Category: Intervention

In some ways the category of Economic Intervention plays the most important role on this blog site. Without intervention we would have Free Markets. The other categories become important because, to paraphrase Friedrich Hayek, to understand why intervention does not work we must first understand how free markets would work. AKA Market Intrvention

Minimum Wage vs. Balance

~ Jim Berger ~ 1 Comment

I began, several weeks back, by stating that minimum wage laws are a terrible idea. I made several posts laying the ground for the idea that minimum wage laws represent only a small part of the problem of government intervention, which upsets the balance in markets established through unfettered exchange.

I now return to the minimum wage laws and show how they fit into the general patterns of government intervention: redistribution, regulation, and monetary expansion.

Redistribution

We usually associate the process of government redistribution with the confiscation of private property (taxation) and disbursements (spending) to other parties. Minimum wage laws represent a more devious form of redistribution.

Government assesses a different form of tax by forcing employers to pay workers more than a market wage. This process has the same effect as if the government taxed the employer an amount equal to the difference between the worker’s market wage and the mandated minimum, then remitted that amount to the worker. The government receives a sneaky bonus by imposing this form of taxation: the government gets additional FICA taxes from the employee and the employer.

Regulation

The most obvious intervention of minimum wage laws occurs in the form of regulation. Regulations attempt to get people to shift their preferences by defining acceptable behavior then imposing some form of penalty for non-compliance. Many (most) business licenses do nothing to improve the quality of a product or service provided. The business owners simply prefer to pay for a license and stay in business than close the business and pay a fine or go to jail.

Minimum wage laws apply the same sort of limitations on the free exchange of labor for fair compensation. These laws tell employers that they will receive a punishment for providing a job for less than an arbitrary sum. Employers will prefer not offering a job that they value less than the regulated minimum than providing the job and suffering a penalty.

Minimum wage laws don’t raise wages. They take lower-paying jobs off the market. People willing to accept less pay have opportunities taken from them.

Monetary Manipulation

(Mostly Expansion)

Manipulation of the supply of money amounts to the most insidious form of intervention affecting minimum wage laws. Its effect runs counter to what legislators claim they want for workers. By expanding the quantity of money, government reduces the real wages of all employees—including those at the bottom. As prices and revenues rise, the perceived value of low-end labor seems to increase. Nominal low-end wages increase, but their purchasing power declines. Thus, in real terms, the value of the wage minimum does not increase—and may even decrease.

What the government gives with one hand, it takes away with the other.

Conclusion

Free markets tend toward a dynamic natural balance. They achieve this balance as the result of many individual transactions. Both “buyers” and “sellers” leave each transaction receiving something they value more than what they give up. These individuals don’t worry about the market as a whole; they only wish to satisfy their own preferences. But, when these transactions all link together, they achieve an effective and efficient allocation of resources. They achieve a sort of dynamic balance.

Anything done to intervene in these voluntary transactions upsets the balance throughout the market. One of these interventions consists of minimum wage laws. By preventing the voluntary exchange of labor for wages, the government causes destructive waves throughout the market.

These laws cause some workers to suffer unnecessary unemployment. In some cases, they create an additional tax burden on employers, with the negative effects that added taxes cause. The few workers who seem to benefit from this form of intervention have their real wages diminished by expansionary monetary policy. (Monetary policy ironically intended to maintain full employment.)

Proponents base minimum wage laws on a grand lie: that intervention can improve the natural dynamic balance of a free market.

Lower Producer Costs

~ Jim Berger ~ Leave a comment

The importance of consumer satisfaction—which I have referred to as Consumer Sovereignty—plays a critical role in the behavior of all actors involved in the structure of production. Miners, manufacturers, distributors, and retailers will all try to lower their costs so they can pass the saving on to consumers.

