Economics is Easy — When You Know the Magic Formula

By Nathan Lewis Published on April 5, 2019

Economics is easy. You just have to remember two things: Low Taxes, and Stable Money. Get this right, and most other things will take care of themselves. Get it wrong, and all the other advantages, cultural, institutional or geographic, won’t matter.

When it works, it works really, really well — so well, that I call it “the Magic Formula.” My new book The Magic Formula is an investigation into this theme throughout history: the advantages that come when governments get it right, and the problems that erupt when governments get it wrong. The problems can easily become so great that whole empires disintegrate.

Low Taxes

If it’s so easy, you would think that everyone would do it. But, if you look at where we are going today, it is often directly contrary to the Magic Formula. The Left is talking again about Federal income taxes at rates as high as 70% (and higher than this when combined with State income taxes). On the Right, recognition of intensifying debt, deficit, pension and entitlement issues leads to talk of “inevitable” tax increases.

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It won’t work. We experimented with different tax rates for a century, from 1913 to the present, and never came up with a system that consistently produces more tax revenue, as a percentage of GDP, than we get today. Higher tax rates would not produce more revenue. But, they would produce an economic slowdown, which would lead to depressed tax revenues, more distress, more government spending, bigger deficits — and, quite possibly, still higher taxes.

Stable Money

In desperation, mired in economic stagnation, increasing debt, high taxes and spending commitments, governments turn to “easy money” for a way out. Here is a solution that seems to have no cost, does not require laborious parliamentary procedure, and promises to produce results in time for the next election cycle.

The Magic Formula

The typical long-term result of this “easy money” is a decline in currency value. “You can’t devalue yourself to prosperity,” statesmen have warned for generations. If you look around the world and throughout history, countries with a history of weak currencies (all of Latin America among them) never seem to emerge from dismal stagnation. If it were that easy, someone would have done it. History’s great economic success stories share the common characteristic of a stable, reliable currency.

The Federal Reserve today is aggressively accommodating an economy that has grown addicted to “easy money,” and which does not seem able to return to what was once called “normalcy” without a stiff hangover. For now, it’s “easy money” as far as the eye can see. As all of these debt, deficit and entitlement issues continue to intensify, overreliance on the “easy money” lever in coming years might have some very unpleasant consequences. Already some on the Left are talking about “modern monetary theory,” a suite of complicated and fallacious justifications for paying bills with the printing press.

The Only Thing That Works

We might be heading into a whole lot of trouble over the next ten years or so — in the U.S., and also Europe and Japan, which face many of the same issues. If we get it wrong, we might end up taxing and devaluing ourselves into disaster. If we get it right, we might establish the foundation for an entire century of prosperity and freedom.

The Magic Formula works. History says that it is the only thing that works.

 

Nathan Lewis is a former macro analyst for institutional investors, and asset manager. The Magic Formula is his fourth book on economics. His website is: newworldeconomics.com.

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