Matt Yglesias

The Real Banker Backlash

An interesting point from Gillian Tett who observes that the real populist backlash against the financial industry is likely to come when the bill genuinely comes due in the form of the need to massively reduce deficits in the 2011-13 period:

Perhaps that will occur when income taxes are hiked above 50 per cent. Or maybe when hospital budgets are cut, or military spending slashed. Either way, the potential list is long. While that might cause political instability (which, of course, would be bad for bond markets) it might trigger a renewed, vitriolic round of bank-bashing – particularly if voters in 2011 or 2012 know that 2010 was a year when banks paid out more, massive bonuses.

No wonder that some financial officials and politicians are frantically pleading with bankers behind closed doors to show more restraint in their current bonus round. “Don’t the bankers realise what could be coming?” I heard one senior western finance official tell a room full of bankers this week, as he argued – with passion and a sense of desperation – that it would be a mistake for banks to pay big bonuses.

But even if one firm’s management accepted the logic of this claim, there would be a collective action problem. People would want to go work at the firms that were still paying out the big bonuses. Under the circumstances “frantically pleading” couldn’t possibly work, you would need to actually force them to stop, perhaps through the kind of bonus windfall tax proposed by Martin Wolf.

The Surprisingly Easy Medium-Term Budget Fix

Another thing to say about Doug Elmendorf’s dislike of the disconnect “between the services the people expect the government to provide, particularly in the form of benefits for older Americans, and the tax revenues that people are willing to send to the government to finance those services” is that the extent of the country’s medium-term fiscal problems is really not obvious to non-specialists. You can tell this (via Ezra Klein) from this hot new chart from none other than Doug Elmendorf:

This chart is telling us that under current law (the solid lines) the country’s medium-term fiscal trajectory looks not so bad. Those are deficits, but they’re not unsustainably large, and it looks like relatively small tweaks could turn the situation around. The dashed lines, however, represent a “current policy” scenario in which we assume that some of the Bush tax cuts will be extended and also that the AMT threshold will continue to be pushed up.

Those are reasonable assumptions, since both such measures are supported by the leadership of the less anti-tax political party. Elmendorf, in other words, isn’t wrong to worry about that. But I think it’s pretty understandable that this nuance is lost on the man in the street. The problem, in the medium-term, isn’t actually so much that we’re driving toward the edge of the cliff. The problem is that based on past behavior, congress seems overwhelmingly likely to steer us in that direction. But they could always, as a medium-term solution, not do that. Sticking with current law would buy substantial fiscal breathing room. It’s absurd for politicians to be simultaneously engaged in highly public deficit hand-wringing and not talking about the fact that maybe we can’t afford these “predictable” deviations from current law.

Winship on Inequality

Scott Winship has an interesting, but slightly bizarre, post about inequality trends in the United States. He writes as if he’s debunking liberal claims about growing inequality. But, in fact, his post seems to me to support the liberal position. In particular, he pretends not to realize that an important school of right-of-center thought holds that there’s been no increase in inequality whatsoever. Winship shows that this is wrong.

In particular, he shows that while there’s room for disagreement about exactly how large the magnitude has been, there’s been a substantial increase in the share of national income going to the top one percent. The growth in inequality in the United States is often—usually by centrist sorts—exclusively attributed to college preparation issues or graduation rates, but the concentration in the top one percent is hard to understand in those terms. My read of this data, which I think is a pretty conventional liberal understanding, is that increased taxes on high-income individuals can make most people better off by either paying for more and better public services or else reducing the need to cut Medicare benefits in the future.

At any rate, Winship is very good with numbers but always seems overwhelmingly more interested in annoying liberals than in rectifying social problems. But what he’s shown here is that even a pretty serious effort to debunk the Pittkey-Saez inequality data that liberals like to cite shows that their main conclusions are pretty unassailable. There’s a separate issue of should we care (Will Wilkinson makes the case that we shouldn’t here) or should we care as much as some liberal say we should. But the basic facts seem pretty clear.

Transforming American Medicine

Robert Frank is relatively optimistic that American medicine can be transformed away for our current fee-for-service model into something more like the Mayo Clinic:

Another factor militating against quick expansion of the Mayo model is that many current doctors chose their profession hoping to earn lucrative pay, which they might not be able to do in a nonprofit clinic. But across the economy, we see talented professionals whose career choices are driven by concerns far broader than pay. Many top graduates from elite law schools, for example, turn down lucrative positions in corporate law to work for public-interest groups paying a third as much.

Doctors who choose to work in nonprofit clinics seem to view their professions more as a calling than as a job. There is evidence that when medicine was less adversarial than it is now, American doctors were both happier and more respected, even though their incomes were much lower. Doctors elsewhere also remain satisfied and respected, though they are paid less than their American counterparts.

In time, medical schools will be able to attract plenty of talented people willing to accept positions under the Mayo model, where they would spend more time healing patients and less time fighting insurers. Any of the current health reform bills would help start this transition.

