The Roy Report

Where will the money come from?

2010-08-08T15:27:00.000-04:00

We hear so much lately about extending unemployment benefits, providing healthcare benefits to those who can't afford them, etc. etc. All laudable causes, but what all the politicians and the people who administer these programs seem to never address is "Where will the money come from?"

Let's look at what happens when we continue to raise taxes to provide others these benefits.

As I briefly wrote last week, one of the things raising taxes has a negative effect on is profit. And as I wrote last week, without profit the economy will stagnate and eventually fail. But putting that aside for the time being, let's look at the problem of entitlements more closely.

What are entitlements? In a nutshell, they are when the Government gives people money for doing nothing. Some entitlements are good. For example is a person is legitimately disabled, they should receive welfare of some type. The caveat here is they need to be legitimately disabled. If a single mom is struggling because the father of her child is a deadbeat and has taken off and odes not support her child, that can be legitimate. However, it should only be for the one child and not anymore the single mother should choose to have either with the same or another man. People should receive unemployment if they are legitimately unemployed, not because they are unwilling to work, and then not forever. But that is leading us off the subject.

In order for people to receive entitlements, someone has to pay these. Since the Government doesn't produce any product, or otherwise create income or wealth, it must come from tax revenues. Tax revenues come from various sources, but ultimately they come from the people who are employed. People who are employed have a significant portion of their salary taken from their earning each pay period, which goes towards these entitlement programs. Easily translated this means the people who are working pay the people who are not working.

The more people who are on these entitlement programs, the more money it takes to support them, which means a raise in your taxes. This in turn causes you to produce more or you will make less money. The question is: How long will the person who is working continue to produce more to pay for those who are producing nothing? Eventually the producers will decide it is no longer profitable for them to produce as they can "earn" more by not producing. This may sound far-fetched to some, but is it really?

Take two people, John and Jane Doe, they are brother and sister. John has a good job, working construction. Jane is a single mother of one very lovely little girl. John goes to work every day building houses and makes $1,000 a week. Of this thousand, let's say four hundred dollars is taken out in taxes. Which leaves him with six hundred. Now from this six hundred, John has to pay $200 per week for his mortgage. So he now has $400 left to pay his car payment ($100), his insurance including health ($100) and food ($100), leaving him with $100 for his own use. We will assume John is not married with no kids.

Jane on the other hand has one kid, lives in subsidized housing, is on food stamps and does not work. With the one kid, her expenses are rent ($100), insurance ($100 for her, $50 for the child) and food ($100) for a total of $350. None of which she has produced anything to earn this. For the sake of simplicity, this money comes out of the $400 which John pays in taxes.

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Jane decides one night to get a baby sitter and take some of the money from her EBT card and go out on the town. She goes down to the local gin mill and has a few drinks and meets a man. One things leads to another and the next morning, the man is gone but she is pregnant. Nine months later, she needs more benefits, we'll say another one hundred dollars. This means that no John has to pay the difference between what he was already paying, $400 and how much Jane now requires, $450 or $50. Since the Government doesn't produce anything they raise John's taxes to $450. which means he has less money for his own use.

One year later, Jane who forgot what happened last time, decides to go out to the gin mill once again and the same thing happens. Nine months later, she has another child, but instead of an extra $100 she will need $150 because she is going to need a bigger apartment. Now John is forced to pay $600 dollars in taxes to support his sister. So now John not only loses the extra $50 he had each week for his own use but will have to work more hours to pay the additional $50 he doesn't have.

We'll stop this example here, although in the real world this cycle would continue for a little longer. If John now has to work harder for less money and he talks to his sister, who now makes $600 a week for doing nothing how long do you think John will continue to work? He will realize he is better off not working, where he can now collect his own entitlements. John then quits his job, or better yet gets himself laid off. Once John does this, not only does he take the money he was paying in taxes from the Government, he also causes Jim Doe, a distant cousin, to now have to contribute more to support both John and Jane, as the Government has lost John's contribution to the system.

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If you were to follow this through, eventually enough people will take themselves out of the system to the point where there will be no more money coming in. In order to keep this as simple as possible, I won't even go into the money which will be taken from the economy as. at least in theory, John and Jane are only making just enough to pay their expenses which means they can no longer go out and buy luxury items, causing a decrease in demand which eventually lead to unemployment. It is a viscous circle.

