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Supply and Demand are not equal and opposite twins. They are complimentary like horse and carriage and they work if arranged in the proper order. Don't put the carriage before the horse or Demand before Supply. I think I summed it up quite well when I said that "Demand creates queues. Supply gets rid of them." This is my version of Say's Law which says that supply creates its own demand.

There is the impression that tax cuts stimulate the economy. That is not correct, taxes hamper the economy and removing taxes just removes a negative, it does not add a positive. Let's look at this in terms of Say's Law. According to Say's Law when you set up production you have to pay for machinery, materials and labor and these expenditures are the source of the funds that fuel the demand of the things being produced. When the government introduces a tax, the same amount of expenditures by the producer creates less demand because part of the funds are diverted to government and is not available to consumers. You might says that the government will spend this money and it flows right back into the economy as demand. Governments have different spending habits than individuals. Individuals tend to spend on immediate needs like food, shelter, and recreation while governments spend on moon landings and foreign wars. Spending money at Mac Donald's circulates the money back into the economy faster than paying Lockheed to pay Raytheon to pay a university to do research on a fuel valve for the space shuttle. Capital goods like roads and dams circulate money a lot slower than eating a Big Mac does. It is not just the amount of money, it is also how fast it circulates.

The problem with government is that it is totally incapable of creating supply, that is the job of free enterprise. All government can do is to line up on the demand side and increase the size of the queues. Cutting taxes reduces the government queue and increases the private queue but it does not increase production.

Cutting taxes is like pushing on a wet noodle.

Many billions of dollars have already been given to the banks and they disappeared into a black hole. Why should new dollars have a different fate? What in this new administration has stiffened the wet noodle enough to make it into an effective prod?

Mind you, I'm all in favor of cutting taxes. It's just that the expected results are not likely to materialize. The reason is that taxes cut themselves in a poor economy: if you are not taking home pay and not spending, you are not generating income or sales taxes. This thought was brought home to me by John Mauldin's latest Out of the Box newsletter

One of the best gauges of an economy is tax collections. No one pays taxes unless they have to, so collections are a real-world, real-time analysis of the US economy. And the best source I know of for tracking taxes is The Liscio Report, by Philippa Dunne & Doug Henwood.

Denny Schlesinger
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