Maybe yes maybe no. But one salient fact about both other countries and the United States of the past is that there was much less inequality in general. A doctor in 1963 had a much lower income than a doctor in 2009, but he was closer to the top of the income distribution. Frank’s excellent Falling Behind is largely about the interplay of rising inequality and status competition, so he doesn’t need me to point this out, but I bet that relative income point is important. Which I think is less a reason to be pessimistic about health reform than it is yet another reason to think that higher taxes on the very rich are a good idea (a component of the House bill, I note).

Next Up: Tax Fight

I have a column in the Daily Beast this morning about what I think is likely to prove the biggest sticking point in terms of getting a health care bill done—the very different revenue mechanisms under consideration in the House and the Senate. There’s no indication that the House’s surtax on the rich has serious support in the Senate, and no indication that the Senate’s excise tax on high-value insurance plans has serious support in the House.

My take on this is that the Senate’s excise tax needs to be scaled-back somewhat, and also that the House does much better on the subsidy front implying that we need more revenue than what the Senate’s tax raises. Consequently, you could easily compromise between the two bodies by combining a scaled-back version of the excise tax with a scaled-back version of the surtax, then afford generous subsidies. But in the political world you normally don’t solve a dispute over tax policy by doing both tax hikes simultaneously.

Tax Land Instead of Property

I was walking north on 5th street the other day looking at the state of the neighborhood and it occurred to me that maybe it would make sense to tax land values rather than policy values. That would encourage people to put their parcels to use, rather than endlessly sitting on vacant properties hoping for a better deal tomorrow. Ryan Avent happens to have found a relevant paper, Junge, Jason and David Levinson, “Financing transportation with land value taxes: Effects on development intensity.”

A significant portion of local transportation funding comes from the property tax. The tax is conventionally assessed on both land and buildings, but transportation increases only the value of the land. A more direct, efficient way to fund transportation projects is to tax land at a higher rate than buildings. The lower tax on buildings would allow owners to retain more of the profits of their investment in construction, and have the expected side effect of increased development intensity. A partial equilibrium simulation is created for three sample cities to determine the magnitude of the intensity increase for both residential and nonresidential development if various levels of split rate property taxes were enacted.

It’s important, as a matter of governance, for progressives to spend more time thinking harder about the efficiency of different tax regimes. Tax issues are politically sensitive, obviously, but even in political terms the proof to a large extent is in the pudding. “Big government,” schemes, no matter how controversial, tend to become accepted when they work. But part of making them work is financing them intelligently. This seems like a better way to finance upgrades in our public infrastructure.

The New American Economy

I’ve been meaning to recommend Bruce Bartlett’s The New American Economy: The Failure of Reaganomics and a New Way Forward once it hit its official publication date. Consequently, I wound up letting weeks slip by after the publication date had arrived. But you should read this book, it’s a good one. His argument, in a sketch, is that conservatives should understand Ronald Reagan’s policies as a fix for a specific situation (stagflation) and not a Holy Writ to be followed at all times.

Here he is explaining why Europe isn’t a zero growth dystopia:

In America, people tend to think of their federal taxes as money down a rat hole and react accordingly. But in Europe, the people are more apt to feel they are simply paying for services with their taxes that Americans have to pay out of pocket.

This fact is best illustrated by health care. Most Americans get health insurance through their employers. The cost reduced their cash wages by 7.9 percent on average in 2008 according to the Bureau of Labor Statistics. If we had national health insurance and insurers were entirely relieved of this expense, they could afford to pay their workers 7.9 percent more and be no worse off. If the payroll tax went up by 7.9 percent to pay for health insurance, it would all be a wash, but both taxes and government spending would be higher. [...] The second reason why taxes have less of an impact on incentives in Europe than one might expect is because European countries raise much more of their revenue from consumption taxes than the United States does.

Read the whole thing.

Voters Reject Anti-Government TABOR Proposals in Maine and Washington

An excellent point from Kristina Wilfore who observes that if you want a decent test of the “tea party” movement you could do worse than to look at TABOR proposals that would put arbitrary caps on state government spending and force meaningful reductions in the size of government. Two such proposals were on the ballot last night in Washington and Maine and they lost:

A central tenant of the right-wing agenda has been rejected with the defeat of TABOR (known deceptively as the “taxpayer bill of rights”) in these two states – states that are diverse from each other in almost all respects. Maine’s measure went down with a resounding defeat, 60% to 40%, while Washington’s campaign came from behind with a 55% to 45% rebuff.

A few weeks ago, conservative columnist and tea party champion John Fund wrote in the WSJ that: “If voters in Maine or Washington state pass a taxpayer bill of rights, it will be a clear sign that even in blue states the public is coming to believe that government spending is out of control and that elected officials can no longer be trusted to rein it in. That’s a message that will likely reverberate in Congress regardless of who wins in the New Jersey and Virginia gubernatorial races.”

Iris Lav from the Center on Budget and Policy Priorities notes that “by rejecting TABOR, officially Question 4 in Maine and I-1033 in Washington, voters have helped these states preserve needed public services and improve the business climate.”