To understand this tendency, let’s examine the behavior of a single person acting as both producer and consumer. If we watch a man—we’ll call him Joe—cooking his own dinner, he will not spend more time, use more utensils, or include more ingredients than he needs to prepare the meal he desires. If the normal cooking time amounts to half an hour, Joe will not continue cooking for two hours. Of course, he does not want to burn his dinner, but, even if burning were not a risk, he wants to eat so he can get on to other activities.

If Joe enjoys cooking so much that he starts a restaurant, he will face a similar challenge in satisfying his customers. To have a successful restaurant and stay in business, he must keep his costs lower than his prices. Also, lower prices will generally lead to more customers. Thus, to have lower prices and more customers (and stay in business), Joe has a natural pressure to keep his costs low.

Of course, wages make up part of the operating costs of a business. The downward pressure on costs creates downward pressure on wages.

The reduction of all costs, including wages, occurs as a natural outcome of satisfying the desires of consumers.

Does all this mean that Joe should lower his prices to near zero and force his worker to work for close to nothing?

Running a business requires considering more factors. For example, Joe’s restaurant seats only 35 people, so what benefit does he achieve for lowering prices and costs to gain more customers?

I will look at price setting next.

Consumer Sovereignty

~ Jim Berger ~ Leave a comment

Legislating minimum wages, at any level, is a dumb idea. It fits a pattern of dumb ideas suggested by the interventionists in governments. Many of the critics say that minimum wage laws lead to more unemployment. That statement turns out to be accurate, but I want to begin this discussion on a much more fundamental level.

I want to point out the importance of the consumer in a free market system.

The only purpose for an economic system consists of responding to the desires of consumers. All production and all trade exists for the sole purpose of satisfying consumers. This statement holds true at all levels of production and exchange.

The mining process, which produces one of the highest orders of goods, exists to produce lower-order goods that ultimately turn into consumer goods. Without the need to satisfy consumers, farming, mining, manufacturing, distribution, and retailing would not exist.

Because of the importance of satisfying consumer needs, Ludwig von Mises coined the term “Consumer Sovereignty.” Although that term might seem a little extreme—and it has for some economists – it does, however, emphasize the importance of consumers in the structure of production.

You might ask, isn’t this obvious, or what does this have to do with minimum wage legislation?

First, this article lays the groundwork for understanding the harm caused by many forms of government intervention.

Second, this article sets the stage for understanding that consumers have more influence on wage rates than do employers.

The Real Tax Burden

~ Jim Berger ~ Leave a comment

Socialists have one big weapon they want to use to correct many of the economic ills that they see. They want to use taxes as a way to redistribute money from billionaires to those they see as needier. If you see significant inequities in the distribution of income, that seems like a reasonable approach to take.

Confiscating the money of wealthy people and distributing it to the less wealthy creates a lot of complications. I want to focus today on the counterintuitive question: Who actually pays taxes?

For this article, I want to focus primarily on income taxes collected at both the state and federal levels.

Tax Collection

Collecting taxes seems like the simplest, most straightforward, step in this whole process. The billionaire simply writes a big check payable to whatever level of government is collecting the taxes. It doesn’t, however, work quite that easily.

First, the billionaire must pay someone to prepare his tax returns. Generally, the wealthy have more complicated tax returns, which diverts a considerable amount of economic resources to a mostly unproductive process of completing tax returns.

Second, the government doesn’t just rely on the returns prepared by the taxpayer. They must hire people to review, audit, and actively collect taxes due.

Thus, between tax preparation and tax collection, a great deal of money is devoted to nonproductive processes.

Redistribution

The inefficiencies in the tax collection process all occur for a good cause, to aid the less fortunate citizens.

The next step in this process consists of providing various benefits to middle and low-income citizens (consumers). But, do those citizens get to determine on what to spend that money?

No, government bureaucrats acting with the authority of laws and regulations determine how the money collected in taxes gets redistributed. One can argue all day whether tax revenues actually get to the people who really need them.

In this process of redistribution, we cannot forget the government bureaucrats. Some of the tax money collected provides office space and salaries for these people. Thus, to the resources misallocated during tax collection, the government adds resources misallocated during the redistribution of those tax dollars.

