Written by Nathan White, Chief Investment Officer of Paragon
I read in the Wall street Journal today that the Tax
Foundation notes that almost 70% of Americans take out more from the tax system
than they put into it. Seventy percent! No wonder the debate about the
fiscal cliff is primarily focused on taxes. It’s a great strategy to
distract people’s attention away from the real problem – spending. Is it
inevitable that as democracies age their citizens become accustomed to the
resulting prosperity and take it ever more for granted by voting themselves
ever more entitlements? Entitlements are always so very well
intentioned and therefore difficult to argue against in a moral sense.
After all, who wants to deny assistance to Sandy/Katrina victims, single parents,
the homeless, those who can’t afford college (isn’t that everyone now?),
retirees, “working families”, farmers, the unemployed – the list is
unfortunately now endless.
The problem is that eventually the entitlements and spending
become unsustainable. So how do we break this vicious cycle? The
problem is offering entitlements in the first place. No one ever wants
their entitlements cut or taxes raised per se (despite what Warren Buffett
says). We usually want someone else’s benefit to be cut or taxes
raised. The mega rich often support higher taxes on themselves because it
won’t materially change their lifestyle but it does create barriers to entry to
more people becoming like them. It entrenches their place at the top.
But I digress, once begun entitlements are hard to end.
Think about it on a personal level, if you get a deduction for a mortgage
or tax credit for children do you want those ended or reduced? No,
because it means your refund will go down or tax payment will go up – either
way you’re out of more money. In fact, if offered an entitlement it
behooves you to take it because if not than you will be worse off economically
on both a relative and absolute level. You don’t have the option for
either a mortgage deduction or a lower rate.
Now let’s say you’re idealistic and want to take a stand
against the growth of the entitlement state that will eventually end in great
pain. You decide to take the high road and refuse any entitlement offered
by the government. Great, except for the fact that you will become
progressively less well-off as time goes by. On a relative basis this
could become very painful as others who take the entitlements maintain or
increase their standard of living – at least until it all comes crashing down.
The more entitlements grow and replace things that people purchased before on
their own the more expensive or difficult those things become to obtain in the
private market. Thus if you chose to forgo entitlements it would
progressively become harder to maintain your standard of living.
Entitlements are such a catch-22 in that one almost “has” to
use them and that eventually they can bring the whole system down. The
only way to avoid their deleterious effect is to not enact them in the first
place or to severely limit their use. However, everyone likes “free”
goodies and politicians use this to their own advantage. It creates the
entitlement trap that can eventually bring an economy to its knees.