It’s also worth emphasizing that the reason radical budget-cutters have started turning to TABOR ballot initiatives to get their way is that even politicians who like to talk about cutting government in the abstract don’t actually want to take responsibility for specific cuts. That’s why Bob McDonnell made sure to stay nice and vague about what he’ll actually do once he takes over in Virginia.

Northern Virginia Doesn’t Need New Highways

Virginia Highways (cc photo by thisisbossi)

Observing the Virginia election campaign from afar, I thought that one potential upside to the fact that Bob McDonnell’s lack of a real plan to finance proposed road construction in Northern Virginia might have the beneficial consequence of making sure that the road construction doesn’t happen. I mean, I hate to knock a pro-tax editorial since lord knows I love taxes, but this kind of sentiment from the Washington Post editorial board doesn’t seem to me to be correct:

Mr. McDonnell’s challenge will be to translate his promises into results, specifically on the state’s most critical challenge: reinvigorating a sclerotic, aging transportation network. Virginia last raised new revenue for transportation almost a quarter century ago; little wonder that it is running out of cash to build roads. We remain skeptical of the flimsy filigree he passed off as a transportation plan, which rejects any fresh taxes to pay for new roads. But by dint of his victory he has earned the right to show it will work. We’d be delighted if he proves us wrong.

The postmortems on the campaign of State Sen. R. Creigh Deeds, the losing Democratic candidate, will identify his campaign’s missteps, misjudgments and missed opportunities. Inevitably, one of those will be his at-first tepid, and later unequivocal support for raising taxes to build roads. This will reinforce the conventional wisdom that it is impossible to win an election in Virginia, and elsewhere, on a platform that includes higher taxes.

Sigh.

Things like building more NoVa roads or expanding I-66 won’t solve Virginia’s traffic congestion problems. Right now the limited road capacity is operating as a constraint on further sprawl. Building more road capacity will encourage more sprawling development. But the reason Northern Virginia’s roads are crowded is that there’s a lot of stuff in-and-around Northern Virginia, there are limited non-road options for getting around Northern Virginia, and the roads are largely free. If you want less congestion over the long run, you need to tackle these issues head on. That means things like improving Virginia Rail Express so commuter rail is a more reasonable option for people; it means building the Metro Silver Line and—crucially—actually doing the increased density and urbanization in Tyson’s Corner; it means building Columbia Pike Streetcar; it means getting Virginia to support building a separated blue line through Downtown DC.

That would cost money and so, yes, taxes would be necessary. But higher taxes to build more roads isn’t what Northern Virginia needs. And ultimately like all jurisdictions plagued with traffic problems around the world, there’s ultimately a need to recognize that congestion pricing is the only really stable way to ensure a reasonable flow of traffic.

McDonnell’s pseudo-plan is not going to work but the alternative the Post is pushing wouldn’t work either.

Election Day BHTV

Dave Weigel and I recorded an election edition of BlogggingHeads TV yesterday. In this clip below I make the point that the tea party agenda, whether it works or not as an electoral strategy, can’t possibly work as a governing agenda:

I think this is a really critical point. There’s sort of a convention that electoral politics should be covered like a basketball game, as just an effort to win. But the point of elections is to set yourself up for governing. Given the objective conditions in the country, it seems unlikely to me that even Barack Obama’s “no taxes for anyone earning under $250,000″ pledge can be made workable, and it’s definitely not possible to govern on the basis of a tea party tax cut agenda.

Tax Expenditures Are a Poor Way of Subsidizing Infrastructure Investment

(cc photo by moaksey)

The intuitive consequence of the U.S. political system’s aversion to taxes is lower levels of public services and public infrastructure. In reality, however, one major consequence is a tendency to provide services and infrastructure through relatively inefficient methods. The reason is that there are two ways for the government to try to finance things. One is to spend more money and the other is to create a special tax break. Either of these things implies offsetting tax increases in the long run. But the tendency is for conservatives and centrists to treat “tax cuts” as good and “spending” as bad, thus putting a big thumb on the scales in favor of using tax expenditures rather than spending.

One special case of this is the use of tax-exempt bonds to finance infrastructure investment. The federal government exempts certain classes of bonds from income taxation, typically bonds issued by state and local governments to finance investments in school construction or transportation. This subsidizes infrastructure investment and it costs money. A different approach would be to just spend federal dollars on subsidizing infrastructure investment. The CBO and the Joint Committee on Taxation have a new study out on the issue concluding that this tax expenditure approach is highly inefficient. As the Director’s Blog explains:

That study concludes that the amount that the federal government forgoes through tax-exempt bond financing is greater than the associated reduction in borrowing costs for state and local governments. Some analysts have estimated the magnitude of that differential and conclude that several billion dollars each year may simply accrue to bondholders in higher income-tax brackets without providing any cost savings to borrowers.

