On Failure And Recovery...

Two articles have led me to get out of the sickbed and write something (I'm down with a nasty bronchitis and have been coughing my lungs up over the last three days).

This brings out the distinction between economic bankruptcy and financial bankruptcy well: economic bankruptcy is where no one buys your products anymore; financial bankruptcy is when you've made some serious financial miscalculations and have to find a way out of your dilemma.

This is related. It's the idea that no one knows what to do with the economy.

That's wrong.

It's just that no one wants to hear what has to be done, and the two are related. The latter is not limited to the US, either: the German pension system only function because a massive tax on gasoline consumption is partially siphoned off to pay not for the upkeep of the Autobahn, but to pay for the upkeep of senior citizens.

So, to the first: the Big 3 are, effectively, financially bankrupt for a number of reasons. Some are indirect (such as not being able to quickly change production to meet consumer demands), others are more direct, and can be simplified to two things: corporate fear and union greed. The Big 3 hate strikes and the corporate culture is built on making the unions happy so that there are no strikes; this means that the corporate culture of the Big 3 has become ossified, structurally inept, and incapable of rapidly adjusting to changes in the operating environment. The UAW has also been greedy, pushing up labor costs such that the Big 3 are no longer cost-effective producers. Productivity as explanation for very high wages goes only so far, especially in terms of actual labor input costs, which as a percentage of operative production can be very low: the problem lies not in the hourly wages, but rather the longer-term liabilities that the Big 3 have taken on in the name of labor peace.

I accuse these companies of corporate fear not just because they have taken on liabilities that any normal company would shy from, but also allow the unions to dictate not only employment levels, but, even worse, what products were to be made. The Big 3 cannot, effectively, build assembly lines that are highly flexible and capable of shifting product types within a period of several days (this is done by Magna in Graz, Austria: it can be done), but rather cannot change over without consulting the unions first. The UAW isn't interested in anything except one aspect of the Big 3: long-term protected employment of union members at higher-than-average wages.

That is the only thing that really matters to the UAW: it's what keeps them alive, it's the payback to the union members for ensuring high wage levels. According to the UAW, duea are two hours' pay per month, which at current average wage costs is about $50/member per month (based on average wage, without benefits, of $25/hour: with benefits, thise goes to $75/hour),. The idea that it pays to belong to the union isn't mine: it's the major argument of the UAW for membership. At the end of 2007, there were 464,910 union members: that means that the UAW has an income of over $23mn/month. They've got over $800mn in their strike account, and that sort of cash flow - $279mn/year - finances a lot of political activism and lobbying work.

That is why the UAW is so adamant about a taxpayer bail-out of the Big 3. But the UAW is caught between a rock and a very, very hard place: they are a big, very big, part of the problem. The Big 3 are very close to financial bankruptcy because their costs are too high and can't be reduced in a time when economic demand has dropped off significantly.

To get out of financial bankruptcy, you have to shed fixed costs to the point where you return to financial balance: this means, effectively, the end of the UAW.

Ouch.

But the pain doesn't end there.

That second link takes us to the idea that no one knows what to do about the economy. That is, politely put, balderdash.

To get the economy back on its feet, you have to to do only one thing: put more money into people's pockets. Not because they're going to spend it (a large number won't, but would rather at this point prefer to reduce their liabilities), but because it addresses one of the fundamental problems that the US has created for itself: too much government as a percentage of GDP.

Government spending (Federal, State and Local) as a percentage of GDP has been consistently over 30% since the late 1960s: this is the problem.

Now, I know all the arguments about this: that it's better than Europe or Japan, that it's okay because the economy is so big and can be afforded, that we can't put all those employees out of work, that we get a great return on the investment, yadda yadda yadda.

You think that there aren't any folks who don't profit from this? Of course there are. They're the ones who are pointing out what a great deal government is. They're the problem.

Duh.

Now, given the fact that much government spending was set up in such a way as to ensure that it would always be there - these are called entitlements - this means that we have to tackle the entitlements in order to get government spending back below 30% of GDP and keep it there.

The best way to get government spending under control, historically, is to have a President who is a Democrat and a Legislature controlled by the Republicans: this is based on the empirical evidence. This is what the Republicans have to sell to the American people to get back control of the Senate and the House. It's not undoable: it's simply going to be very, very hard.

The problem with government spending is that it creates a positive reinforcement loop with the Congress. We now know how thouroughly corrupt Congress is - and I make no exceptions amongst parties here, but there are so many more Democrats here than Republicans - with "earmarks" and the millions in effective kickback contributions to re-election campaigns from the companies that benefit from the earmarks. The more a Congresscritter can generate in earmarks, the more money they're gonna get from the companies that benefit: this is the vicious cycle, the corrupting cycle that has to be broken.

But getting back to the idea that no one knows what to do about the economy: that's false. Rather, it's that no one wants to be the bearer of bad news, that the only thing the US government can do (besides offering cheap money, and we now know what that does to the economy (it creates bubbles that go pop)) is really to tax less AND spend less. Doing both goes against the grain, is going to be hard to explain to those who have lived high on government waste and inefficiency, and is going to be damned unpopular amongst the chattering classes of DC.

But it is what has to be done.

Where to start? First and foremost: a flat tax that means everyone pays a proportinal share of taxes. Not a VAT, not a "fair tax", but rather taking a look at national income and deciding that there is a maximum that anyone should be taxed, corporations included: given that national income + corporate profits are pretty much what GDP generates, this should be no more than 20%. Collected at the point of employment AND the point of disbursement for capital gains and income from capital: you, the taxpayer, never get your hands on that 20% to hide it in some tax shelter. Everyone pays this: the gal flipping burgers pays it just like the CEO of Burger King. And no playing with locations: if Burger King is headquartered in the US, then the CEO pays that tax, and his bonus isn't paid to an escrow account in a tax-shelter country, but has to be paid and taxed in the US. No exceptions.

Now, given that govenrment taxation as a percentage of GDP is over 30%, this means that we have achieved at least a 10% increase in personal disposable income, if not more. Local sales taxes will eat away at this, but that's a local problem that remains stubbornly so.

Now, the critics cry, what about government spending? Cutting tax revenues of over 10% will mean that government debt has to increase!

Well, that's one way of doing it. It's the wrong way.

The problem, to reiterate, is that the government at all levels has become too big and is spending too much money. Government spending, per definition, does not generate value: it spends the value that others have generated. It is spending too much of it, and that is why we are facing the problems we face today.

There are things government needs to do, and there are things that people want the government to do. The difference between the two is critical: there needs to be a public debate on what the latter really means, since that is where the source of the corruption lies. A political interest group that "persuades" politicians to finance pet projects will always corrupt the politicians: that is what lobbying is all about. It's always about what money will be spent to get what the special interest group wants done.

That is the core of the problem, and it also attacks the core of the chattering classes in DC, who live off the corruption process.

That is why lobbying must be open, public and a matter of record in a simple way: for each Congresscritter, there needs to be a public scoreboard of shame, informing everyone who financed their elections and who gets the earmarks, and how effective each Congresscritter is in terms of the ratio earmark/election contributions. Then people could see who really owns their Congresscritters and why.

Enough. I'm starting to ramble, the medications have kicked in. Back to coughing my lung up...,