Economic Reduction

One of the more aggravating things about the forthcoming tax hikes is the proposed increase to dividend income.  Since 2003 the top tax rate for dividends has been 15 percent.  Under President Obama’s proposed plan dividends will be taxed as ordinary income.  Top income earners will pay 39.6 percent tax on stock dividends.

Unfortunately, this is coming at a time when dividends have never been more essential to capital management and preservation.  The Federal Reserve’s zero interest rate and quantitative easing policies have pushed the yield on the 10-Year Treasury Note down to 1.61 percent…that’s less than the rate of inflation reported by the Bureau of Labor Statistics.  This makes government debt, as an investment option, a guaranteed wealth dissipater.

Thus, over the last several years, high dividend yielding stocks have become indispensable to those saving and investing for retirement.  Regrettably, President Obama wants to strangle this reliable means of investment income…and for what?

If you combine the anticipated revenue from President Obama’s proposed tax increase on dividends with the anticipated revenue from his proposed tax increase on capital gains – from 15 to 20 percent – the government would haul in about $240 billion over the next decade.  That amounts to $24 billion per year.  Based on today’s federal spending rate, $24 billion would run the government for about 2.3 days out of the year.

Obviously, penalizing investors by raising taxes on dividends and capital gains is a political act – soak the rich – and not a valid solution to the country’s debt problem.  Plus, diverting a projected $240 billion in tax revenue from investors over 10-years only presents half the picture.  Here’s what we mean…

Secondary Consequences

“The art of economics consists in looking not merely at the immediate but at the longer effects of any act or policy; it consists in tracing the consequences of that policy not merely for one group but for all groups,” said Henry Hazlitt, in his timeless book, Economics In One Lesson.  Hazlitt’s instructive insight, which he explores in great detail, is that economic policies have long term and indirect consequences.   Moreover, these consequences are regularly overlooked and ignored by policy makers.

While a certain policy may help a certain group of people it will often have secondary consequences on another group of people that are not considered.  Government policies of taxation, tariffs, minimum wage laws, rent control, price fixing, interest rate manipulation, and on and on, all have long term unintended consequences that decision makers do not trace through.  These secondary consequences can be more destructive to the economy as a whole than the expected benefit of the policy in the first place.

President Obama and his kibitzers see a source of money they can appropriate from investors and use for their designs.  But they are blind to what the money would have gone to, and could have produced, had they not confiscated it.  Their actions distort the world and inhibit markets from freely allocating resources to productive and fruitful uses.

In the case of raising taxes on dividends and capital gains, these tax increases stifle the ability of businesses and individuals to accumulate capital.  They also restrict capital from being put to real use within the real economy.  This slows economic growth and private jobs creation.

Dividend investors often reinvest the dividends back into the stock.  This is a tried and true way to slowly build wealth over time.  Greater stock investment results in a company with greater market capitalization.

Economic Reduction

When a company has more capital it can expand operations, open new manufacturing centers, and invest in new technologies.  It can create jobs and bring products to market at ever lower prices.  In other words, capitalism can bring greater wealth to the world for everyone’s benefit.

It is impossible to imagine the wealth and creation that we are all missing out on because of government’s heavy handed intervention into capital markets.  What could be…we’ll never know.  But there’s a moral aspect at work here too…

When an investor purchases a share of stock, he risks losing 100 percent of every dollar invested.  The government does not compensate him for losses.  But if the investor makes a profit, in the form of dividends, under President Obama’s proposal he’s only permitted to keep 60.4 percent of it.  The other 39.6 percent is taxed away by the government.

There seems to be something ethically awry about all this.  Plus, in addition to the example provided above describing how dividend reinvestment spurs economic growth, there are countless other ways this taxation policy reduces the economy…

Suppose the investor, rather than reinvesting the dividend, takes the payout and deposits it in his bank account.  This provides greater assets for the bank, which they can loan out to small businesses, home buyers, and for other uses that stimulate and grow the economy.  Alternatively, the investor could cash the dividend payment and spend it around town on a coffee and waffle breakfast, a barbershop shave, and a new suit.  In turn, this generates revenue for the local economy.

But this sort of economic activity will never occur.  For the money’s already been claimed and appropriated by Washington to pay for dog and cat shampoo, sidewalks to nowhere with federally compliant pedestrian ramps, beef jerky roll-ups, cupcake shops, circus classes, vineyards, learning how to build a farm in a galaxy far away, cartoon school, video games, graffiti art, producing a penny at 2.4 cents a pop, robotic squirrels, Moroccan pottery classes, caviar consumption, Martian food tasting, and much, much more.

Sincerely,

MN Gordon
for Economic Prism

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