Our call for a rally in the dollar happened like clock work last week. But with tax time just around the corner we thought to add our two cents on what has long been a tired debate on both sides of the political isle – taxes.

Let us start by listing a little know fact about taxes since Woodrow Wilson had the disillusionment to bring “Democracy to the World” and saddle US citizens with the check:

Taxes go down when the economy is expanding and taxes go up when the economy is contracting. The implication of this axiomatic equation is simple – The government takes care of itself first, its citizens second.

Notice how Woodrow Wilson’s schism with our Founding Father’s central tenant to never get involved in a European War required instating an income tax on US citizens to bail out NYC money center banks who initially did the lending to our allies Britain and France.

Tax rates were then quickly reduced after World War I, but not to the level seen before the Great War. The highest tax bracket stayed at 25% during the roaring 1920s as government revenues soared along with the booming economy and our thoughts of Empire grew.

But the stock market crash of 1929 and the ensuing Depression sent revenues falling, necessitating higher tax rates to keep the lights on and to pay for more government programs such as the New Deal.

Rates stayed high during World War II then fell from 90% to 70% in the booming 1960s. However, in the inflationary 1970s government expenditures once again exceeded revenues and income “tax bracket creep” pushed more people into higher tax rates.

Ronald Reagan had a great idea to reduce taxes, but it was the thriving economy in the early 1980s that allowed Congress to pass the tax cuts. Yet simultaneous deficit spending paved the way for even more egregious spending over the next two decades that has now saddled the US economy with the highest level of debt ever.

Economics 101 cites the Ricardian Equivalence Theorem, which suggests that individuals increase their savings because they realize that government borrowing today has to be repaid later. Our short-term bullish stance on USD is just that - a trade.

Gold bugs have the right idea for the long run. Eventually, the market (with the government’s blessing) will devalue the dollar and send the dollar price of gold soaring. The only catch is that with current maximum income tax rates well below the historical median of 60%, the government will increase taxes to make up for the revenue shortfall. The implication of course is that gold bugs who openly call for a crash in the dollar need to realize that their wealth is not "safe" in gold. The government is always one step behind.

© 2005 Jes Black
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