Yesterday, my friend Ben Yee posted this infographic on facebook with the comment, “It’s called investment.”

In response, one commenter wrote,

So all we have to do to get money is just spend more of it. Oh wow, and can I eat my cake and have it too?! Come on. This is totally disingenuous. Let's not pretend we are trying to optimize government fiscal health here. We're not going to consider the cost-cutting measure of executing this kid for his first misdemeanor because it's immoral. And the people who make posters like these would not be at all interested if it could be established that total tax revenue might actually increase if you just slashed programs and taxes and let successful business people keep more of the wealth they generated so as to provide bigger incentives to innovate. By all means, make an argument for statist social planning if you want, but don't peddle snake oil.

This is a classic example of reductio ad absurdum. What's actually being argued via the infographic is that prevention, in the form of social investments enabling the development of marketable skills, is much more cost-effective than denying such investments & dealing instead with the long-term consequences of such neglect. Underlying that is the standard economic concept of the multiplier effect--the process by which money spent by me in a store, for example, is then re-spent by the merchant on supplies, salaries, rent, utilities, etc., in each case then being spent again further on down the line. In this way, my spending contributes to stimulation of the economy.

Mark Zandi, chief economist at Moody's Analytics & former economic adviser to John McCain's 2008 campaign, ranked the various tools available to the government for use in stimulating the economy. 

The most effective? Food stamps, unemployment insurance & infrastructure spending, because they provide direct funding (the latter in the form of salaries to workers) for people in an economic position where they need to spend it immediately, thus contributing to the multiplier effect. The least effective? Accelerated depreciation allowance & making the Bush tax cuts permanent. Why is that? There are several reasons.

Recall that the financial crisis led to a freezing up of commercial credit. When businesses became unable to get short-term credit via the so-called shadow banking system, they became unable to meet payroll, pay rents & utilities, and began laying people off in droves. When Obama took office, we were losing 750,000 jobs per month. In that context, people across all income brackets began cutting their own spending in a perfectly understandable reaction to the worsening economy. Unfortunately, this had the unintended consequence of worsening the recession, as a balance sheet recession in which not enough money was flowing through the system combined with a drastic reduction in demand, further reducing the amount of money flowing through the system. Making the situation even worse was the fact that the states, mandated (in all but one case) by law to balance their budgets every year, began laying off thousands of public sector workers &cutting spending, again reducing the amount of money flowing through the system. By the way, all those laid-off workers were no longer paying taxes on their former salaries, further reducing the amount of federal revenues. Note that in addition to reduced federal revenues caused by a reduction in the number of taxpayers, the recession has been characterized by lack of demand, as explained above. Contra GOP claims that uncertainty is the main cause of continued economic doldrums, repeated quarterly business surveys have shown that businesses rate low demand as the main reason they're not hiring & expanding. Neither the Bush tax cuts or accelerated depreciation allowance will compensate for lack of demand.

The commenter also stated that "...if it could be established that total tax revenue might actually increase if you just slashed programs and taxes and let successful business people keep more of the wealth they generated so as to provide bigger incentives to innovate." This is a repetition of the by now all-too-familiar supply-side argument for austerity budgeting combined with tax cuts for the wealthy. But in a way, the wording above is more accurate than the commenter may have realized. Contra supply-side claims that high tax rates are depressing the incentive to create and expand businesses, James Kwak notes that a recent study by Christina & David Romer shows that "you could raise taxes up to 84 percent before people’s reduced incentives to make money would compensate for the higher tax rates." What actually happens when you lower the taxes of the wealthy in a recession is that, not being forced to spend the fruits of such largess (since their costs are already covered very well, thank you very much), they simply pocket the money. They're willing to pay lawyers & accountants more to hide their wealth from the taxman, but they don't invest in growing businesses. In short, they just get richer. 

Nor is there any correlation between capital gains tax rates and business investment, as noted by Len Burman in Forbes. He notes that

If low capital gains tax rates catalyzed economic growth, you’d expect to see a negative relationship–high gains rates, low growth, and vice versa–but there is no apparent relationship between the two time series.  The correlation is 0.12, the wrong sign and not statistically different from zero.  I’ve tried lags up to five years and also looking at moving averages of the tax rates and growth.  There is never a statistically significant relationship.

