The Virtuous Cycle

Posted by Jeff Carter
on September 19th, 2012

Yesterday, the Illinois Policy Institute had a day long seminar on tax competition and growth. Pretty interesting stuff given the times we are living in. On the panel discussion, Jimmy John Liataud said he had given up in his fight to remain in Illinois. He is uprooting the company and going to Texas or Florida.

When an entrepreneur gives up hope, that’s sad.

The Institute gave participants a book on the way out, The 4% Solution. The book covers a lot of topics but one that piqued my interest when thumbing through was the chapter on “The Virtuous Cycle”.

The premise is that government, and society in general don’t understand the motives of the entrepreneur. Based on policy decisions that have been made, I agree with that general premise. It’s pretty clear when you look at our tax and regulatory policy the US is not friendly to entrepreneurs.

There is no single measurement that can sum up the entrepreneurial ecosystem of a country. But one can look at a macroeconomic relationship and start to draw some conclusions on the economic health of a country. If you graph the GDP Per Capita Purchasing power against the Number of Start ups, you will get some idea of relative wealth of a country. Entrepreneurship is higher in countries with lower GDP, and increases as a country becomes wealthier.

In poorer countries, there is a lot of opportunity and room to grow. Entrepreneurs take advantage if incentives are in place to allow them to seize opportunity. That makes sense. But it’s interesting that once a country becomes wealthy, entrepreneurship levels increase. That’s the “Virtuous Cycle” in a nutshell. Entrepreneurs that have created wealth have the means and know how to reinvest in new businesses that create more wealth.

It’s key to note, government doesn’t direct or do this. It is independent people interacting in a marketplace each striving to maximize their gain. It is a decentralized process, and unplanned. The market doesn’t know where it’s going, how it got there, and most importantly; doesn’t need to know.

For policy makers this means that laws and regulations that are designed to control outcomes, pick winners and losers, are destined to fail. To control outcomes, policy makers substitute their own decisions for those of the entrepreneur. Once they interject themselves into the process, not only do they have to get the policy right, but they have to decide which business will provide the most economic gain for the country. There is no way they can possibly do that. This is why centrally planned economies fail.

Andy Kessler makes similar points,

President Obama said, “We believe that when a CEO pays his auto workers enough to buy the cars that they build, the whole company does better.”

And last month in Leesburg, Va., the president said, “When we’ve got new teachers doing great work with our kids, then you know what, they go to a restaurant and spend that money. And so suddenly businesses are doing well, the economy is doing well, and we get into a virtuous cycle. And we go up.”

This myth—that you can just give money to the middle class and good things happen—is widely shared and is at the basis of a lot of government policy. And it is why the recovery is stuck between lack and luster.

Obama and the Democrats are all about centrally planned economic systems. Virtually everything they believe in hinges on that principle. It’s why you hear statements that unemployment benefits and food stamps are stimulus. Kessler calls that malpractice and I agree.

A dollar spent to cut corporate taxes would grow the economy 30 cents; make the Bush tax cuts permanent, 29 cents; extend unemployment benefits, $1.64; food stamps, $1.73. “And food stamps was always at the top. That had the largest multiplier.” This is economic malpractice.

Food-stamps recipients are up 70% in four years, to 46.7 million. But, surprise, we haven’t seen that “virtuous cycle.” Jobs build the middle class, not handouts or pay diktats.

The Virtuous Cycle doesn’t start with government. It starts with people striving to benefit themselves. You don’t rebuild the middle class with government jobs and food stamps.

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