Category Archive for: Taxes [Return to Main]

Wednesday, December 05, 2007

Feldstein: How to Avert a Recession

Marty Feldstein says it's time to use both monetary and fiscal policy to deal with the weakness in the economy:

How to Avert Recession, by Martin Feldstein, Commentary, WSJ: The American economy is now very weak and could get substantially weaker. Current economic conditions call for lowering interest rates and for enacting a tax cut now that is conditioned on economic developments in 2008. More generally, fiscal policy should be considered in the future whenever there is a risk that an excessively easy monetary policy could cause an asset-price bubble. ...

Almost every economic indicator -- including credit conditions, housing and consumer sentiment -- has deteriorated significantly since the Federal Reserve's October meeting. In my judgment, the probability of a recession in 2008 has now reached 50%. If it occurs, it could be deeper and longer than the recessions of the recent past.

Further interest-rate cuts can reduce the risk of recession and increase output and employment in 2008 and 2009. The current 4.5% fed-funds rate is essentially neutral... Although there are risks that the rise in oil prices and the falling dollar will raise the inflation rate, the ... Fed should reduce the fed-funds rate at its December meeting and continue cutting toward 3% in 2008, unless there is a clear sign of an economic improvement.

Because of current credit market conditions, there is a risk that interest rate cuts will not be as effective in stimulating the economy as they were in the past. ...

But rate cuts can still help. Lower interest rates will still reduce monthly interest payments for the one-third of homeowners who have adjustable rate mortgages, thus freeing up cash to spend on other things. When banks make new loans, they will do so at lower interest rates, encouraging more business and household borrowing.

Yet more than lower interest rates is needed. Fed Chairman Ben Bernanke signaled a desire for additional policies to reinforce monetary easing when he called for a dramatic temporary rise in the maximum size of eligible Fannie Mae and Freddie Mac mortgages -- to $1 million from the current $417,000. While this would help to stimulate the market for high-priced homes, it would cause these government-sponsored lenders to assume an even greater share of the U.S. housing market when there is a strong fundamental case for reducing their role. And why should American taxpayers provide an implicit guarantee to mortgages of up to $1 million when the average sale price of a home is now less than $250,000?

In a similar attempt to go beyond Fed easing, the head of the FDIC recently proposed that the government impose an across-the-board limit on the mortgage interest increases that are now scheduled to occur. With more than $350 billion of mortgages scheduled to adjust up in 2008, such an imposed limit could no doubt avoid many personal defaults. But arbitrarily changing the terms of mortgages ... would also destroy the credibility of American private debt. Who would invest in U.S. bonds or mortgages if the government could arbitrarily reduce the contracted interest payments?

What's really needed is a fiscal stimulus, enacted now and triggered to take effect if the economy deteriorates substantially in 2008. There are many possible forms of stimulus, including a uniform tax rebate per taxpayer or a percentage reduction in each taxpayer's liability. There are also a variety of possible triggering events. The most suitable of these would be a three-month cumulative decline in payroll employment. The fiscal stimulus would automatically end when employment began to rise or when it reached its pre-downturn level.

Enacting such a conditional stimulus would have two desirable effects. First, it would immediately boost the confidence of households and businesses since they would know that a significant slowdown would be met immediately by a substantial fiscal stimulus. Second, if there is a decline of employment (and therefore of output and incomes), a fiscal stimulus would begin without the usual delays of the legislative process. ....

The excessive asset-price increases caused by some past monetary expansions -- especially the induced rise in the prices of real estate -- provide a further reason to use fiscal as well as monetary policy. By cutting the fed-funds rate to just 1% in 2003 and promising that it would be raised only slowly, the Fed contributed to the sharp rise in house prices and the market's current weakness. A mixed strategy that included a prospective fiscal stimulus would have reduced the Fed's perceived need for a sustained negative real fed-funds rate, and would therefore have produced a more balanced expansion of demand. Now is surely a time for such a two-part strategy of expansion.

If we go the temporary fiscal policy stimulus route, which can occur through either an increase in government spending or a decrease in taxes, there is a reason to prefer increased spending. A tax cut creates an incentive for households to increase consumption, but there is no guarantee that they will, e.g. they could just retire debt instead. This is just the familiar split of a change in taxes and hence disposable income into a change in consumption and a change in saving, and most of the time consumption and hence aggregate demand will increase when taxes are cut, but we can't be sure in advance how a tax cut will be used. In addition, when the tax cut is temporary, as this one would be, the impact on consumption is generally lower than with a permanent change in taxes.

With government spending, however, the impact on aggregate demand is assured. A change in government spending impacts aggregate demand directly on a dollar for dollar basis so there is no uncertainty at all about whether or how much aggregate demand will increase with a change in fiscal policy. And, with all of our infrastructure needs, it's not as though we can't find places where government spending could increase output and employment and also improve our public capital (there are many other ways spending could help as well, infrastructure enhancement is not our only need).

So, I agree that we may need to try fiscal policy, but I don't see why temporary tax cuts should be preferred to temporary increases in spending. In fact, here's Greg Mankiw on this point. This is from his textbook Macroeconomics (5th ed., pg. 454) and it explains why temporary changes in taxes are not very useful for stimulating the economy:

 The permanent-income hypothesis can help us to interpret how the economy responds to changes in fiscal policy. According to the IS-LM model..., tax cuts stimulate consumption and raise aggregate demand, and tax increases depress consumption and reduce aggregate demand. The permanent-income hypothesis, however, predicts that consumption responds only to changes in permanent income. Therefore, transitory changes in taxes will have only a negligible effect on consumption and aggregate demand. If a change in taxes is to have a large effect on aggregate demand, it must be permanent. ... The lesson to be learned ... is that a full analysis of tax policy must ... take into account the distinction between permanent and transitory income. If consumers expect a tax change to be temporary, it will have a smaller impact on consumption and aggregate demand.

[Update: William Polley continues the discussion. Update: Free Exchange also comments.]

Thursday, November 08, 2007

"There are Only Two Economic Philosophies in America"

Robert Reich says bottom up:

Trickle Down or Bottom Up, by Robert Reich: ...There are only two economic philosophies in America – trickle down and bottom up. Trickle down means the rich get richer and pay less taxes. Supposedly they use their extra income to invest in America, which makes all of us more productive. But it doesn’t work that way. In a global economy, investments don’t trickle down; they trickles out to wherever on the planet the rich can get the highest return. If trickle down worked as advertised inequality wouldn’t be widening so fast.

Bottom up means giving all Americans what they need to be productive – universal and affordable health coverage, good schools, a chance to attend college, job retraining, affordable child care, and good public transportation to and from the job, for starters. But as we learned a decade ago, this requires money – even more, now. So the question is how the nation can afford it and ALSO give the soon-to-retire baby boomers the Social Security and Medicare they expect, pay for homeland security and national defense, invest in non-fossil based fuel technologies, and repair the nation’s decrepit infrastructure (recall the pipe that blew out in New York last July and the bridge that collapsed in Minneapolis). I haven’t even mentioned the trillion dollars necessary to shield the middle class from the Alternative Minimum Tax. Even if we cut corporate welfare, eliminated subsidies to agribusiness, and banned all earmarks, we wouldn’t have nearly enough.

The only way is to stop obsessing about balancing the budget and start pushing for a serious tax hike on the rich. Yet all Democratic presidential candidates are styling themselves "fiscal conservatives" and none has suggested raising the marginal tax rate on the richest beyond the 38 percent rate it was under Bill Clinton. They may talk bottom-up economics but they're still wedded to trickle down.

What is fair? For a given level of government spending, how would you decide who pays what? What sort of tax distribution would you consider equitable and why? I like the equal marginal sacrifice principle, i.e. that the pain of giving up the last dollar in taxes should be the same for everyone, and that gives a progressive structure, but there are other principles of taxation that can be used. As to the tax hike on the wealthy, I think a revenue neutral change that tilted the structure upward a bit more might be viewed as more equitable and hence be politically viable, though it would be a close call, a large upward tilt would face more resistance, and a tax proposal designed to enhance revenue would face more resistance yet, to the point where pushing for it in an election year may not be wise.

Sunday, November 04, 2007

knzn: Incentive Effects of Progressive Taxation at the High End

knzn says that making taxes more progressive acts as insurance against bad economic outcomes thereby encouraging additional entrepreneurial activity:

Incentive Effects of Progressive Taxation at the High End, by knzn: Does progressive (labor) taxation at the high end reduce the incentive to engage in high-value activities? It seems to me that (to the extent that highly lucrative activities really are high value) it actually increases the incentive. Most of the people with the highest compensation -- movie stars, star athletes, CEOs of large corporations, successful hedge fund managers, successful entrepreneurs, etc. -- have that high compensation not just because of decisions to engage in (ostensibly) high-value activities but because of a combination of an intentional occupational choice decision and unpredictable outcome of success in that occupation. The ones who made the same occupational choices but weren't so successful -- ordinary actors, minor league athletes, middle managers of large corporations, hedge fund managers without a lot of assets under management, entrepreneurs with limited or no success, etc. -- don't get that ultra-high compensation.

How could the tax code encourage people to undertake these activities? If people were risk-neutral, the progressivity wouldn't make much difference, since any increase in taxation of the high rewards for being successful would be offset by a decrease in taxation of the lower rewards of being not-so-successful. But economists usually assume that people are risk-averse. If so, progressive taxation encourages people to enter high-risk, high-value occupations, because it provides a form of insurance for people who choose to do so. If you're successful, you make gobs of money, and you have to pay a lot in taxes, but you still end up with gobs of money; if you're not so successful, you don't make so much money, but you get an insurance payment in the form of a reduced tax bill. If the government were explicitly providing an at-cost insurance policy for actors, athletes, business people, hedge fund managers, and so on, I don't think there would be much question that the policy would encourage, rather than discourage, entry into these occupations.

Some people may be entrepreneurs and some people workers precisely because of differences in preferences for risk, i.e. entrepreneurs may be entrepreneurs because they are have more tolerance for risk. This would mean that increased progressivity of the tax code would not have a large impact on the behavior of those agents who are near risk neutrality, i.e. on existing entrepreneurs, but would impact those with larger aversions to risk, i.e. workers near the risk tolerance margin. Thus, an explicit insurance policy may encourage workers at the margin to become entrepreneurs. [One question for knzn. What if entrepreneurs, or at least a fraction of them worth worrying about, are risk lovers?]

This plays into a more general point about social safety nets that is often overlooked. Suppose you are thinking of quitting your long-held steady job and using your accumulated savings to invest in a business (or you are thinking of moving to a potentially better job, but there are risks). When would you be more likely to do so, when there is a social safety net to catch you if things don't work out, a net that allows a smooth return to wage employment and covers things like health insurance, or when there is little, if any help waiting for those who fail to make the business or the move to a new job work? We hear that social insurance stifles effort and risk-taking, but there are forces working in both directions.

Wednesday, October 31, 2007

"Truth About Taxes"

David Leonhardt lists "basic facts" about taxes "that ideology can’t change":

Plain Truth About Taxes and Cuts, by David Leonhardt, NY Times: You’re going to hear a lot about taxes over the next two years. ... There are big philosophical questions about taxes that facts alone can’t answer. ... But there are also some basic facts that ideology can’t change. If you keep these five in mind, you will have an easier time keeping up with the debate:

As a group, the rich pay a greater share of taxes than in the past. The top 1 percent of taxpayers — those with adjustable gross income of at least $267,000 in 2004 — paid more than 25 percent of all federal taxes that year, according to the Congressional Budget Office. That was up from 15 percent in 1979. People sometimes pick nits with these statistics... But don’t get bogged down in all this. The big picture is clear enough. The main reason for the trend is also clear.

The affluent are paying more of the taxes because they’re making so much more money. ...A family in that top 1 percent of earners paid a total federal tax rate — including everything from payroll taxes to income taxes to capital gains taxes — of 30 percent in 2004. That was down from 41 percent a decade before. Since the 1950s, tax rates on high-income families have generally been falling.

The top earners pay a bigger share of the government tab than in the past because their incomes have risen so sharply — even more sharply than their tax bills. ... The affluent, in short, are paying less in taxes on every dollar they earn but earning many more dollars.

Corporate taxes have dropped significantly in recent decades. ...Everyone from Mr. Rangel on the left to Fred Thompson on the right is saying that high corporate taxes are hurting American companies. But the effective corporate tax rate isn’t any higher than it has been on average over the last 25 years, and it’s far lower than it was in the 1960s and ’70s.

“A dirty little secret is that the corporate income tax used to raise a fair amount of revenue,” says Richard Clarida, a Columbia University economist and former Treasury Department official under Mr. Bush.

What’s going on here? This country really does have a high corporate tax rate, but it also has so many loopholes that companies can often avoid paying the tax. A much smarter policy, economists say, would include a lower rate with fewer loopholes. ...

The nation’s total tax bill hasn’t changed much over the years. Put it all together — less corporate tax collection and lower individual tax rates, combined with more income for the people who face the highest tax rates — and the trends mostly cancel each other out. The taxes that the federal government took in last year equaled 18.4 percent of the gross domestic product, almost exactly the average since 1980. ...

The obvious conclusion is that moderate shifts in taxes don’t dictate economic growth. Mr. Bush’s father and Bill Clinton raised taxes — and the economy grew for almost the entire decade of the 1990s. The current administration has cut taxes — and the economy has grown for almost all of this decade.

So if short-term economic growth were the only thing to worry about, you could make a good argument either for cutting taxes or for raising them.  Unfortunately, there is another problem out there.

The budget deficit is worse than either party says it is. ...White House officials are absolutely correct when they note that the current budget deficit isn’t especially large. But it will soar in coming years, as baby boomers ... move onto the Social Security and Medicare rolls

If nothing changes over the next couple of decades, the United States will build up a debt burden... There are several ways to prevent that. Taxes could be raised across the board, or they could be raised on the affluent. Or the Medicare budget — a much bigger problem than Social Security — could be held in check if the government figured out how to say no to some expensive medical procedures. Or all of the above could happen. But something has to give. No amount of clever argument can pay the bills.

Just one complaint: There is no direct attempt in this set of "truths" to debunk the supply-side myth that tax cuts have paid for themselves, a myth that will survive so long as those making the claim are not revealed as hacks pushing falsehoods. [Note: That tax increases increase revenues is implied in the last paragraph where raising taxes across the board fixes the deficit, but there's no direct challenge to this pervasive myth. Since the topic is "basic facts that ideology can’t change," and given the prominence of this myth among supply-side advocates, it seems to me the myth ought to be addressed directly.]

A Convenient Lie

As soon as you read this from Pete Du Pont:

Inconvenient Tax Truths: Al Gore believes global warming is "an inconvenient truth." Here are some economic truths that America's liberal leadership finds too inconvenient to support. ... Tax rate reductions increase tax revenues. This truth has been proved at both state and federal levels, including by President Bush's 2003 tax cuts on income, capital gains and dividends. Those reductions have raised federal tax receipts by $785 billion.

There's no need to read any further, he's revealed himself (yet again) as a political hack. The saddest part is that some people actually believe these lies.

It's also too bad that under Rupert Murdoch the Wall Street Journal's editorial page has continued to print these lies to support an ideology, lies that helped to push through tax cuts that did not raise revenues by $785 billion or at all, but instead lowered revenues by hundreds of billions of dollars according to Congressional Budget Office estimates. [Just to be clear, this is about the editorial pages, not the news pages, e.g. see Greg Ip's excellent story on changes in the Fed under Bernanke for an example of the difference in quality].

Thursday, October 25, 2007

Robert Reich's Postscript on Fair Taxes

Robert Reich says "the case for substantially raising marginal income tax rates on the rich" is clear:

Who Pays the Dollars that Finance Bush's War? More on a Fair Tax Burden, by Robert Reich: President Bush has just sent Congress an “emergency” request for an extra $46 billion in expedited funds for Iraq, Afghanistan and other national security needs. That’s in addition to the $145 billion in war-related spending included in Bush’s original 2008 budget. Which brings me back to the subject of who’s gonna pay for all this. ...

[T]he principle for who’s gonna pay should be equal sacrifice. Equal sacrifice means that in paying taxes, people ought to feel about the same degree of pain – regardless of whether they’re wealthy or poor. This means that someone earning $2 million a year ought to pay a larger portion of her income in taxes than someone earning $20,000 a year. Even Adam Smith saw the wisdom of a graduated tax. “The rich should contribute to the public expense, not only in proportion to their revenue, but something more in proportion,” he wrote. (Wealth of Nations, vol. 2, ed. Campbell, Oxford U Press, 1976, p. 840.)

Traditionally during wartime, taxes have been raised substantially on top incomes to help pay the extra costs of war. The estate tax was imposed by wartime Republican presidents Lincoln and McKinley. It was maintained through World War I, World War II, the Korean War, and the Cold War. Now, under Bush, with Bush's war costing more and more, it's being phased out.

During World War I the marginal income tax on the richest Americans rose to 77 percent; during World War II it was over 90 percent. In 1953, with the Cold War raging, Republican president Dwight Eisenhower refused to support a Republican bill to reduce the top rate, then 91 percent. By 1980, the top marginal rate was still at 70 percent.

