Breaking the Spell on the Economy

Halloween has passed, but our economic witches’ brew remains in place.  In our major cities, an impatient and resentful citizenry has taken to the streets in anger to protest inequality in opportunity.  And, it is spreading.  In Oakland the demonstration turned violent.  People are trapped in a spell fueling our nation’s debt — between a stalled economy with negligible job creation and rising entitlement demands from retiring baby boomers.

Both political parties are shackled to their core principles, but neither has a real remedy.  Republicans are steadfast in believing that tax cuts will fuel growth that will overcome the increase in short-term debt that these cuts will produce; they would rather cut entitlements to pay for some of the cuts.  Democrats believe that if government spends more on infrastructure projects, the jobs created will relieve the malaise; they would rather increase taxes on the wealthy to cover the cost of investment spending.

Both visions are incomplete, as both lack an identifiable long-term solution.  Can the Republicans foresee an industry that would fuel private sector growth?   Can the Democrats see that infrastructure projects are only a short-term fix for an economy that is hemorrhaging through outsourcing?

At one time, it was said, “As Detroit goes, so goes the nation.”  We can no longer look to the auto sector for salvation growth, since much of the industry is comprised of imports and imported components.

The internet industry propelled the economy for a time, but that was a finite bubble.  The new generation of internet applications, e.g., Facebook, Google, are not as labor intensive as manufacturing and have a much lower ratio of employees to sales.   The computer industry no longer resembles its original promise for domestic jobs, as the finished products or components have largely been outsourced.  Apple Computer, for example, has created tens of thousands of jobs in the U.S., but more than a million jobs for Chinese assemblyline workers.

The construction industry filled the gap after the internet bubble deflated, but, as is inevitable in the course of our boom and bust cycles, the end came to the housing bubble.  What’s next?  Can we identify a nascent industry on which to place our bet?  And, if so, how can we best support that industry?

The obvious target is alternative energy, whether nuclear, solar, wind.   In addition to sparking growth and employment, we would save billions of dollars for imported oil, which money Thomas Friedman has repeatedly warned fuels the middle-eastern countries that hate us.  That is why placing a bet on Solyndra was a good idea.  Their product had unique competitive advantages, and it would have been produced here in California.

We can no longer accept that our future “Apples” will be grown in China.  In nurturing promising players in the alternative energy field, we must think ahead to their success, and how to assure that entrepreneurs will scale-up their inventions here and not turn to outsourcing. This means government must not only provide the tax incentives and investment funds (loan guarantees) for start-ups, but must also alter the rules of the game.

First, and foremost, the U.S. should sweep away its cumbersome and corrupting corporate tax code with all its loopholes in favor of a value added tax, so that the burden of government taxation is not shouldered by exports and is added to imports equally as to domestic production.  The U.S. would become the lowest taxed country (zero), making the U.S. a magnet for foreign capital and encouraging the return of multi-national corporation profits currently parked in lower-taxed countries.  Gone, too, would be the double-taxation of dividends.  In a nutshell, our Corporate Income Tax is a drag on our economy and all our trading partners now use VAT to our competitive disadvantage.

Second, the protection of a U.S. Patent should be restricted to products that are 80% value-added in manufacturing facilities here.  Too many products are outsourced in their entirety and too many are merely assembled here using imported high-value-added components.  Patents would still be licensed to foreign manufacturers for producing goods for their own populations, and foreign manufacturers would need to open plants here for U.S. Patents and to tap our market.

Third, where necessary, we should not hesitate to add tariffs to the mix to protect promising new industries, especially where we can identify dumping practices of foreign countries.

Turning our economic ship of state will take time.  Congress will deliberate on tax reform, patent law, industrial policy and tariffs.  In the short-term, the parties will fight over tax cuts vs. infrastructure spending.  But without visionary leadership with a longer horizon, we will not break the spell.