We tend to accept that always costs something to help those in need. But, do they really benefit from that assistance?

Price Increases

Since socialists tend to be linear thinkers, they tend to overlook the feedbacks caused by the policies they implement.

By providing a whole group of consumers with money, for which they made little or no sacrifice, the redistribution process creates a whole new level of demand for various goods and services. That increased demand can come in a couple of forms. First, consumers now have the capacity to pay more for the services designated by the government bureaucrats — e.g., healthcare, education, food, etc. Second, because the government now pays for many of these more basic needs, these consumers can now pay for other products that they would have to bypass without having other expenses subsidized.

Because of the additional demand in various sectors of the economy, businesses (in this case, we’re worried about our billionaire) will tend to increase prices to acquire more plants and equipment to meet the demand or to increase their profit margins. Thus, the money received through income redistribution creates upward pressure on market prices.

This redistribution process creates additional harm to the long-term health of the economy. It causes a general shift from savings to consumption. This process may make people feel better off in the short term, but the long-term reduction in capital investment creates a long-term drag on future consumption.

Conclusion

Because the only purpose for economic activity consists of providing goods and services for consumers, and consumers decide what goods and services they prefer, all costs, including taxes, ultimately get paid by the consumer. Taxation may shift money from high-income earners to low-income earners in the short term. In the long-term, however, the burden of taxation really shifts to consumers.

This whole process places in motion a cycle that perpetuates consumption at the expense of savings. In the long run, this creates a drag on capital accumulation and the long-term increase in real consumption.

If you look at the areas of the most rapid price increases (healthcare, education, infrastructure construction, and food prices, for example), you will find the areas of the greatest government involvement in the redistribution of income. Taxation does not work as a vehicle for solving economic inequities — real or imagined.

National Debt Burden

~ Jim Berger ~ Leave a comment

Pundits, inside and outside of government, make a big deal out of the problems of national debt. Before you understand the problem of national debt you must understand the truth behind what they say about national debt.

Having the federal government borrow money to finance its operation does not really amount to the large problem some people believe. The real problem consists of the misallocation of resources caused by government “spending.” Government borrowing simply provides another way of financing the misallocation. The real risk from government debt comes from the effect that it has on financial markets, not the impact that it has on the economy.

Who Really Pays

Many people claim that national debt creates a burden for “our children.” As long as we have a progressive tax system, “our children” will never bear a large portion of the current tax burden nor will they bear the burden of government debt.

When the time comes to pay national debt — if that ever occurs — it will be the children of rich people, or new rich people, who bear that burden. We can’t understand how big a problem national debt will cause until we understand exactly who pays it and what happens to the money in the interim.

Occasionally a person will claim that government debt does not represent a problem because we “owe the money to ourselves.” The problem, as I mentioned in my opening, does not consist of who owes money to whom but the deleterious effect of resource allocation through government “spending.”

Government finance consists of a very complex subject. A person can never achieve a real understanding of the problems and its ramifications.

Walk with me through three diagrams that I hope will give you a handle on why government debt by itself does not represent a large problem.

Government Finance Without Borrowing

The diagram below represents a very simple model of how government finance should work. In order to pay for its outlays government must collect taxes. In this example, they collect an equal amount from Taxpayers A and B, and they collect next to nothing from Taxpayers C. Those taxes represent the bulk of government receipts with which it pays its outlays. (To simplify this model, I have left out other forms of government revenue — park fees, license fees, etc.)

Also, forgive me for using the word “outlays” instead of the commonly used word “spending.” For me the word “spending” connotes exchanging something for value. Most of what government calls “spending” consists of redistribution; so, it doesn’t deserve to be described as “spending.”

Machine generated alternative text: Taxpayers A Taxpayers C Go vernm ent Taxes Taxpay ers B G overnment Outlays Outlays Beget Taxation Government Rec eipts

You can see from this very simple example that government taxes finance all government outlays. For the purpose of these examples, I make no argument about the validity or you effectiveness of the government outlays.