Combine this logic with the facts I shared with you two blogs ago – about how large a share of national income and wealth the super-rich now claim – and the case for substantially raising marginal income tax rates on the rich should be even clearer.*
* Postscript: The blogger who asserts that 84.6 percent of all federal taxes are paid by the top 25 percent of income earners, and over a third are paid by the top 1 percent, advances a specious argument. First, most Americans pay more in payroll taxes than in income taxes; in addition, state sales taxes have grown faster than almost any other form of taxation. Both payroll taxes and sales taxes take a much bigger portion of the paychecks of lower-income Americans than of higher-income. Viewed as a whole, the current tax system is quite regressive.

Second, and more to the point, it’s irrelevant how much of the total income tax burden is paid by the top 25 percent, or even the top 1 percent. The ethical and logical issue is what sort of sacrifice individuals are making, or should be expected to make, rather than what sacrifice an economic “class” is making as a whole. The rich have become so wealthy that even if each wealthy American paid a very small share of his or her incomes in taxes, the rich would still, as a group, account for a large share of total income taxes. I find it ironic that conservatives who extol the virtues of individualism and abhor so-called “class warfare” would resort to such a deceptive argument.

And, though I think Reich has in mind a net increase in taxes rather than revenue neutral offsets that increase progressivity, along these lines:

A Tax Plan as Trial Run for ’09 Law, by Edmund L. Andrews, NY Times: The House’s leading Democratic tax writer will propose a sweeping overhaul of the tax code on Thursday that would increase taxes on many people with incomes above $200,000 but cut them for most others.

The bill, [is] to be introduced by Representative Charles B. Rangel of New York ... Mr. Rangel has acknowledged that he does not expect to enact such a bill this year, and President Bush would almost certainly veto legislation that raises taxes on the wealthy. ...

Monday, October 22, 2007

The Great Lie of Supply-Side Economics

I am very pleased to see this, and not just because there's a link to this site. I've been frustrated with the press on the 'Laffer curve, tax cuts have paid for themselves' issue because the press has enabled a big lie. It's a lie Republican candidates, even the president, can still repeat with very little attention from the mainstream media. No matter how often reputable economists on the right and the left have said this is a lie, the press has ignored it and allowed it to continue unquestioned. Some of you around here are probably tired of hearing about it (though see here), but it's a lie with consequences. The tax cuts that went through were sold on false premises - what it costs us is far greater than advocates said, advocates who claimed it would actually increase revenue and cost us nothing. It does cost us, hundreds of billions of dollars so far, and that cost has not been presented honestly to the public by either the advocates of the tax cuts or the press reporting on the issue. Without an adequate understanding of the true costs, the public discussion on the issue is distorted and the result is bad public policy.

The big lie matters, and the sooner the press starts to call politicians on it, the better for us all. There are encouraging signs, Jon Chait's recent book being one example and this being another, but it's still possible to tell the lie with little consequence from the mainstream media. Here's James Surowiecki (whom I've come to respect as an excellent reporter on economics):

The Tax Evasion: The Great Lie of Supply-Side Economics, by James Surowiecki, The New Yorker: In American politics, supply-side economics is the monster that will not die. The supply-side argument that, in the United States, tax-rate cuts pay for themselves ... has little or no support within the mainstream economic profession, and no hard empirical data to back it up. Myriad studies have demonstrated that both the Reagan tax cuts of the nineteen-eighties and the tax cuts put through under the current Administration shrank government revenues and led to bigger budget deficits.

Yet the absence of proof for supply-side theory has not dimmed Republicans’ devotion to it. Last month, President Bush told Fox News that his tax cuts had “yielded more tax revenues, which allows us to shrink the deficit.” Dick Cheney insists that “sensible tax cuts increase economic growth and add to the federal treasury.” Every major Republican Presidential candidate ... is on the record as saying that tax cuts pay for themselves. And, just last week, a New York Sun editorial published a list of what “the Republican Party stands for.” First on the list? “Reductions in top marginal tax rates . . . lead to greater government revenues in the long run.”

This supply-side orthodoxy is striking in a couple of ways. First, it requires Republican politicians to commit themselves publicly to a position that is wrong—and wrong not as a matter of ideology or faith but as a matter of fact. ... Second, despite the fact that the supply-side faith has no grounding in reality, within the Republican Party there is little room for dissent on the subject, as Jonathan Chait details in his new book, “The Big Con.” Last week, the blogger Megan McArdle wrote that she had a book review for an unnamed right-wing publication spiked because in it she dared suggest that, in the U.S., tax cuts decreased government revenues.

The cynical explanation for the persistence of the supply-side dogma is that it’s simply cover for cutting taxes for the rich. But the supply-side orthodoxy has flourished for other reasons, too. To begin with, the absurd idea that tax cuts pay for themselves is based on an idea that is not at all absurd, which is that tax rates can have an impact on people’s behavior. Increase taxes too much, and people may work less ... and invest less..., and so the economy will grow more slowly. The opposite can happen if you cut taxes. (How much of an impact tax rates have ... is a subject of much debate in economics, but it’s inarguable that they do matter.) What supply-siders have done is start with that reasonable idea and extrapolate it to unreasonable lengths.

They’re aided in that extrapolation by the simple fact that the American economy grows over time. As a result, even if you cut taxes the federal government will eventually take in more tax revenue than it once did. And that allows supply-siders to fashion a spurious syllogism: taxes were cut in 2001, government revenues are higher in 2007 than they were in 2001, therefore the tax cuts increased revenue. The comparison that really matters in analyzing the impact of the tax cuts, of course, is ... the comparison between actual tax revenue in 2007 and what tax revenue would have been in 2007 had there been no tax cuts in 2001. And studies that make these types of comparisons—including one by Bush’s own Treasury Department ... find that government revenues would be greater had taxes not been cut. But that hasn’t stopped President Bush from claiming victory.

In one sense, of course, it’s odd that a Republican President should treat higher government revenues as a point of pride. Historically, after all, Republicans have been the party of small government...

The conservative pundit Larry Kudlow recently attacked the Republican candidates for failing, in their most recent debate, to explain what spending cuts they would advocate to accompany the tax cuts they propose. But Kudlow should hardly have been surprised, because supply-side rhetoric suggests that spending cuts aren’t really necessary. ... This tax-cut-and-spend approach is the promise of a free lunch, something that voters like to hear. The appeal of that promise may make it easier for politicians to run a campaign. But the fraudulence of the promise makes it awfully hard to run a government.

Update: Maybe I spoke too soon:

The Case of the Missing Surowiecki Column, by Felix Salmon: Memo to Jeff Bercovici: What's with Jim Surowiecki's column in this week's New Yorker? It's right there on the website – complete with no fewer than nineteen hyperlinks. (Someone give this guy a blog!) But it's in the "online only" section: if you pick up the actual magazine, it skips straight from the Talk of the Town section to the feature well, which means that Surowiecki's "Financial Page" is a page only in metaphor.

The most charitable explanation I can think of is that the New Yorker decided the column was simply too reliant on its hyperlinks to work in print. But if that's the case, why didn't they just ask Surowiecki to write a different column, or to rewrite this one so that it worked in print form? ...

I can't remember Surowiecki ever being banished from the print edition like this before, which is why it's so bittersweet to read this, from Mark Thoma:

I am very pleased to see this, and not just because there's a link to this site. I've been frustrated with the press on the 'Laffer curve, tax cuts have paid for themselves' issue because the press has enabled a big lie. It's a lie Republican candidates, even the president, can still repeat with very little attention from the mainstream media. No matter how often reputable economists on the right and the left have said this is a lie, the press has ignored it and allowed it to continue unquestioned.

He's writing, of course, about Surowiecki's column, which is about supply-side economics. And it turns out that the one time he singles out "the press" for praise in exposing the lie is also the one time that the article remains unprinted by any physical press.

Thursday, October 18, 2007

Reich: The logic of Taxing the Rich, and Why Dems are Afraid to Use It

Robert Reich makes the case for a more progressive tax structure:

The logic of Taxing the Rich, and Why Dems are Afraid to Use It, by Robert Reich: No candidate for president has suggested that the nation should raise the marginal tax rate on the richest beyond the 38 percent rate it was under Clinton (it’s now 35 percent, but the richest of the rich, as I’ll explain in a moment, are paying only 15 percent). Yet new data from the IRS show that income inequality continues to widen. ...

The biggest emerging pay gap is actually inside the top 1 percent. It's mainly between CEOs, on the one hand, and Wall Street financiers – hedge-fund managers, private-equity managers ..., and investment bankers – on the other. ... The 25 highest paid hedge fund managers are earning more than the CEOs of the largest five hundred companies in the Standard and Poor’s 500 combined. CEO pay is outrageous; hedge and private-equity pay is way beyond outrageous. Several of these fund managers are taking home more than a billion dollars a year.

You might think that Democrats would do something about the anomaly in the tax code that treats the earnings of private-equity and hedge fund managers as capital gains rather than ordinary income, and thereby taxes them at 15 percent... But Senate Democrats recently backed off a proposal to do just that. Why? It turns out that Dems are getting more campaign contributions these days from hedge fund and private equity partners than Republicans are getting. They don’t want to bite the hands that feed.

Taxing the super-rich is not about class envy, as conservatives charge. It’s about the nation having enough money to pay for national defense and homeland security, good schools and a crumbling infrastructure, the upcoming costs of boomers’ Social Security ..., and, hopefully, affordable national health insurance. Not to mention the trillion dollars or so it will take to fix the Alternative Minimum Tax, which is now starting to hit the middle class.

If the rich and super-rich don’t pay their fair share of this tab, the middle class will get socked with the bill. But the middle class can’t possibly pay it. America’s middle class is under intense financial pressure. Median wages and benefits, adjusted for inflation, have been going nowhere for thirty years; health costs are soaring..., fuel costs are out of sight, the prices of the houses occupied by the middle-class are in the doldrums.

What’s fair? I’d say a 50 percent marginal tax rate on the very rich (earning over $500,000 a year). Plus an annual wealth tax of one half of one percent on net worth of people holding more than $5 million in total assets. Can’t be done, you say? Well, the highest marginal tax rate under Republican Dwight Eisenhower was 91 percent. It dropped under JFK to the 70 percent range. You say the rich will leave the country rather than face a marginal tax of 50 percent? Let them, and take away their citizenship.

If the Democrats stand for anything, it’s a fair allocation of the responsibility for paying the costs of maintaining this nation. So far, neither the Dem candidates for president nor the Senate Dems have shown a willingness to uphold this fundamental principle. It seems the rich have bought them out.

The Democratic leadership's decision to sell-out on the capital gains versus ordinary income tax issue was disappointing. On Robert Reich's proposal, whaddayathink? Is 50% fair?

Wednesday, October 17, 2007

PGL: Composition of the Tax Bite

Since Greg Mankiw no longer allows comments (a sentiment I understand on those days when comments are particularly trying), we'll have to do it this way:

Composition of the Tax Bite, by pgl: Greg Mankiw should be congratulated as he provides a graph of personal current taxes that includes what we pay at the state and local level relative to GDP. It does not include deferred taxes but no one knows how these will be paid as George W. Bush just scoffs at this reality. It also does not include payroll taxes but that’s OK as long as we are not denying the Trust Fund reserves.

But I do have a complaint. It leaves the impression that we are paying a lot more now they we have ever paid except during the Clinton years. To be fair – Greg did not say that... But we should notice that Greg left off what I’d call business taxes. Since Greg was kind enough to cite his source – line 3 from table 3.1 found here - I’m defining business taxes to be the sums of lines 3 and 4. I’ve also graphed line 2 from the same table as total current tax receipts. Total taxes as a share of GDP are not higher than they’ve ever been. You see – we may be paying more in personal taxes but business taxes as a share of GDP have declined from their levels before 1981.

Tuesday, October 16, 2007

"It Violated Their Editorial Line on Taxation"

Wow. I didn't think it would be this blatant:

I take it all back, by Megan McArdle: A conservative publication, which I will not name, just spiked a book review because I said that the Laffer Curve didn't apply at American levels of taxation, even while otherwise expressing my vast displeasure with the (liberal) economic notions of the book I was reviewing. This isn't me looking for an alternative explanation for the spiking of a bad review: the literary editor accepted it, edited it, and then three hours later told me it couldn't be published because it violated their editorial line on taxation.

I suppose I ought to have known, but I didn't. Go ahead liberals, pile on: you told me so. The Laffer Curve and the supply siders pushing it seem to be the teacher's unions of the right.

[From earlier today, Paul Krugman pokes holes in the Laffer curve.] Update: Ezra Klein asks:

"A Conservative Publication" by By Ezra Klein: Shouldn't McMegan name the outlet that spiked her book review because she refused to toe the line on the Laffer Curve? Wouldn't it be useful knowledge for her readers?

I wondered the same thing. Why protect them?

Update: Brad DeLong adds:

...McMegan concludes:

The Laffer Curve and the supply siders pushing it seem to be the teacher's unions of the right.

Funny how I have never heard of a liberal publication spiking a piece because it was insufficiently friendly to teachers' unions or trial lawyers or AARP. Don't I remember seeing a lot of things in liberal publications about how school systems are overbureaucratized, in large part because of the unions?

It is true that I have seen a lot of right-wing hyenas but haven't seen many liberals attack teachers for being overpaid and underworked. Liberals are more likely to take a line like this:

Pay Teachers More Money: Without improving the average quality of our teachers, there is little hope of improving the system... teacher quality has declined over time... ironically... [because of] reduced discrimination against women. Fifty years ago, talented, educated women had few options other than teaching, and the schools were filled with highly qualified and able teachers. Today, college-educated women have moved into other occupations....

This is no surprise. Teachers are not paid very well, and many talented potential teachers have other options.... Why are teachers so important? Since most education in this country takes place in classrooms where there are many children, disruption by one child imposes penalties on other children in the class. The evidence suggests that child behavior is very sensitive to teacher quality....

[S]chools are failing badly for some subgroups... education has been demonstrated conclusively to be very important both for a country's economic growth and for raising the wages of individual citizens. Each year of schooling is associated with about a 10 percent increase in subsequent annual earnings....

[T]he reality is that the public school system will be with us for years to come, and it is important to make that system stronger.... To improve our schools in the 21st century, it is first necessary to attract more high-quality teachers...

That's the liberal line--that teachers need more money. But that line is not just a liberal line. It is a reality-based line. The quote is from Eddie Lazear, Hoover Institution Senior Fellow and Chair of President Bush's Council of Economic Advisers. (Eddie is also strongly, strongly in favor of vouchers, educational competition, and parental voting-with-the-feet--things that liberals tend to be more skeptical of.)

Also see Ezra Klein and Mathew Yglesias. One more point on this. The supply-siders are enforcing a big lie - that tax cuts pay for themselves - a lie that helped them to push through huge tax cuts. Show me where liberal publications are enforcing  message discipline based upon a lie about unions. As the above makes clear, they aren't enforcing message discipline at all, let alone to support a falsehood.

Who’s Laffering now?

Paul Krugman on the Laffer curve:

Who’s Laffering now?, by Paul Krugman: The Bushies have used rising tax receipts since 2004 as supposed proof that tax cuts pay for themselves — carefully ignoring the fact that revenues plunged in the early years of the administration, and that the subsequent rapid growth basically just gets us back to the previous trend. Also, they’ve pretended not to notice that mainly the revenue comes from an incredible surge in corporate profits, the byproduct of an economy in which economic growth leaves most workers behind.

But anyway, the revenue surge is over.

The chart currently shown at the top of the CBO home page tells most of the story. (Sorry, getting graphics up on this blog is a real pain — no time right now.) A read of the report shows that the revenue slowdown is continuing: September 2007 revenues were only 2 percent higher than September 2006 revenues.

Bye-bye Bush revenue boom.

Here's the graph:


Estimated Year-to-Year Growth Rates (Percent)

Here's an update:

Failing to Pass the Laffer Test, by Paul Krugman: OK, a follow up on my previous tax revenue post. The revenue boom of the last few years, which mainly depended on booming corporate profits, is over. Here’s a chart from the Congressional Budget Office [see above]:

And a further slowdown is visible within the fiscal 2007 data: revenue in September was up only 2 percent from the previous year. To put this in perspective, here’s revenue as a percent of GDP since Clinton took office:


So everything you’ve heard about how revenues have boomed since the Bush tax cuts is wrong. What really happened was that revenue plunged, as a percent of GDP, in the early Bush years, then staged a partial, but only partial, recovery. And that recovery seems to have run its course.

Yet on the basis of this experience, both Bush and his would-be Republican successors are proclaiming that tax cuts actually increase revenue.

Saturday, October 13, 2007

Trickled Pink

From The Onion, evidence of trickle-down effects:

Reaganomics Finally Trickles Down To Area Man, The Onion: Twenty-six years after Ronald Reagan first set his controversial fiscal policies into motion, the deceased president's massive tax cuts for the ultrarich at last trickled all the way down to deliver their bounty, in the form of a $10 bonus, to Hazelwood, MO car-wash attendant Frank Kellener. ...