The reason is that the value of the subsidy is shared between the infrastructure project and the buyer of the bond. Consequently $1 in federal tax expenditure generates less than $1 in reduced borrowing costs. In fact, according to the report “only about 80 percent of the tax expenditure from tax-exempt bonds actually translates inot lower borrowing costs for states and localities, with the remaining 20 percent simply taking the form of a federal transfer to bondholders in higher tax brackets.”

In other words, the approximately $7.5 billion in annual lost tax revenue is generating only $6 billion in additional infrastructure investment.

House Health Bill

Read all about it.

One of the key differences between the early draft of the House health bill and the Senate Finance draft was the different long-term implications of the financing mechanism. The House bill is financed by taxes on rich people. Since health spending is increasing faster than the overall economy, this meant that even though the House bill was deficit neutral in the 10-year CBO window, by the end of that period expenditures are rising faster than revenues. The Senate Finance bill, by contrast, raises revenue by phasing out the tax exclusion of employer-provided health insurance. Initially it does this by taxing only a small number of “Cadillac” plans, but over time the tax’s bite grows and grows. That means you have fiscal sustainability over the long run.

Senate Kent Conrad (D-ND) tried to stack the deck in favor of his preferred option by getting the CBO to consider not just a 10-year window, but also a 20-year window. The two bills looked about the same in a 10-year view, but Finance’s bill looked much better at 20. The new House bill responds to that challenge by tweaking things to achieve 20-year deficit neutrality:

A previous version of the House bill carried an estimated cost of $1.04 trillion over 10 years, but House negotiators were able to lower the price tag — in part by expanding Medicaid coverage to a broader slice of the population, the equivalent of all individuals who earn about $16,200 per year. The original House legislation had sought an increase to 133 percent of the federal poverty level, or about $14,400 per year, the same level proposed in the Senate bill.

The adjustment reflects findings by congressional budget analysts that covering the poor through Medicaid — which pays providers far less than Medicare — is much more cost-effective than offering subsidies for private insurance policies, something the bill would provide to middle class individuals who lack access to affordable coverage through their employers.

As usual in the health care debate, I think the House is right about everything except this tax point. Getting more aggressive about Medicaid expansion is a great idea. It hasn’t attracted the same volume of activist interest as the “public option” issue, but Medicaid is, of course, a public program. And it’s an important one. This is good policy.

That said, no matter what you can do in any window, it’s still the case that phasing the tax exclusion of employer-provided health care is better policy for the long run. It would, over time, reduce a significant source of economic distortion, reduce overall health cost growth, and improve long-term fiscal sustainability.

Estate Tax Cuts and Deficit Hawk Hypocrites

One good way to tell the difference between a member of congress who’s genuinely concerned about the long-term budget deficit and a hypocritical jackass is to ask them where they stand on the Kyl-Lincoln $250 billion budget-busting giveaway to the children of extremely rich people. The bill now has a House counterpart. Key sponsors include Rep Artur Davis (D-AL) and Rep Shelley Berkley (D-NV).

Mo’ Money, Less Generous Health Insurance (But Lower Overall Costs and a More Equitable Distribution of Coverage)

The idea of taxing health insurance benefits entails a lot of complexity, but in a general sense it comes down to a pretty simple question. Do you think that John, who earns $80,000 a year and gets an insurance plan worth $8,000 should pay more taxes than Jim who earns $70,000 a year and gets an insurance plan worth $18,000? After all, John and Jim are both getting $88,000 worth of compensation so it seems like they should pay the same in taxes. But under the current system, Jim pays substantially less. This has the effect of encouraging the Johns of the world, and their employers, to switch compensation packages from John-style “high wages, modest health benefits” to Jim-style “lower wages, better health benefits.” In the Jim-o-verse, copayments are lower and you have more access to specialists. Then again, in the John-o-verse if you want to see a doctor you have more cash in your pocket with which to afford the copayments if that’s what you want to do.

On the face of it, this is a no-brainer. Having the tax code encourage Jim-style compensation packages rather than John-style packages is a big economic distortion. What’s more, by artificially subsidizing health care consumption by the relatively prosperous, it drives prices up for everyone, including the not-so-prosperous. And because it’s a tax-side subsidy, the subsidy does little-to-nothing for the poor.

So scrapping or curbing the subsidy makes sense in general. And it especially makes sense as a way of raising money to finance progressive policy like ensuring that health care is affordable for the poor and the lower-middle class. But there are a few problems with just scrapping it. One is that suddenly altering the status quo in this regard could be very disruptive to a lot of people. The other is that, as John McCain discovered, it sounds politically toxic. The answer to the first problem is pretty easy—you cap the tax subsidy in a way that leaves almost everyone unaffected in the short term but that phases the subsidy out over the long-term. The answer to the second problem is courtesy of John Kerry who suggested that we levy the tax not on the buyers of expensive insurance plans but on the sellers. The impact of this is basically the same (Ezra Klein notes the small difference) but since people don’t understand tax incidence it could be politically easier.*

The two major advantages of relying on this method of financing health care are that (1) it “bends the curve” by encouraging people to take more of their earnings in the form of money (which of course can be spent on health care but also on other things) rather than health care services, and (2) it lets you stay deficit-neutral over the long-haul. What the House has done, by contrast, is deficit-neutral inside the three-year window but not longer than that.

