Opinion

Elizabeth Warren Is Right About The Middle Class, But Her Ideas Would Make It Worse

Milton Ezrati Senior Economist, Lord, Abbett & Co.
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Elizabeth Warren is right in one important respect: the game is rigged against the middle class. Those with money and influence regularly win favors from Washington that allow them distinct advantages to avoid taxes and tailor regulations to their needs.

But Warren’s desire for more extensive regulations would only make things worse, since Washington hands out the favors in the first place. Giving regulators more power over business would only help the influential to win still more advantages. To help the middle class benefit more, turn her suggestions on their head, and give government less influence in business and thus less ability to play favorites.

For example, severe iniquities have followed the Dodd-Frank financial reform legislation’s effort to protect the financial system from problems in any single financial firm. The law could, of course, have accomplished its goal by breaking up larger companies into smaller, less dominant players. No doubt with input from influential bankers, the law’s writers decided against this approach. What they decided to do is ask regulators to identify banks large enough to hurt the financial system. Designating them as “too big to fail,” the rules commit the government to support these larger firms in the event of trouble.

Though these same rules would also encumber them by restricting how they conduct their business, the too-big-to-fail designation gives them an overriding competitive edge. It has effectively declared them safer than their smaller competition, where the government would happily allow failure, and so has given them an ability to collect assets at less cost than their smaller competitors, borrow at lower rates and on better terms. This is a tilted playing field landscaped entirely by Washington.

Having given out this huge competitive edge, the government periodically chides these larger companies publicly for taking advantage of the very benefits Washington has bestowed. Occasionally the Justice Department fines them for this or that infraction. Such penalties and the public lectures that accompany them are a small price to pay for what Washington has given. A cynic might even see government working hand in glove with these big banks. Their fines effectively kick back to Washington a portion of the excess profits that the regulations have awarded. Such a characterization is, no doubt, too cynical. But it fits the facts.

The tax code offers similar biases in favor of the influential. Large corporations with access to policymakers can make the case that government should give tax breaks to encourage whatever it is that these firms do, like investing in technology or pumping oil out of the ground. Perhaps such measures suit the nation’s interest. They always suit the firms’ interest.

Rather than saying no, the authorities are often persuaded, at which time they write new complexities into the tax code. Then to make up the revenues lost to the breaks, the government raises the general tax rate. That added cost induces more who have influence to make their case for other breaks. Those without influence, smaller taxpayers, pay a higher rate to make up the revenues that Washington has effectively given to the privileged.

Listening to Elizabeth Warren’s heartfelt concerns for the middle class, one cannot believe that she really wants to give government more ways to dole out favors of money and influence. She must believe that somehow these well-established patterns will cease to apply when she writes the rules, that somehow her regulators, contrary to all past experience, will have an ability to weigh all sides of complex market interactions, see all the implications of the rules they write, and ensure a level playing field. Experience with Dodd-Frank, the tax code, and just about everything else in the regulatory structure argues for more humility.

Without suggesting any direct corruption, that experience shows that the inevitable ambiguities of the government-business nexus make her imagined, all-encompassing wisdom simply impossible to secure, even for the best informed and the most earnest. Warren’s proposals then point less to a solution than to where similar best intentions have always led: to a playing field even more tilted in favor of the powerful and influential and against the middle class.

A better approach would get Washington out of the business of running business. It would shift the regulatory focus away from what firms should do and toward what they cannot do. That way government could apply the rules universally and avoid having to set different practices for different activities performed by different firms of different forms and sizes. A focus on what is forbidden would force those seeking privileges to argue that Washington should allow them activities for which no one else has permission, a tough pull even for the best lobbyist. The middle class might miss a special advantage, but at least it would no longer labor under a relative disadvantage.