"Back when Reagan was in charge, I didn't think much of him," Kellener, 57, said, holding up two five-dollar bills nearly three decades in the making. "But who would have thought that in 2007 I'd have this extra $10 in my pocket? He may not have lived to see it, but I'm sure President Reagan is up in heaven smiling down on me right now."

Leading economists say Kellener's unexpected windfall provides the first irrefutable proof of the effectiveness of Reagan's so-called supply-side economics, and shows that the former president had "incredible, far-reaching foresight."

"When the tax burden on the upper income brackets is lifted, the rich and not-rich alike all benefit," said Arthur Laffer, who was a former member of Reagan's Economic Policy Advisory Board. "Eventually." ...

Prior to joining Marlin Car Wash in 2005, Kellener worked for nearly two decades at a local Ford assembly plant that is now defunct. Before that, he was employed by the FAA as an air traffic controller until his union went on strike and Reagan fired him, along with nearly 13,000 others. ...

Kellener, who has cared for his schizophrenic sister ever since her federally funded mental institution was closed in 1984, said that he plans to donate the full $10 to the Republican presidential candidate who best embodies Reagan's legacy.

Thursday, October 11, 2007

Tax Farmers

Privatization at any cost:

Private Debt Collection of Federal Taxes: House Passes HR 3056, by Linda McBeale: The House passed its bill ... to end private debt collection for federal taxes, in a bipartisan vote of 232 to 173, in spite of a White House veto threat. 

Senate Republican leader Chuck Grassley has expressed his opposition to ending privatization of debt collection and declared it "dead in the water" as far as the Senate is concerned, where the Democrats have a majority of only one vote. 

Grassley's views haven't deterred Senate leaders who think it is silly to keep paying more to private bill collectors than it would cost to do the same job with government employees, especially when the private bill collectors cannot be held accountable as easily for abuses in the debt collection process, which have already been reported for this short-lived program.  Byron Dorgan, Democratic Senator, stated that "[t]here is ample evidence that private debt collectors cost more and collect less than professional IRS employees do, and often engage in abusive practices.”   Some of that evidence was provided in today's BNA report on the vote:

"[T]he private collection firms used by IRS were projected for fiscal year 2007 to bring in a gross of between $45.7 million and $65 million. The private employees ended up bringing in a gross of $32.13 million. All of those figures are before the employees are given the 21 percent to 24 percent bonus they receive for collecting the taxes."...

It is fairly obvious that this administration has been very interested in privatization of government functions, whether or not there are cost savings involved. A prime example is Bush's war in Iraq, for which we are hiring tens of thousands of mercenaries at incredibly high pay compared to our own soldiers ($1000 a day, according to one report I read). Congress should get us off the train that says privatize at any cost, particularly in sensitive areas like tax compliance.

A Paul Krugman rerun on this topic from August, 2006:

Tax Farmers, Mercenaries and Viceroys, by Paul Krugman, A Monarchy Commentary, NY Times: Yesterday The New York Times reported that the Internal Revenue Service would outsource collection of unpaid back taxes to private debt collectors, who would receive a share of the proceeds.

It’s an awful idea. Privatizing tax collection will cost far more than hiring additional I.R.S. agents, raise less revenue and pose obvious risks of abuse. But what’s really amazing is the extent to which this plan is a retreat from modern principles of government. I used to say that conservatives want to take us back to the 1920’s, but the Bush administration seemingly wants to go back to the 16th century.

And privatized tax collection is only part of the great march backward. In the bad old days, ...[t]here was no bureaucracy to collect taxes, so the king subcontracted the job to private “tax farmers,” who often engaged in extortion. There was no regular army, so the king hired mercenaries, who tended to wander off and pillage the nearest village. There was no regular system of administration, so the king assigned the task to favored courtiers, who tended to be corrupt, incompetent or both.

Continue reading "Tax Farmers" »

Tuesday, October 09, 2007

While Visions of Tax-Cuts Dance in Their Heads

Jonathan Chait wonders why Republicans have allowed their party to be captured by a small group of supply-side ideologues:

Captives of the Supply Side, by Jonathan Chait, Commentary, NY Times: Remember the Republican presidential debate a few months ago, when three candidates raised their hands to indicate they didn’t believe in evolution? Something just as laughable is likely to happen today, at the first Republican debate on the economy. Every candidate will probably embrace the myth that cutting taxes increases government revenues. At the very least, no one will denounce it as a falsehood. ...

Last year, Senator John McCain earned widespread ridicule for publicly embracing Jerry Falwell, whom he had once described as “evil.” But an equally breathtaking turnabout occurred earlier in the year, when Mr. McCain embraced the Bush tax cuts he had once denounced as an unaffordable giveaway to the rich. In an interview with National Review, Mr. McCain justified his reversal by saying, “Tax cuts, starting with Kennedy, as we all know, increase revenues.” ...

Mr. McCain is not alone. Every major Republican contender — Rudy Giuliani, Fred Thompson, Mitt Romney — has said that the Bush tax cuts have caused government revenues to rise. No prominent Republican office-seeker dare challenge this dogma for fear of offending the economic far right.

Yet there is no more debate about this question among economists than there is debate about the existence of evolution among biologists. Most economists believe that it is theoretically possible for tax rates to be high enough that a reduction in rates could actually produce more revenues. But I do not know of any tenured economist in the United States who believes this is true of the Bush tax cuts.

Granted, economic growth sometimes causes revenues to rise faster than expected after a tax cut, as has happened since the 2003 tax cut. But sometimes revenues fall faster than expected after a tax cut, as they did after the 2001 tax cut. And sometimes revenues rise faster than expected after a tax increase, as they did after the 1993 Clinton tax increase. ...

No Republican candidate can risk committing heresy by acknowledging this bipartisan consensus among economists. On social issues, however, Republicans actually tolerate diversity of thought. For example, Mr. McCain, Mr. Giuliani and Mr. Thompson all oppose, on federalist grounds, a constitutional amendment to ban gay marriage...

As Trent Lott, the former Senate majority leader, recently observed: “Republicans tend to squabble, but when it’s fiscal issues, when it’s economic issues, we tend to come together. That’s what makes us Republicans.” Mr. Lott is right if he’s referring to the members of the Washington establishment who run the Republican Party. But when it comes to the party’s rank-and-file members, he has it exactly backward. Grassroots Republicans agree on social issues but disagree on economics.

The most recent Pew survey of the electorate ... revealed that Republicans find common ground on social issues like discouraging homosexuality and teaching creationism alongside evolution in the public schools. They disagree on economic policy. In the survey, most members of the Republican coalition preferred deficit reduction to tax cuts.

Ardent anti-tax conservatives represent a clear minority among Republican voters. And yet the most extreme and counterfactual subgroup among them — supply-siders — remain firmly in control of the party.

The party’s economic priorities are reinforced at Grover Norquist’s weekly “Wednesday Group” meetings, where conservative activists, politicians, business lobbyists and pundits meet to hash out a common agenda. Mr. Norquist is known to cut off any mention of issues like abortion or homosexuality with a curt “No sex talk, please.”

A handful of fanatical ideologues, along with a somewhat larger number of money men who stand to gain a fortune from supply-side policies, relentlessly enforce the faith. They do so with far more success than the religious right, and they receive far less mockery for their efforts.

Just last month President Bush insisted, yet again, that “supply-side economics yields additional tax revenues.” Hardly an eyebrow was raised.

From an editorial in today's WSJ:

The Shrinking Deficit, Editorial, WSJ: ...[F]ederal receipts have climbed ... since the 2003 investment tax cuts... Income, dividend and capital gains tax rates were all cut in 2003, but individual income tax receipts have soared..., with payments by the wealthy accounting for most of the windfall. ... The budget deficit has declined ... in the wake of the Bush tax cuts ...

Saturday, October 06, 2007

Robert Frank: We Need a Progressive Consumption Tax

Is a progressive consumption tax the answer to our problems?

Why Not Shift the Burden to Big Spenders?, by Robert Frank, Economic View, NY Times: ...As even veteran supply-siders now concede, the president’s tax cuts have added hundreds of billions of dollars to the national debt. ...

As all serious participants in this debate now agree, no strategy can succeed without increasing federal revenue substantially. The leading Republican presidential aspirants, advocating further tax cuts, have elected to skip this debate. Their Democratic counterparts have proposed allowing Mr. Bush’s tax cuts for top earners to expire as scheduled. That step alone, however, would not be nearly enough.

Given the political risk of proposing painful tax increases in an election year, many fear that the crisis will remain unresolved. Yet a simple remedy is at hand. By replacing federal income taxes with a steeply progressive consumption tax, the United States could erase the federal deficit, stimulate additional savings, pay for valuable public services and reduce overseas borrowing — all without requiring difficult sacrifices from taxpayers.

Under such a tax, people would report not only their income but also their annual savings, as many already do under 401(k) plans and other retirement accounts. A family’s annual consumption is simply the difference between its income and its annual savings. That amount, minus a standard deduction — say, $30,000 for a family of four — would be the family’s taxable consumption. Rates would start low, like 10 percent. A family that earned $50,000 and saved $5,000 would thus have taxable consumption of $15,000. It would pay only $1,500 in tax. Under the current system of federal income taxes, this family would pay about $3,000 a year.

As taxable consumption rises, the tax rate on additional consumption would also rise. With a progressive income tax, marginal tax rates cannot rise beyond a certain threshold without threatening incentives to save and invest. Under a progressive consumption tax, however, higher marginal tax rates actually strengthen those incentives.

Consider a family that spends $10 million a year and is deciding whether to add a $2 million wing to its mansion. If the top marginal tax rate on consumption were 100 percent, the project would cost $4 million. The additional tax payment would reduce the federal deficit by $2 million. Alternatively, the family could scale back, building only a $1 million addition. Then it would pay $1 million in additional tax and could deposit $2 million in savings. The federal deficit would fall by $1 million, and the additional savings would stimulate investment, promoting growth. Either way, the nation would come out ahead with no real sacrifice required of the wealthy family, because when all build larger houses, the result is merely to redefine what constitutes acceptable housing. With a consumption tax in place, most neighbors would also scale back the new wings on their mansions.

A progressive consumption tax would also reduce the growing financial pressures confronting middle-class families. ... The problem is not that middle-income families are trying to “keep up with the Gateses.” Rather, these families feel pressure to spend beyond what they can comfortably afford because more expensive neighborhoods tend to have better schools. A family that spends less than its peers on housing must thus send its children to lower-quality schools.

Some people worry that tax incentives for reduced consumption might throw the economy into recession. But total spending, not just consumption, determines output and employment. If a progressive consumption tax were phased in gradually, its main effect would be to shift spending from consumption to investment, causing productivity and incomes to rise faster.

Should a recession occur, a temporary cut in consumption taxes would provide a much more powerful stimulus than the traditional temporary cut in income taxes can. People would benefit from a temporary consumption tax cut only if they spent more right away. In contrast, consumers who fear that they might lose their jobs in a recession are often reluctant to spend the dollars they are no longer paying as income tax.

Failure to address the current fiscal crisis is not an attractive option. With baby boomers retiring and most voters now favoring universal health coverage, budget shortfalls will grow sharply. Annual borrowing from abroad, now more than $800 billion, will also increase, causing further declines in the slumping dollar. And the personal savings rate, which has been negative for the last two years, will fall still further, causing future reductions in economic growth.

The progressive consumption tax is perhaps the only instrument that can reverse these trends at acceptable political cost. It has been endorsed by a long list of distinguished economists of varying political orientations. It was proposed in the Senate in 1995 by Sam Nunn, the Georgia Democrat then serving his final term, and Pete V. Domenici, Republican of New Mexico, who called it the Unlimited Savings Allowance tax. In short, this tax is not a radical idea. ...

I'd prefer to see this tax justified on the economics (i.e. it provides superior incentives) rather than as a relatively painless way to provide higher revenues (becasue it may not be painless, and because the maginiture of the required increase in future revenues is subject to some dispute and is a political minefield). But it's hard to imagine a change of this magnitude being implemented anytime soon in any case.

Thursday, October 04, 2007

America is Not at War, America is at the Mall

A proposal to raise taxes to help to pay for the war:

The Iraq money pit, by James P. McGovern, Boston Globe: I recently came across a photo of a handwritten sign in a US military facility in Ramadi, Iraq. The sign read, "America is not at war. The Marine Corps is at war; America is at the mall."

The sign reflects a perception among many US soldiers and their families that the American people are not sharing in their sacrifice. It is a perception grounded in reality..., who is really sacrificing? Certainly not members of Congress. We will not wake up tomorrow in harm's way in Baghdad or Fallujah. ...

I propose we change this dynamic by raising taxes on nearly every American in order to pay for the war in Iraq. ...

It is reasonable to assume that the cost will approach $800 billion by the time Bush leaves office. I will soon introduce legislation to impose a "surtax" to begin paying for future war costs that have not been budgeted and paid for by existing federal revenues. This war surtax is modeled on similar surtaxes imposed during World War II and the Vietnam War to cover war costs. ...

My surtax proposal is not an additional tax on income; rather, it is a tax on tax liability.

For example, if a low-income taxpayer owes $100 in taxes, he would be subject to an additional 2 percent surtax of $2. Wealthy taxpayers would pay a higher percentage. Corporations, trusts, and estates would also be subject to the surtax.

Needless to say, this idea of a surtax makes my colleagues - Democrat and Republican - exceedingly nervous. No politician likes to talk about raising taxes. But somebody, someday, somewhere will pay the hundreds of billions we have borrowed so far for this war.

My conservative colleagues will argue that we should cut spending to cover the costs. That's nice rhetoric, but it's not real. Are we going to eliminate the entire departments of Labor, Education, and Health and Human Services? Or how about eliminating all funding for the departments of Agriculture, Commerce, Justice, Energy, Interior, Treasury, the EPA, and NASA combined? That's what it would take to fund just one year of the Iraq war.

Some of my fellow antiwar liberals believe that since the war in Iraq is wrong, they do not want to pay for it. But isn't it also wrong to force future generations to pay for it?

I voted against the war in Iraq. I have consistently fought to bring the war to an immediate end and to bring our troops home. I believe it is the worst political, military, and diplomatic tragedy in our history.

But to force our children to pay for that tragedy would only compound it. The war in Iraq has been this generation's mistake. It should not be the next generation's burden.

We have an opportunity to say to our soldiers and their families that we are in this together; that their fellow citizens are also sacrificing just a little bit.

That's a message worth sending.

While it's certainly true that someone will have to pay for the war at some point - somebody, someday, somewhere will have to give up something to pay the bills - raising taxes right now is not good short-run economic policy given the current weakness in the economy. Driving the economy into a recession would show sacrifice, but that's not the best way to show our support.

It's not good politics either. If a bill was passed raising taxes, and George Bush actually signed it only to have the economy then sink into a recession due to the housing slump or other causes, the political fallout would be large (The WSJ is already claiming that the belief that Democrats will raise taxes is making businesses hesitant to invest and contributing to the current weakness). Thus, while good long-run budget policy does require a plan to pay for expenditures, the political gain from raising taxes now seems small relative to the potential political and economic downside.

I am not objecting to implementing reality-based long-run budget policy, but the mistake was cutting taxes with a war on and the economy relatively strong. We shouldn't compound that error by now raising taxes just as the economy is showing signs of weakness. We will need to pay for this war, and I understand the underlying political point being made through a proposal which has no realistic chance of passage. But even if it did have a chance to pass, now is not the time to put the brakes on the economy.

And please drop this argument:

My surtax proposal is not an additional tax on income; rather, it is a tax on tax liability. For example, if a low-income taxpayer owes $100 in taxes, he would be subject to an additional 2 percent surtax of $2.

That's just an accounting gimmick that invites ridicule from the opposition. This raises taxes, so just say that directly. If the person earns $1,000 and the tax is 10% (=$100), then with the surcharge the tax on income is 10.2% or $102. The $2 comes out of income one way or the other and calling it a tax on a tax doesn't change that.

Wednesday, September 26, 2007

Alan Greenspan versus Naomi Klein

This is part of a longer interview of Alan Greenspan and Naomi Klein:

Alan Greenspan vs. Naomi Klein on the Iraq War, Bush's Tax Cuts, Economic Populism, Crony Capitalism and More, Democracy Now [Watch 128k stream, Watch 256k stream]: AMY GOODMAN: ...We welcome you both to Democracy Now! ... You worked with six presidents, with President Reagan, with both President Bushes. You worked with President Ford, and you worked with Bill Clinton, who you have called a Republican president; why?

ALAN GREENSPAN: That was supposed to be a quasi-joke. ... I’m a libertarian Republican, which means I believe in a series of issues, such as smaller government, constraint on budget deficits, free markets, globalization, and a whole series of other things, including welfare reform. And as you may remember, Bill Clinton was ... doing much that same agenda... [H]e is a centrist Democrat. And that's not all that far from libertarian Republicanism. ...

