The problem with most discussions on the economy is what software engineers call the “M.E.G.O.” factor – which stands for “My Eyes Glaze Over.” So today’s episode of Rhetorical Question will focus on some basic economic concepts in a fun and informative fashion in the hope that we can impart some nuggets of wisdom while avoiding the “M.E.G.O.” factor. Ready? Here we go:
Q: Where do jobs come from?
A: I'll assume for this discussion that you’re asking about private-sector jobs. Because, after all, if it wasn’t for the private sector, there wouldn’t be any tax revenue to pay for public sector jobs. So the answer is that private-sector jobs are created when (1) businesses are formed, or (2) when businesses grow.
Q: How do new businesses get started?
A: Suppose you have an idea for a new widget. You’re convinced that this is the greatest innovation since pre-sliced bread, so you decide to quit your job and build it in your garage. You’ve just created a new business…but very soon you’re going to discover several things:
- You no longer have a job (you quit it, remember?). That means until you get some widgets to sell, you’re going to have to support yourself from your savings, or take out another mortgage on your house, or run up your credit cards, or borrow money from someone, or all of the above.
- In the beginning, most of the money you get from selling your widgets will go into the production of more widgets. It will take longer than you expected before you will actually be able to pay yourself as much as you were making in the job you quit and still fund the business of making more widgets. Meanwhile, if you borrowed money, the people you borrowed it from are going to expect you to pay it back. With interest.
- You’re also going to discover that you’re working harder, and longer hours, than you ever have before in your life, while you’re still making less money. Some people, when they realize this, say, “to hell with this!” and go back to working for someone else. That’s one reason why so many new businesses fail.
- You may find someone who is willing to fund your business in exchange for part ownership. This might seem attractive, or even necessary to survival. But it also means that you’re going to have to share the profits of your widget business, and when Amalgamated Widgets, Inc., finally realizes that your widgets are better than theirs and buys your business, a big chunk of that money is going to go to the person who put up the money. So, if at all possible, you’ll probably keep busting your backside to build your business without giving up any ownership.
- If you’re lucky, or really good, or both, you will eventually get to the point where you can hire other people to do most of the hard work and still take out enough money to live comfortably yourself. You’re now creating jobs. And, by the way, small businesses create far more jobs in this country than big corporations do.
Q: What causes a business to grow and hire more people?
A: A business will hire more people when there is so much demand for its products and/or services that it cannot fulfill that demand without hiring more people. If the business can make more money without hiring more people, it will. In fact, if the business can make more money with fewer people, it will. To put it another way, businesses will only hire more people when hiring more people will lead to the business making more money.
Q: My God! Isn’t that greedy and cold-hearted?
A: Didn’t you read through the thought experiment above? If we’re talking about your widget business, would you hire people if it wouldn’t result in making you more money? Why should you? And why should anyone else have the right to tell you that you have to? In fact, when you hire your first employee, you will probably make less money until the business has ramped up enough as a result of the new hire to cover paying two people. And as you continue to grow, you’ll wrestle with that trade-off every single time you make a hiring decision!
Q: OK, OK, I can see that point if we’re talking about a small businessperson in his garage. But what about the big corporations?
A: What about the big corporations? First of all, most of them are publicly held. That means that ownership, in the form of shares of stock, are freely bought and sold on one of the many stock exchanges in the world. Typically, the shareholders elect a Board of Directors, and the Directors hire (and fire) the top executives of the corporation and decide how much they get paid. And when I say “shareholders,” I’m not talking about the fat-cat investors of a century ago. Today, thousands upon thousands of Americans have their own stock portfolios, and many thousands of others own stock indirectly through pension plans, mutual funds, 401k retirement accounts, etc., etc. So, unless you know absolutely no one who falls into any of these categories, these shareholders, even of the much-reviled “Big Oil Companies,” are your friends and neighbors…and maybe even you yourself. In fact, I recall years ago working for a mid-sized company that was not publicly held, and that strenuously resisted going public because the company president did not want to have to be accountable to “the little old lady in tennis shoes,” as he so picturesquely put it.
A publicly held corporation has one primary goal: to maximize the monetary return to the shareholders. Some companies do that by paying dividends. That means that, at the end of the year, the Board of Directors decides that some portion of the net profit of the company is going to be paid directly to the shareholders in cash – equally divided according to the number of shares each shareholder owns. In other cases, particularly in fast-growing companies, the shareholders expect to make their money by selling their shares at some point in the future for more than they paid for them. This is called a "capital gain."
Corporate executives have a fiduciary responsibility to their shareholders. If a company does things that cause financial harm to that little old lady in tennis shoes, the corporate executives can go to jail. In fact, we’ve passed laws in the last few years that make it far easier than it used to be to criminally prosecute executives for a breach of their fiduciary responsibilities. And you can’t have it both ways: you can’t tell companies that you’re going to send their executives to jail if they don’t look after the best interests of their shareholders, and then in the next breath tell them that their companies are making too much money!
Q: Well, why shouldn’t we at least tax the heck out of these big corporations that are making so much money?
A: If you raise corporate income taxes, will the company end up with more income, or less income?
Q: Less income, I suppose…so what?
A: If a company has less income, are they likely to hire more people or fewer people? (Hint: the answer is “fewer.”) And if the income gets reduced to the point where the shareholders are no longer happy with their return, what’s the likelihood that the company may actually cut jobs in order to get the financials back in shape? (Hint: the answer is “almost a certainty.”) Not to mention the fact that the stock would become less attractive to investors, so the company will have more difficulty raising money to fund any kind of business expansion.
Q: OK, fine! Can we at least raise the capital gains tax?
A: If you tax a particular behavior, will you get more of it, or less of it? (Hint: the answer is “less.”) So it follows that if you raise taxes on investment, you will get less investment. People who have money to invest will look for other things to do with it that will get them a better return. That means less money is available to fund start-up garage-based widget manufacturing companies. That means less money is available to fund more ambitious start-up companies like, say, biotech firms that think they may be able to make the next big cancer-fighting breakthrough. That means less money going into the stock market, which means companies have a more difficult time raising capital, which means less growth. Any way you slice it, it means fewer jobs.
Q: So you're saying it wouldn’t necessarily be smart to elect a President who is committed to raising corporate income taxes and nearly doubling the capital gains tax?
A: Congratulations - we have a winner!
Thanks for playing Rhetorical Question.
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