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Tax Cuts Do Not Cause Inflation. Printing Does...

Authored by Daniel Lacalle,

The narrative to attack any tax cut and defend any increase in
government size is reaching feverish levels. However, we must continue
to remind citizens that constantly bloating government spending and
increasing the size of monetary interventions are some of the causes
of the widespread impoverishment of the middle class. Constantly
increasing taxes and diminishing the purchasing power of the currency
is wiping out the middle class in most developed nations.

Currency printing is not neutral, and it never is. It
disproportionately benefits government and massively hurts real
salaries and deposit savings. It is a massive transfer of wealth from
savers to the indebted.

Readers may say that what needs to happen is to tax the rich and
corporations and all will be solved. Why do you think that many of the
ultra-wealthy are extremely happy with financial repression, issuing
more currency, cutting rates and higher taxes? Because the net effect
is positive for them and negative for you. Financial repression is a
tool that makes it more difficult for the middle class to be richer
and therefore wipes out private savings and any possible competition
at the top.

The latest dogma is that tax cuts are negative because they boost
inflation. However, it is yet another fallacy predicated on the idea
that money is better off in the pocket of government.

Inflation is the destruction of the purchasing power of a currency,
not “rising prices.” Prices do not rise in unison due to an exogenous
factor like a war unless the quantity of currency issued is higher
than the growth in the productive sector.

Government spending weighs close to 50% of GDP in most developed
economies. One unit of currency in the pocket of government is
certainly spent and even multiplied, as most of the public sector will
spend that unit of currency and more via deficit.

Cutting taxes does not add units of currency to the economy. It is the
same quantity of currency only a bit more in the pocket of those who
earned it.

When governments reduce taxes, the citizens and businesses that have
earned money have more in their pockets. Some might spend it, others
might save it, which means investment, and others might take more
credit. Tax cuts are only inflationary if they boost and extraordinary
and unjustified credit impulse. This is rarely if ever the case.

A unit of currency in the hands of government is certainly going to be
spent, adding even more money into the system via debt and deficits. A
unit of currency in the hands of those who earned it is not just
likely to lead to a better capital allocation but also it is fair.

Tax cuts in an inflationary environment are not just logical and just,
but necessary because most governments do not deflate their tax
receipts and, by keeping monetary tax rates untouched, receipts rise,
and the amount of taxes paid by citizens increases.

Inflation is a tax and a policy. Governments benefit from inflation
collecting higher receipts due to the inflation impact on tax
revenues, while citizens suffer elevated prices, higher direct and
indirect taxation, and lower real wages.

If increasing the size of government is always dangerous it is even
more perilous in times of high inflation because the risk of
malinvestment becomes a certainty.

There has been a massive campaign against any tax cuts all over the
world that adds to a view that all government spending is justified.
The concepts of efficiency, saving and prioritization have been
abandoned and the administration is perceived as an entity that cannot
perform any of those measures and needs constantly rising revenues to
undertake its duties, yet all is false.

Taxes are not set because the government needs more revenues, but to
pay for services and adjusted to the reality of the economy. When the
public sector becomes an all-consuming and never-saving entity it does
not contribute to growth and productivity, it prevents them.

Governments use any excuse to increase their size in the economy and
using constant emergencies or alleged crises is the easiest way to
advance a confiscatory and extractive view of the economy where
citizens and businesses are viewed as cash machines of the political
sector, where the private sector is at the service of the government
and not the other way around.

Tax cuts do not increase inflation, it is giving a bit more of the
existing money to the ones who earned it. What increases inflation,
always, is bloating government spending, perpetuating deficits, and
monetizing it by printing constantly depreciated currencies.

Government spending is not the engine of the economy. Tax hikes are
not the only solution to bad administrations. Printing money is not a
tool for growth, but one for cronyism. Upside down economics does not
work. We need to return to monetary and fiscal sanity. A tax wedge of
almost 40% of income is not normal. It is confiscatory.

If we want to reduce inflation, we need to limit the uncontrolled
policies those that create it: central banks and governments.