AMY GOODMAN: Alan Greenspan, let's talk about the war in Iraq. You said what for many in your circles is the unspeakable, that the war in Iraq was for oil. Can you explain?

Continue reading "Alan Greenspan versus Naomi Klein" »

Saturday, September 22, 2007


Pro-Growth Liberal (PGL), in a post at EconoSpeak, says "Greg Mankiw Asks the Democrats a Good Question on Fiscal Policy." PGL has a few questions of his own.

EconoSpeak is a new blog featuring Kevin Quinn, PGL, Peter Dorman, Michael Perelman, Econoclast, B. Rosser, Sandwichman, and others to whom I apologize for leaving off the list.

Thursday, September 20, 2007

"A Serious Middle-Class Tax Cut?"

National Review editor Ramesh Ponnuru wonders why Republicans are pushing tax cuts that don't benefit the Party's lower income supporters:

Taxing the Hand That Feeds Us, by Ramesh Ponnuru: Republican presidential candidates can’t get elected without owning the tax issue. So far, the current crop is giving it away. ...

Republican contenders for 2008 are promising to keep all of Mr. Bush’s tax cuts. But the Democrats are not threatening the child tax credit or Mr. Bush’s reductions in the lower-level income-tax rates. Those issues are off the table.

What Mitt Romney and Rudy Giuliani ... are really saying is that they will make sure that taxes on capital gains, dividends, estates and high earners will stay low. Not many middle-class taxpayers will benefit directly from any of those policies.

Mr. Romney adds that he will try to cut the corporate tax rate, which his adviser Glenn Hubbard calls “a drain on competitiveness.” ... Cutting corporate tax rates may or may not be a good idea, but we don’t need to make it a priority to preserve our competitiveness.

Both Mr. Romney and Mr. Giuliani speak vaguely about making sure the alternative minimum tax doesn’t affect any more middle-class families. That is a step in the right direction. But it isn’t a tax cut.

Mr. Romney has also proposed an initiative to make the return on middle-class savings tax-free. It may also be a step in the right direction, but it’s small change. The primary focus of the Romney and Giuliani tax plans remains high earners.

What would be a serious middle-class tax cut? One answer is to expand the tax credit for children. But none of the candidates is proposing to do so, or any other big tax relief for regular folks. You might think that Mr. Giuliani would want to do everything he can to appeal to social conservatives short of actually becoming one himself. But why should he offer a pro-family tax cut when even the hard-core social conservatives in the race aren’t interested? Mike Huckabee wants a national sales tax and Sam Brownback wants a flat tax. Either proposal would increase taxes on a lot of middle-class families.

The Republicans in Congress are no better. For much of the right, the great passion of the moment is to make sure that the carried interest at hedge funds is taxed at what look an awful lot like preferential rates. For years, liberals have said that Republicans talk about “family values” but won’t do anything to meet the economic needs of families. Right now, on taxes, that charge hits home. ...

Continue reading ""A Serious Middle-Class Tax Cut?"" »

Wednesday, September 19, 2007

Uh, No, Your Tax Cuts Didn't Pay for Themselves

Not too long ago, some people were arguing that supply-side ideas are no longer part of the Republican mainstream. This is President Bush responding to Alan Greenspan's criticism of his tax-cuts:

I would also argue that cutting taxes ... made a significant difference in dealing with the deficit because the growing economy yielded more tax revenues, which allowed us to shrink the deficit.

The tax cuts paid for themselves? I wish the President and others would quit misleading people about this because it's not true. His own economists don't even believe that. I know some of you are tired of hearing this over and over, but somebody has to try to call them on this or they'll just keep saying it, and the press seems unwilling to do so so. For example, the Wall Street Journal article the quote above is taken from doesn't even bother to mention that there's no evidence to support this claim, instead it's treated as a "he said-she said" story between Bush and Greenspan.

The tax cuts made the deficit worse. End of story.

Monday, September 17, 2007

Paul Krugman: Sad Alan's Lament

Paul Krugman takes issue with Alan Greenspan's contention that he didn't mean to endorse the Bush tax cuts:

Sad Alan’s Lament, by Paul Krugman, Commentary, NY Times: When President Bush first took office, it seemed unlikely that he would succeed in getting his proposed tax cuts enacted. The questionable nature of his installation in the White House seemed to leave him in a weak political position, while the Senate was evenly balanced between the parties. It was hard to see how a huge, controversial tax cut, which delivered most of its benefits to a wealthy elite, could get through Congress.

Then Alan Greenspan, the chairman of the Federal Reserve, testified before the Senate Budget Committee.

Until then Mr. Greenspan had presented himself as the voice of fiscal responsibility, warning the Clinton administration not to endanger its hard-won budget surpluses. But now Republicans held the White House, and ... Greenspan ... was a very different man.

Suddenly, his greatest concern ... was to avert the threat that the federal government might actually pay off all its debt. To avoid this awful outcome, he advocated tax cuts. And the floodgates were opened. ...

Mr. Greenspan now says that he didn’t mean to give the Bush tax cuts a green light, and that he was surprised at the political reaction to his remarks. ... But ... if Mr. Greenspan wasn’t intending to lend crucial support to the Bush tax cuts, he had ample opportunity to set the record straight...

His first big chance to clarify himself came a few weeks after that initial testimony, when he appeared before the Senate Committee on Banking, Housing and Urban Affairs.

Here’s what I wrote following that appearance: “Mr. Greenspan’s performance yesterday ... was a profile in cowardice. Again and again he was offered the opportunity to say something that would help rein in runaway tax-cutting; each time he evaded the question... He declared ... that he was speaking only for himself, thus granting himself leeway to pronounce on subjects far afield of his role as Federal Reserve chairman. But when pressed on the crucial question of whether the huge tax cuts that now seem inevitable are too large, he said it was inappropriate for him to comment on particular proposals.

“In short, Mr. Greenspan defined the rules of the game in a way that allows him to intervene as he likes in the political debate, but to retreat behind the veil of his office whenever anyone tries to hold him accountable for the results of those interventions.”...

I received an irate phone call from Mr. Greenspan ... in which he demanded to know what he had said that was wrong. In his book, he claims that Robert Rubin ... was stumped by that question. ... I certainly wasn’t: Mr. Greenspan’s argument for tax cuts was contorted and in places self-contradictory, not to mention based on budget projections that everyone knew, even then, were wildly overoptimistic.

[T]wo years later, when the administration proposed another round of tax cuts, even though the budget was now deep in deficit..., guess what? The former high priest of fiscal responsibility did not object.

And in 2004 he expressed support for making the Bush tax cuts permanent —... tax cuts he now says he didn’t endorse — and argued that the budget should be balanced with cuts in entitlement spending, including Social Security benefits, instead. ...

In retrospect, Mr. Greenspan’s moral collapse in 2001 was a portent. It foreshadowed the way many people in the foreign policy community would put their critical faculties on hold and support the invasion of Iraq, despite ample evidence that it was a really bad idea.

And like enthusiastic war supporters who have started describing themselves as war critics now that the Iraq venture has gone wrong, Mr. Greenspan has started portraying himself as a critic of administration fiscal irresponsibility now that President Bush has become deeply unpopular and Democrats control Congress.

Previous (9/14) column: Paul Krugman: A Surge, and Then a Stab

Saturday, September 15, 2007

Mankiw: One Answer to Global Warming: A New Tax

Greg Mankiw proposes (surprise, surprise) a Pigouvian tax to solve the global warming problem. The focus here is on its political viability:

One Answer to Global Warming: A New Tax, by N. Gregory Mankiw, Economic View, NY Times: In the debate over global climate change, there is a yawning gap that needs to be bridged. The gap is not between environmentalists and industrialists, or between Democrats and Republicans. It is between policy wonks and political consultants.

Among policy wonks like me, there is a broad consensus. The scientists tell us that world temperatures are rising because humans are emitting carbon into the atmosphere. Basic economics tells us that when you tax something, you normally get less of it. So if we want to reduce global emissions of carbon, we need a global carbon tax. Q.E.D. ...

Those vying for elected office, however, are reluctant to sign on to this agenda. Their political consultants are no fans of taxes, Pigovian or otherwise. ... Yet this natural aversion to carbon taxes can be overcome if the revenue from the tax is used to reduce other taxes. By itself, a carbon tax would raise the tax burden on anyone who drives a car or uses electricity produced with fossil fuels, which means just about everybody. Some might fear this would be particularly hard on the poor and middle class.

But Gilbert Metcalf, a professor of economics at Tufts, has shown how revenue from a carbon tax could be used to reduce payroll taxes in a way that would leave the distribution of total tax burden approximately unchanged. He proposes a tax of $15 per metric ton of carbon dioxide, together with a rebate of the federal payroll tax on the first $3,660 of earnings for each worker.

The case for a carbon tax looks even stronger after an examination of the other options on the table. Lawmakers in both political parties want to require carmakers to increase the fuel efficiency of the cars they sell. Passing the buck to auto companies has a lot of popular appeal.

Increased fuel efficiency, however, is not free. Like a tax, the cost of complying with more stringent regulation will be passed on to consumers in the form of higher car prices. But the government will not raise any revenue that it can use to cut other taxes to compensate for these higher prices. ...

More important, enhancing fuel efficiency by itself is not the best way to reduce energy consumption. ...

A carbon tax would provide incentives for people to use less fuel in a multitude of ways. By contrast, merely having more efficient cars encourages more driving. Increased driving not only produces more carbon, but also exacerbates other problems, like accidents and road congestion.

Another popular proposal to limit carbon emissions is a cap-and-trade system, under which carbon emissions are limited and allowances are bought and sold in the marketplace. The effect of such a system depends on how the carbon allowances are allocated. If the government auctions them off, then the price of a carbon allowance is effectively a carbon tax.

But the history of cap-and-trade systems suggests that the allowances would probably be handed out to power companies and other carbon emitters, which would then be free to use them or sell them at market prices. In this case, the prices of energy products would rise as they would under a carbon tax, but the government would collect no revenue to reduce other taxes and compensate consumers.

The international dimension of the problem also suggests the superiority of a carbon tax over cap-and-trade. Any long-term approach to global climate change will have to deal with the emerging economies of China and India. ...

Agreement on a truly global cap-and-trade system, however, is hard to imagine. ... A global carbon tax would be easier to negotiate. All governments require revenue for public purposes. The world’s nations could agree to use a carbon tax as one instrument to raise some of that revenue. No money needs to change hands across national borders. Each government could keep the revenue from its tax and use it to finance spending or whatever form of tax relief it considered best.

Convincing China of the virtues of a carbon tax, however, may prove to be the easy part. The first and more difficult step is to convince American voters, and therefore political consultants, that “tax” is not a four-letter word.

Thursday, September 13, 2007

Tax Cut Message No Longer Resonates with Independent Voters

Looks like the magic of the "tax-cuts fix everything" message is wearing off:

GOP Forced to Pivot on Taxes, by Erin Billings, Roll Call: Senate Republicans are likely to engage in a more serious message makeover than they previously thought following a private strategy session ... where they reviewed new polling data showing tax cuts are no longer priority No. 1 with key independent voters.  The news, GOP Senators acknowledged..., served as an important wake-up call as the party undergoes its massive internal image overhaul. The theme of lower taxes has been a cornerstone of the Republican platform ...

The findings ... showed Senators that Americans are far more focused on key domestic reforms like health care reform and the level of government spending rather than on previously enacted GOP tax reductions. ... Republican Senate sources said the latest information ... shows Republicans relied too easily on tax cuts as the answer to every domestic problem... [E]xplained one senior GOP Senate aide. "We've worn out the message."...

Tuesday, September 11, 2007

Robert Reich: The Way to Prevent the Looming Recession

Robert Reich says tax cuts are the answer:

The Way to Prevent the Looming Recession, by Robert Reich: With the economy heading for recession, all eyes are on Ben Bernanke and the Fed... But a Fed rate cut won't stimulate the economy. That's because lending institutions, fearing their portfolios are far riskier than they assumed several months ago, won't lend lots more just because the Fed lowers interest rates.

Average consumers are already so deep in debt ... they can't borrow much more, anyway. With average home prices dropping... And given last Friday’s report showing the first employment drop in four years, people are not in the mood to keep spending.

So if a Fed rate cut can't prevent a recession, what can? Putting more money into American pockets by cutting their taxes. Yes, I know: Tax cuts have gone out of style ever since Democrats became born-again deficit hawks, and George Bush squandered the $5 trillion surplus he inherited in 2000 mainly by cutting taxes on the rich. ...

[T]ax cuts for the rich won't help because the rich don’t increase their spending when their taxes are cut. They already spend as much as they want to spend. That's what it means to be rich. It's middle and lower-income Americans who spend more when their taxes are cut. And because the biggest tax they face is the payroll tax, the payroll tax needs to be cut in order to keep them spending and avoid a recession.

I say exempt the first $15,000 of earnings from payroll taxes for a year, starting as soon as possible. Sure, this may cause the budget deficit to widen a bit. But if the economy goes into the tank, the deficit will be far bigger.

There are reasons that work both for and against the use of fiscal policy to stabilize the economy, and I'm not fully convinced it can work very well in the present political environment in any case. But as to worries about the deficit, in general that is much less of a concern in a recession, and in this particular instance I don't see why workers should risk unemployment now because tax cuts for the wealthy, and the deficit the tax cuts brought about, limit our ability to respond to negative shocks.

Monday, September 10, 2007

Paul Krugman: Where’s My Trickle?

Paul Krugman says the experience since the Bush tax cuts shows that trickle down theory does not work:

Where’s My Trickle?, by Paul Krugman, Commentary, NY Times: Four years ago the Bush administration, exploiting the political bounce it got from the illusion of success in Iraq, pushed a cut in capital-gains and dividend taxes through Congress. It was an extremely elitist tax cut even by Bush-era standards: the nonpartisan Tax Policy Center says that more than half of the tax breaks went to Americans with incomes of more than $1 million a year.

Needless to say, administration economists produced various misleading statistics designed to convey the opposite impression, that the tax cut mainly went to ordinary, middle-class Americans. But they also insisted that the benefits of the tax cut would trickle down — that lower tax rates on the rich would do great things for the economy, helping everyone.

Well, Friday’s dismal jobs report showed that ... working Americans have a right to ask, “Where’s my trickle?” ... What’s really remarkable ... is that four years of economic growth have produced essentially no gains for ordinary American workers.

Wages, adjusted for inflation, have stagnated..., benefits have deteriorated..., [a]nd one of the few seeming bright spots of the Bush-era economy, rising homeownership, is now revealed as the result of a bubble inflated in part by financial flim-flam...

Now you know why 66 percent of Americans rate economic conditions in this country as only fair or poor, and why Americans disapprove of President Bush’s handling of the economy almost as strongly as they disapprove of the job he is doing in general.

Yet the overall economy has grown at a reasonable pace over the past four years. Where did the economic growth go? The answer is that it went to the same economic elite that received the lion’s share of those tax cuts. ...

The absence of any gains for workers in the years since the 2003 tax cut is a pretty convincing refutation of trickle-down theory. So is the fact that the economy had a much more convincing boom after Bill Clinton raised taxes on top brackets. It turns out that when you cut taxes on the rich, the rich pay less taxes; when you raise taxes on the rich, they pay more taxes — end of story. ...

[T]he whole idea that a rising tide raises all boats, that growth in the economy necessarily translates into gains for the great majority of Americans, is belied by the Bush-era experience. As far as I can tell, America has never before experienced a disconnect between overall economic performance and the fortunes of workers as complete as that of the last four years.

America was a highly unequal society during the Gilded Age, but workers’ living standards nonetheless improved as the economy grew. Inequality rose rapidly during the Reagan years, but “Morning in America” was nonetheless bright enough to make most people cheerful, at least temporarily. Inequality continued to increase during the Clinton years, but wages rose, as did the availability of health insurance — and the great majority of Americans felt prosperous.

What we’ve had since 2003, however, is an economic expansion that looks good if not great by the usual measures, but which has passed most Americans by.

Guaranteed health insurance ... would eliminate one of the reasons for this disconnect. But it should be only the start of a broader range of policies — a new New Deal — designed to turn economic growth into something more than a spectator sport.

Previous (9/7) column: Paul Krugman: Time to Take a Stand
Next (9/14) column: Paul Krugman: A Surge, and Then a Stab

Sunday, September 09, 2007

Henry Farrell: Gift Economies

What are the forces driving the shift from government funded charity that represents collective political choice to a system that relies more on private sector sources and individual choice, particularly the choices of the wealthy, to support worthy social causes?:

Gift economies, by Henry: [edited] Christopher Caldwell is a columnist whom I usually find quite annoying, but his attack today ... on Bill Clinton’s forthcoming book on charitable giving gets to the crux of the issue.

...Mr Clinton['s] ... book ... is evidence that he has cracked the code of an inchoate form of political power that is still illegible to most of his contemporaries. … Giving tells us something about a decisive shift that is just beginning – from helping people (soup, a bath) to helping humanity (rain forests, greenhouse gases); from local, self-abnegating charity (the Salvation Army) to glamorous, globalised philanthropy (Angelina Jolie). …

We have seen this shift before. In The Gospel of Wealth (1889), the steel magnate Andrew Carnegie urged the very rich to give away their money during their lifetimes. … When plutocrats are involved in philanthropy, to place philanthropy above criticism is to place money-making above criticism. … If there is a refreshing lack of dogmatism in Mr Clinton’s book, there is also an inattention to elementary questions of political legitimacy. ...

