There’s always something to howl about.

Understanding the Laffer Curve — Reality & Myth — What’s Next?

Being just slightly to the right of Attila the Hun, taxes are of great import to me. I believe in principles long established. One of them is small government works better for its citizens than large government. Lower taxes are better than higher taxes as long as the bills are being paid, our military is strong enough to deter aggressors, and basic constitutional government functions are adequately funded.

One of the breakthrough economic theories to be proven in the red hot fire of real life application has been the Laffer Curve. Arthur Laffer’s theory was adopted as fundamental to economic recovery by Ronald Reagan during his 1980 presidential campaign.

I’ll let the video below speak for itself, but will allow myself a few pithy observations.

The first time the Laffer Curve Theory was applied tax revenues skyrocketed. The U.S. Treasury’s own records show revenues generated from the early 1980’s tax cuts went up an aggregate 95%. The period measured was the time Reagan took office until he left office — just short of double in eight years. I expect this will be shown in Parts II and III when they’re released.

Actually, the first time the theory was applied was before anyone, including Laffer himself had even thought of the Laffer Curve. It was John Kennedy who cut the top marginal rate from (I’m not making this up.) about 90.5% (!) down to a paltry 70%. The reason Kennedy used was that it would spur the economy, and increase the actual tax dollars collected. Go figure. History shows he was dead on right. That top rate remained until Reagan cut it to 28% over two decades later.

Opinion — If we ever get income taxes, capital gains taxes, and corporate taxes where they belong, and combine them with cuts (elimination?) in the fat of government spending — we’ll see an economic surge that will make the Reagan boom look like a blip on the screen. But alas, I daydream. Cockroaches as a species will die before pork barrel spending does.

Opinion — Together with the significant liquidity increases in both the U.S. and European banking systems, and Bernanke’s most recent 125 point cut in the Fed Funds Rate, we now have lenders with money and a real profit margin available.

Fed rate at 3% in a lending market of 5-7% means we’re finally back where banks can lend at reasonable rates for a reasonable spread. For the first time in quite awhile the Fed Rate is lower than the 10 year bond yield, which is the norm.

Opinion — With the current tightened underwriting rules in practice, the new loans will be to borrowers/properties worthy of prudent risk. No more funny money lent to middle school teachers making $200,000 a year. 🙂

The louder the talk gets about the economy tanking the more confident I become as a contrarian. When the huge money begins sniffing around the edges of the black abyss, a change is on the way. That’s in large part why they have huge money. 🙂

Opinion — The downside? From my view, if any of the presidential wannabes are elected we’re all in deep trouble. I’ve not seen such a pathetic group since I’ve been able to vote. It’s depressing to say the least. All of them would tell you there are eight days in a week if they thought it would get them elected.

What the Laffer Curve has demonstrated beyond any rational debate, is that if tax rates are higher than a certain point, lowering them results in taxpayers modifying their behavior. Duh! I’ll only speak for myself here. If the Bush tax cuts aren’t made permanent, or worse yet our taxes are raised, I’ll be modifying my behavior.

How might you be changing yours?