John Merline Writes in Investor’s Business Daily Income Inequality Rose Most Under President Clinton, 11/3/11

Excerpts:

Meanwhile, during Clinton’s eight years, the wealthiest 5% of American households saw their incomes jump 45% vs. 26% under Reagan. The Gini index shot up 6.7% under Clinton, more than any other president since 1980.

Economic growth. Strong economic growth, rising stock prices and household income inequality tend to go hand in hand.

Technology. Tech advances have put a premium on skilled labor, according to a Congressional Budget Office report . Because the pool of skilled workers hasn’t grown as much as demand, their wages have climbed faster.

University of Michigan economist Mark Perry notes, while the income gap has grown since 1979, almost the entire increase occurred before the mid-1990s: “There is absolutely no statistical support for the commonly held view that income inequality has been rising recently.”

A survey by the Economic Mobility Project found 71% said it’s more important for the country to focus on improving upward mobility. Just 21% prioritized reducing inequality.

HKO Comments-

Please read the entire article.  How ironic that inequality grew under Clinton and Obama more than under Bush or Reagan. Inequality appears to be a side effect of economic growth.  But the middle class and poor do better with a bigger pie than with efforts to get a bigger piece of a smaller pie.  Margaret Thatcher noted this decades ago:

Some would rather make the poor poorer than to make the rich richer.

Here is my two cents on the debt ceiling negotiations:

It is a spending problem and it is a growth problem. Past solutions have delivered on tax increases but failed to deliver on spending cuts.  It is clear that increasing tax rates do not often yield increased tax revenues. It is jut simple proven economics.

This does not mean that decreasing rates will always yield revenue increases although it did for Coolidge, Kennedy, Reagan, and Clinton and to a limited degree it did for W.

The problem with the revenue addition is that it too often retards growth which is the better solution, but growth is also facing other friction costs and shifts, many within political control and some that are not.

I would accept revenue increases in the form of reduced deductions. Reagan cut rates but reduced deductions. The effective tax rate is different from the statutory and effective tax rates have changed less than statutory.

Clinton raised income taxes but cut capital gains and taxes on dividends.  Many would consider this a Republican ‘tax cut for the rich’ strategy.  It was successful.

It seems inevitable to me that Medicare and Social Security will be means tested.  We can cry foul, but we have been lied to and defrauded and the money is just not there.  Be grown up and face the reality.  At least in the private sector people who do this, like Bernie Madoff, serve time.  In government these people are honored by having streets and bills named after them.

Screwing with possible default is a fool’s game.  I am uncertain if the GOP is not pushing this too far or how much is just partisan scare mongering. I am also uncertain how the balanced budget amendment will work out.  My fear is it is one more cowardly abdication of congressional power with serious negative consequences. It will likely become a way to increase taxes without Congressional responsibility.  It is much easier to maintain a balanced budget than to return to one after straying far from it for years. The final language could mean everything since it will likely be full of loopholes and exceptions.  I see no harm is punting on this until the next elections.

Extreme costs cutting, which I support, could well tilt the economy downward unless there are other reductions in friction costs that engender economic growth.  I doubt many of us have factored in the economic pain that may come with dramatic cost reductions.  Yet this is not a situation you can tax your way out of.   Costs must come down in a meaningful way. That is the bottom line that turned the house last November.

I support tax reform and simplification.  But it should not be part of this package because it is just too involved and should sustain considerable debate.

My inclination: pass on the balanced budget amendment till after 2012, cut as aggressively as you can,  reduce a few deductible items and call it a tax increase, raise the debt ceiling to last at least a year.  This agony should not be repeated. It should, however, dominate the coming campaign.

The default belief  of our economic history of the last 100 years has been an acceptance of the dynamic growth of capitalism punctuated by excesses of market greed that have to be corrected by the singular wisdom of government regulation.

On closer examination many of those moments of market greed and excess look more like incompetent government meddling caused the problem.

During the Depression of 1929 we saw 10,000 banks collapse in the United States. Yet during that same period the number of bank failures in Canada were zero.  Was Canada spared the depression that engulfed the United States? No, but Canada was spared a regulation that prevented banks from crossing state lines.

