Relevant and even prescient commentary on news, politics and the economy.

Federal pay freeze

I just want to remind everyone that the last president to implement a federal pay freeze was Nixon.

And of course we all remember how that worked.

Just after that was when I left government for about a 33% raise in total compensation — including fringe benefits and retirement.

So much for over paid federal employees.

If federal employees are so overpaid why isn’t there a constant flow of people leaving the private sector for the high paying jobs in government rather than the other way around.

The funny thing about this is it always seems to be republicans who are leaving government because of the low pay for government employees.

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The Impoverished, and Impoverishing, Debate about Fiscal Deficits

by Peter Dorman

The Impoverished, and Impoverishing, Debate about Fiscal Deficits
originally posted at Econospeak

It is like living in a dream—a very bad dream. Everything seems at once real and imaginary, serious and deliriously impossible. The language is familiar and incomprehensible. And it seems there is no waking up, ever.

I’m talking about the “debate” over America’s fiscal deficits, which is what I stumbled into after a night of much happier visions. Now, according to this morning’s New York Times, the left has weighed in with its own plans to achieve deficit stability. Of course, it is more reasonable than the pronunciamenti of the Simpson-Bowles cabal, with a wiser assortment of cuts and more progressive tax adjustments. Still, it is part of the same bizarre trance, disconnected from the basic laws of income accounting.

All you need to know is the fundamental identity. In its financial balance form, it appears as:

Private Deficits + Public Deficits ≡ Current Account Balance

If the US runs, say, a 4% CA deficit, the sum of its net public and private deficits must equal 4%. You can’t alter this no matter how you juggle budgets.
Add to this one more piece of wisdom, which we should have learned from the past three years, even if we were blind to everything else: private debts matter as much as public ones. The indebtedness of households, corporations and financial entities can bring down the economy as readily as the profligacy of the public sector. In fact, in the grip of a crisis (which we have not yet escaped), private deficits are far harder to finance because of their greater default risk. That’s why governments slathered themselves with red ink: they borrowed to assume the debts that private parties could no longer bear.

So what does this mean for US fiscal deficits? Isn’t it obvious? Public deficits can be brought down only to the extent that the private willingness and capacity to borrow increases and current account (mostly trade) deficits shrink. There is still an important discussion to be had over the size and composition of revenues and expenditures, of course, but this is only about how, not how much. To put it differently, if private deficits and the external position of the US economy remain as they are, planned deficit reduction by the government cannot be realized. Revenues will fall along with spending, the economy will take a dive, and actual fiscal deficits will be unmoved. This is guaranteed by the laws of arithmetic, and you can see such a process happening in real time in the peripheral Eurozone countries.

What can break this fall? The current account constraint can be relaxed as falling incomes drive falling imports, but this entails an economic catastrophe unless devaluation can do the job instead. Or the borrowing capacity of the private sector can rise, but this is inconceivable in a collapsing economy. Or, facing the abyss, those who run the show can dispense with all the nonsense about fiscal prudence in isolation from surrounding economic conditions, and open the spigots once again.
My prediction: if there is deficit-cutting in the US of any sort before the private sector is prepared to take on more debt and, especially, approximate trade balance is restored, we will see exactly this third scenario. The economy will take a dive, political leaders (whether of the latté or tea persuasion) will spend like crazy, and fiscal deficits will be larger than ever. The deficit-cutting debate is delusional.

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Hauser’s Law is Extremely Misleading

by Mike Kimel

Hauser’s Law is Extremely Misleading
Cross posted at the Presimetrics blog.

A friend sent me a link to this Wall Street Journal opinion piece by W. Kurt Hauser. Who is he, you ask? Here’s what it says at the bottom of the article:

Mr. Hauser is chairman emeritus of the Hoover Institution at Stanford University and chairman of Wentworth, Hauser & Violich, a San Francisco investment management firm. He is the author of “Taxation and Economic Performance” (Hoover Press, 1996).

