Friday, April 15, 2016

Leaders on Corporate Taxes: Misleading or Misinformed

Though I don't assume Sen. Bernie Sanders will be the Democratic Party nominee for president, I do assume the next president will respond to populist outrage against corporations (especially those in the financial sector). As a result of this populism on the left and right (Tea Party and Occupy having the same vitriol for Crony Capitalism), there is little hope for meaningful corporate tax reform.

Ignorance (or feigned ignorance) on issues of economics seems to underpin the campaigns of all four leading candidates as we enter the "home stretch" of primaries. From Donald Trump swearing to raise taxes to 30 percent on companies that leave the United States to Bernie Sanders claiming that we must shift the tax burden (income taxes are already progressive, the "burden" tends to be sales and other local or state taxes that do penalize the poor, not income tax).

The United States needs tax reform, of both the personal (household) income tax system and the corporate earnings tax system. Both need to simplified, condensed, and made more equitable by favoring only those struggling in the truest sense. Though this post focuses on corporate taxes, I want to point out the obvious: the home mortgage deduction and other middle-class favorites have equivalents in business. You cannot argue for equity while taking advantage of your own special interest deductions and loopholes.
Elizabeth Warren's Tax Warning
She orders Democrats not to make the U.S. tax code more competitive.

The Wall Street Journal
Nov. 20, 2015 6:26 p.m. ET

Sen. Elizabeth Warren (D., Mass.) … says the problem with the U.S. corporate tax code is "not that taxes are far too high" but that "the revenue generated from corporate taxes is far too low." She points out that while the U.S. federal rate on corporate income is 35%, the average effective tax rate that U.S. companies actually pay, after various deductions, exemptions and credits, is 20%.
Okay, Senator Warren, if the rate isn't the problem, clearly the deductions and loopholes are the problem. Close the loopholes, end the deductions, and then lower the rates to be more competitive, especially for small and mid-sized companies without armies of tax lawyers.

Also, I'm never one to argue that revenues in the United States are too low. They are not too low. We spend too much and we spend in idiotic ways. The budget process makes ending bad programs or programs no longer needed nearly impossible. We should spend more on infrastructure. We should spend less on defense. Our priorities are wrong, not our tax revenues.

Faced with stupid tax laws, many businesses keep foreign revenues abroad. This is a logical move. If I make widgets for Europe in Europe, why not keep the revenues there as well? Then, any need for expansion, research, marketing, and so on is funded by income from that region. The notion that a company somehow owes the United States everything, no matter where it is manufacturing and selling goods, is absurd.

Also, many smaller companies no longer go public. Going public is expensive thanks to Dodd-Frank and other regulatory hurdles. Just stay private. Don't form a corporation at all, if you can avoid it as a small company.
Ms. Warren… tries to steal a base by claiming that over the years corporations have been paying a smaller and smaller share of federal taxes. This is true, but as Kyle Pomerleau of the Tax Foundation notes, "the underlying reason is not tax avoidance. The reason is that there are fewer corporations. For the past few decades the number of pass-through businesses have greatly increased in number." These businesses pay through the individual income tax code. Their taxes are no longer counted as corporate tax revenue.
The Massachusetts Senator also says that most of the developed countries in the OECD collect "higher corporate tax revenues as a share of GDP than we do." Since they all have lower rates, shouldn't that tell her something?
Senators Warren, Sanders, Cruz, and former Senator Clinton all like to complain about companies trying to merge with foreign partners, allowing these corporations to move their legal residency abroad. Donald Trump is also upset with these tax inversions. First question: What have you done as senators to simplify taxes and encourage companies to move to the United States from other nations? Oh, that's right. Nothing. You've done nothing but use the issue as a campaign slogan.

You want companies to stay in the United States? You want other companies to relocate here? Make the United States more competitive. We're actually less free economically than many European and Asian nations, which manage to be "democratic socialists" with fewer regulations. How in the world did that happen?

Those of you stuck in the Senate after this election, do something positive. Work with the House to simplify taxes and close loopholes. End deductions. Make it clear to any adult able to read and perform basic math how much a company owes in taxes. It shouldn't take an army of lawyers to comply with federal tax law.
"Right now U.S. companies can pay a lower rate by investing overseas instead of in the U.S.," said Ms. Warren…. That is exactly the problem. And tax reform to make U.S. rates competitive in a simplified system that doesn't favor the corporations with the best lobbyists is the solution. 
But don't expect Sen. Warren to propose anything like that. It would require moving too much power out of Washington. As the heartthrob of progressives, she expects her remarks to be ideological marching orders to Senate Democrats and Hillary Clinton. In attacking even the chance of reform, she is endorsing corporate inversions and the movement of American jobs and capital overseas.
The Wall Street Journal is correct, though. Nothing is going to change. That would make too much sense and take away a great campaign speech talking point.

Wednesday, March 2, 2016

In the One Percent? Probably not for long...

My wife and I have been in the top ten percent off and on for a few years. We've even made it, briefly, into the top five percent. And, like most people in those "upper-class" categories, we quickly fell back out of the top tier of households. 

Why is that? 