As you can see by my example, sooner or later there will be no money to redistribute. Companies will stop producing as there will be no profit or no one willing to work. Why would anyone be willing to work when they can get paid to do nothing? As taxes go up, as I discussed last week, company profits will go down, companies will close and there will be a shortage of goods. (You could argue that the goods would then come from other countries, which while true, will also cause higher prices) Prices will rise, people won't be able to buy goods, unless they get in increase in their entitlements which, since there is no money to accomplish this, won't happen. Eventually we will become a nation with no income to support us.

So where will the money come from?

The Profit Demon

2010-08-01T08:45:00.000-04:00

This weeks topic is going to be on profit and why, contrary to the belief of Liberals it is a good thing.

Profit is defined by Merriam Webster as:

2 : the excess of returns over expenditure in a transaction or series of transactions; especially :the excess of the selling price of goods over their cost

An expenditure is more easily expressed as cost, which would be whatever needs to go into making a product. Of course there are also service industries which also have costs, but for simplicity we will discuss a manufacturing concern.

Any person or company engaged in business needs profit to continue being in business. Why?

It seems that the left forgets (or perhaps they just choose not to remember) that if there was no profit, businesses would ultimately cease to exist. The liberals argue it is not profit they are against, but excess profit. To them excess profit is anything more than they deem necessary. Following the Socialist example, any profits should be shared among the workers since it is off the backs of the laborers which the profits are made. (read the Communist Manifesto) There is only one problem with this theory, if all profit has to go back to be distributed to the workers, then what would be used for the expansion of the business? The improvement of processes? The modernization of machines? Research and development?

If you study any Socialist regime, you will see that they ultimately fail because their economies stagnate. If a company who makes the infamous widget, and has five employees, each producing 1000 widgets a year, that would be 5000 widgets. For sake of simplicity, there is a profit, after all the bills are paid, of ten dollars per unit, for a total of $50,000. For the sake of this argument we will assume the the taxes are already taken out.

In a non-Socialist economy, the owner of this company could do several things with this profit. The left assumes he would take the $50.000 and put it in his pocket, and there are some company owners who might. But our owner decides to only take $20,000 of it to keep, knowing it is wiser to reinvest in the company causing him to earn even more profit in the long run. He now has $30,000 left. At this time let's assume this is the only company making widgets. What do do with the extra $30,000?

The company owner determines if he adds another worker, putting him on second shift he could make another 1,000 widgets. Because he would have to pay this employee a little more and there would be extra production costs incurred such as electricity to run the machine, the profit would drop for these units to nine dollars, but since the company would now produce 6,000, profit would increase by $9,000 . This would mean the next year the company would make $59,000. In a Capitalist system, the owner would continue this process, adding employees to make and sell more widgets.

Let's say the second shift is now full, there are five employees working on it. Each employee is making the full capacity they can. Because the company has been making a profit, the owner can afford to pay the employees higher wages, making profit go down but since the production is higher, the company still makes a profit, contrary to the Socialist belief, private companies want to keep their employees happy and will pay them more money if they continue to produce and make a profit. But after a few years, the machines used to make the widgets are old and there is more maintenance required. Using the profits which have been previously made and saved (more than likely through investments) the owner of the company upgrades his machines by purchasing new ones. Not only does this help him out as he can now continue making his widgets at a profit, and perhaps even increasing production, it helps the economy because the company that makes the machines used in manufacturing widgets now has work for its employees as well.

There are also other things which would be put in play here, such as research and development of new products, finding cheaper ways to produce widgets or more efficient ways but we will leave it where we have it now.

Let's look at this same company under Socialism. The profit of the first year, $50,000 will according to the Socialist system will be used differently. The leaders will decide that the owner should only receive $10,000 for his efforts. The remaining $40,000 will be split as follows: each worker will make an extra thousand dollars, the rest, $35,000, will be split equally to the citizens of the country who are less fortunate than others, and who do not have jobs, and are not producing any products at all. this leaves no profit to put back into the company.

So let's look at what happens then. First, the owner has no money to add the extra employee on a second shift. Since he is the only company making widgets, this means there will still only be 5,000 widgets available a year for consumption. Assuming widgets are something people want, there will eventually be a shortage of them as demand rises, since production hasn't.

Next, since there is no profit to to use for maintaining the machines used to make the widgets, sooner or later the machines will wear out and no longer produce the same number of widgets. With less widgets there will be less revenue but since the Government has been using the profits to redistribute them to people who are producing nothing, and they will not take this away, the price of each widget will necessarily have to rise. Although the profit is now the same there will be less widgets produced and assuming the demand stays the same, there will still be shortages. Once the price rises to high, people will no longer decide the widget is worth the money and will no longer purchase it. When demand goes down, so goes the profit. This will mean the price will now have to go up again to meet the obligations the Government has made.

