Friday, October 10, 2008

Abolish Capital Gains Taxes - NOW!

As of this Friday, October 10, 2008, the Dow Jones Industrials stock average rests at 8451.19, down 25 percent from one month ago. Since this time last year, it has fallen 40 percent. For perspective - it is always good to have perspective - the stock market decline that ushered in the great depression of the 1930s saw the market fall 89%, from a high of 381.17 in 1929 to a rock bottom 41.22 in 1932. During the market crash of 1929, stock prices fell 40% in two weeks. So it is not that bad... yet.

It doesn't have to get worse, and indeed the problem could be greatly mitigated, if not fixed entirely, almost overnight.

Here is the proposal:

Zero out capital gains taxes. Do it NOW!

Outstanding stocks in U.S. companies stand today at approximately $17 trillion. The latest U.S. GDP figure is $14.3 trillion. In other words, market capitalization of U.S. stocks is significantly greater than our annual output.

How much of that $17 trillion sits in accounts simply to avoid taxes? How much of that has been locked up in stocks for a lifetime? Answer: a lot of it. There are literally millions of people out there who have been sitting on stocks for decades, either saving for retirement or to pass on as an inheritance. Most of those stocks have appreciated immensely over the period, even taking into account the recent market declines. But they will continue to be held, because many people don't want to give up 15 percent of the stock's appreciation to the federal government.

People hold stocks much longer than they otherwise would simply to avoid the tax liability. Practically everyone develops defensive investment strategies to avoid or postpone the tax. What is the result? Hundreds of billions of dollars are locked up that would otherwise be traded, creating a more robust, efficient capital market.

In encouraging defensive investment strategies, capital gains taxes keep the capital market artificially starved of capital. There are fewer equity dollars available for investment, creating an artificial bias toward debt financing. Finally, investment dollars are not put to their best use. By discouraging the sale of stocks, capital gains taxes prevent investment dollars from flowing freely to the highest value enterprises. The entire economy is worse off.

If the capital gains tax were abolished, there would be a huge sell-off of stock. It is impossible to know how large the selloff would be, but for example, a mere 6 percent would equal about $1 trillion dollars, greater than the government's bailout of $700 billion! Such a sell-off would flood the market with cash, both boosting the economy and creating demand for other stocks currently undervalued due to the depressed market. I offered a 6 percent sell-off as an example, but I believe a significant portion of the entire market would turn over.

This new demand would drive the market right back up, improving the financial positions of many firms and restoring overall confidence in the market. Over time, resources would flow more efficiently to their best uses because people would no longer have to create defensive investment strategies to shield themselves from capital gains taxes. And all this can be accomplished without the heavy hand of government interference.

The Democrats are absolutely the worst. Their self-serving policies in the housing market contributed immensely to the current financial crisis and now with the help of their media allies, they blame it on Republicans. Why not? They have always put their political advancement before anything else, and the mass media is only too happy to cover for them.

Most economists recognize that capital gains taxes are destructive. Yet years of Democrat class warfare agitation has given capital gains a bad name. Like most things Democrat, this agitation does nothing but cause problems: throwing a wrench into the economy and harming many people Democrats claim to want to help. It's true main purpose is to manipulate gullible people to vote Democrat.

But perhaps now even they could be convinced by circumstances to relinquish their deathgrip on their twisted, destructive ideology - if only as a temporary expedient. Perhaps even they could summon the intelligence to support abolishing destructive capital gains taxes.

We won't know unless we try. Time to act.

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