Obama's Government Salary Freeze Is A Bargaining Chip In The Tax Game

President Obama announced a government salary freeze. The announcement was pure politics. In it, he was careful to say that he was not freezing military pay, just the pay of our bureaucrats.  Of course, government salaries are at all time highs. Obama neglected to do anything about the defined benefit pension packages government employees receive. That is a real budget buster.

Of course, this is the front of the play. There are a lot of machinations going on behind closed doors that caused Obama to make this chess move. The reality of the situation is that Obama doesn’t want to decrease taxes. Decreasing taxes is not in the progressive liberal DNA. He is preparing for the upcoming tax fight in Congress with the Republicans  By freezing government salaries, he can say that he has cut government spending. But this is smoke and mirrors cutting; it does nothing to reduce the burden of government on the American taxpayer, since the government is still the same size. Taxpayers are still on the hook for all the pensions as well.

In the next week, the press will be peppered with articles about how the rich don’t need a tax decrease. They can afford the increase. 2,000 millionaires, led by Warren Buffett, signed a petition asking for a tax increase. To those 2,000, it wouldn’t matter how high taxes were raised. They either already have the assets tied up in a trust to avoid any taxes, or have such a guaranteed high income that any tax increase won’t impact their lifestyle. We can label them, “Rich enough to be Democrats.” 

The reality is that in many areas of the country, if you make $250,000 per year, it’s not the rich lifestyle of living that many envision. Plus, purely drawing a line at $250,000 is making a value judgment on income. Who really cares how much money someone makes, as long as their income is derived legitimately? Kennedy used to say, “a rising tide lifts all boats.”

The problem is that once a line is drawn, people anchor around it. Recall the 1970’s, when there was “moral outrage” over multi-millionaires paying hardly any taxes, and the AMT tax was initiated. 35 years later, the AMT is catching the middle class in its angry snare. Now, the incentive for them to make more money is gone — taken away by poorly designed tax policy.

The Republicans should fight any designs the Democrats have on drawing the $250,000 line. They won an election. Their 63 seats in the House, along with several state legislatures turning over for the first time since Reconstruction, should tell them that if they are fiscal conservatives first, they win. Extending current tax policy for everyone indefinitely will give certainty to the marketplace. Then they can proceed with cutting spending.

While they are having the debate, government policymakers ought to look at some historical data. Hauser’s Law shows that no matter what the tax rate, people generally pay around 19% of their income to the Feds.  When rates get aggressive, they hide income, delay income, or use the black market to get around the tax law. Poor tax laws turn regular people into criminals in the eyes of the bureaucrats. 

Good tax policy in the US would use the tax system as an incentive for growth. For example, the federal government could have eliminated the capital gains tax and the corporate income tax in 2009.  This would have been close to $300 billion cheaper than passing the inefficient stimulus bill. Eliminating taxes like that would have incentivized investment and created employment. That’s thinking out of the box. That is what we need to grow our way out of this economic malaise. 

The current occupants on the levers of power want to fight over arbitrary lines and taxes. They favour the big government and big spending that accomplishes nothing. The only way out is the private sector. Even the Federal Reserve is out of bullets. Isn’t it sort of ironic that ever since Bernanke began his QE2 program, the dollar has done nothing but get stronger? Meanwhile, the street sold treasuries into the Fed repurchases, driving up rates. Europe imploded and the Chinese began worrying about inflation. Instead of manipulation, the government ought to put in place good pro-growth tax policy-cut spending, and then give the reigns over to the private sector and let them do their thing. 

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