For one thing, high incomes tend to be temporary "blips" related to "good years" for some professions. The highest earners are not salaried workers with steady, predictable incomes. Instead, the highest earners are glorified freelancers: doctors, lawyers, consultants, and other specialists. 

Some years are great for professionals. You might have an unusual number of surgeries if you're a doctor. Maybe you win a windfall case if you're a lawyer. A consultant lands one great contract. The money flows in for that year and you stash some away. Because, as the upper-middle knows, that one year is pretty rare. 

Eleven percent, slightly more than one out of every ten adults in the United States, will be in the One Percent for at least one year. Think about that. That's a lot of people making it to the highest income bracket. Though the top tenth of a percent of wealthy (not earners) are much wealthier than the top one percent of earners, we'll stick to income for this discussion.

As CNN reported in January, 2016:
No one stays in the Top 1% for long
by Tami Luhby   @Luhby
January 7, 2016: 8:15 AM ET
Made it into the Top 1%? Congrats!
Just don't expect to stay there for very long. 
The Top 1% is often considered an exclusive, monolithic group, but folks actually rise up into it and fall out of it quite often. That's because their incomes can vary widely year to year. 
Some 11% of Americans will join the Top 1% for at least one year during their prime working lives (age 25 to 60), according to research done by Thomas Hirschl, a sociology professor at Cornell University. But only 5.8% will be in it for two years or more.  
As for holding onto this status for at least 10 years? Only a miniscule 1.1% of Americans are this fortunate.
So, the One Percent this year isn't the one percent of next year. In ten years, nine out of ten of the current one percent won't be in that category. Welcome to mobility: it goes both directions. 

We have a dynamic economy. There is mobility, though that mobility is obscured by the much wider range of income in the United States versus Europe. Reaching our "upper-middle" would be like reaching the top one percent of most European nations. And, for something to consider, the "wealthy" of Greece rank just below the median income in Alabama. That's right, Alabama's middle-class residents are much better off than Greece's middle class. 

Dynamic income brackets, especially at the top, are U.S. phenomena. Most of our economic mobility is up and down between the four top quintiles since 2007. The bottom hasn't fared so well. Still, the top is dynamic, contrary to what many people assume.
"Affluence is dynamic, said Hirschl, who calculated that it took $332,000 to get into the Top 1% in 2010. "The 1% really isn't the 1%. People move around a lot." 
Think of it this way. Ninety-seven percent of the One Percent won't be there in ten years. Creative destruction at work.
The IRS looked at how frequently the same Top 400 taxpayers appeared on the list over a 22-year period ending in 2013. Some 72% ranked that high for just one year. Only 3% were listed for a decade or more. 
"People feel it's a fixed club and no one else can get in, but that's not the case," said Mark Perry, resident scholar at the American Enterprise Institute. "Once you get there, it's not easy to stay there." 
Lots of research reveal that those great years of income are rare. If you make it to the top, save that money!

Friday, January 29, 2016

SF Fed Report: Min Wage Increases Ineffective vs. Poverty

I'm not a huge fan of the minimum wage, but I also admit it isn't going away. It's a feel-good public policy that some nations embrace with complex brackets (Australia indexes for age of worker) and others simply don't have at all. There's little economic correlation between the minimum wage and job creation, because the wage tends to trail earned wages in skilled trades.

Which nations don't have legal minimum wages? How about Denmark, Iceland, Norway, Sweden, and Switzerland! Germany has regional minimums, handled by local governments, just as many states in the United States set their own minimums.

How can it be that social democracies don't have minimum wages? They have a history of employee ownership, through unions with board seats at companies. The United States lacks a similar history of corporate-union or even government-union cooperation. Our unions are more adversarial. (Maybe they should try another approach; it might increase wages and influence.)

The Federal Reserve Bank of San Francisco studied the minimum wage (yet another minimum wage study) and found it has negligible effects on poverty or employment. Basically, increasing the wage costs some job creation and helps the working children of middle-class and upper-middle-class families earn some extra cash. That's not a bad thing for college students, but not a great thing for unskilled people in poverty… many of whom don't have jobs!
Hiking minimum wage won't stop poverty: Fed paper
Jeff Cox
Wednesday, 30 Dec 2015 | 1:47 PM ET

David Neumark, visiting scholar at the San Francisco Fed, contends that raising the minimum wage has only limited benefits in the war against poverty, due in part because relatively few of those falling below the poverty line actually receive the wage.

Many of the benefits from raising the wage, a move already undertaken by multiple governments around the country as well as some big-name companies, tend to go to higher-income families….
It seems counter-intuitive, but I've written about his before. Minimum wage tends to be temporary and most of its earners are the high school and college-aged children of middle-class parents. Yes, there are single parents earning minimum wage in fast food jobs, but they are statistical outliers, not the norm.

Thinking back, when I was in high school almost everyone had a retail or food industry job. In college, we were the shift-managers and lead clerks. I worked at K-Mart, for example, and earned a raise every summer. I earned minimum wage for only six months. Though anecdotal, my experience reflects the statistical evidence.

