Why the $250,000 tax threshold is so dangerous … It’s not indexed for inflation

Prior to 1981’s Kemp Roth Tax Act, which indexed tax brackets for inflation for the first time, Democrats were happy to watch inflation force taxpayers into higher and higher tax brackets. Bracket creep was the easy way to raise tax rates without putting themselves on record.

The experience of the Carter years, with inflation (CPI) rates rising to over 13.5% made indexing a high priority for the incoming Reagan administration. And indexing has worked well. But there are reminders of disastrous consequences of unindexed tax legislation, most notably the Alternative Minimum Tax. The AMT was intended to rectify the problem where several hundred millionaires were able to avoid all Federal income taxes through legal deductions. Now it ensnares millions and, because of its complexity, is becoming known as the tax accountants’ welfare act.

Lest you think Obama’s $250,000 threshold could not affect you, think again. During the Carter years, inflation rates rose from 6.50% in 1977 to 13.58% in his last year in office, 1980. It took Fed Chairman Paul Volker over three years, 20% interest rates and a recession to get inflation under control. It was bitter medicine, but necessary to stabilize the dollar. Yet the Fed now is throwing the 2-3% inflation rate limits to the winds with QE2, preferring to inflate our way out of the recession.

Nothing could be worse. Should Carter’s 13.5% inflation become the norm, $100,000 today will become the equivalent of $250,000 in about 7 years. A tax on the rich, as Obama describes it, will have the same result as the AMT, reaching deep into the middle class.

But this is the intent of Democrats. They are happy with inflation. They want stealth tax increases.

The Democrat solution, inflate our way out of debt?

This recent item from Bloomberg News caught my attention. Paul Volcker has grown increasingly frustrated over delays in setting up the economic advisory group President Barack Obama picked the former Federal Reserve chairman to lead, people familiar with the matter said. Volcker, 81, blames Obama’s National Economic Council Director Lawrence Summers for slowing down the effort to organize the panel of outside advisers, the people said. Summers isn’t regularly inviting Volcker to White House meetings and hasn’t shown interest in collaborating on policy or sharing potential solutions to the economic crisis, they said. Paul Volker was Federal Reserve Chairman during the Carter and Reagan years. He is a fiscal hawk as any Fed Chairman should be. That job, first and foremost, is to maintain the value and stability of the dollar. And he did that when inflation ran rampant in the seventies. Instead of the ill advised wage and price controls under Nixon and tepid Fed Funds and discount rate increases later, he took the bull by the horns and dramatically and mercilessly broke the back of stagflation of the Carter years by upping Fed Funds rates to 20% and holding them there. But he caused a recession and many Democrats think that caused the defeat of Carter in 1980. Inflation is a means of escaping debt, both personal and by government. But it comes at the price of a cheapened dollar. And I suspect that this is what the new administration is aiming to do. With endemic inflation, long term interest rates will climb sky high (the government can’t control them, they are market driven) slowing business growth, exacerbate inflation by upping the cost of imported goods, devastate those living on fixed incomes and kill any thought of maintaining a savings account. One only needs to look at the hyperinflation in Zimbabwe where in mid-January it issued a 100 trillion dollar note worth US $33. Yikes, at that rate we could pay off our national debt with your change from McDonalds. Democrats have traditionally been inflation friendly. In the years they controlled the House, especially in the Carter years, when inflation ran rampant (over 10% at times), they used bracket creep to raise taxes. Then at election time they magnanimously voted to "readjust" the brackets, billing it a tax cut. The cuts were all illusory. But they kept the Democrats in office. Reagan’s tax reform in the early eighties put an end to that game by indexing most tax rates. Fiscal and monetary irresponsibility will kill the dollar as an international currency. It will end our ability to sell our debt to foreign nations. It will put us in the category of Mexico, Argentina and Zimbabwe in international markets. The utter disregard of sound economic principles in the current stimulus bill is a giant step in that direction. Hang tough Paul Volker.