Member Group : Lincoln Institute

Wanasoma! That’s right. Wanasoma.

Our government has learned economics all too well. The government understands elasticity of demand better than most economists and sales people. Well at least government thinks that it does.

Elasticity of demand relates to the sensitivity of consumers to changes in prices. Demand is inelastic if consumers are not sensitive to price changes. Demand is elastic if consumers are sensitive to price changes.

Who cares! Well you should when you see how government uses this boring tidbit to their advantage and your detriment.

What is not as commonly understood is that consumer sensitivity to price changes varies as prices change. This misunderstanding is the fatal flaw that our government is about to learn but one that citizens have paid for over the decades.

This misunderstanding of price sensitivity is what may very well lead us into a double dip recession or perhaps even a depression.

Governments, as monopolies, understand that they can mandate taxes and make it criminal not to pay them. This penalty generally makes consumer demand inelastic since the penalties outweigh the benefits of not paying the tax.

In a similar vein, the government exhorts the dangers of smoking. Yet, the same people who condemn smoking are the same ones who realize that cigarette taxes are a great source of revenue. Government does not want you to stop smoking. They want more revenue and the government believes that demand for cigarettes is not price sensitive.

Unfortunately when cigarette taxes get too "high", the tax and cost of the product encourage a black market and illegal activity to occur. The same type of problem occurred during Prohibition.

It is this change in consumer sensitivity to price changes or taxes that will undermine government tax policies and government revenue. Times are different. Taxpayers are now very sensitive to tax changes. The paradigm is about to change and our government has no clue.

In reality, our nation is faced with a multitude of forces over which it will now have little to no control. Forces which, if not dealt with immediately by lower spending, will result in a double dip recession at best or depression at worst.

First, unfunded pension obligations are now coming due and cash strapped states are loath to cut the pensions. Ford and the UAW dealt with their issues while GM did not. The failure of GM is a prelude to our failure if the unfunded pensions are not reduced. Consumers no longer can absorb the higher taxes.

Second, states are already facing substantial deficits which necessitate higher taxes or reduced spending. So far, except for Virginia, most states are loath to cut spending deeply. Pennsylvania recently passed a budget and proudly proclaimed that spending went up less than 1%. In reality, spending needed to come down 10%. That is a huge difference. Taxpayers will not be able to continue to fund these spending levels in this economy.

Third, regulated industries such as utilities and cable continue to benefit from government largesse in that their rates are increasing at a time when consumers are hurting. Inflation in a falling pay environment. Ouch!

Fourth, health insurance costs are increasing drastically whereas incomes are not. The squeeze on the family budget is destructive.

Fifth, many of the tax cuts approved during the Bush Administration expire on January 1, 2011. Many of these tax cuts affect the lowest income tax brackets. Congress is not likely to act in time. These restored tax cuts will come at a horrible time in an attempted economic recovery.

Sixth, increasing taxes for tolls, cigarettes, sales taxes, and the health insurance bill passed which mandates payment of the tax without benefits for the next three years increase the burden on already over stretched taxpayers.

The cumulative effects of the six issues above do not bode well for consumers whose incomes are either stagnant at best or declining in most cases. Many consumers continue to be unemployed with unemployment still at 10%.

In the past, government could merely raise taxes and know that they could pass on the tax increase. The current economic crisis is so tenuous that the government must understand that it too is subject to the laws of economics and elasticity of demand. Government is about to find out that it cannot tax it’s way to prosperity.

Government must understand that We Are Not A Source Of Money Anymore (WANASOMA). Free markets will always win, governments will not. Cut spending now or face the consequences. It will not be pretty. We are not too big to fail.

Frank Ryan, Col, USMC (ret) CPA specializes in corporate restructuring and lectures on ethics for state and national CPA societies. He is on numerous boards of publicly traded and non-profit organizations. He can be reached at [email protected]