Does this prove that capital gains taxes are unrelated to economic growth? Of course not. Many other things have changed at the same time as gains rates and many other factors affect  economic growth. But the graph should dispel the silver bullet theory of capital gains taxes.  Cutting capital gains taxes will not turbocharge the economy and raising them would not usher in a depression.

Low capital gains tax rates do accomplish one thing: they create lots of work for lawyers, accountants, and financial geniuses because there is a huge reward to making ordinary income (taxed at rates up to 35%) look like capital gains (top rate of 15%).  The tax shelters that these geniuses invent are economically inefficient, and the geniuses themselves might do productive work were the tax shelter racket not so profitable.  And the revenue lost to the capital gains tax loophole adds to the deficit, which also hurts the economy.  

"Optimiz[ing] government fiscal health" is an interesting concept. What constitutes optimization? A balanced budget? Modern societies rarely achieve that; rather, there's ongoing fluctuation in levels of spending & income, dependent on numerous factors including tax receipts, the state of the economy, the state of imports & exports, inflation, interest rates, exogenous factors like wars, natural disasters, demographic changes, etc. A balanced budget amendment, which Paul Ryan, the Tea Party & Romney have proposed to bring the federal budget into balance, ignores all such things. By setting an arbitrary mechanism to achieve balance, a BBA (especially in combination with an automatic spending cap of 20% of GDP, also advocated by the same sources), would condemn the government (especially given the GOP's resistence to the raising of taxes under any circumstances) to perpetual budget cuts. In the context of the worst recession since Herbert Hoover, the combined effects of budget cutting & additional tax cuts would be to push us back into recession, possibly a depression. Here's the most recent analysis by the CBO of the massive cuts due to take effect at the end of 2012 (thanks to the debt ceiling fiasco), making the same point.

One last point. The reference to "statist social planning" implies a libertarian frame of reference. At root, libertarianism rests on the notion that the only unit of analysis in studying society with any validity is the individual & the only allowable focus is on the rights of the individual. But the answers we reach depend on the nature of the questions we ask, and excluding everything larger than the individual (i.e., the social & historical context within which each individual lives) obscures the influence of those larger phenomena on the individual, making it impossible to see those influences & therefore to create solutions to problems involving such influences. With that in mind, let's not pretend that individual entrepreneurs have been solely or even mostly responsible for the results of their efforts. The development of canals, railroads, highways, the electrical grid, the internet & the GPS technology underlying the functioning of your cell phone have all been central to the growth of technological & social change in the US, as they have been in other countries. Thomas Edison, Henry Ford & Mark Zuckerberg would never have been able to develop their businesses in the first place if not for technologies made possible by (gasp) the government.

The influence of thepernicious anti-government ideology promoted by Ronald Reagan, Ayn Rand et al has been central to the galloping inequality our society has been experiencing. It has also been the underpinning of the thinking that brought on the global financial & economic crises that started in 2007. As noted in a recent Guardian editorial,

At the heart of this calamitous strategy is a wholesale misdiagnosis of how the market economy functions and a complete failure to understand why the financial crisis took place, the profundity of its impact and its implications for policy. For a generation, business and finance, cheered on by US neoconservatives and free market fundamentalists, have argued that the less capitalism is governed, regulated and shaped by the state, the better it works. Markets do everything best – managing business and systemic risk, innovating, investing, organising executive reward – without the intervention of the supposed dead hand of the state and without any acknowledgement of wider social obligations.

The lesson of the financial crisis is that this is complete hokum that serves the political and personal interests of the very rich. It has been an intellectual carapace to permit the creation of dynastic personal fortunes while dismantling the social contract that underpins the lives of millions...

The lesson of the financial crisis is unambiguous. Risk – the existence of incalculable unknowns – cannot be handled by markets alone. It has to be socialised by the state, otherwise we encounter chronically low levels of investment and innovation, along with periodic systemic crises, the core message of John Maynard Keynes.

What we've had up to now is privatized profits & socialized risk. And the GOP politicians, who have been decrying federal spending to counteract the effects of the deepest recession since the Great Depression, are now campaigning on a program including repeal of efforts, however inadequate, to attempt to correct that situation. While we're on the subject of snake oil.