Bending to pressure to protect local banks from encountering big business center banks, they got relief and protection from the Federal government in the restriction of interstate competition.  But that also severely limited their flexibility in dealing with a crisis, a limit that did not exist in Canada where risks were spread over larger areas and underutilized assets could be easily relocated.

Yet to respond to the bank failures that the government largely caused they created the FDIC (Federal Deposit Insurance Corporation).  FDR opposed the FDIC because he saw it would create a sanction for reckless behavior and penalize prudently run banks.  FDR capitulated in a compromise and the FDIC began by insuring deposits for $2500 in 1934. It was raised to $5,000 in 1935, $10,000 in 1950 (Truman), $15,000 in 1966 (Johnson), $20,000 in 1968 (LBJ again), $40,000 in 1974 (Nixon), and then $100,000 under Jimmy Carter in 1980.  Bush raised it to $250,000 before he left office, but it is due to revert back to $100,000 in 2013.

Ten years after Carter raised the limit we experienced the Savings and Loans meltdown, caused by the excessive risk taking in that industry. The government again intervened and created the Resolution Trust Corporation (RTC) to dispose of failed thrift institutions taken over by regulators after January 1, 1989 in an orderly manner.

The FDIC created the moral hazard FDR feared. It privatized the profits and socialized the risks.  This behavior was repeated, but on steroids, with the implicit assumption of risk by Fannie Mae and Freddie Mac.

Housing was deemed a federal priority, and helping the poorer people get into housing has been a priority since Fannie Mae was created again by FDR in 1938.  But housing prices were highest and least affordable in select areas where local ordinances had restricted supply and raised prices far more than in areas were market forces prevailed.

Tax policies such as mortgage interest deductions and preferred capital gains treatment increased the demand for housing. The Community Reinvestment Act, passed under Carter but exploited under Clinton and Bush, pressured banks to make mortgage loans to less and less qualified buyers. Fannie Mae guaranteed loans, clearing the ratings agencies which had a government protected franchise; to give higher ratings than these mortgage backed securities could have conceivably obtained on the merits of their assets. This widened the market for these securities and caused even more money to be driven into the housing market from all over the world creating the bubble that had to burst.

To compound the damage the government required a mark to market rule for valuing these mortgage loans at the worst possible time; when no market existed.  The market to market rule causes valuations to go to extremes, high and low.  This caused capital to dry up and regulations required banks to rebuild capital reserves instead of making loans. Then at a time when information was critical to valuing these securities, the government suspended short selling, a critical source of such information.

During the recent financial disaster, Canada did not exhibit near the real estate collapse we did in the United States.  In Canada they had far less exposure to sub prime loans, large down payments were still required while we all but eliminated down payments for the poorest home buyers in the name of ‘compassionate conservatism’, and mortgage borrowers in Canada were still held personally liable for their loans. Canada had tougher and more prudent lending standards, but they avoided the fiasco foisted on us by well intentioned but misguided moral supremacists on the government payroll.

The government in the U.S. inflated this bubble as eagerly as any on Wall Street, but our government “had a much bigger pump”.

Seventy five years ago we could have looked to our northern neighbor and learned better behavior instead of demonizing capitalism. Today we can learn the same lesson, but again we seek to demonize the private sector for conditions created by incompetent government regulation. Wall Street clearly has its demons to account for, but its greed was enabled and often encouraged by incompetent regulations and policy that has a long history.

As we crave more government oversight we should ask who will oversee the government that has demonstrated such spectacular failure.

With the clarity of time we can look back at the brink of the collapse that hit us just prior to the last national election.  In the midst of the collapse we were stunned and angry, and tended to blame the party in power. Although the Democrats had controlled both houses of Congress since 2006, the disaster took its bigger toll on the Republicans.

While the roots of this collapse extend back through many administrations of both parties, it is important to know what did not cause this as well.

Some blamed the deficits, others blamed deregulation, but many just saw the main cause as unbridled greed.  I contend that while there were deficits, and there was greed, none of these played a critical role in fomenting this crisis.