Before I go on, let me note that in this piece, Hauser masterfully demonstrates the Hoover Institution approach to data. The piece contains enough, er, material that I could write several posts on it. Maybe I will, but for now I want to focus on his key point. Here are the opening paragraphs of the essay modestly entitled “There’s No Escaping Hauser’s Law”:

Even amoebas learn by trial and error, but some economists and politicians do not. The Obama administration’s budget projections claim that raising taxes on the top 2% of taxpayers, those individuals earning more than $200,000 and couples earning $250,000 or more, will increase revenues to the U.S. Treasury. The empirical evidence suggests otherwise. None of the personal income tax or capital gains tax increases enacted in the post-World War II period has raised the projected tax revenues.

Over the past six decades, tax revenues as a percentage of GDP have averaged just under 19% regardless of the top marginal personal income tax rate. The top marginal rate has been as high as 92% (1952-53) and as low as 28% (1988-90). This observation was first reported in an op-ed I wrote for this newspaper in March 1993. A wit later dubbed this “Hauser’s Law.”

Over this period there have been more than 30 major changes in the tax code including personal income tax rates, corporate tax rates, capital gains taxes, dividend taxes, investment tax credits, depreciation schedules, Social Security taxes, and the number of tax brackets among others. Yet during this period, federal government tax collections as a share of GDP have moved within a narrow band of just under 19% of GDP.

OK. So, Hauser’s point is clear – no matter what happens to taxes, the government only manages to collect about 19% of GDP. Presumably then, from a perspective of paying down debt, there’s no benefit to raising taxes and plenty of benefit to cutting taxes. (Later he goes on to argue that lower taxes = faster growth, which I’ve dispensed with in the past – latest example here. Still, if given time, I might come back and examine Hauser’s special way of reaching his conclusion. But that’s for another day.)

Now, they say a picture is worth a thousand words, so let me put up a graph. And for grins, let me embed a small table in that graph. The graph shows total federal receipts divided by GDP. However, it is color coded. In years when there is a cut in the top individual marginal tax rate, or when the most recent change in the top marginal tax rate was a tax cut rather than a tax hike, the area under the curve is colored gray. When there is a tax hike, or the most recent change was a tax hike, the same area is colored red. Here’s what it looks like:

Figure 1.

So there it is. There’s Hauser’s law. Notice the size of his narrow band – its width is over 5% of GDP! Now take a gander at the little table. In tax hike periods, the smallest amount collected was 18.3% of GDP. By contrast, the median collection in tax cut periods is 18.2%; in other words, in over half of the tax cut years, collections were less than the smallest amount ever brought in during the tax hike periods. Furthermore, both the median and average for the two series are a full percent of GDP apart. Hauser is essentially sweeping humongous differences under the table.

Think Hauser doesn’t know this? I don’t. He’s been staring at the data, and using it to make arguments for a very long time. He also writes extremely precisely. At no point does he make a false statement, but I for one reached all sorts of mis-impressions just from his opening paragraphs. Like I said, its a masterful example of the Hoover craft.

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How Smart is Ezra Klein ? II

Ezra Klein explains that Medicare can’t cut payments too much or doctors will opt out

The problem is that Medicare can’t control costs too much better than private insurers or, as you see from the article above, doctors will simply abandon Medicare.

Klein seems oddly indifferent to the detailed text of the Afordable Care Act. I never would have guessed that I would ever type that. Medicare is four programs which are differently squeezable. Plan C (take advantage of Medicare) can be squeezed to death with relatively low costs to anyone but insurance companiies. Plan B can’t be squeezed easily. Doctors can and do refuse deal with the CMS. Plan A can be squeezed as I argued here and here.

Now his conclusion is that Medicare fees can be restrained, but he neglected the fact that the recent health care reform was designed with the problem of doctors with office practices opting out in mind. Matthew Yglesias (another very smart guy) excerpted the silly part of Klein’s post.

I blame myself. I wrote a post about how Klein is very smart and so he decided to write a dumb post just to spite me.

I recap the argument after the jump.

A half hour of googling once, convinced me that at most one hospital ever opted out of Medicare plan A That hospital is not named in something someone wrote on the web 10 years ago but it is obviously the Mayo Clinic. I’m pretty sure that either this was someone confused at the time (by Mayo Clinic staff making excuses for not admitting her) or that it is no longer true.