In the next model I will show how government uses borrowing to finance some of its outlays.

Government Finance Including Borrowing

Government must always receive enough money to equal its outlays. When it doesn’t receive enough in tax revenues, it must borrow the balance. The diagram below depicts that process in a relatively simple form.

As in the previous diagram Taxpayers A and B split nearly the entire tax burden between the two groups, and Taxpayers C contribute next to nothing. In this case, however, Taxpayers A and B play different roles. Taxpayers A, mostly entrepreneurs, invest most of their income into various investments. Taxpayers B invest most of their money in government bonds.

Thus, Taxpayers B provide all the money the government borrows. This allows Taxpayers A to delay their tax burden for an undetermined time. Because of this tax deferral, Taxpayers A have more money to reinvest than they would have if government had collected enough tax revenue from A and B to cover its outlays.

This process has the effect of temporarily transferring the liability of Taxpayers A to Taxpayers B. Does this mean that the children of Taxpayers A face an additional tax burden in the future? Yes. But, some benefits accrue to the errors of Taxpayers A. Government acts, in effect, as an intermediary for a low interest loan from B to A.

I will attempt to demonstrate this in hypothetical example below.

The Real Effects of Government Borrowing

The diagram below represents a hypothetical situation in which, instead of lending money to the government, Taxpayers be lend the same amount of money directly to Taxpayers A — with a guarantee from the government.

This diagram, of course, does not represent how government financing actually works, but it does represent the real effects of government borrowing.

Machine generated alternative text: Government D ebt repayment Outlays Taxpayers C Government Taxes Outlays beget Taxation Taxpayers A Taxpayers B Taxpayer A's Debt Taxpayers A B orrow Government Rec eipts

[I think you can see that I could’ve made a simpler diagram. I left this diagram in the same format as the previous diagram so you could see the effects of simply substituting “Taxpayers A Borrow” for “Government Borrows.”]

In this case, Taxpayers A receive what amounts to a low interest loan from the Taxpayers B, at a preferred interest rate. Of course, Taxpayers A will eventually need to repay the debt, but, in the interim, they receive a return on the money they don’t pay in taxes and can invest.

If the financing arrangement were done according to this hypothetical example, no one would complain about the burden imposed on future generations. People see a big problem, however, if when government achieves the same results by doing the borrowing itself.

Foreign Lenders

I have not discussed the influence of foreign lenders to our government. That process can become very complicated depending on how foreign banks deal with that money. If, for example, they expand their own money supply in order to acquire US dollars, that will hold down the price of US imports giving a benefit to US consumers, and causing inflation in their own country.

Investment Risk

So, why should we consider government debt a problem?

The biggest risk of massive government debt arises in the financial markets. When government debt rises to the point where investors doubt that the government can raise enough tax revenue, the price of those bonds will decline significantly causing disruption to financial markets. That disruption can feedback into the “real” economy.

Conclusion

I have attempted to explain a very complex issue with a few words and diagrams. But, above all else, I want you to comprehend that complexity.

When someone tells you that the rising federal debt represents a huge problem, and a huge burden for “our children,” remember the complexity of the process. Don’t consider the results all good, all bad, are all benign. You need to know who’s paying the taxes, who’s getting a tax deferral as a result of government borrowing, what they’re doing with that deferred tax revenue, and what effects it has outside this simple example.

The real problems arise from the redistribution resulting from government “spending.”

Healthcare Economics

~ Jim Berger ~ Leave a comment

Government involvement in “healthcare” provides startling example of an incredible waste of resources that no one seems to notice. It shows how a current benefit causes a long-term drag on the economy.

In my last post I pointed out how a vote for government amounts to a vote for economic inefficiency.

In this post I will point out some important questions regarding a specific intervention of government in the market — the intervention in “healthcare.”

