Written by Nathan White, Chief Investment Officer of Paragon Wealth Management
I read in the Wall street Journal today that the Tax Foundation notes that almost 70% of Americans take out more from the tax system than they put into it. Seventy percent! No wonder the debate about the fiscal cliff is primarily focused on taxes. It’s a great strategy to distract people’s attention away from the real problem – spending. Is it inevitable that as democracies age their citizens become accustomed to the resulting prosperity and take it ever more for granted by voting themselves ever more entitlements? Entitlements are always so very well intentioned and therefore difficult to argue against in a moral sense. After all, who wants to deny assistance to Sandy/Katrina victims, single parents, the homeless, those who can’t afford college (isn’t that everyone now?), retirees, “working families”, farmers, the unemployed – the list is unfortunately now endless.
The problem is that eventually the entitlements and spending become unsustainable. So how do we break this vicious cycle? The problem is offering entitlements in the first place. No one ever wants their entitlements cut or taxes raised per se (despite what Warren Buffett says). We usually want someone else’s benefit to be cut or taxes raised. The mega rich often support higher taxes on themselves because it won’t materially change their lifestyle but it does create barriers to entry to more people becoming like them. It entrenches their place at the top. But I digress, once begun entitlements are hard to end. Think about it on a personal level, if you get a deduction for a mortgage or tax credit for children do you want those ended or reduced? No, because it means your refund will go down or tax payment will go up – either way you’re out of more money. In fact, if offered an entitlement it behooves you to take it because if not than you will be worse off economically on both a relative and absolute level. You don’t have the option for either a mortgage deduction or a lower rate.
Now let’s say you’re idealistic and want to take a stand against the growth of the entitlement state that will eventually end in great pain. You decide to take the high road and refuse any entitlement offered by the government. Great, except for the fact that you will become progressively less well-off as time goes by. On a relative basis this could become very painful as others who take the entitlements maintain or increase their standard of living – at least until it all comes crashing down. The more entitlements grow and replace things that people purchased before on their own the more expensive or difficult those things become to obtain in the private market. Thus if you chose to forgo entitlements it would progressively become harder to maintain your standard of living.
Entitlements are such a catch-22 in that one almost “has” to use them and that eventually they can bring the whole system down. The only way to avoid their deleterious effect is to not enact them in the first place or to severely limit their use. However, everyone likes “free” goodies and politicians use this to their own advantage. It creates the entitlement trap that can eventually bring an economy to its knees.