Mr Clinton praises the rock singer Bono’s campaign to obtain debt forgiveness for African countries. Whether this is a wise move or not, who elected Bono to do it? The answer is, capitalism did. Today’s celebrity philanthropists are empowered by a society that specialises in movies and songs in exactly the way the robber barons were empowered by one that specialised in railroads and steel. Philanthropy is a route through which celebrity can be laundered into political power. It is also one means by which the responsibility for important tasks is being reassigned from democratic structures to less democratic ones.

The politics of giving is becoming an important issue ... because of the increasing disparities in wealth between the very rich indeed and the rest of us. It serves at best as a weak and inefficient means of redistribution – the emphasis tends to be more on circuses than on bread, and in particular on the kinds of circuses (alumni associations, high-prestige arts) that have obvious social or personal payoffs for the giver. The increased emphasis on gift-giving reflects how collective political choice ... is increasingly giving way to individual choice (and most importantly the individual choices of a very small minority of people). Contrary to some of the more glib arguments out there, there is no reason to believe that this is an improvement on the previous situation, and some reason to believe that it is a substantial disimprovement. It’s nice to see someone like Caldwell, who is clearly on the right, getting that.

Many people start with the presumption that the private sector is more efficient than the public sector, then use this to argue that there is a net social benefit when tax incentives and other schemes are used to replace public spending with private sector charity. The presumption itself maybe false in many cases, but if the result is that spending is distorted in the sense that resources are directed to uses that are inconsistent with collective political preferences, then another kind of inefficiency arises and it's not at all clear there is a net social benefit. Doing things we don't much care about at low cost is not optimal if important social problems are left unattended as a consequence.

The fact that people help more when the government helps less doesn't relieve the government from its responsibility to broker collective political choice to solve social problems. The government should do what needs to be done and if people or organizations in the private sector want to top it off with more, so much the better. I don't want to criticize Bono, or anyone else, for stepping in and trying to help even if their motive is, ultimately, for personal gain. Operas, museums, soup kitchens, shelters, cash grants to people on the street, whatever, so long as the government is doing its job, it's all just icing on the cake.

Thursday, September 06, 2007

Is Rudy Out of the Mainstream of the GOP?

There's an argument being made (Tyler Cowen, Megan McArdle) that supply-side economics, the kind that says tax cuts pay for themselves, is no longer mainstream in the Republican party, i.e. it no longer has any influence and is no longer used as an argument for cutting taxes.

Is it true that supply-side economics no longer has influence in the Republican party? This is straight from Giuliani's web site:

Rudy is the real fiscal conservative in the race. He cut taxes 23 times in New York and turned a $2.3 billion budget deficit into a multi-billion dollar surplus, while balancing the city’s budget. Because he turned his conservative principles into action, New York City taxpayers saved more than $9 billion in taxes and enjoyed their lowest tax burden in decades, while the economy grew and city government saw its revenues increase from the lower tax rates. Rudy Giuliani believes in supply-side economics, because he did it and he saw it work.

Update: Free Exchange quotes last night's Republican debate (Brendan Nyhan too):

Laffer Riot, Free Exchange: ...Over at The Atlantic, Megan McArdle took issue with Mr Chait's assessment of supply-side tax policies (whereby lower tax rates increase revenues) as hugely influential...

Matthew Yglesias [cited] ... the embrace of supply side orthodoxy by much of the conservative establishment, including prominent columnists and intellectuals, along with GOP congressional leadership and the president himself.

Tyler Cowen now places himself firmly in Ms McArdle's corner, disavowing supply sider influence. ...[A]s a counterpoint, I would refer him to last night's Republican debate in New Hampshire. Looking over the transcript one finds Senator John McCain saying:

I stand on my record, and my record is 24 years of opposing tax increases, and I oppose them, and I’ll continue to oppose them. I think it’s very clear that the increase in revenue that we’ve experienced is directly related to the tax cuts that were enacted, and they need to be made permanent rather than the family budgets and businesses being uncertain about their future.

Moments later, Rudy Giuliani chimes in:

I have without any doubt of all the people running for president the strongest record of lowering taxes. I did it 23 times in a city that had never lowered a tax before well over $9 billion. I lowered the personal income tax 25 percent, and I was collecting 40 percent more in revenues from the lower tax than the higher tax. I made supply-side economics work in a city that didn’t understand it, and I ended up having a very positive impact on the economy of the city as a result of that.

It seems that at least as far as major candidates for the highest elected office in the land are concerned, supply side tax policies remain influential.

Jason Furman: The Effect of the 2001-06 Tax Cuts on After-Tax Incomes

With all the debate about tax cuts the last few days, this is timely. Here is Jason Furman testifying before the House Ways and Means Committee today about the impact of the 2001-06 tax cuts on the level and distribution of after-tax incomes. The extent to which the tax cuts helped to pay for themselves is also examined, and the dynamic impacts are almost imperceptible (and may even work in the wrong direction).

But the fact that these tax cuts did not pay for themselves or even offset the costs to any noticeable degree is old news. What's interesting about these estimates is that they imply that the tax-cuts leave nearly three quarters of households with lower after-tax incomes. Why does this occur? Most dynamic economic models that predict tax cuts will lead to higher GDP growth also generally assume that the tax cuts are paid for by reducing benefits or raising other taxes (e.g. replace labor/capital taxes with lump-sum taxes as in the Mankiw-Weinzerl model).

Thus, although tax cuts may result in efficiency gains, which is often one of the main arguments given for tax cuts (e.g. "tax cuts, by reducing deadweight loss ... will be good for the economy"), when you factor in the new taxes and who pays them (or equivalently reductions in benefits like Social Security, Medicare, or food stamps) and look at the resulting distribution of winners and losers, the outcome is one where three quarters of households come out behind. Jason terms this "dynamic distributional analysis":

The Effect of the 2001-06 Tax Cuts on After-Tax Incomes, by Jason Furman[1], Testimony Before the U.S. House Committee on Ways and Means, September 6, 2007 (summary): Mr. Chairman and other members of the Committee, thank you for the invitation to testify today at this hearing on fair and equitable tax policy for America’s working families. I would like to start with a confession: as an economist I have no special expertise in fairness or equity. The members of this committee were elected, in part, to make critical value judgments about these fundamental questions. But in order to make these value judgments you need the understand who is impacted by the tax changes and how they are impacted. And economists do have a special expertise that can help further this understanding and thus inform the debate on the bigger issues.

Evaluating a tax change requires understanding the impact it has on households through three different channels: (1) the direct impact of the tax changes on take-home pay; (2) the economic effects of the tax change on before-tax incomes; and (3) the impact that the associated budgetary changes have on future taxes or government spending on households. All three channels can be usefully summarized in a single variable: the change in the after-tax incomes of households.[2]

Policy analysts and official scorekeepers have made varying degrees of progress on each of these three channels but have seldom integrated them into one comprehensive assessment of tax proposals. My testimony today applies such an integrated approach, potentially termed “dynamic distributional analysis,” to examine the long-run impact of the tax cuts enacted from 2001 to 2006 on the after-tax income of American families.

Some of the key findings of this analysis are:

  • The direct effect of the tax cuts enacted from 2001-06 is to increase after-tax income inequality. Ignoring the effects on the economy and the budget, making the tax cuts permanent would result in a 0.7 percent increase in the after-tax income of the bottom quintile and a 6.7 percent increase in the after-tax income of the top 1 percent. As a result, the gap between these incomes would grow.
  • Economic models generally rule out the possibility of a large, positive impact of the tax cuts on the economy and incomes. In one favorable – but highly unrealistic – scenario the Treasury found that making the tax cuts permanent would be equivalent to raising the growth rate by 0.04 percentage points annually spread out over 20 years. In other words, the growth rate could rise from 3.00 percent to 3.04 percent – a change that would barely be perceptible in quarterly data on the economy. In more realistic scenarios the Treasury found the tax cuts would result in higher debt and lower savings – thus reducing long-run output.
  • Economic models show that the need to eventually finance the tax cuts could result in a large, negative impact on the disposable income of households, for example through reduced Social Security benefits, Medicare benefits, or higher future taxes. This occurs because no economic model finds that tax cuts pay for themselves. The results of dynamic macroeconomic feedback show that the tax cuts are only slightly more expensive or slightly less expensive than shown by the official estimates that ignore such feedback.
  • Taken together, illustrative estimates show that even in the unrealistic best case scenario – in which tax cuts boost incomes and pay for part of their long-run cost through higher economic output – the financing costs of the tax cuts would leave 74 percent of households with lower after-tax incomes. If the increased debt and reduced savings associated with the tax cuts leads to lower incomes, then 76 percent of households would end up with lower after-tax incomes.

Out of the Mainstream?

Megan McArdle says supply-siders -- the ones who say tax cuts pay for themselves -- are out of the mainstream of the Republican party:

I'm all for someone taking on the sillier kind of supply siders who fanny about claiming that tax cuts increase tax revenue, but they've been rather thin on the ground lately. ...

Yes, very thin on the ground. A quick search of this site turns up, with little effort, Bush, McCain, Romney, Giuliani, Hassett, Stossel, and the WSJ Editorial page all making the Laffer curve claim.

The second three may be a "motley collection of names" and have little influence over the party, but the first four? Are Bush, McCain, Romney, and Giuliani part of the "barking moonbats"? [yes...] I agree they are making a silly assertion, but don't they run counter to the claim that nobody of importance in the party tries to sell tax cuts by saying they pay for themselves?

And, right on cue, in today's Washington Times we have this piece of hackery:

Tax cut extension needed, by David Limbaugh, Commentary, Washington Times: ...Contrary to liberal propaganda, the Reagan tax cuts led to dramatic increases in federal revenues even after adjusting for inflation. ...

Since President Bush's tax cuts took effect, Democrats have been condemning them because of their alleged responsibility for soaring deficits. ... Recent reports definitively confirm ... federal revenues increasing; the deficits are decreasing, just as in the later Reagan years. ... It's past time to extend the Bush tax cuts.

The idea that tax cuts pay for themselves, wrong as it is, is still being actively promoted as part of the sales pitch to cut taxes. It may not be official party policy, but influential members of the Republican party are more than willing to play along and even help to promote this idea, and they do so even though they ought be aware by now that there's no evidence to support such claims.

Update: Brendan Nyhan extends the list of statements from the administration claiming that tax cuts pay for themselves.

Monday, September 03, 2007

How the Supply-Side Cult Hijacked American Politics

Jonathan Chait looks at the Laffer curve cult (there's quite a bit more in the article):

How a cult hijacked American politics: Flight of the Wingnuts, by Jonathan Chait, TNR: American politics has been hijacked by a tiny coterie of right-wing economic extremists, some of them ideological zealots, others merely greedy, a few of them possibly insane. ... Notions that would have been laughed at a generation ago ... are now so pervasive, they barely attract any notice. ...

It was not always this way. A generation ago, Republican economics was relentlessly sober. ... Over the last three decades, however, such Republicans have passed almost completely from the scene, at least in Washington, to be replaced by, essentially, a cult. ...

The cult in question generally traces its political origins to a meeting in Washington in late 1974 between Arthur Laffer, an economist; Jude Wanniski, an editorial page writer for The Wall Street Journal; and Dick Cheney, then deputy assistant to President Ford. ... Wanniski and Laffer believed it was possible to simultaneously expand the economy and tamp down inflation by cutting taxes, especially the high tax rates faced by upper-income earners. ...

Wanniski and Laffer were laboring with little success to explain the new theory to Cheney. Laffer pulled out a cocktail napkin and drew a parabola-shaped curve on it..., the Laffer Curve... Cheney apparently found the Laffer Curve a revelation, for it presented in a simple, easily digestible form the messianic power of tax cuts.

The significance of the evening was not the conversion of Cheney but the creation of a powerful symbol that could spread the word of supply-side economics..., ... the Curve explained it all. ...

With astonishing speed, the message of the Laffer Curve spread through the ranks of conservatives and Republicans. Wanniski evangelized tirelessly ..., both on the Journal's editorial pages and in person. ...

Today, ... the core beliefs of the supply-siders are not even subject to question among Republicans. Every major conservative opinion outlet promotes supply-side economics..., deviation from the supply-side creed has become unthinkable for any Republican with national aspirations. ...

Like most crank doctrines, supply- side economics has at its core a central insight that does have a ring of plausibility. The government can't simply raise tax rates as high as it wants without some adverse consequences. ... And there are justifiable conservative arguments to be made on behalf of reducing tax rates.. But what sets the supply-siders apart from sensible economists is their sheer monomania. ... They believe that economic history is a function of tax rates...

It doesn't take a great deal of expertise to see how implausible this sort of analysis is. ... All this is to say that the supply-siders have taken the germ of a decent point--that marginal tax rates matter--and stretched it, beyond all plausibility, into a monocausal explanation of the world.

Aside from popular articles in places like the Journal's editorial page, two classic tomes defined the tenets of supply-side economics: Wanniski's The Way the World Works and George Gilder's 1981 manifesto, Wealth and Poverty. Both have had enormous influence...

Here is what makes the rise of supply-side ideology even more baffling. One might expect that a radical ideology that successfully passed itself off as a sophisticated new doctrine would at least have the benefit of smooth, reassuring, intellectual front men... Yet, if you look at its two most eminent authors, good sense is not the impression you get. Let me put this delicately. No, on second thought, let me put it straightforwardly: They are deranged. ... [...continue reading...]

Sunday, September 02, 2007

Will the Housing Crash Cause Police to Give More Speeding Tickets?

Judith Chevalier examines the impact of changes in local government budgets on revenues from traffic enforcement:

Welcome, Stranger. Here’s a Speeding Ticket., by Judith Chevalier, Economic View, NY Times: Driving through a tiny Vermont town a few weeks ago..., I saw flashing yellow lights appear in my rearview mirror. My car had picked up speed coming down a hill, and a police officer pulled me over. As I waited for a ticket, I wondered: Does this town supplement its finances by giving tickets to visitors like me?

I never got to the bottom of the situation in that particular town, but the broader question — whether police officers in some towns are motivated by fund-raising as well as safety when writing traffic tickets — has been examined systematically by ... Michael D. Makowsky, a doctoral student in economics, and Thomas Stratmann, an economics professor, both at George Mason University, ... in a recent paper, “Political Economy at Any Speed: What Determines Traffic Citations?”

Continue reading "Will the Housing Crash Cause Police to Give More Speeding Tickets?" »

Saturday, August 25, 2007

The Deceptive Presentation of the FairTax Proposal

Bruce Bartlett says when you read the fine print and uncover the deceptions, the FairTax proposal is far less attractive then its supporters woudl have you believe:

FairTax, Flawed Tax, by Bruce Bartlett, Commentary, WSJ [Update: open link]: Former Arkansas Gov. Mike Huckabee's unexpectedly strong second-place showing in the recent Iowa Republican straw poll is widely attributed to his support for the FairTax.

For those who never heard about it, the FairTax is a national retail sales tax that would replace the entire current federal tax system. ...

Rep. John Linder (R., Ga.) and Sen. Saxby Chambliss (R., Ga.) have introduced legislation ... to implement the FairTax. They assert that a rate of 23% would be sufficient to replace federal individual and corporate income taxes as well as payroll and estate taxes. Mr. Linder's Web site claims that U.S. gross domestic product will rise 10.5% the first year after enactment, exports will grow by 26%, and real investment spending will increase an astonishing 76%.

In reality, the FairTax rate is not 23%. Messrs. Linder and Chambliss get this figure by calculating the tax as if it were already incorporated into the price of goods and services. ...[T]hink of it this way. If a product costs $1 at retail, the FairTax adds 30%, for a total of $1.30. Since the 30-cent tax is 23% of $1.30, FairTax supporters say the rate is 23% rather than 30%.

This is only the beginning of the deceptions in the FairTax. Under the Linder-Chambliss bill, the federal government would have to pay taxes to itself on all of its purchases of goods and services. Thus if the Defense Department buys a tank that now costs $1 million, the manufacturer would have to add the FairTax.... The tank would then cost the federal government $300,000 more than it does today, but its tax collection will also be $300,000 higher.

This legerdemain is done solely to make revenues under the FairTax seem larger than they really are, so that its supporters can claim that it is revenue-neutral. ...

Similarly, state and local governments would have to pay the FairTax on most of their purchases. This means that it is partly financed by higher state and local taxes. ...

State sales taxes have long exempted all but a few services because of the enormous difficulty in taxing intangibles. But the FairTax would apply to 100% of services, including medical care, thus increasing their cost by 30%. No state comes close to taxing services so broadly. Consumers would also find themselves taxed on newly constructed homes. Imagine paying 30% ... on top of the purchase price...