The children of the middle class are able to get to and from jobs. They have some skills and want to build their resumes. Basically, entry-level workers are headed for better jobs.
Demographically, about half of the 3 million or so workers receiving the minimum are 16 to 24 years old, with the highest concentration in the leisure and hospitality industry, according to the Bureau of Labor Statistics. Moreover, the percentage of workers at or below the minimum is on the decline, falling to 3.9 percent in 2014 from the most recent high of 6 percent in 2010.
What about the poor? Believe it or not, 57 percent of families living in poverty don't have a single wage earner. That's astonishing to some people, but the fact is that the poor don't work (at least not for legal wages). That's a serious problem because if they don't work minimum wage jobs, they'll never develop the skills for higher paying jobs.
Neumark also points out that many of those receiving the wage aren't poor — there are no workers in 57 percent of families below the poverty line, while 46 percent of poor workers are getting paid more than $10.10 an hour, and 36 percent are making more than $12 an hour, he said.
The unemployed poor is a global problem, especially in some European nations and the United States. We have a lot of poor without the skills to hold minimum wage jobs. Even the lowest paying jobs require more and more skills as technology advances.

If we want to address poverty, we're back to education and personal responsibility. Other nations have extensive safety nets, yet they still have this same problem. Poverty becomes a cycle, as families don't develop successful habits. How do we teach the skills necessary for self-advancement? That's going to be an increasingly important question this century.

Some of my visitors have suggested in comments that the German wage and employment model would solve many other problems, not just wealth inequality. The problem is, there's no evidence that free education or employee-owned companies have decreased inequality in Germany. Nor have these policies led to better corporate citizens.

In Germany, Volkswagen has employee and regional board members. This model, widely adopted, provides leverage to negotiate higher salaries. VW is also evidence that employee and government board seats don't equal ideal corporate behavior, despite government and union ownership stakes.

The evidence is cloudy, though there's just nothing to suggest increasing wages through mandates or other means (stronger unions) will have an effect on poverty or inequality.

My fear is that wages will be increased nationally based on high-cost states and urban areas. I doubt that will happen, though, because most people do realize $15 in rural Pennsylvania or Alabama isn't the same as $15 in New York City.

More costly employees have to be worth the expense to any business. As a result, companies might avoid hiring the very people a higher wage was meant to help. Instead of hiring an inexperienced worker, I might higher a retiree or a college student. As higher-wage employers know, you get better employees for the money. That's not a bad thing.

One solution is not a higher starting minimum wage, but a bracket approach with guaranteed raises after six months and one year. This would encourage people to stay at jobs and encourage employers to invest in their workers. I dislike the idea of mandating this approach, nationally, but it might be a good compromise.

Friday, January 22, 2016

The ‘Hollowing’ of the Middle Class

The narrative is set, and as a rhetorician, I appreciate the value of a good story in shaping public debate.

The rich are getting richer, the poor are getting poorer, and many of the middle class are being pushed down into the lower-class. It's a sad story, a compelling story, and in some important ways it is a fiction.

Yes, the middle class is shrinking. That should concern us. But what if the shrinking middle class is as much a result of people moving into the upper class as it is a result of others moving down the social ladder? In fact, some research shows there are more people moving from the middle into the upper income brackets, leaving a smaller middle class — but not for the reasons being promoted by the media and politicians.

Exceptions in the media coverage exist, as they do in little tiny dimly lit sections of academia. Readers know I enjoy Robert Samuelson because he digs deeper into statistics than other newspaper columnists.
The 'hollowing' of the middle class?
Despite the top 1 percent's outsize incomes, most still see an upward march of living standards.
By Robert J. Samuelson
January 3 at 8:04 PM ET

We'll be hearing a lot about the middle class in the coming months. That's one sure bet for 2016, as both parties compete for votes. What's less sure is whether we'll get an accurate assessment of the middle class's condition. By now, the conventional wisdom is familiar: The top 1 percent has skimmed most income gains for itself, producing decades of stagnant living standards for most Americans. Wall Street has slaughtered Main Street.
Data from the Pew Research Center raises questions about the popular narrative. It challenges assumptions about why the middle class is shrinking and where its former members have gone.
Now comes a report from the Pew Research Center that paints a more complex picture. It's not that the Pew study contradicts all the conventional wisdom. It finds (as have others) that economic inequality is increasing.

In 1971, about 61 percent of adults lived in middle-income households (defined as three-person households with incomes from $41,869 to $125,608 in today's dollars). By 2014, that share had dropped to 50 percent. Meanwhile, the share of low-income households (households with incomes of $41,868 or less) grew from 25 percent to 29 percent, and the share of upper-income households (incomes above $125,608) increased from 14 percent to 21 percent.
Read the above carefully. There was a 4 percent increase in the low-income concentration, but a 7 percent increase in the upper-income households. In other words, nearly twice as many people left the middle class by moving upwards as left the middle on their way to the lower-income set.

This isn't great news, but it shows that what is really happening is that the middle is being redistributed in two directions. My wife and I went from the middle to the upper over the last ten years. Like many of our peers, we are two college-educated professionals with graduate degrees and technical skills. Households like ours (married, two-incomes, highly-educated) moved up the income distribution graph.

