Sunday, January 28, 2007

Visible Subsidies and Invisible Destruction

In the 1880's, American industry (in real terms) produced a 7 percent rate of return on invested capital. Today, the figure is 4 percent. Suppose that firms retain all of this return and reinvest it. Then they will grow at a 7 percent rate in 1880 and at a 4 percent rate in 2007. Although industry does not retain all of its earnings, the large drop in profitability suggests that a vast slowdown in the growth rate has come about because of the state. Changes in taxes coincide with this slower growth and confirm it. Suppose that the tax rate in 1880 was nil, and that the tax rate today is 30 percent. Then the after-tax return of a 7 percent rate today is reduced to 4.9 percent. A 40 percent tax rate reduces the return to 4.2 percent. As the state absorbs returns and diverts that wealth to waste, both taxes and slower growth reflect that diversion.

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