The big problem with Finance’s excise tax, I would say, is that it doesn’t actually raise enough money. Hence, Finance has subsidies that are stingy relative to what the House is proposing. What’s more, CBPP has a good analysis out support an excise tax but also calling for several modifications that would lead to the tax raising even less revenue in the short-term. The solution to this, I think, is to modify Finance’s proposal à la the CBPP and then also tack on a dose of the House’s surtax on the super-rich.** That way you could get House-style subsidy levels with Finance-style curve-bending and long-term fiscal sustainability.

More »« Less

Bank Profits and Social Justice

JP MorganChase HQ

Jim Henley makes a good point in response to Kevin Drum:

It isn’t possible to get the banksters “off the federal teat immediately” or otherwise. There is simply no guarantee we make today that can bind the politicians of tomorrow. That’s not even necessarily a nebulous “tomorrow” either. Nor can we guarantee that, when the time comes, it would even make sense for tomorrow’s politicians to honor today’s future refusal. We have to figure out how to organize a political economy predicated on massive if implicit subsidies to the finance industry and its owners and executives so as to minimize the harm they can do and so it works tolerably for the rest of us. Am I optimistic that we can do this? Not so much. But since we can’t cut ‘em off, all we can hope to do is keep ‘em in line.

Right. Banks are profiting massively from ultra-low interest rates, but making such rates available serves the general interest. Banks are also profiting massively from implicit federal government guarantees. But you can’t “take away” those guarantees—they’re basically intangible—and it’s not at all clear that doing so would be wise. So you’re left with the difficult task of prudential regulation and trying to shrink the largest players over time with special fees and higher capital requirements.

That said, I think this is primarily an issue of social justice rather than an issue of technocratic regulation. And the answer is higher taxes on extremely high-earning individuals. The evidence suggests that big shot financiers make up a huge proportion of the highest-earning Americans, leaving CEOs of non-financial firms in the dust. You need to tax these guys and use the money to finance more and better social services and jobs for the people who provide the social services.

Having administration officials go whine to Wall Street honchos isn’t going to achieve anything.

The High Cost of Low Taxes

One issue in health reform that’s gotten very little attention outside of Greg Mankiw’s blog is that the phase-out of the subsidies for low income people is going to have an impact on their incentives that’s similar to a high marginal tax rate:

According to CBO, a family of four making $54,000 would pay $4,800 for health insurance. The rest of the premium would come from government subsidies. If the family’s income rises to $66,000, the subsidy falls, and the cost of health insurance rises to $7,600. In other words, earning an additional $12,000 requires the family to pay an additional $2,800.

I think the best way to think about this (I sort of doubt Mankiw agrees) is as an illustration of the economic cost borne by U.S. political culture’s extreme aversion to taxation. Americans “know” that high taxes are bad for the economy, but this belief doesn’t really lead them to reject the idea of public responsibility to ensure the provision of certain kinds of services. Instead it often leads politicians to embrace ways of doing things that are much less economically efficient than high taxes would be.

In a socialist dystopia like Sweden, when the decision is made that everyone should have access to a certain level of health care services what happens is that the government pays for everyone to get those services. Compared to a complicated mix of mandates and subsidies, this leads to higher taxes. But it can lead to much less in the way of tax-related economic distortions. What’s more, it makes the tax situation much more transparent to policymakers and analysts. I’m pretty sure that nobody on the Finance Committee intends to create the particular set of weird implicit marginal tax rates that are now going to exist for the near-poor. But a number of the members probably don’t quite see what they’re doing. If they were just straightforwardly sitting down to write a tax law, by contrast, everyone could see what was happening.

The Money Illusion

Excellent point from Kevin Drum on the Social Security COLA issue:

Still, this does go to show the power that sustained inflation holds on our imaginations. Technical arguments about CPI calculations aside, the fact is that seniors haven’t gotten a benefit increase for decades. It’s just not the way the program works. But the fact that their checks keep going up makes it seem like they have. So now, despite the fact that the huge benefit increase of last January combined with the deflation of the past 12 months means seniors really are getting higher benefits for the first time in recent memory, it doesn’t seem like it. So adjustments must be made and appearances kept up.

It is quite striking, the one year congress will intervene to give seniors a real increase in benefits is the year in which they were getting a real increase anyway. At any rate, the one-off bonus is pretty silly but even Tyler Cowen agrees that on net it’s probably fine public policy.

This is a reminder, however, that technical determinations about the inflation rate play a large role in budgetary issues. There are any number of ways of calculating the inflation rate, and even though people sometimes debate them as being better or worse, I think if you examine the issue for a little while you’ll swiftly reach the conclusion that there’s no such thing as a “true” inflation rate that different formulae are doing a better or worse job of calculating. From a hedonic point of view, relative price shifts inherently impact different individuals differently. What you really have is a range of credible approaches that make the inflation rate look higher or lower. And you can alter the long-run budget situation by switching various programs from one formula to another.