Meanwhile, our friends without college degrees, especially our single friends without specialized skills, slid backwards quickly during the last decade. The period from 2005 to 2015 was a lousy time to be on the wrong side of the skills divide. It's particularly difficult for single parents to obtain the credentials to advance economically, for a variety of reasons. There are always exceptions, but statistics indicate single parents without college degrees were among the most displaced formerly middle-class households.

However, if you managed to stay in the middle class during the last ten years, your quality of life and your income probably improved.

The Pew Research Center's findings include this:
The news regarding the American middle class is not all bad. Although the middle class has not kept pace with upper-income households, its median income, adjusted for household size, has risen over the long haul, increasing 34% since 1970. That is not as strong as the 47% increase in income for upper-income households, though it is greater than the 28% increase among lower-income households. see
You wouldn't know it from media coverage, but middle-class household incomes actually increased by a third since the 1970s. That is adjusted for household size and inflation.

Samuelson believes this might be a positive sign for the future. The Great Recision might be an anomaly, favoring the most educated in our economy. Things might return to historical norms, if we're lucky. Personally, I disagree with this optimism because automation and algorithms are likely to disrupt the economy much more in coming years. Still, it would be nice if everyone advanced more evenly in the future.

Samuelson offers his own prescription for the future:
We need a prudent agenda — not a vendetta against the rich or the poor but a purging of policies that abet inequality with few offsetting benefits. Tax breaks that favor the rich, starting with the infamous "carried interest" subsidy, should be abolished. Limits on unskilled immigrants, who inflate the ranks of the poor, should be enacted as part of comprehensive immigration legislation. Half of Hispanic immigrants have low incomes, Pew says.
I disagree on principle with limits on movement between nations. We attract workers to the United States because we do have a vibrant economy and culture. Closing our borders won't fix inequality or address concerns about related social disparities.

Still, I agree that we need a saner, more equitable tax system without the absurd deductions and exceptions that benefit the upper-middle and upper-class households. (At the same time, as I have repeatedly posted, we are stuck with an income tax. That's just the way the Constitution is.)

Education remains key, along with stable households. Until we address the skills gap, we cannot address other forms of inequality of opportunity. And, offering more equitable opportunity isn't going to produce equal results because people will never achieve equally — for many reasons.

Friday, January 15, 2016

90% Tax Rate vs. Effective Rates

This campaign season in the United States is already producing some meme myths on social media. One I keep seeing is the "90% tax rate" myth. Often, the responses prove people don't understand the marginal rate system of the U.S. income tax. Another meme that does reflect marginal rates claims there was a 70 percent effective tax rate. That's not quite reality, either, though. (It is, and it isn't, as I'll try to explain.)

The most popular blog posts on Almost Classical remains The 90% Tax Rate Myth, in which I explain effective rates vs. top marginal rates and the relative stability of top rates excluding outliers of less than 10 tax filers. That’s necessary because some of the “top tax rates” would have applied to… ONE PERSON.

As I wrote in that old post:
As a result of deductions and exclusions, even the theoretical maximum Real Rate of taxation at 60% in 1944 overstates taxation dramatically. The reality? On earned income, the richest U.S. taxpayers paid close to 40 percent of their earned incomes in taxes in 1944. We simply didn’t count much of the compensation as taxable income. 
“The rich” don’t earn money via income. They earn money through capital gains on investments and through tax-free instruments like municipal bonds. If you invest millions in tax-free bonds, financing government projects, you shelter all that income from taxes. And the wealthy do just that.

Until 1968 the top capital gains tax rate was 25 percent. Think about that. If you had no “income” but played the market, your tax rate in this mythical time of high taxes was 25 percent, not 90, 70, 50, or even 40 percent.

From 1942 until 1954, you could exclude half your gains form taxes, if you held stocks or bonds for more than six months. At that time, day trading wasn’t done and the average stock was held for nearly seven years. That means most stock owners (the wealthy) exempted huge portions of capital gains from taxes.

Also, remember that gains are taxed only when stocks are sold. When capital gain rates are higher, people simply hold their stocks until rates fall again. This was a lesson learned when rates were raised in the 1970s. A wave of capital gains were realized in the 1980s, when the tax rate was lowered. (There were other issues in the 1970s, too, like a serious recession and a flat market that didn’t recover well into the 1980s.)

See the Tax Policy Center data sheets on capital gains taxes.

From 1958 until 1964, roughly 80 percent of federal income tax came from the 16 to 28 percent bracket. That has fallen, but rate shifts and changing brackets make it difficult to compare brackets over time.

From 1982 on, there hasn't been a 50 percent top bracket, for example, so those payers have been shifted to lower brackets. Even at their peak, the 50 percent bracket was never more than 8.3% of income tax collection, but recall that those individuals paid into all the lower marginal brackets, too.

The 1 to 15 percent bracket has held steady since 1987, when consolidation and changes to code pushed people from higher brackets into this lower bracket exclusively. Changes reduced the number of people paying across the brackets.

Since 1987, a median of 45 percent (and mean slightly higher) of taxes have been paid at the lower bracket. However, that has fluctuated wildly. The upper bracket(s) (25 and above) have increased from 7 percent of tax revenues to roughly a quarter.

