I think I have finally convinced a friend of mine that malinvestment and market bubbles happen as a result of FED.
But then the friend said: "Well, monetary reasons — pointed out by Rothbard — is only one side of the story. The tax policy is another reason." When I asked her what she meant, she explained: since, due to tax cuts, rich people had more money, they had more money to malinvest. So, that increased the amount of "bubbling" that happened.
Obviously, that argument is ridiculous from moral point of view (it's their money) and pragmatic point of view: to stop malinvestment, one should stop whatever causes it, not the investment too! That's curing headache with a guillotine.
But my question is: is it possible to calculate (and is the statistics available) whether my friend's claim is even factually true? I.e., can one produce some sort of calculation or graph regarding the amount of "malinvested" money that came from the tax cuts?
Tax cuts never contribute to malinvestment because tax dollars spent are a malinvestment in the first place.
Yes, but spending money on bridges, bad public education, welfare, food stamps, and volcano research — though stupid, does not create market bubbles. Right?
It can. Not all malinvestments result in an obvious bubble that sinks economies around the world, but they are malinvestments nonetheless. There's not a lot of volcano research going on, so that is unlikely to cause much effect, but there is an awful lot spent on public education and the results are obvious. Inflated prices, worthless college degrees, etc.
I think my friend's basic argument is that malinvestment may happen because credit is too easy (due to fractional-reserve banking), but — she claims — it also happens because there is too much money available in the hands of the rich people. By "too much money", I assume she means too much capital, and by "too much", I assume that she means "more money than is possible to invest safely".
I.e., there is money to cover all the safe investment targets, but there is still money left over (all of that after the rich people spent the money on their own purchases of yachts and houses). That leads to rich people investing in unsafe targets — which contributes to the boom phase.
When the amount of investable capital expands correspondingly with the expansion of safe investment opportunities, the growth of the economy is more steady.
So, basically, that's what she meant that "Bush tax cuts" contributed to the crisis.
I am interested not just in theoretical arguments that she is wrong (for instance, that there is no way for the government to predict when the "safe investment opportunities" are saturated), but also in factual ones — i.e., that all the "safe" investment opportunities are covered.
FlyingAxe: I think my friend's basic argument is that malinvestment may happen because credit is too easy (due to fractional-reserve banking), but — she claims — it also happens because there is too much money available in the hands of the rich people. By "too much money", I assume she means too much capital, and by "too much", I assume that she means "more money than is possible to invest safely". I.e., there is money to cover all the safe investment targets, but there is still money left over (all of that after the rich people spent the money on their own purchases of yachts and houses). That leads to rich people investing in unsafe targets — which contributes to the boom phase.
You could make the case that the Bush tax cuts, which primarily targeted rich people and were thus probably predominantly reinvested, contributed to the growth of recent bubbles because more "smart money" had chased commodity values than otherwise would have. But that's like saying we need socialism because the Fed moves the market economy into a boom-bust mode. The majority of your post was built on the assumption that there is such a thing as "safe investment opportunties", that there is a fixed quantity of them, and that their number must grow proportionally to people's disposable income for stability to ensue. First, there are no safe investments. There are only degrees of uncertainty, as represented by the risk premium of the interest rate. Secondly, even if we arbitrarily define a category of investments as "safe", that's still no objective measurement with which we can wisely plan future tax reductions. An increase in the amount of available investment capital can drive down interest rates, thus making investments seem safer than they did before, so a tax reduction itself can alter the requirements according to which we are to judge tax reductions. See the problem? And lastly, if by "safe" we are to understand "tried-and-true" investment opportunities that have worked for a long time, are we in effect saying that new products and services are "speculative" investments better left unexplored, or only financed after careful government review? That would most likely bring innovation to a grinding halt.
There's no such thing as an objectively 'safe' investment. When the government forces spending on something, it is malinvesting by definition, because if people wanted those things, they would have spent the money on them themselves.
Besides, it's only this archaic theory that taxes actually fund government spending... Government spending is financed by borrowing, the interest on which is funded by taxation. :)