And of course the employees have been automatically been given raises each year, whether they have increased efficiency or production so they decide that since they are getting a raise each year, or even if they are making the same money as always, they can slow down production since there is no incentive to keep it up. Production falls still further as does the profit.

Sooner or later the machines will totally wear out and since there is no money to buy new ones, production will again fall. The owner may try to get more production out of the remaining machines but this will only speed up the decline of their usability. A side note to this, since the company is not able to purchase new machines, the manufacturer of these machines has had to cut way back, laying off workers, therefore adding to the number of people now collecting from the Government for doing nothing. This will also cause unemployment as the widget company will now have to lay off workers as there are no machines for them to produce anything.

The last thing which will happen and in my opinion maybe the most important, is since the owner of the company is no longer incentivized, he will not, as in our first example of the capitalist society, try to improve his production methods or his widgets. Why build a better product if the profit he makes is taken away? When he reaches this point, he will not expand his business. Not expanding means he will not employ any new workers, and as mentioned above, he will not need the workers he has, therefore increasing unemployment and adding to the roles of those needing public assistance.

If there is no incentive (profit) for a person to develop a product, the economy will stagnate. Look at Cuba. They are still driving automobiles from the 1950's not because they want to, but because they have to. While Cuba is only a small country, we can use it as an example of what happens under a socialist system. There is no incentive in Cuba, because there is no profit, for a business to start, for new products to be developed or for new efficiencies to be developed to increase production. the economy has stagnated for 60+ years.

In conclusion, this is a fairly simple example of what happens when you remove profit. There are many factors involved in the process which for the sake of clarity I did not include. Obviously there is competition, if the first company is making a profit, there is incentive in a capitalistic society for a second company to begin producing widgets. This introduces a whole new dynamic to the equation which is beyond the scope of this article.

In the end, under Socialism, when there is no production there will be no goods to purchase, no money for the Government to pay for its assistance programs or to even run the businesses needed for protection, roads, etc. You can not collect taxes from people who are being paid with other peoples taxes. The result will be, the worker will be forced at the point of a gun to produce and eventually there will be anarchy and revolution.

Unions: Do they actually help the economy?

2010-07-24T10:46:00.000-04:00

Welcome to my new weekly blog, where I will take one topic each week and explore it in depth. I would like my first topic to be about labor unions and the question are they needed and do they in fact help their members and the economy?

This link is to an article on the "History of Labor Unions" written for high school students. I'm using this because it is the only "independent" source I could find. Everything else was either written from a pro-labor or pro-management perspective, although I am sure some will claim anything written by someone in the US public education segment is not independent, but we'll save that discussion for another time.

While I will never argue unions did not provide much needed reforms in the early years, I believe it is no longer the case. In these current times are unions relevant? Are they needed?

If you go to any union site or read any information from a union, they will all pretty much say the same thing, that unions increase productivity, raise the standard of living for their employees and are good for the workplace. Here is a page from the AFL-CIO. (click)

"There is a substantial amount of academic literature on the following benefits of unions and unionization to employers and the economy:

Economic Growth
Productivity
Competitiveness
Product or service delivery and quality
Training
Turnover
Solvency of the firm
Workplace health and safety
Economic development "

I disagree with several of these claims, and here is why. You will note that several of these are intertwined.

Productivity:

Unions will always claim they increase productivity, when in fact I believe especially in the long run, they will either decrease or at the very least cause productivity to stagnate. Why?

Unions believe in making everyone equal. They feel everyone should be at the same level. Through contracts unions will set limits on how much each member can produce (in a production environment) and since there are strict union controls put on the employer as to when a union member can be terminated, when someone falls below a set standard, they can not be let go. Therefore if the union knows there is employee A who for whatever reason can only produce X amount of goods and employee B who produces twice as many goods, Y, they will have B lower his production to the level of A. In some cases they will lower B's production, let's say by half, and raise A's by half, which in theory is equal to what both A and B were producing before, but B is now working below his capacity.

The other problem here is when pay rates are set by a union, it is normally based on skill level and seniority, with seniority usually taking precedence. If both A and B are performing the same task and A, who has been employed longer is making more money, or even if both make the same money, but produces less than B, eventually B will say why am I working harder than A for the same money and B will decrease his production rate. (As an aside this is also the case when people are placed on public assistance, if person A sees person B collecting money for not doing anything, sooner or later he will decide it is easier for him to collect as well)

In some trades, especially the building trades, the unions have also caused specialization of labor. A plumber can't do electrical work, an electrician can't do carpentry work etc. Obviously in most cases this is good as each of the specialty trades have to be licensed, but let's say a plumber is putting a line into a wall and the electrician has installed an electrical box in the wrong spot which now interferes with the installation of the pipe has to be moved. Even though this only requires the removal of two screws the plumber has to wait for an electrician, causing a loss of productivity. Certainly the plumber could move to another location but then what happens when because of this delay the sheet rockers can not do their thing?