Since sales taxes are regressive ... some provision is needed to prevent a vast increase in taxation on the nonwealthy. The FairTax does this by sending monthly checks to every household based on income. Aside from the incredible complexity and intrusiveness of tracking every American's monthly income ... the FairTax does not include the cost of this rebate in the tax rate. ...

Rejecting all the tricks of FairTax supporters and calculating the tax rate honestly ... professional revenue estimators have always concluded that a national retail sales tax would have to be much, much higher than 23%.

A 2000 estimate by Congress's Joint Committee on Taxation found the ... rate would be 57%. In 2005, the U.S. Treasury Department calculated that a ... rate of 34% would be needed just to replace the income tax, leaving the payroll tax in place. ...

Perhaps the biggest deception in the FairTax, however, is its promise to relieve individuals from having to file income tax returns, keep extensive financial records and potentially suffer audits. Judging by the emphasis FairTax supporters place on the idea of making April 15 just another day, this seems to be a major selling point for their proposal.

Yet all but six states now have state income taxes. So unless one lives in one of those states, this promise is an empty one indeed. In short, the FairTax is too good to be true, and voters should not take seriously any candidate who supports it.

Thursday, August 16, 2007

Alan Auerbach: How to Tax Capital Gains

Alan Auerbach explains how to tax capital gains:

How to Tax Capital Gains, by Alan Auerbach, Commentary, WSJ: The recent controversy over the taxation of "carried interest" ... demonstrates the problems that can arise from taxing capital gains differently from other types of income. While it's relatively simple to change the way we treat carried interest, it would be far better to undertake an overall reconsideration of the way we tax capital gains.

As President Reagan and others who crafted the Tax Reform Act of 1986 understood, different tax rates on different types of income-producing activities often distort economic decisions and increase the tax system's complexity. Their solution was a broad-based tax with low and uniform marginal tax rates. The identical rate was applied to capital gains and to wage and salary income. But the reform survived only a few years, and we now confront the old problems magnified by two decades of financial innovation.

We can do better, and here are some guidelines:

Increase the capital gains tax rate, but not the "lock-in" effect. ...[T]axing capital gains has a big impact on investors' decisions about when to sell capital assets. Higher tax rates delay sales, causing investors to be "locked in" to their current holdings...

By itself, an increase in the capital gains tax rate worsens the lock-in effect. But this impact can be offset by other desirable changes, such as indexing capital gains for inflation ... and taxing capital gains at death. (Currently, we do not collect capital gains taxes when someone dies; this makes people want to hold onto appreciated assets throughout their lifetimes.) So-called "constructive realization" (i.e., taxation of capital gains at death) could help solve our current estate tax impasse by substituting capital gains revenues for some of the lost estate taxes. ...

Reconsider how best to encourage innovation and risk-taking. Some argue that low capital gains tax rates can spur the formation and development of new enterprises, for the payoffs from successful start-ups flow to their owners largely in the form of capital gains. But ... only a miniscule fraction of the economy's capital gains are associated with new ventures. A low capital gains tax rate is a very poor way to encourage entrepreneurial activity. It would be far better to carefully tailor tax provisions to spur innovation...

Don't raise the cost of capital. ...Lowering capital income taxes reduces the cost of capital and spurs investment; raising these taxes increases the cost of capital and discourages investment.

But not all capital income taxes equally influence the cost of capital. Capital gains taxes have a relatively weak impact on the cost of capital because a large share of the tax revenues is associated with income not generated by new investment. Thus only a small portion of the capital gains realized over the next several years will result from today's investment, so changing the tax rate on the gains won't influence today's investment much. By contrast, tax provisions targeted toward new investment, such as the bonus depreciation scheme introduced in 2002, tie tax reductions to new investment and thereby produce a bigger bang for each buck of tax reduction. Offsetting an increase in the capital gains tax rate with a revenue-neutral tax reduction that targets new investment is likely to reduce the cost of capital. ...

There are, of course, more sweeping tax reform alternatives available. Some proposals would move us from taxing income toward taxing consumption, or toward taxing capital gains as they accrue, rather than only when assets are sold. There are coherent and attractive proposals available to implement either of these approaches. But we need not wait for the next grand tax reform to improve on our current method of taxing capital gains.

Thursday, August 09, 2007

PGL: Bush on Bridge Safety: Spend Smarter Not More

PGL at Angry Bear is driven to shrillness by the latest from the president:

President Bush on Bridge Safety: Spend Smarter Not More, by PGL: AP reports that President Bush is opposed to raising gasoline taxes so we can have more bridge inspections:

A week after a deadly bridge collapse in Minneapolis, President Bush on Thursday dismissed raising the federal gasoline tax to repair bridges at least until Congress changes how it spends highway money. "The way it seems to have worked is that each member on that (Transportation) committee gets to set his or her own priorities first," Bush said. "That's not the right way to prioritize the people's money. Before we raise taxes, which could affect economic growth, I would strongly urge the Congress to examine how they set priorities."

Alice Rivlin would be impressed. Her counsel to John Kerry during the 2004 Presidential race was spend smarter, not more. So President Bush is arguing that we should spend more transportation dollars on repairing bridges and less on bridges to nowhere. I would find this to be a credible argument from a President who had a track record of allocating our Federal dollars where most needed for public policy reasons. But when President Bush has discussed priorities in the past, it would seem his mantra for spending our Federal monies wisely was more driven by some Karl Rove calculus to maximize GOP votes than to maximize the General Welfare. But if President Bush has decided to finally adopt the fiscal wisdom of Alice Rivlin, I say: IT’S ABOUT TIME!

Joseph Stiglitz: Greenspan, Bush Errors Finally Come Home to Roost

Joseph Stiglitz says George Bush and Alan Greenspan have some explaining to do:

Greenspan, Bush errors finally home to roost, by Joseph Stiglitz, Project Syndicate: The pessimists who have long forecast that America's economy was in for trouble finally seem to be coming into their own. Of course, there is no glee in seeing stock prices tumble as a result of soaring mortgage defaults. But it was largely predictable, as are the likely consequences...

The story goes back to the recession of 2001. With the support of US Federal Reserve Chairman Alan Greenspan, US President George W. Bush pushed through a tax cut designed to benefit the richest Americans but not to lift the economy out of the recession that followed the collapse of the Internet bubble.

Given that mistake, the Fed had little choice if it was to fulfill its mandate to maintain growth and employment: it had to lower interest rates. ... But, given that overinvestment in the 1990s was part of the problem underpinning the recession, lower interest rates did not stimulate much investment.

The economy grew, but mainly because American families were persuaded to take on more debt, refinancing their mortgages and spending some of the proceeds. And, as long as housing prices rose as a result of lower interest rates, Americans could ignore their growing indebtedness.

In fact, even this did not stimulate the economy enough. To get more people to borrow more money, credit standards were lowered, fueling growth in so-called "subprime" mortgages. Moreover, new products were invented ... making it easier for individuals to take bigger mortgages. ...

Alan Greenspan egged them to pile on the risk by encouraging these variable-rate mortgages. But did Greenspan really expect interest rates to remain permanently at one percent - a negative real interest rate? Did he not think about what would happen to poor Americans with variable-rate mortgages if interest rates rose, as they almost surely would?  ...

Fortunately, most Americans did not follow Greenspan's advice to switch to variable-rate mortgages. Even as short-term interest rates began to rise, the day of reckoning was postponed... [But the] housing price bubble eventually broke, and, with prices declining, some have discovered that their mortgages are larger than the value of their house.

Too many Americans built no cushion into their budgets, and mortgage companies, focusing on the fees generated by new mortgages, did not encourage them to do so.

Just as the collapse of the real estate bubble was predictable, so are its consequences... By some reckonings, more than two-thirds of the increase in output and employment over the past six years has been real estate-related, reflecting both new housing and households borrowing against their homes to support a consumption binge.

The housing bubble induced Americans to live beyond their means - net savings has been negative for the past couple of years. With this engine of growth turned off, it is hard to see how the American economy will not suffer from a slowdown.

There is an old adage about how people's mistakes continue to live long after they are gone. That is certainly true of Greenspan.

In Bush's case, we are beginning to bear the consequences even before he has departed.

Monday, August 06, 2007

Not Laffing

Mathew Yglesias notes the press's failure to challenge false statements about tax-cuts made by Giuliani in the GOP debate:

Laffer Press Roundup, by Mathew Yglesias: Here's an interesting test case for the press. It seems that at yesterday's GOP debate, Rudy Giuliani derided the idea that higher taxes raise revenues as a "Democratic, liberal" assumption and put forward his alternative view that you generate revenue by lowering tax rates. This is a stunning confession of total ignorance of tax policy and economics by the GOP front runner. So how did the press cover it? Chris Cilizza at the Fix lives down to my expectations by totally ignoring the fact that Giuliani is incorrect:

"There is a liberal Democratic assumption that if you raise taxes, you raise more money," said Giuliani to huge applause from the crowd assembled at Drake University.

Michael Shear in The Washington Post's page A1 story also doesn't care about the merits of the issue:

Former New York mayor Rudolph W. Giuliani sparked loud applause when he declared that "the knee-jerk liberal Democratic reaction -- raise taxes to get money -- very often is a very big mistake."...

Nor does Stephen Braun of The Los Angeles Times care at all whether or not GOP tax policy makes sense:

Referring to last week's devastating bridge collapse in Minneapolis, the GOP rivals found common ground in insisting that increased private investment from cutting taxes would provide more money to repair the nation's failing infrastructure. ...

Mike Glover at the AP doesn't seem to mention the issue at all.

Adam Nagourney at The New York Times, by contrast, doesn't go nearly as far as I'd like, but does way better than his colleagues at the major papers. Here he is on the NYT political blog:

Mr. Giuliani proceeded to explain that when he was mayor of New York he had cut taxes, and that those tax cuts had produced revenues that allowed him to finance bridge reconstruction. (Actually, there’s a good argument that it was the stock market boom in New York that brought all that money into the city’s coffers, but we’ll let that pass for now).

And here he is teamed up with Michael Cooper in the print edition:

Mr. Giuliani said that as mayor of New York, he had increased revenues to pay for bridge and road repair by cutting taxes, thereby jolting the economy, and that he would do the same thing as president. The city’s treasury in that period was flush largely with revenues produced by the stock-market boom of the late 1990s.

It'd be nice to see reporters go further than Nagourney does here, but improvements at the margin deserve recognition and the Times is doing a much better job than the Post here.

Even Nagourney's "we’ll let that pass for now" is inadequate. Any reporter who thinks there's a debate about whether cutting taxes has increased tax revenues has not been paying attention and has no business covering economics. Let's take a cue from Paul Krugman and ask what the press should have asked, what does this say about Giuliani's character? First, I disagree with the characterization of his statements as ignorant. I don't believe he is ignorant about this topic, so that is no excuse (and if he were ignorant, i.e. if he has not bothered to find out about the consequences of tax cuts by now, that would tell us a lot too.)  He noted that he is aware of the evidence, but chooses to portray it as a "liberal Democratic assumption" even though it is nothing of the sort (see Andrew Samwick and Greg Mankiw's statements about this, both of whom served under Bush in the Council of Economic Advisers, or any reputable conservative economist for that matter, or this recent CBO report).

What this tells us is that just like George Bush in the run-up to the Iraq war, Giuliani is not an honest broker. He is willing to tell people what they want to hear in spite of compelling evidence to the contrary, and to surround himself with people who will not challenge him when he uses misleading statements to push a policy. He has no problem using dishonest statements to sell policy. There's a lot to be gleaned about his character from his willingness to engage in this type of dishonest salesmanship, a style of leadership that led us into our current predicament, and it's disappointing to see the press not even bother to make the connections.

Friday, August 03, 2007

Paul Krugman: A Test for Democrats

Paul Krugman on good Democrats, bad Democrats, and the ugly thing the bad Democrats are about to do:

A Test for Democrats, by Paul Krugman, Commentary, New York Times: It’s been a good Democrats, bad Democrats kind of week. The bill expanding children’s health insurance that just passed in the House makes you want to stand up and cheer. Reports that Senator Charles Schumer opposes plans to close the hedge fund tax loophole make you want to sit down and cry.

Let’s start with the good news: The House bill ... would provide coverage to five million children who would otherwise be uninsured.

The bill is so good that it has Republicans spluttering. “The bill uses children as pawns,” declared Representative Pete Sessions of Texas. Yes, the Democrats are exploiting children — by providing them with health care.

The horror, the horror!

What’s especially encouraging is the way House Democrats were willing to take on the insurance companies. The bill pays for children’s health care in part by cutting subsidies to Medicare Advantage, a privatization scheme that yields big profits for insurers...

All in all, the bill is both a fine piece of legislation and a demonstration that Democrats can stand up to special interests. Happy days are here again.

Or maybe not.

The hedge fund tax loophole is a crystal-clear example of unjustified privilege. ... For example, ... pension fund ... manag[ers] ... are taxed ... at rates up to 35 percent. But if that money is invested with a hedge fund ... the fees the ... manager receives ... are mainly taxed as capital gains, with a maximum rate of 15 percent. ...

We’re told that the tax rate on hedge fund managers has to be kept low to encourage risk-taking. But the managers aren’t risking their own money. The only risk ... is the uncertainty of their fees — and as any ... salesman who depends on commissions can tell you, most people with uncertain incomes don’t get any special tax breaks.

We’re also told that management fees would rise, reducing returns to investors... — as if someone with a $100-million-a-year hedge fund job would walk away if his take-home pay fell from $85 million to $65 million.

And we’re talking about a lot of lost revenue here. The Economic Policy Institute estimates ... $6.3 billion a year — the cost of providing health care to three million children. Of that total, almost $2 billion a year ... goes to just 25 individuals.

If being a Democrat means anything, it means opposing this kind of exorbitant privilege. Yet ... Mr. Schumer says that he opposes any increase in hedge fund taxes unless tax breaks for the energy and real estate industries are also eliminated, and pigs start flying. Seriously, his claim that he really would support closing the hedge fund loophole if other, deeply entrenched tax privileges were eliminated ... is a fig leaf that hides nothing.

Mr. Schumer ... insists that the large financial contributions that hedge funds make to his party aren’t influencing him. Well, I can’t read his mind, but from the outside his position looks remarkably like money-driven politics as usual. And that’s not acceptable.

Look, the worst thing that could happen to Democrats is for voters to conclude that there’s no real difference between the parties, that when you replace Republicans with Democrats, all you do is replace sweet deals for Halliburton with sweet deals for hedge funds. The hedge fund loophole is a test — and it’s one that Mr. Schumer is failing.

Previous (7/30) column: Paul Krugman: An Immoral Philosophy
Next (8/6) column: Paul Krugman: The Substance Thing

Wednesday, August 01, 2007

The High-Tech Solution to Voter Irrationality?

I can't resist commenting on this post from Bryan Caplan (here's his co-blogger disagreeing with me today, but that's not what motivated this):

The High-Tech Solution to Voter Irrationality, by Bryan Caplan: This didn't make it into the book, but one of my favorite remedies for voter irrationality has long been to simply clone John Stossel. His column today just reinforces my support for the clone-Stossel solution:

More practically, [Caplan] thinks that "Everyone who knows some economics" should grab every opportunity to teach it. That's what I try to do with my "20/20" segments, television specials and the Stossel in the Classroom program, which brings economic ideas to high-school and college classrooms.

I wonder if Stossel realizes that when I was writing this section, I had him in mind?

Is it John Stossel's "The Tax-Cut Myth" that Bryan has in mind? John Stossel says it's a myth that tax cuts increase the deficit:

The Tax-Cut Myth, by John Stossel, RCP: ...[T]ax cuts stimulated the economy and increased tax revenues. It happens because, as the Laffer Curve illustrates, lower rates mean higher rewards for productive activities. ...

Bush boasted last year, "This economy is growing, federal taxes are rising, and we're cutting the federal deficit... Some in Washington say we had to choose between cutting taxes and cutting the deficit. Today's numbers show that that was a false choice. The economic growth fueled by tax relief has helped send our tax revenues soaring."

But I don't want tax revenues to soar. That's money you and I could be spending for things we want. I want revenue and spending and government overall to shrink. So I'm not celebrating with the president. ...

Bryan has argued that many voters are uninformed - he uses economics as his prime example - and that perhaps we should consider giving the uninformed less say in the political process. So I'm curious, should endorsing "myths," and what Stossel said is a myth, that's clear, should being uninformed about the effect of tax cuts disqualify him from voting?

Tuesday, July 31, 2007

In a Surprise, a Republican is Using Scare Tactics Based upon Misleading Claims

In a thoroughly misleading article designed to scare people about what might happen to the economy because the Republicans did not have the courage to make the tax cuts they enacted permanent, GOP Senator John Kyl says:

Failing to extend the tax relief we have passed would result in a de facto tax hike that could cripple our economy...

But according to a recent CBO report:

CBO director Peter Orszag said, “The short-term effects of [the 2001 and 2003 tax cuts] in stimulating aggregate demand in the economy have largely dissipated by now, and the supply-side effects of those policies are uncertain but are probably small.”

