of capital and the idea can take place, the funds sift through all the incoming ideas to asses the merit of each. Only then do the funds decide which idea to partner with and which to discard.
This mechanism by which venture capital operates brings together all the elements that create new wealth. It is the manifestation of capitalism at its best because it enriches those who are involved in the venture and benefits all of society. And yet, no one in this undertaking stands to take advantage of the tax breaks that the government hands out. Clearly then, there is something wrong with this set up, something that will have to be addressed at some point.
Moreover, those who are likely to receive the tax breaks are those who already pay taxes which means they have the money and the wherewithal to raise more of it. If they wish to expand the existing business or start a new one, they can borrow money as easily as they can ask for a loan. Alternatively they can issue new equity on their existing business and they are set to go.
But the stark reality is that even though individuals and businesses in this category would be the first to benefit from a tax break, they do not clamor for one precisely because they have the other alternatives to which they naturally gravitate rather than ask for and be obliged to wait for a handout from the government.
And so, the baffling question to ask is this: Who then clamors the loudest for a tax break? Well, they are the financiers who lend money to businesses and to governments. Unlike the venture capitalists, these people and their investment houses play it safe and thus gravitate toward the bond market where they finance the debt of blue chip corporations and the appetite of all levels of government.
People in this category sustain themselves with the interest they receive lending out their capital reserves. The peculiar thing about them is that when the economy is good and the interest rates are low, they make less profit which depletes their reserves. The consequence is an odd spectacle which can be described like this: When the good times roll and the wealth creating businesses need no infusion of money, these people clamor for a tax break in the name of those businesses not to help the businesses but to replenish their own dwindling reserves.
A good economy being their enemy, these people prefer one in which the inflation and the interest rates are high. This makes them the quintessential loan sharks who have no skills to create wealth and no way to make money even in a good environment. When they ask for a tax break they, in effect, ask the government to borrow from the public and give them the money which they lend back to the government and to corporations thus continue to receive interest.
At this point in his thinking, the captain of the ship of state resolves that the best way to deal with the situation is to give the tax breaks to the consumers who will spend the money where they see fit and thus determine the fate of each business. Doing this will amount to letting the marketplace make the momentous decisions which is how it should be.
Of course there are retired senior citizens and other people who live on income derived from interest. They get hurt when the interest rate drops; therefore they must be helped when they cannot make ends meet. But this is why there is a social safety net and it should be so formulated as to be invoked and made to respond to this sort of challenges.
Also, supply side economics is not to be rejected out of hand because some businesses can use a helping hand and they should be supported. Most notably, these are the venture funds that take major risks only to see the start-ups they back succeed some of the time but not always. These funds are the expression of democracy and meritocracy because they give the little guy the chance to participate in the economy and thus act as the incubators of the gods of innovation who make the economy flourish like no other business or individual can.
And so the captain of the ship of state hits on the idea that good supply side economics is a marketplace that is supplied with easy credit rather than tax breaks. Easy credit gives everyone an equal opportunity at getting into business and developing the ideas to their full potential. But since easy credit can be misused when money is lent for causes that are not always worthy, regulations will be adopted by his government to discourage irresponsible lending practices.
If despite these precautions too much money will find itself in the marketplace and cause an increase in inflation, his government will not shy away from raising the taxes rather than raising the interest rates to sponge the excess money out of the marketplace. Taxes will be increased on corporations, individuals or both depending on what else is happening in the economy at the time. This is something that the executive and the legislature will have to play by ear but the important thing is that money thus collected will be destroyed and not recycled back into the economy.
To this end, the captain gets together with the central bank and the legislature to formulate a whole new way to steer the economic ship of state and safely navigate the new globalized sea. From now on, the economy will be run on a variable but generally easy regime of credit, and a variable regime of taxes that will run the gamut from very low to high.