US GDP 3rd Quarter 2009

The U.S. GDP, measuring the output of the economy, was reported at $14.3 trillion as of October 31, 2009. In the third quarter of 2009 (July, August, September), the annualized growth rate was 3.5 percent, in contrast to a .7% decline in the second quarter.

The recession has ended for the U.S. economy. A recession is a substantial fall in output. The economy is still depressed, but no longer receding. On April 30, 2009, my article “The Second Derivative Turns Positive” stated that the rate of economic decline was decreasing, which would later end the recession. So it has come to be. The big rise in the stock market after March 2009 reflected the coming end of the recession.

Let’s examine the GDP data to see the particulars. Consumption increased by 3.4 percent, with the durable goods expanding by a whopping 22.3 percent. People were buying many more cars and home furnishings, but much of this growth was artificial, due to the credits offered by government to buy cars and houses. To some extent, this just accelerated some purchases by those who would have bought later.

In the long run, paying people to buy new cars and then destroying the old ones is a big waste of resources. Sure, GDP goes up, but it would be better just to give people money than to destroy valued resources. The “cash for clunkers” program is like breaking windows so that we can make work producing new windows. The French economist Federic Bastiat famously wrote about the “broken window” fallacy that still seems to fool the public.

Private investment increased by 11.5 percent. This refers to economic investment, an increase in the stock of capital goods, not financial investment in shares of stocks and bonds. There was an especially large increase of 23.4 percent in the construction of residential real estate, after having fallen each quarter from 2007 until 3rd quarter 2009. But that too is somewhat artificial, as the federal and state governments have propped up real estate with tax credits and other benefits.

Exports also contributed to growth, after declining in the previous four quarters. Expansion in foreign countries created a greater demand for U.S. goods and services. Not surprisingly, federal spending increased also, by 7.9 percent. National defense spending increased by 8.4 percent, after having also risen in the second quarter. This increase in federal spending comes from borrowed money, and will cause problems in the future. The U.S. dollar has been sinking while gold rose to new heights as measured in current dollars.

The big question now is whether the expansion will continue, or else whether output will again decline, creating a W-shaped double recession. W-recessions are uncommon, but the government could push the economy back down if it enacts steep increases in income taxes. There is already legislation to impose a “surtax,” an increase in the top income tax rate, of 5.4 percent to pay for expanded federal medical care. In addition, the tax cuts enacted at the beginning of the decade are scheduled to expire in January 2011.

The “cap and trade” proposal for pollution is in effect a tax on production, and the minimum wage increase of July 2009 was in effect a tax increase on employers. The higher minimum wage raised the teenage unemployment rate from 24 to 26 percent, and for black teen males, the unemployment rate went up from 39 to over 50 percent.

Instead of “cap and trade,” Congress could enact a revenue-neutral “green tax shift,” a tax on pollution offset by lower taxes on income. Industry prefers the permits, which would trade in a market that could be manipulated as holders game the system. It’s a great way for the big firms to stifle competition from new small start-up firms that would have to buy permits from the established big firms, the permit cartel, at inflated prices.

There would be futures markets, options, guarantees, and other derivatives on the pollution permits, and speculation that would pull the permit prices up. Loans to buy permits, followed by a crash in the prices of permits, would bankrupt banks and insurance companies. But don’t worry, the government would bail out the big players.

The wealthiest few percent of the population already pay a great portion of the taxes, and this becomes a narrow tax base that can flee, hide, and shrink. Already wealthy individuals are looking at exit options. Latin America, for all its problems, becomes more attractive as the state and federal governments increasingly prey on the rich.

Most people, and even most economists, have not realized that the rich get much of their tax payments back in the form of higher rent and land value of their real estate holdings. But if taxes rise too much and the funds are spent for transfers that make the economy less productive, the rich will no longer get back more than they paid in, and we can then watch as economic investment and production flee and hide from the tax man.

If we gave people an explicit choice between shifting taxes to land value and pollution, or an even worse economic collapse years hence, would folks choose the collapse? Because by not doing the tax shift, in effect they are choosing disaster.