Economic Growth:

Unions will always claim they are responsible for economic growth, but are they? The union will say they are because the raise wages which in turn will stimulate spending, which in turn will stimulate the economy. While it is true that wages are raised, and there might be a temporary increase in spending, the simple economic truth here is if wages go up, the costs of products will go up therefore raising prices on these products to the consumer, the union member. Contrary to the popular belief of unions, companies must make a profit in order to survive. If wages (cost of production) go up and the retail prices for the goods do not, the company will not make as much, if any, profit. This will mean the company can not reinvest this money into new equipment, research and development or marketing, all things needed to grow the business. If a business doesn't grow, it won't need any employees. Union membership will then decline.

Solvency of the Firm

I have to admit this one has me stumped. I am not sure why a union would claim they keep a firm solvent. As mentioned above, the union will force the firm to pay higher wages than the market may be able to bear, then the firms profit will decline. The union also forces the firm to perhaps hire more workers than needed, or as mentioned above, keep less productive workers, causing a decline in production, which again will raise costs. And as I have stated when worker A makes either less or equal the wage worker B earns, then he will lower his production to the lower level of B.

In addition, the extra capital which is now tied up in unnecessary labor, cannot be used to modernize equipment, which would make production more efficient, providing the union would let the firm even buy new equipment if there was a chance jobs would be eliminated, which would then allow other firms to surpass the unionized firm, producing goods more efficiently and cheaper, which would cause the unionized firm to lower its prices to compete, eventually causing it to go out of business.

When the union talks about making the firm more competitive, the same logic as above disproves that.

Raising the standard of living

Finally, unions will always claim they raise wages. But do they? As discussed above, when wages go up, the cost of the product has to go up as well. And this cost will be passed on all along the line of consumers. For example Company A is unionized and they make widgets. The union demands a wage increase, say one dollar an hour. For simplicities sake, we will assume that it takes one hour to make one widget. Therefore, ignoring the extra costs in taxes and benefits the employer must pay on the dollar, it will cost one more dollar to make a widget. If the cost prior to the wage increase was three dollars it is now four dollars. These widgets are distributed through various retail outlets. Retail store X has to make a profit so he must now raise his retail price at least one dollar in order for him to make the same amount of profit as he was making before. So, if he wants to make a two dollar profit, he mist sell the widget for six dollars.

Now what happens when store X can't sell these widgets for six dollars because they are no longer worth the extra two dollars to the consumer? Suppose another manufacturer, B, comes up with a substitute item for A's widgets which he can sell to X for less and now X can make his profit and the item is now worth the price to the consumer? What will happen to company A? They will lose sales and will no longer need the union employees. When an employee is out of work, what happens to the standard of living then?

Every item has a price which the market will bear. When you exceed that price, no one will buy the product. They will find a substitute of some kind and buy that. If they can buy a wadget for the less than the widget, and it performs as well, the consumer will buy B's wadget. When the price is driven by higher costs to something more than the market will bear, the item will not sell.

To take this one step further, when A no longer sells as many widgets as it once did, A will no longer need to buy the raw materials for C in order to make the widgets. This will cause C to have to cut production and therefore cut labor costs. When the employees of C no longer have as much money (or no money if they are laid off) it will effect store Y, who will no longer need to buy goods from D. In order for any of these companies to stay in business they need to make a profit, so when sales go down, they will have to raise prices. It is a downward cycle. So in theory, while the union will raise their members standard of living, they will cause the overall standard of living to decline, and eventually, this will come back to the union members who will now have to pay more for other goods because all costs have gone up.

The Truth

What all union members fail to see, is the only reason unions are in existence is to support the union management. If union members would take the time to really see where their union dues are going, they would realize it is not for their benefit. Union leaders will complain about company owners or executives making extravagant salaries and demonize the people who are employing their members while making the same high salaries themselves. (Teamsters salaries here) And ask yourself one question: Could your union leaders run the business you are in?

I hope you enjoyed my discussion on unions and whether they help the economy or not. I will continue this series weekly and if you have any suggestions for subjects, please email me at imjustmusing@aol.com. Also feel free to comment on this post.

Thank-you.