In recent years the most common proposal along these lines has tended to come from the right. You could start indexing the Social Security COLAs to a formula that shows a lower inflation rate (by accounting for substitutions—if the price of pork skyrockets but the price of chicken stays flat, most people just eat more chicken they don’t see skyrocketing food costs) and this would reduce Social Security expenditures. At the same time, Social Security benefits aren’t the only thing the federal government does that’s indexed to inflation. The cut-off points for the income tax brackets are also inflation adjusted. Before Ronald Reagan, that didn’t use to be the case. Consequently, there was a strong tendency for real tax rates to just go up over time. That allowed congress to regularly appropriate nominal tax cuts even while, objectively speaking, public revenue was growing. Since people are easily confused by inflation that was a boon to progressive policy. Congress changed that in the early 1980s. But if we shifted the tax indexing to one of the versions of the CPI that shows a lower inflation rate—for example, the aggressive C-CPI-U formula—we’d recapture some of that dynamic.

Tax Policy Fantasyland

Greg Mankiw sings the praises of the Value Added Tax, offering affection for the efficiency of its flat- and consumption-oriented nature:

My bottom line: If I could replace our current tax system (including the personal income tax, corporate income tax, payroll tax, and estate tax) with a VAT, I would gladly do it.

As long as we’re talking about hypothetical scenarios, I would join him if we’re allowed to throw state and local taxes into the mix as well. The thing of it is that once you consider state and local taxes, the US tax code is barely progressive at all:

In theory, I think the tradeoff between tax efficiency and tax progressivity could be quite the difficult dilemma. But what we’ve got, when considered overall, is a system with lots of inefficiency and almost no progressive impact. That, I think, makes the tradeoff easy. The VAT-only system wouldn’t be my first choice tax system by any means, but the case that it would be an improvement over the status quo seems very strong to me.

Health Reform’s Union Problem

Tim Fernholz observes that the Senate version of health reform has a big problem with Big Labor:

But there is a broader political problem: The single largest source of revenue to fund health care reform — $215 billion — is an excise tax on insurers for health-care plans that cost more than $8,000 for individuals or $21,000 for families, which is in turn linked to inflation. The average cost of an employer-provided family health care plan is $13,375; according to The Center for Budget and Policy Priorities, 90 percent of family plans in 2013 will have premiums below $21,000. But A significant bloc of Congressional Democrats — 156 representatives — and their allies in the labor movement are opposed to this provision, largely because unions have often forgone wage increases in favor of protecting their workers’ benefits, leaving them more vulnerable to any costs passed on to employers by insurance companies. Here is the letter [PDF] they sent to Speaker Nancy Pelosi. [...]

One thing is for certain: Labor is serious about stopping the excise tax — so much so that new AFL-CIO President Richard Trumka has made leaving it out a necessary condition for his coalition to support the bill.

I understand why some unions see this stance as serving the interests of their members. But the reality of the matter is that Trumka is just wrong on the policy merits here. There’s no good reason for the tax code to privilege compensation taken in the form of health insurance over compensation taken in the form of money. And Max Baucus structured the phase-out of that tax subsidy in a thoughtful way that will be progressive in the short- and medium-term and non-disruptive to the vast majority of people’s lives. The excise tax also makes the bill genuinely deficit neutral, as opposed to the kind of semi-fake deficit neutrality* of the House version of the bill.

One might say that the larger political problem for the Democratic leadership is that earlier this year they proved themselves pathetically unable to deliver on labor’s key priority—the Employee Free Choice Act. That was an issue where union leaders were right on the merits, and the objective significance of the issue to the interests of union members and union leaders alike was much larger. Had Democratic leaders delivered on Employee Free Choice they would be in a very strong position to ask the AFL-CIO to just eat something it finds mildly unpalatable in the broader interests of making progressive governance work. But they didn’t. And it looks to a lot of folks like they barely even tried.

More »« Less

Taxes, Taxes Everywhere

The overwhelming fact about Danish public policy is that taxes in Denmark are really high. There’s a substantial VAT and also a substantial income tax. You pay taxes to buy a car, and you pay higher taxes for heavy cars. Gasoline taxes are high (gas costs almost $7.50 a gallon) as are taxes on electricity, which account for more than half the cost of electricity to consumers. In exchange for all this, the Danes have basically achieved all the stuff progressives say they want. The country is rich, clean, and highly egalitarian. The high taxes finance generous public services, and the high levels of expenditure allow the country to do without a lot of extraneous business regulation which helps keep the place economically dynamic. According to surveys, the people are all very happy, which is exactly what you would expect from a very rich, very egalitarian society. And as this trip has emphasized, they do it all while doing much less polluting than Americans do, despite a higher average material standard of living.

There’s more to that than taxes, of course, but the high taxes really are integral to the whole thing. And that includes the environmental piece. In part because there are directly pro-environment taxes. But also, I would say, in large part because it’s the egalitarian income distribution and robust redistributive state that makes the environmental policies tolerable. Cheap gas and electricity are, in part, what we do in the United States instead of real social policy.

