by Peter Schiff
As this fall’s presidential election takes shape as a contest between Barack Obama and Mitt Romney, the rhetoric out of both camps is becoming sharper and more ideological. Looking to exploit Governor Romney’s increasingly close association with Wisconsin representative Paul Ryan (who has been mentioned as a potential vice presidential nominee), the President dedicated a lengthy address earlier this week to specifically heap scorn on Ryan’s budget plan (Ryan is the chairman of the House Budget Committee). The attack lines used by the President not only reveal a preview of the fall campaign but also offer a glimpse of Obama’s skewed views of the social and economic history of the United States.
The President laid bare his beliefs that America’s source of economic strength has been her historical embrace of collective action, wealth redistribution, and government policies that have protected workers from the ravages of the wealthy. To reiterate, he was talking about the United States, not Soviet Russia. He asserted that prosperity "grows outward from the middle class" and that it "never trickles down from the success of the wealthy." Accordingly, he concludes that our recent struggles stem from the Republican-led abandonment of these successful policies.
In reaching these conclusions Obama relies on classic "wet sidewalks cause rain" reasoning, and assumes that an effect can be the father of the cause. But as we debate how to move the American economy out of the rut in which it is trapped, it’s important to know where to put the cart and where the horse.
To illustrate his point, Obama singled out auto pioneer Henry Ford, who famously paid among the highest wages in the world at that time his company began churning out Model T’s. By paying such high wages Obama believes Ford created consumers who could afford to purchase his cars, thereby giving business the ability to grow. Based on this understanding, any program that puts money into the pockets of the average American consumer will be successful in creating growth, especially if those funds can be taxed from the wealthy, who are less likely to spend. Obama argues that Republican proposals that reign in government spending, and cut benefits to the middle or low incomes, are antithetical to this goal.
While it is true that the American middle class rose in tandem with her economic might, it was the success of the country’s industrialists that allowed the middle class to arise. Capitalism unleashed the productive capacity of entrepreneurs and workers, which brought down the cost of goods to the point that high levels of consumption were possible for a wider cross section of individuals. While Henry Ford, as Obama noted, paid his workers well enough to buy Ford cars, those high wages would never have been possible, or his products affordable, if not for the personal innovation he, and other American industrialists, brought to the table in the first place.
The economists that Obama follows believe that business will only create jobs once they know consumers have the money to buy their products. But just as wet sidewalks don’t cause rain, consumption does not lead to production. Rather, production leads to consumption. Something must be produced before it can be consumed.
Human demand is endless and does not need to be stimulated into existence. Suppose you want a new car, but then you lose your job and you decide to forgo the purchase. Has your desire (or demand) for the car lessened as a result of your diminished employment circumstances? If you are like most people, you still desire the car just as much, but you may decide not to buy it because of your reduced income. It’s not that you no longer want the car (if someone offered it to you at 90% below the sticker price, you might still buy it). It’s that you have lost the ability to afford it given its price and your income. The best way to transform demand into consumption is to lower prices to the point where things become affordable. Efficiently operating industries increase supply and bring down prices. This is what Ford did 100 years ago and Steve Jobs did much more recently.
But by introducing revolutionary manufacturing processes for the mass production of low-end vehicles, Ford was able to drastically lower the price of a product (cars) that were previously available only to the wealthy. Ford didn’t create desire to buy cars, that existed independently. But he greatly expanded the quantity of inexpensive cars which allowed that demand to be fulfilled through consumption. In the process he created wealth for himself and his workers (his efficient techniques meant that workers could demand high wages) and higher living standards for society as a whole.
Obama believes that prosperity came only in the 20th century after the government began redistributing wealth from rich people like Henry Ford to the middle and lower classes. He ignores the fact that America’s greatest growth streak occurred in the 19th rather than the 20th century, and that America had become by far the world’s richest nation before any serious wealth redistribution even began.
The unfortunate part for the President is that wealth must first be produced before it can be redistributed. But redistribution always creates disincentives that result in less wealth being created. All societies that have attempted to create wealth through redistribution have failed miserably. This should be obvious to anyone who spends more than a few minutes studying world economic history. But the President is on a mission to get reelected and his ace in the hole is to fan the flames of class warfare. It’s a tried and true political strategy, and he looks ready to ride that hobby horse until it breaks.
Peter Schiff is president of Euro Pacific Capital and author of The Little Book of Bull Moves in Bear Markets and Crash Proof: How to Profit from the Coming Economic Collapse. His latest book is How an Economy Grows and Why It Crashes.