Now, remember that the wealthy, men like J. P. Morgan, loaned (and still loan) local, state, and federal government massive sums through the purchase of bonds. That means that if you diversify investments and include bonds in the mix, your effective capital gains tax rate can be reduced significantly.

Wealthy people don’t receive paychecks for the majority of their wealth accumulation. Their wealth accumulates as stock, bonds, and property holdings. That all reduces their tax liability. While the average person cashes a check and pays off portions of debt, the wealthy get wealthier with “no income” (like Steve Job earning $1 at Apple).

This is all complicated by the 16th Amendment to the U.S. Constitution that lays out an income tax. That’s what we have at the national level, excluding tariffs and fees. We can’t tax wealth, as is done elsewhere. At the state and local levels, some amount of wealth is taxed through property taxes.

The analyses of several respected economists have debunked the 70 percent claim, which makes the rounds on various media sites. The IRS calculated a theoretical max of 70 percent for a single filer that year (seriously) and later research found that the highest effective rate was 49 percent -- significantly less than the 70 percent number you are citing.

From Bloomberg:
1950s Tax Fantasy

JAN 2, 2013 6:45 PM EST
By Amity Shlaes 
The Internal Revenue Service reckoned that the effective rate of tax in 1954 for top earners was actually 70 percent.
Or lower.
Marc Linder, a law professor at the University of Iowa, has shown that a more comprehensive interpretation of income that includes capital gains suggests the real effective tax rate for millionaires was 49 percent in 1953. The effective rate dropped throughout the decade, reaching 31 percent by 1960.
But, the Internet will continue to trade in the idea that there was a 90 percent tax rate or at least a 70 percent effective rate in some mythical time of the past. One mis-calculated IRS finding, based on excluding capital gains from the equation is not the reality of the 1940s or 50s tax system.

Thursday, January 14, 2016

Podcast Interview on iTunes

William Campbell was kind enough to include an interview with me in his podcast series, Challenging Opinions. To learn more about the series, visit:

Friday, January 8, 2016

Simplification isn't Helpful in Econ Discussions

Economics is not a simple discipline to understand. Yet, all around us are people claiming that complex economic matters can be as clear as "Econ 101" when debating public policy. Sorry, but Econ 101 doesn't answer anything and the rhetorical shorthand does the discipline (and policy debates) a disservice.

When you take an introductory class in any topic, from physics to programming, the concepts are necessarily simplified. It is like teaching a child to read. You start with phonics in English and tell the child that letters make sounds. Oops. But it isn't really that simple, is it? Phonetic rules change and words in English have complex etymologies. Rules you learn as a new reader quickly vanish or have to be understood as a small part of a complex flowchart.

Economic principles like "supply and demand" or "externalities" seem simple enough in the language and models of Econ 101. And then you head into the bushes and discover there are more "ifs" and "howevers" involved than you originally understood. Yes, higher taxes can dissuade consumption and production, but not always. Situations are contextual to cultures and times and models have to be adjusted. What seems like a high tax rate in one situation (recession, high unemployment) might be a low tax rate in another (peace, strong growth, tight labor market).

Tim Worstall wrote about this in November 2015. Critiquing "Econ 101" without understanding Econ 101 is a strawman argument, and probably several other fallacies all rolled together.
NOV 25, 2015 @ 06:59 AM
To Prove Econ 101 Is Wrong You Do Need To Understand Econ 101
Tim Worstall
It's entirely true that Econ 101 is not the end of the subject. That there's an awful lot of caveats that we would want to apply to the rather simplistic conclusions of the average introductory economics class. But then that's what Terry Pratchett pointed out education was: lies to children to help them make some sense of the world. When they become older, more capable of nuance, then we point this out to them: those previous stories were gross simplifications and now you need to know the caveats.
As we prepare to elect a president in the United States, complex economics will be presented as simple Facebook memes. Examples out of context will be used to generalize about the nation.

"Minnesota raised taxes and it's growing!" "Texas has reduced regulation and costs to businesses, and it's growing!" Both can be true, and both ignore the contexts of those states. Minnesota is ranked as one of the best places to live (overall) and one of the worst places to be a low-income person of color. Generalizations ignore ugly outliers. Economists and sociologists have found that in developed economies ("Western" nations) the lower the diversity in a place, the higher the "quality of life" for some reason. Utah and Minnesota feature statistical paradises with above average schools in homogenous neighborhoods. So what? What does that tell us about taxes and spending? Maybe that we're willing to live with higher costs the more alike we are. But that doesn't really answer the taxes vs. quality of life question overall.

Coming out of the recession, energy states boomed with high wages and new construction. As energy prices fall, those same states might suffer. State-level policies might have had little to do with the energy boom (and bust). Texas and North Dakota might have boomed, but did their elected officials control OPEC and North Sea oil production? No. They benefited from global events by sheer luck.

Econ 101 offers generalizations before taking more advanced courses and learning that models are complex. The GDP model for the United States is contained in 98 pages of documentation. That's not Econ 101. The models the Federal Reserve uses to debate interest rates are not Econ 101, either.