All of which is just to emphasize a point I’ve been making a lot over the past few months: there’s no way to have a progressive renaissance in the United States unless progressives find some politically feasible way of directly making the case that higher taxes for better services can be a good trade. And it’s worth trying to be honest about this. The other American journalists I’m traveling with, all lefty environmentalist types, can’t stop complaining about how expensive basic consumer goods are here. And it’s true, stuff’s expensive! But college and preschool and doctors and hospitals are all free, and the carbon emissions are low. This is, I think, a good trade but it really is a trade. Low taxes plus cheap dirty energy and large numbers of poor people will give you cheaper restaurants.

Green Tax Shift in Denmark

On the Wikipedia page for Danish Prime Minister Lars Løkke Rasmussen, who currently leads a center-right (by Danish standards) coalition, I read the following about his time as Finance Minister before Anders Fogh Rasmussen stepped down as PM to be the top civilian official in NATO:

In February 2009, Lars Løkke Rasmussen was the chief negotiator in the political agreement behind a major tax reform, implementing the government’s ambition of reducing income tax and increasing taxes on pollution. The reform was, according to Lars Løkke Rasmussen, the biggest reduction of the marginal tax rate since the introduction of the income tax in 1903. The opposition accused it of being historically skewed in favouring those with high-income jobs and giving very little to those with low-income jobs.

You can read Google’s translation of Danish newspaper articles about this here and here. Relative to the tax agenda pursued by George W. Bush, Rasmussen’s approach:

1. Achieves the U.S. right-wing’s core policy objective of reducing taxes on rich people.
2. Also contributes to solving a bona fide public policy problem.
3. Does a much better job relative to the budget deficit, an issue the U.S. right-wing at least claims to care about.
4. Would have screwed around with the Democratic Party’s political coalition by attracting support from green groups and from upscale liberal voters.

That seems like a lot to like had a more serious, thoughtful, and courageous group of people been in power. Obviously the interest-group politics is totally different in Denmark where there are substantial industries around wind power and efficiency and basically no fossil fuel production. They use coal and oil, in other words, but don’t produce much of any so there’s not the same kind of pro-pollution constituency. That accounts for part of the difference. But much of the rest of the difference seems like a lack of imagination combined with a lack of good sense and a lack of morality.

Health Care and the Long-Run Budget Deficit

The CBPP did an interesting analysis of the long-term budget deficit issue yesterday that reformulated the familiar point about health care costs and deficits by observing that there’s a revenue-side impact here too:

Long-term spending projections. After 2019, we extrapolate components of the federal budget based on the growth rates estimated in CBO’s June 2009 report. We adopt CBO’s rate of growth for Social Security spending in our projections. Our projections of Medicare and Medicaid spending assume that each program will grow at the rate CBO assumes for the two programs combined.

We assume that all other spending will grow at the rate of inflation and population growth combined, meaning that it will gradually shrink as a percentage of GDP.

Long-term revenue projections. Our revenue projections largely follow CBO’s alternative fiscal scenario, which assumes extension both of the 2001 and 2003 individual income tax cuts and of AMT relief. In addition, our numbers — like CBO’s — assume a decrease in revenues due to increased private health care spending: as health care costs rise, workers are likely to receive more of their compensation in the form of tax-exempt health care benefits and less in the form of taxable wages, so total revenues decline. But because we project that excess cost growth in other health-care spending will mimic that in Medicare and Medicaid, whereas CBO estimates it will be somewhat lower than in those programs, our revenue estimates are lower than CBO’s.

Thinking about the long-run deficit you can really abstract away from all the present political controversies and just focus on two facts. One is that the US has an existing commitment to provide generous comprehensive health care to all senior citizens. The other is that health care costs are rising faster than GDP. That means that unless we’re prepared to violate that commitment (which it seems to me we aren’t) we need to prepare ourselves for taxes to steadily increase as a percent of GDP (which it seems to me we also aren’t). The broad “center” of the political spectrum, ranging from the leaders of both parties, is stuck in the middle of this pincers movement. You have left-wing and right-wing versions of ideas about how to slow the growth in health care spending, but I’ve never seen a credible argument that any of these things can actually slow health care growth to less than the rate of GDP growth.

Note that some sectors or other have to grow faster than GDP. The mere fact that something is doesn’t show that anything has “gone wrong.” We just happen to have substantially assigned one such category to the public sector; and we’ve so assigned to to an even greater degree than most people realize via implicit tax subsidies.

Doing it With Tax Increases

Writing for CAP, Michael Ettlinger and Michael Linden say that achieved a balanced budget by 2014 solely through higher taxes “is not a likely or necessarily desirable policy.” Still, as they say it’s certainly a feasible policy:

Much is said about the economic effect of tax increases, but it is worth noting that there is little risk of the United States becoming economically disadvantaged relative to other advanced economic nations by raising its aggregate tax levels. We have the fifth lowest taxes as a share of GDP among economically developed nations (counting all federal, state, and local taxes). If we raised taxes in aggregate to a level that would safely balance the budget, the United States would still be in the bottom 10 out of 30.