The complexity of this subject precludes me from covering it in any detail. I would simply like to point out some of the issues that people seem to ignore when dealing with the subject.

Terminology

How can we discuss the subject intelligently without using accurate terminology?

We have for years used the euphemistic term “healthcare” to refer to what should more accurately be referred to as “sickness-care.” In common usage, people normally use the term healthcare to refer to prescription drugs, hospital stays, vaccinations, etc. These topics, however, have a great deal to do with sickness and very little to do with health.

Most people also seem to deny that this sickness-care is a product or service that should have a normal market price. Some people claim that they have a right to healthcare. By some magical activity it should be given to them with no cost. They don’t seem to understand that healthcare consists of a service like many other services—not much different from the service of a plumber or an auto mechanic. Natural law gives you the right to life. It does not give you the right to health; that’s up to you.

To prevent confusion on your part I will continue to refer to sickness-care as healthcare. I don’t want you tripping over too many new concepts all at once.

Prices-Costs

Price plays an important role in the allocation of all resources—even those used in a service like healthcare. But, what mechanism tells bureaucrats what to pay providers for medical treatment services? They have no way to effectively and efficiently allocate resources to such a valuable service because they have no price mechanism to observe. If they want a resource, they give up nothing to get it—unlike a consumer would.

The willingness of people to pay for healthcare should determine the price of medical care in the same way that people’s willingness to pay for gasoline determines its price. How much do you value your own health? What sacrifice would you make to maintain good health?

The government does not — indeed cannot — know the answers to these questions. And, providing the service free, or cheap, creates another set of problems.

Demand

Economists don’t agree on very much, but they nearly universally agree that providing a good for free, or cheap, leads to more demand.

More demand almost always leads to higher prices for the entity paying the bills. When government takes on the role of providing any service for people, the price, ultimately paid by taxpayers, tends to rise. Look at the many activities in which government intervenes e.g. schools, union wages, postal service, real estate, etc. The prices rise faster than the rest of the market. The same thing happens to the cost of healthcare.

With free healthcare people tend to have more doctor visits, more visits to the ER, and more demand for prescription drugs. Since government does not know the value of any of these services, they have no way of knowing how much to provide nor at what cost.

Allocation

Ever-growing demand with the lack of an effective pricing mechanism leads to an inefficient allocation of medical resources. As with most government activities, providing healthcare amounts to a redistribution from the healthy and productive to the sick and less productive. This redistribution causes a drag on rest of the economy that affects all consumers. Without these pricing mechanisms, how can bureaucrats know who should get what treatment and when?

This principle—mis-allocation due to lack of price signals—applies particularly to what has become a political talking point: pre-existing conditions. Who defines the meaning of pre-existing conditions and determines who has them? Then, who pays for the treatment of those pre-existing conditions. As indicated above the healthy and more productive people pay for the sick and less productive.

The resources taken involuntarily from productive activities actually create a negative feedback for the sick themselves. The long-term source of the philanthropic support of those with serious conditions gets diminished by current taxation and transfers to the ill.

Enough resources do exist to help those who really need long-term financial assistance for their medical needs. Individuals, however, not the government should decide from where those resources come. The government, by confiscating people’s resources, insult the voluntary kindness of people and their willingness to help people in need. People with pre-existing conditions would not die in the streets without government stealing on their behalf.

Conclusion

Healthcare, like any other service, should be left to the participants in the market. Consumers should decide how much they value their own health, and generous individuals can and will help who need long-term medical care.

Government intervention in healthcare leads to at least three detrimental outcomes:

  • Higher costs—paid by tax payers.
  • Misallocation of resources—robbing more productive people.
  • A general drag on the economy—costing the healthy and sick alike.

Will legislators ever have the political courage to take the right and effective action and get government entirely out of the business of providing healthcare?

 

Election Day

~ Jim Berger ~ 1 Comment

Your vote today supports theft, tyranny, and disaster.

