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Tuesday, February 14, 2006

Krugman's Money Talks: Tax Cuts, Foreign Debt and 'Dark Matter'

In response to comments on his latest column, Paul Krugman discusses tax cuts, Greenspan's ethical problems, trade deficits, and has some interesting comments on dark matter. He also gives Brad Setser a much deserved plug as the go to guy on the dark matter controversy:

Krugman's Money Talks: Tax Cuts, Foreign Debt and 'Dark Matter', Commentary, NY Times: Readers respond to ... "Debt and Denial"

Andrew Levin, Hilo, Hawaii: The president's top economic advisor was interviewed by Wolf Blitzer about a week ago, and said that the middle class now pays a lower proportion of our income taxes than do people in the upper income brackets. .... Is this true, and if so, is this an appropriate way to judge the impact of the Bush tax cuts?

Paul Krugman: The Bush administration has tried a lot of number games in an effort to pretend that its tax cuts favor the middle class. Rather than deal with all the hocus-pocus, keep your eye on the ball: The question is whether the Bush tax cuts make the after-tax distribution of income more or less equal. And the answer, without question, is that they increase inequality... The latest estimates from the nonpartisan Tax Policy Center say that making the tax cuts permanent will increase the after-tax income of the top 0.1 percent of the population by 7.5 percent, which is more than three times the tax cut for families in the middle quintile...

Jeffrey T. Atwood, Larchmont, N.Y.: Your column today ... managed to lay some responsibility on Alan Greenspan... It is probably not surprising that the Republicans, like many people in power, flaunt their rhetoric about accountability, taking ownership and responsibility, yet cannot apply these concepts to their own actions when it requires their accepting consequences or stopping the buck.

Paul Krugman: Greenspan has two ethical problems here. One is small in the scale of things; it's very improper for him to be out there commenting on monetary policy for personal gain, when his successor is new to the office and needs to establish his own credibility. The larger point is that Greenspan cheered on the tax cuts and pooh-poohed talk of a housing bubble until he was on his way out, at which point he started lecturing us on the evils of deficits and warning of "froth" in housing. ...

Martin Berger, Yorktown Heights, N.Y.: ...[M]y question ... has to do with balance of payments... You seem to equate purchases of foreign goods with debt. What's the connection? I would agree that accumulation of foreign debt is certainly problematic, especially when added to our growing domestic debt. But I don't see the connection between foreign purchases and debt. Are all foreign purchases financed by foreign banks? Could you explain this clearly?...

Paul Krugman: The balance of payments always balances. If we don't sell enough goods and services to pay for our imports, we have to sell I.O.U.’s. Now, these don't have to be bonds. We could be attracting foreign companies that want to establish U.S. subsidiaries, or we could be selling stocks. In fact, however, we're paying for the trade deficit by selling bonds.

Paul Krugman: Finally, I thought I should let readers know about a genuinely interesting dispute regarding the U.S. debt position and the balance of payments: the "dark matter" controversy. The starting point for this discussion is a curious fact. According to official measures, the United States is a big net debtor. That is, foreign assets in the U.S. are much bigger than U.S. assets abroad. But if you look at U.S. earnings on its overseas assets, they're still roughly as big as foreign earnings in the U.S.

This has led some economists to argue that official debt statistics are wrong — that U.S. corporations have much bigger overseas assets than the numbers say. The proponents of this view say that these hidden assets are the "dark matter" of international economics, and that the U.S. debt and balance of payments position is much better than the usual numbers suggest. Dark matter, along with some other ideas that might make the U.S. picture brighter, was the basis of a recent Business Week cover story asserting that the U.S. economy is much stronger than people think.

Interesting stuff. But there's a problem. When you look closely at the earnings numbers, U.S. corporations overseas aren't earning especially high profits. The funny number, instead, is the profits of foreign companies operating in the United States, which seem very low. So as the people doing this now say, there seems to be "dark antimatter," not dark matter. (Note to physicists: yes, I know that's wrong — antimatter still has positive gravity. Whatever.)

What's going on? Brad Setser is the go-to guy on this. He thinks that what we may be seeing is the effect of tax avoidance strategies that understate foreign profits in the U.S. and make them pop up somewhere else. If you're into these things, read his blog for the implications. The overall deficit numbers, he suggests, are correct, but the division between trade and investment account may be distorted. Interesting stuff. But the bottom line — that we're spending way beyond our means as the day of reckoning approaches — probably doesn't change.

    Posted by on Tuesday, February 14, 2006 at 03:03 PM in Economics, International Finance, International Trade, Monetary Policy, Taxes | Permalink  TrackBack (0)  Comments (19)


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