Tax Distortions: Mankiw v. KNZN
Greg Mankiw has put up a straw man argument in a reply to the other vowel-less economist blogger. Greg clips this quote from KNZN:
I’ve always been skeptical of the importance of the purported bad incentive effects of high marginal tax rates on high income earners.
He then proceeds to tell us that there are incentive effects as he trashes “left-leaning economists”. Note, however, that KNZN also said the following:
I won’t go into the details now, but I don’t think the incentive effects are very strong – at least at tax rates close to current tax rates – and I don’t think they’re all bad.
In defense of my fellow vowel-less left-leaning economist, permit me to go into details on four key points, which Greg just omits. First, some distortions from the market solution might be efficiency improving. As the founder of the Pigou Club, I think Greg would agree even if the GOP has not joined his club.
Secondly, we do not live in a Ron Paul world with a very small government. The GOP in the last 28 years has only pretended to be in favor of a smaller tax base as it has supported large Federal (especially defense) budgets as well. So the real policy question is not whether to raise taxes but whose taxes should be raised. The GOP seems to favor taxing employment and consumption more than taxing capital income. If differential taxes create distortions, the GOP should be called Distortions R Us. In fact, the GOP often favors tax policies that tax different forms of capital income differently. Now if that is not distortion creation, I’m not sure what is.
Thirdly, those incentive effects that do take us away from Pareto optimality may not be that devastating to some Benthamite maximum aggregate utility metric not to justify the policy’s attempt to have a fairer distribution of income. Of course, a Dooh Nibor distortion that takes from the poor to give to the rich is something that this liberal would also oppose. Funny thing, some GOP policies do exactly that.
Lastly, I suspect KNZN’s main complaint – one which I share as does other left-leaning economists such as Brad DeLong – is the free lunch supply-side silliness that cutting tax rates sine spending cuts has larger incentive effects than crowding-out effects. This is the real policy debate in 2008 as John McCain (as did Mitt Romney) want a larger defense budget but also lower tax rates. To suggest this fiscal irresponsibility promotes faster growth is bad economics at best and dishonest at worse.
Mankiw has created a straw man to attack left-leaning economists unfairly. I wish he’d engage in the real debate next time.