When you cast your vote today, think about what you have really done. You have really abdicated your responsibility for your life, liberty, and happiness, in favor of authorizing theft, tyranny, and disaster. You probably feel like you’ve done the responsible thing. Your friends, family, the Hollywood elite, and the news media, all tell you so. But you need to use language that accurately describes the economic result of a vote in what people erroneously refer to as a democracy.

When political power overruns an economic system, voters should describe it in language that accurately describes what voters have done.

Theft

Voters have been led to believe that they do the right thing for our citizens when they vote for a system that offers healthcare, Social Security, welfare, and infrastructure. These all seem like things from which citizens can benefit. This may be true, but voters need to consider what they give up for these benefits.

Government “spending” creates a mis-allocation of precious resources. Government does not bear the cost of its “spending,” as do individual consumers. It engages in theft, which we refer to as taxation, in order to redistribute other people’s resources.

Would you steal from your neighbor in order to pay for something you want? Then why authorize politicians to steal in your name — even for a good cause?

Tyranny

Most of us want to improve public safety, assure that citizens deal with each other fairly, protect public health, and protect the environment. But, do political means implement the best processes to achieve these objectives?

What we refer to as “regulations” really amount to tyranny and oppression. Voters engage the monopoly force of government to restrict the behavior of other people. They violate the rights of citizens by restricting their use of their own property.

Disaster

Most citizens desire a healthy and growing economy — one that supports sufficient jobs and income for people to live comfortably. They have grown to believe that rising prices are a sign of a healthy and growing economy. If the banking system must expand the money supply to accomplish this objective, voters do not object.

Economists and politicians refer to monetary expansion as a form of economic stimulus. Monetary expansion, however, disrupts the market’s healthy pricing mechanism. The misinformation created causes artificial booms, which invariably lead to economic disaster. Along the way many of the rich get richer — but not in a healthy way. They don’t make more money by providing more and better products for consumers, they do so in trading with the artificially expanded money supply.

Conclusion

Whatever your political philosophy, voting supports the economics of oppression. It legitimizes the system in which the monopoly power of government intervenes in the normally efficient operation of markets.

  • Government engages in theft in order to redistribute resources according to the preferences of politicians.
  • Government engages in tyranny by influencing people’s behavior through the threat of violent force.
  • Government sets up the economy for future disaster through artificial stimulation resulting from the expansion of the money supply.

Election day provides an opportunity for you to consider the negative influences of the political means on your economic well-being. The words theft, tyranny, and disaster evoke a different emotional response than the terms spending, regulation, and stimulus. But, shouldn’t voters use words that more accurately describe for what they’re vote.

Take the opportunity to learn why markets unfettered by violent intervention—Free Markets—will always provide more effective and efficient allocation of resources.

Free markets bear a similarity to life — difficult; but rewarding.

 

Economics of Invasion

~ Jim Berger ~ 1 Comment

More people added to the population of the country adds nothing to its economy, unless they bring capital. Invaders generally don’t bring capital, they consume it.

Television screens have been filled with images of a large group of people marching across Mexico with the stated intent of seeking asylum in the United States. Many of those people — in fact most of them — state that they will enter the United States by one means or the other. This does, in fact, make them invaders. No other word describes this group of people accurately.

Some people argue that the term invader seems a little harsh for people attempting to get into this country. For that reason, a good working definition would help.

Invaders consist of people who enter another person’s property to take stuff — by force, if necessary.

In addition to objecting to the use of the term invader, some people claim that these people coming to the United States will provide a net economic benefit. I want to question that premise.

Current Economic Drag

It seems that throughout our economy people have the mistaken assumption that increases in population actually add to a healthy economy. More people, in fact, do not strengthen an economy; they weaken it. Only the addition of capital contributes to economic growth and prosperity.

When people move to a new area their presence involves capital consumption. They consume resources that others could use to build businesses. Only when they move to areas that have idle capital do they have any possibility of making a net contribution. The existence of idle capital presumes no workers available in that particular area.