Expect "Econ 101" arguments about taxes, wages, regulation, immigration, and dozens of other topics. Expect this arguments to be misleading oversimplifications, too. Econ 101 isn't about reality. It is about teaching basic concepts that are later challenged and expanded in other courses.

The political winds in the U.S. are shifting, and we are possibly entering another "progressive" era for a decade or more (on domestic social issues). Then, when things happen and models break, national politics will swing back to the center-right (not that we ever go to the far left). "Econ 101" will be quoted in both directions, as we oscillate about the center. When a new war on poverty, war on crime, war on whatever doesn't work, Econ 101 will be cited, incorrectly.

Reality isn't a simple model. A colleague once told me that teaching Econ 101 is like telling physics students that e=mc^2 is more complex than it seems. Everybody in the lecture hall nods, but they still leave the class thinking e=mc^2 is simple, elegant, and captures everything you need to know about energy and mass.

I'm not a physicist, but I can appreciate how hard it must be to say that all those models in Newtonian physics are misleading. And Einstein's simple equation describing the relationship between energy and mass isn't that simple, either.

Politics (and journalism) don't lend themselves to twenty-page explorations of economics. That's a shame. Bumper stickers, memes, and misleading graphs will shape this election as similar simplifications have shaped past elections.

Friday, January 1, 2016

High Taxes = Wealthy Communities

One of the paradoxes progressives use to challenge libertarian ideals and conservative tax policies is that the wealthiest communities and cities have some of the highest local tax rates in the nation. Cities like New York and San Francisco are obvious examples, as are the suburban areas around Chicago, Los Angeles, and Washington, D.C. (also known for its concentration of Super Zips).

High local taxes usually correspond to school spending, which is funded in most states through property taxes. Local schools are almost private academies in many states and counties, particularly in areas without a history of private schools.

My wife and I are an example of this high-tax and wealth paradox, made worse by the natural sorting that occurs among classes. And, because wealth is generationally transmitted through culture, education, and property, this also contributes to racial sorting in most nations (as seen by studies of "egalitarian" Europe).

We live in a single-entrance, cul-de-sac neighborhood without a single connected loop. You have to turn around at a dead end to return to the entrance. It's a neighborhood of larger homes, and generous lots, in a "township" (a small subsection of a borough) with its own police, fire, and exclusive schools. The local county park has a gun range, two equestrian arenas, ice-rink, year-round tennis, and much more.

A third of our neighbors, maybe more, work for the schools, police, fire, hospitals, and so on. We are willing to pay higher taxes the same way we also pay a homeowners' association fee (which I still detest on principle, since the community provides most services). The taxes and fees we pay ensure the area maintains its high quality of life.

That high quality of life increases property values, making our neighborhood yet more exclusive. Our self-imposed taxes, therefore, support the things that maintain the "wealth" in our houses. Our wealth and our taxes are intertwined, because schools, parks, and public services make our township desirable.

This happens on the county city, county, and even the state level. Minnesota is a prime example of this on the large scale, like the Scandinavian countries from which many of its residents trace their roots.

Yet, Minnesota is also rated as one of the worst places to be low-income and, by no coincidence, African-American. The wealthy have segregated into beautiful urban neighborhoods in the Twin Cities, while North Minneapolis and parts of St. Paul are allowed to deteriorate. High taxes at the state level go to the parks, museums, and other cultural quality-of-life items.

When my wife and I lived in Minnesota, we enjoyed the parks, the museums, and the state arboretum. These are not the things residents of North Minneapolis enjoyed.

Living in a bubble, it is easy to forget that "higher taxes" that directly benefit you and protect your wealth, are a struggle for much of the middle class. The poor and lower-middle class cannot increase their own taxes enough to revive their failing schools. They cannot magically create beautiful parks with tree-lined trails and ice rinks.

Increasing taxes or wages seems like a no-brainer when you're a progressive in a wealthy community. But those taxes and wages might not work in a disadvantaged community.

Now, some will point out this is why we need federal programs. But, we forget that most tax and spending decisions affecting daily life are at the state and local levels. For a classical liberal like myself, that's generally a good thing. I want more say over how my community operates. But, this also reinforces a problem and continues inequality.

My solution is to decouple the key to wealth from local taxes: education. Education funding should be equalized as much as possible, so schools in my community, with its full-slate of AP and honors offerings, are not unique to the wealthier suburbs. Education correlates to future success, but it is funded in a way that almost ensures generational lock, reducing income mobility.

Yet, Democrats and Republicans alike resist ways to equalize schools, championing "local control" and "local support" because both business leaders and teachers unions like this current model.

For now, wealth and taxes are a feedback loop in our communities. We tax ourselves, willingly, and sometimes seek to impose these high taxes on people unable to afford them.

For this reason, I do support state-level control of education funding. Not federal control, but state-level funding equalization and standards.

Friday, November 20, 2015

Government Supporters, Giving it Extra Credit

One of the tendencies among progressives, and among statist conservatives, is to give government far more credit for invention and creativity than it deserves. They point to projects funded or supported by government as evidence of the value of larger, centralized projects, but they forget you cannot prove a negative.