As Thomas Sowell noted, blaming this crisis on greed is like blaming an airplane crash on gravity.  It is true but it doesn’t really explain anything. Worse if we just blame the undeniable then there is no need to examine human error, design flaws, or study ways to keep it from happening again.

Greed has been with us since the dawn of man. Why did it decide to show its ugly face in September of 2008? Greed is encumbered by the limits of a rational society and in a capitalist system it is encumbered by competition.  I may want to charge $2,000 a ton for steel, but competition keeps me from charging what I want, and even forces me to keep my payroll and expenses in line.

Our government tries to contain the fear of greed with regulations. If we are to blame greed we must face the failure of our regulations, or we may even need to face the possibility that our regulations fostered greedy behavior.  The second most common blame was the laissez faire attitude that had fostered deregulation of the financial markets.   Usually this is directed at the repeal of the Glass Steagal Act which separated lenders from investment banks. This law was repealed under The Gramm-Leach-Bliley Act, also known as the Financial Services Modernization Act of 1999, which was signed by President Clinton.

But other nations, notably Canada, also repealed similar legislation and they did not experience the financial crisis we did. But Canada also did not suspend prudent lending standards to force the spread of home ownership beyond its natural market.

Nor was deregulation the norm under George W Bush. In fact just the opposite was true.

Elliot Spitzer noted that we did not suffer from the lack of regulators or regulations. There were plenty to do the job, but they seem to lack the courage and the will to do the job.  We needed better regulations, not more of them.  In many cases the regulated industries such as Fannie Mae  (exempt from SEC and FDIC regulation) spent enormously on lobbyists and campaign contributions to thwart efforts to regulate them.  It was successful for them.

The biggest recipient of campaign contributions from AIG was Barak Obama. The biggest recipient of the PAC assembled by the largest mortgage lender for Fannie Mae, Country Wide Finance,  was Barak Obama. The largest recipient of campaign funds from Fannie Mae was ….. yes, Barak Obama. The second largest recipient in these three cases was Chris Dodd, Chairman of the Senate Banking Committee.

The deficits which seemed so irresponsible at the time now look like pocket change.  Deficits do matter but it depends how long they last, how large they are relative to GDP, prevailing interest rates, and what the deficits are spent on.  Personal debt spent on a house or investment equipment may seem prudent, the same debt spent on a boat or jewelry would not.

While the debt incurred under George Bush was arguably bad, it was not a critical factor in causing the meltdown.  We incurred controversial debts under Ronal Reagan and incurred little repercussion from the financial industry.

Bubbles are nothing new and may just be a part of the pricing mechanism. The Federal Reserve was created to bring stability to our financial system. It first test was the Great Depression of 1929, and it failed miserably.  Nearly 80 years later with the value of the dollar down 95% and in the middle of the worst financial crisis in our adult lives, we should ask if it is part of the problem.

Eliminating commonly perceived causes should help us focus on solutions that will work. If we delude ourselves into blaming greed, deficits, and individual demons we risk designing solutions that not only will not work, but will like make the problem worse

“Fannie and Freddie played the political game even more fiercely than their opponents, spending millions of dollars on armies of lobbyists on Capitol Hill. Each company was a revolving door for the powerful in Washington- both Republican and Democrat. Newt Gingrich and Ralph Reed, among others, worked as consultants for Fannie or Freddie; Rahm Emanuel was a board member of Freddie.”

“By the 1990’s, Fannie’s chief executive could boast, without much exaggeration, that “we are the equivalent of a Federal Reserve system for housing.”  At their pinnacle the two mortgage giants- neither of them and originator of loans- owned or guaranteed some 55 percent of the $11 trillion U.S. mortgage market.  Beginning in the 1980’s, the two companies also became important conduits for the business of mortgage- backed securities.  Wall Street loved the fees it collected from securitizing all kinds of debt, from car loans to credit card receivables, and Fannie’s and Freddie’s portfolio of mortgages were the biggest honeypot around.”

“But in 1999, under pressure from the Clinton administration, Fannie and Freddie began underwriting subprime mortgages. The move was presented in the press as a way to put  homes within the reach of countless Americans, but providing loans to people who wouldn’t ordinarily qualify for them was an inherently risky business.”

From Too Big To Fail by Andrew Ross Sorkin