Obviously that’s not a politically kosher solution. But on the merits I think the case for doing this almost entirely through tax side measures is pretty strong. Higher taxes on the scale under consideration would simply leave the United States with the kind of tax levels found in Australia and Canada, exactly the kind of countries you would expect to be similar to America.

The larger issue is that no matter what happens in 2014 as long as the US is committed to providing health care to senior citizens and the cost of health care grows faster than GDP, over the long run taxes as a percent of GDP will need to consistently rise. And as far as I can tell Republicans aren’t prepared to break that commitment to providing health care to senior citizens and Democrats aren’t prepared to back continually higher taxes. Across some margin of time you can fudge this by messing with defense and domestic discretionary spending but ultimately the choice will have to be made.

Deadweight Loss and Climate Change

Yesterday, Paul Krugman explained something that I bet could use a little more explaining for most people:

Now, a key point in all this is that the emissions tax or, equivalently, the rent on emissions permits, does not represent a net loss to society. It’s just a transfer from one set of people to another — from the emitters, and ultimately those who buy their products, to whoever collects the taxes or gets the permits, and ultimately whoever benefits from the revenue or rents thus generated. The only net loss is the Harberger triangle created by the reduction in emissions — which has to be set against the benefits of reduced pollution.

What’s a Harberger Triangle? Well, here’s a good illustration:

What’s that showing us? Well, when a market is in equilibrium you have some supply of goods being sold at a certain price. The reason people are buying the stuff in question is that the stuff is worth more to them than the money it costs. That’s the “consumer surplus.” And the reason people are selling the stuff in question is that the stuff is worth less to them than the money they can earn from selling it. That’s the “producer surplus.” If the government puts a new tax on the stuff, then the price goes up and the quantity sold goes down.

That reduces the consumer surplus and the producer surplus. But that lost surplus doesn’t just vanish, it’s basically being taken by the government and turned into tax revenue and public expenditures. But it’s not all taken by the government; some fraction of it—the triangle represented by D and E in the chart—really does just vanish. That’s the “deadweight loss” the value, to producers and consumers alike, of transactions that would have happened at the un-taxed price but didn’t happen at the taxed price. This, rather than the “cost” in taxes paid, represents the real social cost of a new tax.

But of course how much deadweight loss there is depends on the actual shape of the supply and demand curves. That chart has nice-looking straight lines. But in the real world it just depends. Different taxes have different degrees of deadweight loss. What’s more, the loss can be apportioned differently between producers and consumers. And a certain kind of tax could have a small deadweight loss at one level and a huge one at another level depending, again, on the shape of the supply and demand curves.

When you talk about a cap-and-trade system rather than a tax, you get all these same issues with consumer and producer surplus and deadweight loss. But instead of automatic revenue, you get rents associated with acquisition of carbon permits. And a key issue in policy design becomes how allocate those rents. One popular with industry proposal is to give them to industry for free. This basically compensates industry for the lost producer surplus, and in principle could actually be better for producers than the status quo ante was.

Alternatively, you could sell the permits and rebate the money to citizens—compensating consumers for the lost consumer surplus. There’s pretty good reason to believe that this would actually leave most people with more money in their pockets than they have under the status quo.

You could also auction the permits, have the government keep the money, and use the funds to reduce some other tax. If that tax has a higher deadweight loss associated with it than does the carbon cap, the overall economic cost of the carbon cap will be negative. And there’s actually pretty good reason to believe that permit auctions would be more economically efficient than many of the taxes we currently rely on, so as an abstract matter of policy design it would be relatively easy to design a pro-growth carbon cap regime. The dual problems are that the distributive consequences of going this route might be bad, and politically a tax swap is hard to pull off.

That said, as I was saying yesterday this idea is really laying out there in the street waiting for a political movement that (a) doesn’t mind redistributing wealth upwards, (b) likes to complain about the adverse economic consequences of taxes, and (c) would like to do something about climate change. We have a movement in the USA that fits (a) and (b) quite nicely, but their opposition to (c) is unfortunately so robust that they’ve somehow managed to forget everything they normally say about tax policy issues in order to concoct a theory to support the conclusion that a carbon cap would necessarily be economically ruinous.

The Case for Alcohol Taxes

Mark Kleiman makes the case for higher alcohol taxes:

I should also offer a mea culpa for whining about high soda prices after repeatedly blogging that I think a soda tax would be a good idea. As a heavy Diet Coke drinker, such a tax would be annoying to me personally but it’s still good public policy. When you’re raising revenue, you have to worry about the incentives you’re creating. Are you creating incentives to not work? To avoid making investments? With a soda tax you’re creating an incentive to not drink tons of soda. That’s not a very problematic incentive at all, so it’s an efficient source of revenue. Higher alcohol taxes, however, are better.