Because government is so intertwined in modern innovation and basic research, it is nearly impossible to prove what would be happening without government. People have forgotten that that big projects, like the Transcontinental Railroad, were actually boondoggles that catered to political cronyism, not genuine innovation. (There were better managed, more profitable railways that were crushed by the federalization led by the robber barons.)

The market, left to its own, might fill gaps. We simply will never know.

My thoughts on this are prompted by too many people claiming we need more and more and more federal spending, supported by higher taxes on the "rich" who clearly don't deserve their money. Of course, the math doesn't work, if you've ever bothered to watch "Eat the Rich" on YouTube:

Anyway, let's get into the concept that government is why we have great things. There is a role for government: maintaining order, protecting freedom, enforcing contracts, and protecting property rights. We cannot have stable economic growth and innovation without a trustworthy and fair government to act as something like a referee.

But, do we need government for the actual creative and innovative processes?
Tech's Enduring Great-Man Myth
The idea that particular individuals drive history has long been discredited. Yet it persists in the tech industry, obscuring some of the fundamental factors in innovation.

By Amanda Schaffer on August 4, 2015
Hero myths like the ones surrounding Musk and Jobs are damaging in other ways, too. If tech leaders are seen primarily as singular, lone achievers, it is easier for them to extract disproportionate wealth. It is also harder to get their companies to accept that they should return some of their profits to agencies like NASA and the National Science Foundation through higher taxes or simply less tax dodging.

And finally, technology hero worship tends to distort our visions of the future. Why should governments do the hard work of fixing and expanding California's mass transit system when Musk says we could zip people across the state at 760 miles per hour in a "hyperloop"? Is trying to colonize Mars, at a cost in the billions of dollars, actually the right direction for future space exploration and scientific research? We should be able to determine long-term technology priorities without giving excessive weight to the particular visions of a few tech celebrities.

Rather than placing tech leaders on a pedestal, we should put their successes in context, acknowledging the role of government not only as a supporter of basic science but as a partner for new ventures. Otherwise, it is all too easy to denigrate public-sector investment, eroding support for government agencies and training programs and ultimately putting future innovation at risk. As Mazzucato puts it, "It's precisely because we admire Musk and think his contributions are important that we need to get real about where his success actually comes from."
Much of the above article relies on the 2013 book The Entrepreneurial State: Debunking Public vs. Private Sector Myths by Mariana Mazzucato. The book implies, somewhat simplistically for an economist, that federal government spending has created our technology revolution. Prof. Mazzacato, of the University of Sussex, acts as a cheerleader for government, ignoring or glossing over the more complicated relationship between private invention and public investment in those inventions.

Federal spending can and does support refinement of inventions and basic discoveries. That's wonderful. Research labs do work that might not be profitable (like large particle accelerators smashing atoms) and may not have immediate market applications. But to credit government with too much is also problematic.

People forget that the National Information Infrastructure Act came about because government really did NOT see the value of the Internet. I was working on DARPA projects at USC and the Feds were convinced the networks were a toy at worst and a little better than physical mail at best.

The trope in this and other articles that things would have happened without a Jobs or Case or Serf ignores that there is a creative act in seeing how parts fit together. Jobs was a jerk, especially during the Next years (we were testers for Next). But, he said things we thought were nuts that proved to be true (Display PostScript, optical media, and so on).

And just because the government is a customer and offers contracts for something does not make it the only funding source. Yes, basic research is a function of our research institutes and universities, leading to great things, but take 3D rendering. Hollywood has actually spent more on computer imaging than the National Center for Supercomputing. So, private "frivolous" spending AND government spending overlap.

A side point, most of the "great things" mentioned in this article and elsewhere were the result of military spending, seeking better ways to kill and avoid being killed. Even our highway system was a "military" Cold War expense. Pretty sad, in some disturbing way. Orson Welles in "The Third Man" comes to mind and his speech on war as the mother of invention.

Private people, the Wright Brothers, and others invented the powered airplane. Government, during the Spanish American and WWI, realized these airplane things could be used to spy on and maybe kill other armies. Pershing in 1916 convinced the U.S. government to suspend the Wright patents (see the new book on the Wright Brothers), which they had been defending from competitors (a bit foolishly, as eventually their company and the competition would merge).

Lots and lots of money was spent "improving" airplanes to kill better. Guns, bombs, sights (telescopes), gear chains, and other technologies that ALREADY existed, were combined by government contractors (here, Germany, elsewhere) to create fantastic flying killing machines.

The "government" is given credit for these innovations, which government did fund… for better or worse. Meanwhile, what opportunities were lost in civilian application? We don't know. Can't prove a negative.


Already existed. Government wanted faster ways to calculate trajectories and targeting data. Government invested in ALREADY EXISTING technology to improve it for the purpose of… killing more people! Yeah! And, we now give government credit for innovations that BUILT ON existing technologies created to calculate financial transactions (National Cash Register, International Business Machines) that turned out to be great at doing the math needed to lob bombs at people.

And on and on. Existing technologies receive government money to improve their killing / defense potential and people mistakenly give "credit" to federal spending for more than the improvements and evolutionary advancements made.