Some of the tax cuts’ provisions “increased incentives for people to work and save (which can increase growth), but other provisions had no effect on incentives. In addition, the two tax laws increased the budget deficit, and doing so tends to reduce economic growth over the medium and long term. At this point in time (several years after enactment), once those various factors have been taken into account, the overall impact of the tax legislation on the economy is likely to be modest”

Thus, despite the scare tactics claiming otherwise, it won't "cripple our economy" if we allow the Republican's tax policy to be enacted exactly as written. There's simply no evidence that these tax cuts had a substantial impact on saving, investment, and growth.

Kyl also uses careful wording to describe tax cuts and deficit reduction:

The tax relief has helped produce an economy that has generated higher than expected tax revenues for the federal government. Tax receipts have risen 37 percent over the last three years and are projected to increase another 7 percent this year. These rising tax receipts have, in turn, helped drive down the deficit...

Though it makes it sound like the tax cuts reduced the deficit without actually saying so, i.e. the standard Laffer curve nonsense, as I hope you know by now that didn't happen (as noted above, "the two tax laws increased the budget deficit"). In fact, the supply-side impact of the tax cuts is estimated to be very small, so small that it generated very little tax revenue. From the CBO report:

the tax cuts’ indirect impact on economic growth, investment and saving and could affect this year’s budget deficit anywhere from an increase of $3 billion to a reduction of $14 billion...

The CBO report also points out that "without the tax cuts, the budget would probably be in surplus this year".

Thus, while there is evidence that leaving the Republican tax legislation exactly as they wrote it and allowing the tax cuts to expire will improve the government's fiscal position, there is no evidence that keeping the Republican tax legislation in place will cripple the economy as claimed.

Sunday, July 29, 2007

Alan Blinder: Low Capital Gains Taxes Cause Distortions

Alan Blinder discusses distortions that are introduced into the economy when the tax rate on capital gains is lower than the tax rate on other types of income. He begins by explaining the current debate over whether income from private-equity and hedge fund management should be taxed as capital gains or as regular income, and comes down on the side of treating it like ordinary income (see the article for details), and then he asks why the rates should differ at all:

The Under-Taxed Kings of Private Equity, by Alan S. Blinder, Economic View, NY Times: An arcane debate is raging in Congress over the appropriate taxation of the bountiful incomes of people who manage private-equity and hedge funds — incomes that can range into the hundreds of millions a year. I don’t recommend trying to master the details unless you have either an accounting degree or insomnia. But one thing is easy to understand, though hard to swallow: Some people who are richer than Croesus are paying 15 cents in federal income taxes on the marginal dollar, while you may be paying 25 or 35 cents...

Why do we have a preference for capital gains in the first place? The main argument is that lower taxes on capital gains boost investment. But the evidence on that point is iffy at best, and there are better ways to spur investment, like, say, the investment tax credit. Besides, lower taxes on capital gains reduce the tax bills of the rich relative to the rest of us — after all, they own most of the capital. But in this age of hyper-inequality, shouldn’t we be making the tax code more progressive, not less?

A far more important objection is that the tax preference for capital gains undermines capitalism — a system in which capitalists, not the state, are supposed to make the investment decisions. When I discuss this issue with my Economics 101 students, I show them an example of a proposed investment that loses money before tax (and which, therefore, should be rejected) but which actually turns a profit after tax because of the preferentially low capital gains rate. ... The government thus induces people to make bad investments, which is a good way to run an economy into the ground. Come to think of it, that’s just what the old Soviet Union did. It invested copiously, but badly.

But would taxing capital gains like other types of income imperil our economy? No. The Tax Reform Act of 1986 did exactly that, and it did not end capitalism as we know it. In fact, the gross domestic product in 1987 and 1988 grew at about the same rate as in 1985 and 1986, and the investment share of G.D.P. barely budged.

As the tax debate unfolds, you may find it difficult to follow the mind-numbing complexities. Who doesn’t? So just remember one simple principle: If we tax Activity A at 15 percent and Activity B at 38 percent, a free-market economy will give us more A and less B. Some of this shifting will represent genuine movements of resources out of B and into A — including those bad investments I just mentioned. The rest will be paper manipulations devised to avoid taxes.

Which of these do you think our tax code should favor?

Thursday, July 26, 2007

David Wessel: Globalization Study Moves Past Rhetoric

While I've had issues with material on the Wall Street Journal's editorial page, and today is no exception, I want to be careful to separate what goes on there from what gets presented elsewhere in the WSJ.

David Wessel's Capital column is not on the editorial page, and it does not belong there. I don't always agree with everything he says, and I don't always disagree either, but I never get the impression that facts are twisted to sell a preconceived notion:

Globalization Study Moves Past Rhetoric, by David Wessel, WSJ: Most of the policy briefs, working papers and trade-association reports that cross a columnist's desk slide easily into the trash can or onto the read-someday pile.

But a recent study on globalization, commissioned by the Financial Services Forum, an association of the chief executives of 20 huge financial companies, ranging from American International Group and Citigroup to UBS and Wachovia, stands out.

The analysis, written by a former member of President Clinton's Council of Economic Advisers, a former member of President Bush's and a former Bush Commerce Department official, says:

(1) Globalization is good for the U.S. economy. (No surprise coming from a bunch of financial firms that make money doing business across borders.)

(2) Gains from globalization aren't evenly shared. (A little surprising, but in the past couple of years, there has been a willingness among business to publicly acknowledge that economic reality.)

(3) To avoid a backlash against globalization, governments and businesses must come up with new ways to spread its benefits more widely and assist those hurt by all sorts of economic change. (Very surprising, more like a Democratic candidate's talking points than a report issued and promoted by an outfit led by Citigroup Chief Executive Charles Prince and Don Evans, the former Bush commerce secretary.

What's Going On? Business interests with a strong stake in globalization ... see rising public anxiety about globalization as a threat. And they realize that preaching the gospel of comparative advantage isn't going to win the debate.

"The mounting opposition is in response to the other side of globalization -- outsourcing of jobs, economic dislocation, anxiety and fear," the forum said ... early this year. "Making the case for trade and globalization requires...a list of specific, meaningful, practical, cost-efficient, and effective public- and private-sector responses to the reality that while the aggregate benefits of free trade and globalization are tremendous, it can sometimes bring with it painful dislocations for individuals, families, towns, regions, even entire industries." ...

Some business executives, prodded by politicians such as House Ways and Means Chairman Charles Rangel, finally are realizing that trade-friendly Democrats will be overwhelmed by trade skeptics unless there is something tangible to offer workers worried about their livelihoods and their children's. A new Pew Global Attitudes survey finds Americans generally optimistic about the next five years, but only 31% expect their children's lives will be better than their own; Europeans are even more pessimistic. By contrast, 81% of the Chinese expect their children to do better.

The Financial Services Forum report is, in part, a response to that. The specifics are intriguing ... because they move beyond inadequate approaches such as making the failing Trade Adjustment Assistance program for dislocated workers a tad more generous.

Among the Proposals: Raise taxes on winners to share benefits of globalization more widely. Replace TAA and unemployment insurance with a big new program for displaced workers that offers wage insurance to ease the pain of taking a lower-paying job. Provide for portable health insurance and retraining. Create a way for communities to ensure their tax base against big factory closures. Eliminate tax hurdles for businesses that do what International Business Machines is proposing: Offer 50 cents for every $1 (up to $1,000 a year) that workers set aside to pay for training. ...

Grant Aldonas of the Center for Strategic and International Studies think tank, one of the report's three authors [said] "...We are renegotiating the social contract in America, but we're letting it be done by the United Auto Workers and Delphi, and leaving a lot of others out -- including the poor and the businesses on the leading edge."

Mr. Aldonas and his co-authors, Dartmouth's Matthew Slaughter and Harvard's Robert Lawrence, ... say the U.S. need not accept as inevitable the steady widening of the gap between economic winners and losers, an inequality that threatens to produce barriers to trade, investment and immigration that will hurt U.S. prosperity. ...

Now the question is whether business will go beyond talk. As C. Fred Bergsten ... puts it: "They haven't gone to the mat and talked to Charlie Rangel and Democrats who are wavering, if not worse, and said, 'We want to support a meaningful program of wage insurance, and we'll be willing to give up some of our beloved tax breaks to pay for it.' "

One troubling sign: Although forum chief executives issued statements blessing the new report, not one has been willing to talk to a Wall Street Journal reporter about it.

One thing that bothers me about the whole inequality debate is the presumption that the winners deserve their incomes because it reflects their contribution to the firm, i.e. it is the wage that would be earned in well-functioning competitive markets, with the reward is equal to the person's marginal contribution to the firm. Thus, the analysis often begins with the idea that any tax takes away someone's hard-earned income and redistributes it elsewhere.

But for the incomes where inequality is rising most - those at the very top of the income distribution - this is a questionable claim. The idea that the salary of a CEO or hedge fund manager is set by competitive markets, or even approximately so, seems unlikely, or at least open to serious question. It should not just be assumed in these debates.

If the incomes of the winners are higher than they would be in a competitive market, then many of the arguments against taxing their "hard-earned money" melt away. For example, if a person would earn $1,000,000 in a competitive market, but because of market imperfections earns $1,200,000 instead, is it unfair to tax away the extra $200,000?

At a 33% tax rate in a competitive market, after-tax income would be $667,000, i.e. the competitive income of $1,000,000 minus 33%. At the non-competitive income of $1,200,000, it would take a tax rate of around 44% to leave the person equally well off (i.e. $1,200,000 - 44% of $1,200,000 =  approx. $667,000).

For this reason, I would argue that tax rates such as the 44% rate in this example are not as high as they might seem. Part of the tax simply levels the playing field, i.e. taxes away the income in excess of the competitive level, and the tax rate is then 33%, not 44%, on the part of income that would be earned in a competitive market.

Update: Free Exchange at the Economist has a different take on this issue.

Sunday, July 22, 2007

Supply-Side Effects of 2001 and 2003 Tax Cuts "Small"

About that Laffer curve:

CBO: Tax Cuts’ Impact Has Faded, by Greg Ip, WSJ Washington Wire: The stimulative effect of Bush’s tax cuts has worn off and the supply-side benefits are “small,” the Congressional Budget Office says. At the request of House Budget Committee [chair] John Spratt (D., S.C.), the CBO analyzed the impact on the economy other than through the direct impact on tax revenues of the Economic Growth and Taxpayer Relief Act of 2001 (EGTRRA) and the Jobs and Growth Tax Relief Reconciliation Act of 2003 (JGTRRA).

In a letter to Spratt released Friday, CBO director Peter Orszag said, “The short-term effects of EGTRRA and JGTRRA in stimulating aggregate demand in the economy have largely dissipated by now, and the supply-side effects of those policies are uncertain but are probably small.”

Some of the tax cuts’ provisions “increased incentives for people to work and save (which can increase growth), but other provisions had no effect on incentives. In addition, the two tax laws increased the budget deficit, and doing so tends to reduce economic growth over the medium and long term. At this point in time (several years after enactment), once those various factors have been taken into account, the overall impact of the tax legislation on the economy is likely to be modest,” Orszag wrote.

Orszag concluded that the tax cuts’ indirect impact on economic growth, investment and saving and could affect this year’s budget deficit anywhere from an increase of $3 billion to a reduction of $14 billion, depending on the assumptions used. That is separate from the direct boost to the deficit through lost revenue and the added interest on borrowing to cover the gap of $211 billion.

It currently expects this year’s deficit to be between $150 billion and $200 billion, implying that without the tax cuts, the budget would probably be in surplus this year.

Saturday, July 21, 2007

"Economics is the Dope of the Religious People"

This is from Joan Robinson. It's about using economics as an ideological defense of wealth. Keep in mind as you read this that it was written in 1936, not today.

A lot of the discussion is about tax cuts, and I was amused at the end where she says that even though her opponent wasn't clever enough to think of it, to be fair, there is a way a tax cut can affect employment. She then goes on to foreshadow supply-side arguments, then dismisses them as unlikely to have much of an impact in alleviating short-run economic difficulties.

The introduction to this section of the book where this essay appears (the fourth volume of Collected Economic Papers by Joan Robinson) says that "Keynes read the drafts and I cut out anything that I could not persuade him was correct..." And, though it doesn't relate to the essay that follows, given the charges that the traditional Keynesian model ignores inflation, this is an interesting statement (it is in reference to an essay called "Full Employment" in the same section), "It is certainly absurd to suppose [Keynes] was not aware of the prospect of inflation setting in when near-full employment is maintained for a run of years." Here's her essay, "An Economist's Sermon":

An Economist's Sermon: Economics is the Dope of the Religious People, by Joan Robinson, 1936: Consider the case of a man to-day who has an honest intelligence, a strong social conscience and an independent income.

His intelligence tells him that he has no particular right to enjoy a privileged position. 'Right' is a vague phrase. A doctor has in a sense a right to a motor-car because it makes him do his work better than he could without it. And if he uses it to visit his friends as well as his patients, no harm is done to anyone. But our man is too honest to try to persuade himself that his own comfort really makes very much difference to the amount of benefit that he does to other people. His conscience tells him that he would be doing a good act if he endowed a hospital with his wealth and worked for his living. But his inde­pendent income is not easy to give up.

He cannot keep all three - integrity of mind, a quiet conscience, and the privileges of wealth. One must be sacrificed. If he is a saint he sacrifices the wealth - but we will suppose that he is not. If he is a man of no definite religious creed he can keep his mental honesty and his income by sacrificing his conscience. He can say "I am a selfish individual. I don't pretend to have any better right than anyone else to a comfortable life, but I propose to enjoy it if I can."

But if he belongs to a definite religion this line of escape is impossible for him. Conscience is more precious than anything else. Without its approval he can have no peace. He will have to sacrifice his honesty of mind instead, and make up arguments to show that it is right for him to be better off than the majority of his neighbours.

Now, it is here that the economist is a godsend to him. The economist is a self-appointed expert. It is his business to know about these things. A man may have an honest and independent mind and yet take on trust the opinion of experts on a subject that he has not time to master for himself. If the economist tells him it is all right, then he can keep his integrity, his income and his conscience all intact.

One of the main effects (I will not say purposes) of orthodox traditional economics was to fill this want. It was a plan for explaining to the privileged class that their position was morally right and was necessary for the welfare of society. Even the poor were better off under the existing system than they would be under any other. There is a significant passage in the reminiscences of Alfred Marshall. As a young man, a mathematician and philosopher, before he had embarked upon economics, he began to be troubled by social conscience:

Continue reading ""Economics is the Dope of the Religious People"" »

Tuesday, July 17, 2007

Keeping the Tax Rate Constant Can More Than Pay for Itself!

I've been a critic of the "tax cuts pay for themselves" school of thought since there's no evidence the economy is currently or has ever been in a position where that could happen, so let me discuss this a little further and allow for the possibility of a situation (even now) where a reduction in taxes could, in fact, pay for itself.

When taxes are cut, there are two separate things that happen that get confused in discussions of this topic. First, and obviously, there is a change in disposable income and this can generate economic effects. Second, there can be a reduction in the economic distortions induced by taxes, and reducing these distortions can generate higher economic growth. Thus, this second effect is the change in economic efficiency from the change in taxes.

The efficiency effect means that keeping taxes constant can increase tax revenue, and it's easy to see how. Suppose, as in the US, there is an income tax and without changing anyone's net tax burden at all (all things considered), it is replaced by a consumption tax. Since in general consumption taxes are more efficient than income taxes, output can increase without changing overall taxes one bit just by restructuring where they are levied (or choose your own favorite example of an efficiency enhancing shift in taxes, this is just an example).

This can easily generate Laffer curve type results. Suppose that in the example above, everything is the same except that after the consumption taxes are levied to replace the income taxes, overall taxes are reduced by one dollar. Because of the increase in efficiency, which could be large under the right conditions, it would look like this one dollar reduction in taxes causes amazing output effects. E.g. suppose output went up by a mere million dollars from the increase in efficiency, not much in the overall US economy. With a tax rate of 25%, the result would be a $250,000 increase in taxes from a $1 tax cut. This would appear to be quite amazing if it was attributed solely to the $1 change in after tax income rather than to the change in efficiency. Note, however, there is nothing special in this example about the tax reduction. Just as easily we could have overall taxes increase by $1 in the example and then it would look like increasing taxes increases economic activity. This means that even if a tax cut did pay for itself, which they don't, we need to be careful abut what the increase in revenue is attributed to.

An implication of this is that it is not necessary to reduce taxes on the wealthy, i.e. produce an increase in their take-home pay, to produce revenue enhancing effects from changes in tax policy. Simply changing where and how the taxes are levied can potentially produce much stronger effects. Since there is little evidence that tax cuts on the wealthy stimulate substantial additional effort or any additional economic activity, before we cut taxes to try to increase economic growth we ought to make sure that our taxes are levied and collected as efficiently as possible first, and that can involve restructuring how taxes are collected within income classes, i.e. trading one kind of tax for another, and other types of changes (I am setting aside equity considerations in this discussion, but there may be efficiency-equity tradeoffs to consider).