In addition to consuming capital, new residents in a country have a depressing effect on local employment — particularly where minimum wage laws exist. Because minimum wage laws actually reduce the number of low-paying jobs available, these new residents will frequently displace citizen workers.

Myth of Future Contributions

In addition to overestimating the current value of additional residence, people also tend to greatly overestimate the current value of the future contributions of invaders. Even though many migrants to this country have started successful businesses, it takes many years to realize that potential. That future potential has limited value in the present.

Whatever present value future potential may have, it becomes highly diluted by the great majority of unskilled workers who will remain unskilled in the future.

Betting on the probability that large groups of immigrants contain a few individuals with huge future potential makes as much sense as attempting to make a living by buying lottery tickets.

Violent Intervention

No one, including myself, has claimed that these people have any intention of mounting an armed invasion. The means at their disposal consist of using our own violent intervention against us. They will use the resources of the United States the steal the property of American citizens via the violent intervention of our tax system. Our own government confiscates the property of our citizens to pay for the resources used by these people after they cross the border.

Some people claim they have a beneficial effect because they are net tax payers. That assertion is at best subject to question and at worst factually inaccurate. Consider that roughly 50 percent of our own population does not pay income tax. What percentage of these new people will have incomes that require them to pay taxes?

When we include the repatriation of American dollars to the countries that these people left, it becomes even harder to argue that people who cross the border illegally actually make a positive contribution to our economy.

Conclusion

The political and economic plight of the many people attempting to come to the United States does not negate their intent for invasion. They plan — whether knowingly or not — to use the power of the federal government to “steal” the property of American citizens. They do not have the capability, with the resources they bring, to make a positive contribution to the United States economy.

The economic arguments in favor of invaders simply provides weak cover for the political motives of those who encourage them.

Federal Finance Made Easy

~ Jim Berger ~ Leave a comment

It never ceases to amaze me how people misunderstand the process of financing the federal government. The ridiculous economic stimulus programs that the government frequently adopts provide just one example.

I thought that a simple explanation of the dynamics of government finance would help readers understand how this system works.

How the Government Spends Money

To understand government finance, you must first understand the meaning of what people generally refer to as government “spending.” Although I do use the word occasionally, I try to avoid “spending” when referring to the money government disburses. Spending implies voluntary exchanges of earned resources (or money) for goods and services. Governments do not earn money. We’ll see how they get it in a moment.

Despite the laundry list of programs that get money from the government, those programs fall into three general categories of disbursements: 1) transfer payments; 2) acquisitions; and 3) debt payments. This diagram depicts those general categories of disbursements from the Federal Government to the National Economy.

Transfer payments

As the term implies, transfer payments simply transfer money to individuals, who belong to some specific group or category of citizens (or even non-citizens). Examples of transfer payments include: Social Security, Medicare, Welfare Payments, and Economic Stimulus Payments. The government receives nothing in return for these payments.

Acquisitions

Acquisitions include all disbursements made in return for products and services. Unlike transfer payments the government gets something for the money it disburses. Examples of acquisitions include: Defense, Highways, Buildings, and Salaries for Legislators and bureaucrats.

Debt Payment

Debt payment includes all payments made on federal debt obligations. This includes principal and interest.

As many categories as the people in government invent, and as many hearings and debates the legislators have, the “spending” side of federal finance boils down to these three categories: money given away (transfer payments), money to buy stuff (acquisitions), and money to pay debt obligations (debt payments).

That, however, does not provide a complete picture. Every dollar that government disburses must come from somewhere. Government has no money of its own. And, it earns no money.

So, where does government get the money it disburses?

How the Government Gets Money

Coincidently and conveniently it comes from three sources. I have completed the diagram of government finance to show those sources of money: 1) taxes, 2) inflation, and 3) borrowing.

Taxes

Taxes—all forms of federal taxes—provide the primary source of money for the disbursements described above. (I have included fees with taxes because the market does not determine these fees.)

