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Trump's tax reform could tip America into recession and possibly serfdom

A breeding ground for the next Great Depression now exists.


In simple terms a depression is a recession that begins at a time when there are extreme levels of private-sector debt (and in consequence generally also an over-leveraged, acutely fragile banking system and stratospheric asset prices).

According to the Bank of International Settlements, the relative level of private debt today – whether in global aggregate, in the highly-financialized U.K., and U.S. or in the seven countries highlighted by my colleague Steve Keen, the chief economist at IDEA Economics, as most vulnerable to a debt crisis - is comparable to and, in many cases, worse than in the late-1920s.

Therefore, we should all be desperately seeking to "avoid" triggering a re-run of the 1930s ("avoid" in the standard sense and not the political vernacular where it means "delay for a four to five-year term of office").

Cue the Trump tax reforms…

While President Donald Trump has recognized that America's private sector desperately needs reflating, he doesn't yet appear to have realized that this involves alleviating the personal and business debt overhang and enabling more equitable distribution of wealth and incomes, especially in favor of the poorest and lowest earners.

This can be achieved in several ways, including a combination of higher benefits and earned incomes, reduced real debt burdens (by devaluing the currency, by deflation and/or by debt forgiveness) and greater provision of free or low-cost services by the state.

Quite apart from the social value of these programs, this is merely a recognition of economic realities. Ultimately, the narrower the wealth and income bases are, the less efficient an economy is. If a single individual owns the entire productive asset base, then the only employment is indentured slavery. In other words, serfdom.

Although Trump has outlined indicative policies purportedly designed to promote higher economic growth (or in bloviated Trumpspeak "to make America great again"), the reality of the policies seemingly favored by the new administration appears to be a fast-track return to ruination and possibly serfdom. Despite the rhetoric of phenomenal tax reform supposedly for the benefit of everyone, it appears they may not have learned the lessons of counter-intuitive history.

Although we still await the final details, the proposed tax cuts appear to amount to a further distribution in favor of the wealthiest individuals (and the corporations primarily owned by them). Talk of cutting government expenditure also remains vague and Treasury Secretary Steve Mnuchin has repeated the mantra that the tax cuts will be funded by the additional growth generated (which will seemingly happen towards the end of next year and is only capable of being understood and accurately forecast by those inside the administration).

It seems that we can expect some redistribution of funds from the U.S. government (which has been spending with some degree of equity) to the wealthiest and those earning more than $1 million per annum (who will claim almost half of the tax cuts expected to be offered).

This represents a further redistribution away from those with the greatest need (and therefore the highest marginal propensity to spend) to those with the least marginal propensity to spend.
Corporate and personal tax cuts will simply take out of circulation money that was revolving, albeit at a sedentary pace. In doing so, this creates a curb on economic activity that disproportionately hurts those lower down the income ladder.

In a recent article on The Brookings Institution website, former Fed governor Ben Bernanke acknowledged that in general tax cuts have a much smaller impact on economic demand than government spending. The NBER (National Bureau of Economic Research) estimates that of every dollar of corporate tax cuts, only an additional 50 cents reappear in economic circulation – meaning that it has a very limited positive effect, despite all the false rhetoric being thrown around that tax cuts are significantly stimulatory.

In isolation, they may appear to be positive but in aggregate when the secondary effects of corporate tax cuts are considered, these will invariably disappoint, as more and more commentators have started to realize.

Moreover, this is not a typical time and therefore the headwinds for the assumed Trump tax cuts impacts should be expected to be far stronger than that.

Furthermore, whatever proprietary dynamic models the Trump economic team conjure to support fictional future growth forecasts, the $6-7 trillion of proposed tax cuts will ultimately be funded largely by reduced spending. This will become more evident in the discussions surrounding the debt ceiling increase next month.

At the precise time when increased government spending is required to reflate America, the redirection of this funding into tax cuts is almost certainly adverse. Maybe this explains why Trump tax reform's timeline has now been extended until the August recess.

My empirically-based model of the new administration's tax, infrastructure and government spending policies (especially the tax policies) forecasts that they'd combine to make a bad situation far worse, derailing the U.S. economy and if enacted now, "Trumponomics" could create a primary drag of up to 2 percent on U.S. GDP (gross domestic product) - excluding such secondary effects as higher interest rates, stronger USD FX rates and viciously spiraling deflation.

This would almost certainly tip America into a recession that would most likely become known as America's second Great Depression, having once again blundered in the control of a delicate machine, the complexities of which policy-makers still don't understand.

—Paul Gambles is a managing partner at MBMG Group.

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