Tax Realism

The numbers shown in this graph (from [1]) are appealing to my skeptical mind. While democrats believe that taxes (particularly on the rich) can always be increased to get more revenue and republicans try to argue that increasing taxes (particularly on the rich) actually reduces revenue, the reality is that... tax rates don't have much effect at all:



Over the 60 years shown in the graph, tax rates fluctuated enormously (between ~90% and ~25%). Yet tax revenue to the government as a percentage of GDP stayed almost always at 15-20%.

One idea I like, at least to focus the debate properly, would be to mandate that tax revenues are to be fixed at, say, 18% of GDP. Some advantages of doing so would be the following.

1. It reminds everyone that we don't have a limitless supply of money. There is a fixed percentage of GDP that can be spent on services, and so the only question is how we will divvy that up.

2. On the other hand, we can increase the amount of tax revenue in absolute terms by increasing GDP. Hence, this gives even big-government types an incentive to be pro-growth.

3. One other approach to increasing tax revenue is to switch to more efficient taxes. Hence, this gives big-government types a reason to like some of the tax proposals typically supported by pro-growth types. It's worth pointing out that European countries tend to have more efficient tax schemes than the US already, while they also tend to have more government services, so this scenario is not as outlandish as it may sound.

[1] http://www.deptofnumbers.com/blog/2010/08/tax-revenue-as-a-fraction-of-gdp/

Hard Heads, Soft Hearts

I just finished reading Alan Blinder's excellent book "Hard Heads, Soft Hearts" (1987).  It is interesting, well written, and at times, laugh-out-loud funny.  For example, this comes amongst his withering criticism of supply-side economics (p. 87):

The supply siders had learned their history lesson.  Monetarism had stormed the Keynesian castle with statistical evidence, but little theory.  Rational expectationists had attacked with a powerful new theory, but no evidence.  Combining the best features of both tactics, supply siders armed themselves with neither theory nor evidence....  It proved to be an effective arsenal.

Here are a few of my highlights:

1. The book has a chapter on taxes, which mentions the regressive nature lower tax rates on capital gains (as I mentioned here).  He also notes that the gap between capital gains and income taxes is abused in many tax shelters and that deductions for business expenses of travel, dinners, etc. are also quite regressive.


2. His chapter on protectionism has some new points.  Readers with an economics background will know that protection for one industry usually comes with (even larger) costs paid by consumers across the country.  However, Blinder also points out that other workers can also lose out.  This occurs when the output of one industry is input to another.  For example, tariffs on steel increase prices to auto companies, so we may trade auto jobs for steel jobs.  This also occurs when other countries retaliate with protectionist measures aimed at other industries.  For example, rather than increasing tariffs on our steel (where they are already winning), they raise tariffs on our computer software (where they are losing), so we trade computer jobs for steel jobs.  Thus, the total cost to the economy is often larger than the wages of the jobs we are supposedly "protecting".  Blinder references a study showing, for example, that saving one auto job costs over $100K per year to the rest of us.


3. Finally, in politics, he notes that the special interests often win out because the benefits to them are visible while the costs to the general interest are hidden, or in Blinder's eloquent words, because "the benefits are concentrated, visible, and well understood, while the diffuse, subtle, and barely visible costs are sprinkled like a light mist across the electorate".  He describes how the 1986 tax reform succeeded by requiring those costs to be visible.  Specifically, since the tax changes were required to be revenue neutral, any deduction for a special interest had to be paired with a tax increase somewhere else.  This caused nearly all proposed amendments benefiting special interests to be voted down.

Difficult Facts About Marginal Tax Rates

This article presents some difficult facts for those who argue that government should pay for new spending by only increasing taxes on the rich (e.g., only increasing the top marginal tax rate). The data show that the top marginal tax rate has little if any relationship to tax returns, which appear to always stay at 16-20% of GDP.

The author argues, then, that tax rates should be set so as to best spur economic growth, i.e., to increase GDP. While that certainly makes sense, it does not by itself argue that the latter is best accomplished by cutting taxes on the rich. Tax cuts of an equal dollar amount could be given to the middle class, for example. It would be interesting to see data about how tax rates on different different income levels increase economic growth.

Whatever those results, say, however, they must be balanced against issues of fairness, of course. None would argue that we should give tax cuts, say, only to the rich.

Difficult Facts About the Housing Crisis

This article points out some facts that are "difficult" to those who (like the author and myself) accepted the arguments that the housing crisis occurred because of the community reinvestment act (CRA) or the actions of regulators on Fannie and Freddie. Those facts are that the housing bubble occurred simultaneously in many nations outside of the US, where neither the CRA nor Fannie and Freddie had substantial effect.

Two causes that still seem like possibilities are:

1. The long period of low interests rates enacted by the fed. This conceivably could have affected foreign countries as well, given how much foreign money is invested in the US.
2. Irrational exuberance or other psychological factors.

Of course, having just seen other perfectly reasonable explanations proven false, some humility about our power to find the truth through reason (in absence of all the facts) is certainly in order.