Unintended Consequences

The last time Democrats lost control of the economy was those wonder days of the Carter era, which it appears some are nostalgic for.  My first mortgage in 1980 was 16 3/8 percent on a 20% down payment conventional loan.  CD rates were approaching 20%.    President Carter was telling us in 1977 we were running out of natural gas and oil, and the world would exhaust all proven reserves by the end of the 1980s.. Text here.  

There was a wide spread belief that Jimmy Carter’s plan, based on the advice of his economic advisors, was to let inflation go wild with two goals.   

First, it would decrease the real cost of paying for the existing national debt.   We would be paying off US Treasuries in the future with dollars that were worth less.  Screw the greedy people who had bought our US Treasury Bonds.  (sound familiar yet?)

But more insidious was that uncontrolled inflation creates a windfall of tax revenue to the Federal government.  Because the tax brackets are tied to income, inflating wages and expenses moved people into higher tax brackets without the government having to “raise taxes”.     The second windfall was on capital gains – if you bought a house for $50,000 and sold it 10 years later for $200,000, you had to pay taxes on $150,000 “profit”, despite the fact that in real terms your house wasn’t really worth any more than it was 10 years ago. (*Yes, I know you could defer the capital gain if you bought another house).

So deliberately creating inflation can create a windfall for the government – or so the theory went.   The problem of course is it’s only a theory.  Unpredictable future inflation, and horribly high interest rates substantially slowed  new investment.   When Ronald Reagan slammed the brakes on this foolishness, it created a significant economic downturn in 1981 and 1982, but we got through it.   Markets can fix themselves if they believe the future will be predictable.

Tim Geithner and Barack Obama were teenagers in the late 1970s.  Perhaps they wish to repeat the mistakes of their fathers.  

By the way, the head of the Federal Reserve starting in 1979 was a man named Paul Volker, who just coincidentally is heading Barack Obama’s Economic Recovery Advisory Board.