No matter how nicely you phrase it taxation amounts to the use of the coercive power of the government to take people’s private property. Plunder, thievery, and taxation all provide accurate names for this source of government money.

Borrowing

The nature and effect of government borrowing seems to confuse people. Most explanations of government borrowing tend to complicate the subject beyond comprehension.

First, why does government borrowing occur?

As depicted in the diagram, the government must have a source for every dollar it disburses. Taxes provide the money for most of those disbursements, but when the government spends more money than it collects in taxes it must borrow to cover the deficit.

Second, what effect does borrowing have on the national economy?

In simple terms, borrowing has only a slightly different effect than does taxation. It takes money, which has other uses, from the national economy. Just as with taxation, when the government borrows money from the economy, that money gets used as government authorities dictate, without the benefit of a pricing mechanism. That money is no longer available for any other purpose for which the free market might have used it.

Third, what secures government borrowing? Or, what provides assurance of repayment to lenders?

People don’t lend money without the expectation of getting paid back. When people lend money to a government they rely on the government’s ability to tax in order to repay those loans. The security for government debt comes from its ability to tax.

(I don’t have the space to elaborate here, but don’t get confused by people who talk about “borrowing against our kids’ future.” First, money borrowed by government gets redistributed in the economy today—not in the future, just like taxes. Second, when government makes debt payments in the future, government redistributes that money in the economy at that same time in the future. The government makes a transfer today. The government makes a transfer in the future. In addition, the “wealthy” lend money to the government; the “wealthy” pay taxes to repay that debt—not “our kids.)

Inflation

With the aid of the banking system, the government can create new money to “pay its bills.” The Government likes this method for “collecting” revenue for several reasons: it can do it unilaterally (with the assistance of banks), without people noticing, and people don’t feel the pain immediately.

I have described inflation as a receipt like the other sources of revenue because inflation takes value away from people in the economy—just as taxation does. When the banking system creates new money—from nothing—the value of money already in existence declines. But, the decline in value does not affect everyone uniformly. Those who get this new money first benefit; those who get it later suffer. Just like counterfeiting.

Although the banking system has the power to create money for any purpose, it frequently creates it to buy federal debt—frequently referred to as monetizing federal debt. That does not change the effect of inflation: transferring value from on group of people to another group.

(Because of the complexity of the concept of inflation, I will address it in more detail in future posts.)

The Books Must Balance

For every dollar the government disburses it must receive a dollar from somewhere. Disbursements and receipts must always equal. Simple. Keep this in mind whenever reading or hearing about government finances.

When your legislators propose wonderful sounding programs (e.g. healthcare, museums, homeland security, or economic stimulus) they must tax, borrow, or inflate to get that money. They cannot give you anything for free.

Similarly, when they propose tax cuts without equivalent spending cuts, don’t let that fool you. They must borrow or inflate to make up the difference.

This system looks rather benign. Doesn’t the government put back into the economy every dollar it takes out?

Yes, it does. However…

A Flaw in the Model

That last question exposes the flaw with the model I have presented here. The homogeneous entity that we refer to as “National Economy” simply does not exist. The economy actually exists as an interconnected, yet heterogeneous, collection of individual people and businesses.

Transfer payments, acquisitions, and debt payments do not go to everyone equally. The government makes those disbursements to specific people or organizations—based on the whim of legislators, not the desires of market participants.

Taxes, borrowing, and inflation do not come from individual people and businesses uniformly. Specific people or organizations pay taxes, lend money, or suffer from the effects of inflation.

The Wealth Redistribution Machine

In summary, the federal government acts as a gigantic wealth redistribution machine. In the aggregate, the government gives a dollar for every dollar it takes. The economy, however, does not operate as an aggregate. So, for every dollar the government gives to one group of individuals it must take a dollar from another group of individuals.

Government finance simply amounts to involuntary, coerced, exchange.