Continuing with this point, Stephen Gordon at Worthwhile Canadian Initiative has comments on a recent Romer and Romer paper looking at tax changes and economic growth. Given recent events around here, I am going to send you to his site instead of presenting his comments here:

Why doesn't the US have a consumption tax?, by Stephen Gordon

Update: I didn't mean to limit the discussion to consumption versus other types of taxes at all, restructuring taxes within income classes is more what I had in mind here, but I just noticed that Greg Mankiw discusses the question "If a government reduces a payroll tax and raises a consumption tax, how does the tax shift affect the economy?" and gives a "tentative" answer to the question. One issue that comes up is fraud under VAT taxes. If you are interested in that issue, see this five part series from Richard Baldwin at Vox EU on VAT fraud.

Kenneth Rogoff: US Will Learn Deficits Do Matter

Ken Rogoff says we will learn, soon enough, that budget deficits are not to be taken lightly:

Kenneth Rogoff: US will learn deficits do matter: The Bush administration was beside itself with glee ... when it announced that the fiscal year 2007 federal deficit was set to fall to just over $200bn, or 1.5 per cent of US gross domestic product ..., less than half what it was in 2004.

Publicly, some Democrats are still condemning Bush II profligacy and preaching a return to Clinton I fiscal conservatism. Privately, though, many are starting to question why a 2008 Democratic president should bother improving the government’s balance sheet if the end result is just a bigger pot for a future Republican president to lavish on his or her friends. Certainly the 2000s ... seem to have thrown cold water on the notion that sustained US budget deficits will automatically lead to high interest rates and low growth. Or have they?

First, the good news. Explosive financial globalisation has made US federal budget policy far less important as a determinant of global real interest rates. ...

And let us give credit where credit is due. The Bush administration’s decision to borrow massively, over a period where global long-term interest rates fell massively, was not a bad market call. ... One can question whether the Bush administration should have skewed tax cuts towards the wealthiest Americans... One can complain how money was thrown away on the catastrophic invasion of Iraq. But the Bush deficits have not been the short-term growth disaster that some predicted.

Of course, ...[the] Bush administration ... probably did not envision hitting up China, Saudi Arabia and Russia for money. Instead, the political types were seduced by the misguided belief that if the government cut marginal tax rates, the economy would grow so much that total tax revenues would actually rise.

Unfortunately, ... the ... “Laffer” curve ... effect was hardly big enough to keep this decade’s US federal budget from going deep into the red. Remember, too, that the $200bn figure ... incorporates the surplus on Social Security. Without this accounting gimmick (which the Bush administration did not invent) the projected 2007 deficit would be more than twice as large.

Both the Organisation for Economic Co-operation and Development and the International Monetary Fund have argued that US deficit policy is much more damaging than it seems. The US ought to be racking up big surpluses in preparation for impending old-age retirements and rising medical costs. ...

It is well understood that the Social Security pensions system can be fixed by indexing the retirement age to life expectancy and by modestly raising taxes. Medical care involves far trickier challenges...

[If] countries ... cannot resolve ... intergenerational frictions ...,[the] result will be paralysis, with huge potential implications for interest rates, inflation rates and growth. But this need not occur... Perhaps, [this] ... will simply bring forward the necessary conversations on pensions and medical spending. Of course, [it] might also bring forward a catastrophically divisive debate.

If there is a shorter-term Achilles heel to ... deficit policies, it is dependence on foreign financing. ... Incredibly, US borrowing accounts for roughly two-thirds of total net saving of all the world’s surplus countries. Although rebalancing of the world economy is likely to help ... somewhat this year, the global and US economies remain quite vulnerable to a scenario that forces faster rebalancing. ...

Here’s betting that the next US president, Democrat or Republican, is not going to end up going too far towards restoring fiscal prudence. Unfortunately, continuing this approach will eventually bring a shipwreck... The US government’s big shift into the red may have been fortuitously timed, but eventually, the deficits will matter.

Monday, July 16, 2007

Brendan Nyhan: Greg Mankiw and Tax Cut Rhetoric

Since Laffer curves have come up a lot recently, i.e. the idea that if we cut taxes it will pay for itself - a notion thoroughly discarded by recent research from the CBO and others - and since the political issue has been raised by Brad DeLong:

PGL and Mark Thoma on Greg Mankiw, by Brad DeLong:  ...Greg [Mankiw] is deciding whether he wants to be an economist or a politician. I fear he is making the wrong choice...

Let me pass along something I was made aware of by email that weighs in on the political question. This is Brendan Nyhan:

Greg Mankiw and tax cut rhetoric, by Brendan Nyhan: I'm quoted in a Harvard Crimson story on Greg Mankiw, the Harvard economics professor and former Bush administration economist:

N. Gregory Mankiw is not unfamiliar with the demands that come with being one of the foremost economists in the country.

After all, the Beren Professor of Economics survived a stint in the very public domain of Washington politics, serving as the Chairman of the Council of Economic Advisors from 2003 to 2005. But now, he's facing a new and perhaps even more public challenge - the wrath of online bloggers.

Several professors and economists have called on Mankiw to explain what they see as his changing views on tax cuts from before he began advising President George W. Bush to when he served as Bush's top economic advisor.

According to an online blog post by Jared Bernstein of the Economic Policy Institute, Mankiw had previously criticized certain supply-side arguments - namely, that lowering tax rates could actually generate more tax revenue - and then reversed his opinion while working in Washington.

But Mankiw said that he never made such a policy switch.

"[Bernstein] made a claim that I'd been inconsistent about the tax cuts and I don't think I had been," Mankiw said. "Being opposed to a tax cut as a policy and being critical of an argument for tax cuts are two different things." ...

Brendan J. Nyhan, a political science graduate student at Duke University and frequent blogger, points out that while Mankiw said he was "skeptical"of the claim that tax cuts could pay for themselves during his Senate confirmation hearing, Mankiw also denied that the administration had used "self-financing" arguments.

Nyhan then lists on his blog specific quotes from then-Press Secretary Ari Fleis[c]her, Vice President Dick Cheney, and President Bush, all of whom said in the early months of 2003 that the tax cuts would lead to more tax revenue.

"Mankiw failed to get the Bush administration to say things that were accurate about the effects of tax cuts on revenue and other economic issues," Nyhan said. "That Mankiw is unwilling to acknowledge that the Bush administration made these claims is exemplary of White House experts who are unwilling to publicly contradict their bosses in the administration."

J. Bradford Delong '82, a prominent economist at UC Berkeley, also weighed in on the debate on his blog, questioning whether it is "worth the sacrifice of the economics profession's outside credibility and the further confusion of the public that is entailed when good economists defend bad policies on the outside that they are working to change on the inside." ...

Mankiw announced in late 2006 that he had signed on as an advisor to the presidential campaign of former Massachusetts Gov. Mitt Romney, and the Republican candidate seems to be employing these very same supply-side arguments.

"If you lower taxes enough, you create more growth," Romney said in a video excerpt on his Web site from a closed-door presentation he made to the Club for Growth, a political organization that favors low taxes, in March 2007.

"And if you create growth, you get more jobs," Romney continued. "You get more jobs, more people are paying taxes. You get more taxes paid, the government has more money by charging lower tax rates"

It would appear that this is the very same argument for taxes that Mankiw has said he opposed.

Nyhan said that economists with ties to politicians need to be more honest with the public regarding their actual views, whether or not they clash with the prominent figures they're advising.

"We need to drive this idea out of the mainstream, because it is not accurate," Nyhan said.

Here are the links that are referenced in the piece:

-My Spinsanity piece on Mankiw's confirmation hearing claim
-The full timeline of Bush administration officials suggesting that tax cuts increase revenue
-The Romney video in which he states that tax cuts increase revenue (click on "On the Issues" then select "On Fighting for Lower Taxes")

It's especially sad to see that Romney -- who Mankiw advises -- is making these claims. After John McCain started saying that tax cuts increase revenue, Mankiw badmouthed McCain on his blog:

Senator McCain tells the National Review:

Tax cuts, starting with Kennedy, as we all know, increase revenues.

The interviewer, however, did not ask the natural follow-up questions:

1. If you think the 2001 and 2003 tax cuts increased revenue, why did you vote against them?

2. If you think tax cuts increase revenue, why advocate spending restraint? Can't we pay for new spending programs with more tax cuts?

I doubt that, in fact, Senator McCain believes we are on the wrong side of the Laffer curve. But unfortunately, fealty to the most extreme supply-side views is de rigeur in some segments of the Republican party.

It's a strange point for Mankiw to make. He has failed to acknowledge publicly that the Bush administration makes the same exact claims. In addition, I noted the apparent implication that Romney, whose [campaign] Mankiw had recently joined as an adviser, would not make similar claims. Judging by the quote above, however, the former Massachusetts governor is following McCain and Rudy Giuliani down the rabbit hole. Will Mankiw passively endorse this rhetoric again?

Sunday, July 15, 2007

Principles of Taxation: What is a Fair tax?

Greg Mankiw on fair taxes, with comments at the end:

Fair Taxes? Depends What You Mean by 'Fair', by Greg Mankiw, Economic View, NY Times: Do the rich pay their fair share in taxes? This is likely to become a defining question during the presidential campaign.

At a recent fund-raiser for Hillary Clinton, ... Warren E. Buffett said that rich guys like him weren’t paying enough. Mr. Buffett asserted that his taxes last year equaled only 17.7 percent of his taxable income, compared with about 30 percent for his receptionist. ... These claims are enough to get populist juices flowing. The problem with them is that they don’t hold up under close examination.

The best source for objective data on the distribution of the tax burden is the Congressional Budget Office. ... The C.B.O.’s most recent calculations of federal tax rates show a highly progressive system. ... The poorest fifth of the population, with average annual income of $15,400, pays only 4.5 percent of its income in federal taxes. The middle fifth, with income of $56,200, pays 13.9 percent. And the top fifth, with income of $207,200, pays 25.1 percent.

At the very top of the income distribution, the C.B.O. reports even higher tax rates. The richest 1 percent has average income of $1,259,700 and forks over 31.1 percent of its income to the federal government.

One might wonder how Mr. Buffett gets away with a tax rate of only 17.7 percent, while a typical millionaire is paying so much more. Most likely, part of the answer is that Mr. Buffett’s income is made up largely of dividends and capital gains, which are taxed at only 15 percent. By contrast, many other top earners pay the maximum ordinary income tax rate of 35 percent on their salaries, bonuses and business income.

The distinction is crucial for understanding how much the rich pay. Indeed, the share of top incomes coming from capital is much lower now than it has been historically. ... If your image of the typical rich person is someone who collects interest and dividend checks and spends long afternoons relaxing on his yacht, you are decades out of date. The leisure class has been replaced by the working rich. ...

None of these calculations, however, say whether the rich are paying their fair share. Fairness is not an economic concept. If you want to talk fairness, you have to leave the department of economics and head over to philosophy.

Continue reading "Principles of Taxation: What is a Fair tax?" »

Saturday, July 14, 2007

Church Attendance and Supply-Side Economics

When did supply-side economics come to mean breaking up monopolies to increase competition? I don't know whether increasing competition among churches increases membership or not, and the fact that religion is involved here is coincidental, but this is not supply-side economics as claimed in the article. This is nothing more than the standard result that increasing competition improves market outcomes:

In Europe, God Is (Not) Dead, by Andrew Higgins, WSJ (free): ...After decades of secularization, religion in Europe has slowed its slide toward what had seemed inevitable oblivion. There are even nascent signs of a modest comeback. Most church pews are still empty. But belief in heaven, hell and concepts such as the soul has risen in parts of Europe, especially among the young...

God's tentative return to Europe has scholars and theologians debating a hot question: Why? Part of the reason, pretty much everyone agrees, is an influx of devout immigrants. ... At the same time, anxiety over immigration, globalization and cutbacks to social-welfare systems has eroded people's contentment in the here-and-now, prodding some to seek firmer ground in the spiritual.

Some scholars and Christian activists, however, are pushing a more controversial explanation: the laws of economics. As centuries-old churches long favored by the state lose their monopoly grip, Europe's highly regulated market for religion is opening up to leaner, more-aggressive religious "firms." The result, they say, is a supply-side stimulus to faith.

"Monopoly churches get lazy," says Eva Hamberg, a professor at Lund University's Centre for Theology and Religious Studies and co-author of academic articles that, based on Swedish data, suggest a correlation between an increase in religious competition and a rise in church-going..."

Upstarts are now plugging new spiritual services across Europe, from U.S.-influenced evangelical churches to a Christian sect that uses a hallucinogenic herbal brew as a stand-in for sacramental wine. Niklas Piensoho, chief preacher at Stockholm's biggest Pentecostal church, says even sometimes oddball, quasi-religious fads "tell me you can sell spirituality." His own career suggests that a free market in faith is taking root. ...

The enemy of faith, say the supply-siders, is not modernity but state-regulated markets that shield big, established churches from competition. In America, where church and state stand apart, more than 50% of the population worships at least once a month. In Europe, where the state has often supported -- but also controlled -- the church with money and favors, the rate in many countries is 20% or less.

Continue reading "Church Attendance and Supply-Side Economics" »

Friday, July 13, 2007

Paul Krugman: An Unjustified Privilege

Paul Krugman urges Democrats to close the loophole that allows Warren Buffet to be taxed at 17.7 percent while his receptionist is taxed at around 30 percent:

An Unjustified Privilege, by Paul Krugman, Commentary, NY Times: During the 2000 presidential campaign, Ralph Nader mocked politicians of both parties as “Republicrats,” equally subservient to corporations and the wealthy. It was nonsense, of course: the modern G.O.P. is so devoted to the cause of making the rich richer that it makes even the most business-friendly Democrats look like F.D.R.

But right now, as I watch Senate Democrats waffle over what should be a clear issue of justice and sound tax policy..., I’m starting to feel that Mr. Nader wasn’t all wrong.

What’s at stake here is a proposal by House Democrats to tax “carried interest” as regular income. This would close a tax loophole that ... basically lets fund managers take a large part of the fees they earn ... and redefine those fees, for tax purposes, as capital gains.

The effect of this redefinition is that income that should be considered ... ordinary income taxed at a 35 percent rate is treated as capital gains, taxed at only 15 percent instead. So fund managers get to pay a low tax rate that is supposed to provide incentives to risk-taking investors, even though they aren’t investors and they aren’t taking risks.

For example, the typical hedge-fund manager ... gets a fee equal to 2 percent of the funds under management, plus 20 percent of whatever his fund earns. It’s not exactly straight salary, but none of this income comes from putting his own wealth at risk. Except for the fact that he might make a billion dollars a year, he resembles a waitress whose income depends on a mix of wages and tips, or a salesman who lives on a mix of salary and commissions, more than he resembles an entrepreneur who sinks his life savings into a new business. ...

There’s a larger question one could ask: should we even be giving preferential tax treatment to true capital gains? I’d say no, because there’s very little evidence that taxing capital gains as ordinary income would actually hurt the economy. ...

But even those who ... think the special treatment of capital gains is justified, should be able to agree that treating the income of fund managers differently from ... everyone else who works for a living makes no sense. And that’s why it’s very disheartening to read that prominent Democratic senators are taking seriously the claims of fund managers that making them pay taxes like regular people would discourage risk-taking.

The immediate response should be: what risk-taking? ...

Look, this isn’t about envy, about punishing success. ... [C]losing the carried interest loophole should be a simple question of fairness: other Americans also earn their pay, but they don’t get special tax breaks. Plus, we’re talking about a lot of lost revenue due to that loophole — revenue that could, for example, be paying for the health care of tens if not hundreds of thousands of children.

And since we’re living in the real world of politics, there’s also the Republicrat issue: the hesitation of the Senate Democrats is terrible for the party’s image. It conveys the impression that they’re as beholden to hedge funds, one of the few types of businesses whose campaign contributions strongly favor Democrats, as Republicans are to the oil and drug industries.

So here’s a plea to Democratic senators on the fence: do the right thing and close this unjustified tax loophole.

Previous (7/9) column: Paul Krugman: Health Care Terror
Next (7/16) column: Paul Krugman: The Waiting Game

Yet Again, Tax Cuts Do Not Pay for Themselves

The Wall Street Journal says Kevin Hassett has discovered the Laffer curve, but I think these data might say something else. Here's the picture from the editorial where they are making their usual plea for more tax cuts:


The blue line is supposed to be the Laffer curve, but this is far from compelling. Since it looks like all that's been done here is to draw a line through an outlier, Norway (an outlier that in other contexts we are told to ignore because it is an outlier, e.g. see below), and since this is clearly not the best fitting line to these data, here's another possibility:


I haven't actually run the regression, but it looks clear to me that revenues rise with tax rates, and the fit also looks better than in the first graph. Toss out Norway, and the fit looks even better (and to quote The Economist blog on this point, "Throwing out Norway...").

I know how much supply-siders want to find a Laffer curve, they've become frustrated going this long without success. But if they really think one exists they'll need to keep looking because they haven't found it yet. [Update: Max has estimates.][Update: Response(s) to a post at The Economist's blog,  Free Exchange.]