There are examples of "pure" federal research. Definitely. But not as many in technology as people want to believe. Drones? Private first, and then the government realized they could be used to kill. Blimps? Private turned military (and still used today by the Navy). GPS was based on a private concept, but the federal government (until recently) didn't allow private application. (There's a law about exporting or using potential military technology… amazing how that limits private industry and ensures government "innovation" of some technologies. Remember, Apple couldn't export the G5 PowerMac originally. It had "military" uses.)

Friday, November 13, 2015

Taxes, Inequality, Debt, and Deficit

A September 2015 report from the Brookings Institute demonstrates that significant increases in top marginal tax rates would have minimal effects on both income inequality and the federal budget.

This report was prepared by William G. Gale, Melissa S. Kearney, and Peter R. Orszag. It should be stressed that Orszag was Pres. Obama's director of the Office of Management and Budget and a former director of the Congressional Budget Office. Nobody can claim Orzsag is a conservative or libertarian — he is an excellent analyst.

Read the report here:
A larger hike in the top income tax rate to 50 percent would result, not surprisingly, in larger tax increases for the highest income households: an additional $6,464, on average, for households in the 95-99th percentiles of income and an additional $110,968, on average, for households in the top 1 percent. Households in the top 0.1 percent would experience an average income tax increase of $568,617.

How would these reductions in after-tax income affect overall income inequality? To answer that question, we calculate the Gini coefficient on the full distribution of post-tax income under the three different tax policy scenarios. (The Gini coefficient is an index that ranges from 0, if everyone had the same earnings, to 1, if a single person had all the earnings and everyone else had none.)

Perhaps surprisingly, increasing the top marginal tax rate [from 39.6] to 45 percent or 50 percent has a trivial effect on overall income inequality. This can be seen in Table 1 below. Under current tax provisions, the after-tax Gini coefficient is .574. This compares to a Gini of .610 calculated over pre-tax income. Raising the top income tax rate to 45 percent reduces the Gini coefficient only from .575 to .573. Raising it to 50 percent brings the Gini to .571. If the 50 percent top tax rate is applied to income only above $1 million for married filers and $750,000 for single filers, the resulting Gini is .572.
Statistically, the results are insignificant in reducing income inequality. Raising taxes might feel good, but it accomplishes little. More importantly, you cannot really raise taxes on the highest earners and then cut lower-income taxes because doing so would not improve the fiscal situation of the United States.

The federal government is broke. Beyond broke. As of the moment I'm writing this post, these are the dark facts of U.S. finances:

Debt as of Nov. 12, 2015: $18.6 TRILLION

Deficit for 2015 (to date): $433 BILLION ($426 billion was forecast in 2014. Ooops)

But raising the taxes on the rich to a 50 percent rate? That would raise only $95.6 billion, not even a quarter of the deficit. Forget any new spending. The tax increase would likely have no net effect, either, because generally Democrats and Republicans call for lower taxes on the middle and lower-income brackets to accompany higher taxes in the upper brackets. If anything, we tend to increase the deficit when making adjustments to rates and tax breaks for the first four quintiles.

Here are the numbers from the Brookings report:
Increasing the top rate to 50 percent with the same redistribution scheme would bring in an additional $95.6 billion in revenue, leading to an additional $2,650 in post-tax income for the bottom fifth of households. Applying a new top rate of 50 percent to income above $1 million for married filers and above $750,000 for single filers would bring in an additional $63.5 billion in revenue, which would result in $1,760 in additional post-tax income for households in the lowest quintile.
It isn't that we shouldn't adjust taxes: someone has to pay for the debts of this nation. But the point is that we are so broke that only cutting spending would have a significant effect on the debt or deficit.

Assuming you did increase the top marginal rate to 90 percent, you might (and only might) raise up to $160 billion per year, assuming the wealthy only exploit a minimum of loopholes (good luck with that assumption). That $160 billion? That would not come close to balancing the annual budget in its current state.

The only way to balance the budget? Grow the economy, cut spending, and raise some tax revenue. Nobody will like all the steps needed to achieve all three of these. Not me, and not my progressive friends.

We don't need a truly balanced budget, but we should aim for a much smaller annual deficit and a significant reduction in the overall debt. In my view, and that of many macroeconomists, the federal debt should be half or less of U.S. gross domestic product (GDP), or about $6 to 8 trillion at this time.

Unfortunately, our national debt now exceeds the GDP of the nation. We owe more than the entire economy generates in a year. That's a very sorry state of affairs, caused by a public that doesn't want to pay for the largess we demand from government and our various international exploits. (Surprisingly, our military spending is only 19 percent of the overall federal budget, including non-discretionary spending, and most is for personnel-related costs.)

Raising taxes, it seems, does little to address inequality, debt, or the annual deficit.

We should be ashamed, since we the voters helped create this mess.

In my now ancient post from 2011, The 90 Percent Tax Rate Myth [] I attempted to explain that 1) that marginal rate was an illusion (much less any effective tax rate) due to the number and types of deductions allowed and 2) it wouldn't make much difference to the federal budget.

Since 2010, I've explained "the rich" couldn't pay for much of anything; not even a few months of government services if we confiscated all their wealth. See Taxing the Rich vs. Reality
[] and this great YouTube video, Eat the Rich [].