Many doctors with office practices can keep busy while refusing to see Medicare patients. 0 to 1 hospitals can. Almost any hospital (with one possible exception) which opts out of Medicare will lose a large fraction of its cash flow from one day to the next. I’d guess that it is at least a third for all hospitals (except maybe the Mayo Clinic) and usually more than half. In theory a hospital could gain by doing so by firing half it’s staff and renting out spare rooms as apartments. In the real world, it isn’t going to happen.

That’s why the ACA squeezes Medicare Plan A not Medicare Plan B. The restrictions on the growth of fees are restrictions on payments to hospitals, nursing homes and home health care agencies. The idea is that they won’t opt out.

In contrast payments to office practices for ambulatory care will not be squeezed by the ACA. Obama administration officals and congrespersons (or their staffs at least) understood that to squeeze doctors with office practices, they would have to mandate participation in Medicare.

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Joachim Voth Tells the Truth and Shames the (German) Devil

Echoes of Japan, echoes of the Great Depression. One of the few economists who knows history closes a post by presenting the proper context for the choices:

A quick exit [by Ireland, from the Euro] may still be better than a decade of slow, grinding deflation combined with Zombie banks and Zombie household balance sheets being kept on artificial life support before the inevitable rise in interest rates at some point pulls the plug.

When Britain left the gold standard in 1931, the governor of the Bank of England famously declared (having been aboard a ship and out of contact when the decision was made): “I didn’t know we could do that.” Leaving the euro may seem similarly unimaginable to many, but it may be just as feasible. In the 1930s, cutting the link quickly led to a recovery of demand, by reducing deflationary pressures. Far from the shattering blow to confidence feared by many, exiting the gold standard was actually great for business. Leaving the euro may be every bit as good.

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Can Someone Please Explain Germany’s Reputation for Fiscal Conservatism to Me?

Assume I believe in risk-adjusted return on capital. That is, I don’t buy a bond yielding 12% instead of one yielding 6% without first considering that the yield difference is affected by the likelihood of Principal return being lower. (But I will buy the 12% bond if I believe the risk premium is too high relative to the 6% bond.)

In short, I fit the second—not the more accurate “traditional” or the current even-more-bollixed “risk management” definition—of the Prudent Investor.

I can watch my neighbor buy more and more expensive gadgetry, while knowing that s/he makes no more than I do, has some old debts, and doesn’t not have dynastic wealth (i.e., the possibility of inheritance or some other deus ex machina) to save himmer. And I notice that hisser buying is growing greater over time.

My neighbor decides to borrow money from people to support hisser ever-more-extravagant lifestyle. S/he offers rates slightly higher than the rate at which I can borrow. (That is, I can borrow money, take the interest payments from himmer, and pocket the difference—if the Principal is paid back on schedule.)

Do I loan the money to—effectively, buy bonds from—my neighbor?

My instinctive answer is “No,” but I am a Prudent Investor. So perhaps I give my neighbor some money—monies I can afford, not something I need to borrow—as a token.

Under no condition do I become—by a margin of more than 2:1—the largest creditor of my neighbor’s lifestyle. Not, at least, if I want to maintain my reputation as a conservative (“prudent”) investor.

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The rest of the trick is??

Mark Thoma says it well on the ‘what comes next’ dilemma facing voters and those making recommendations for policy:

there is supposed to be a “rest of the trick,” but it doesn’t come until later. The idea is that the labor that is freed up from the increased productivity will be used to produce new goods and services thereby increasing the quantity and variety of the nation’s output. In a dynamic, growing economy, even though there’s a delay before the new jobs appear (and hence a need to help workers through the transition), the new jobs are supposed to be even better than the old ones. But as workers look forward, the fear is that that won’t be the case. Workers who have lost jobs face an uncertain future where, if they can get new jobs at all, they are unlikely to pay as well or have the same level of benefits as the jobs they lost. New workers do not appear to have the same opportunities that their parents had, particularly workers without a college degree.

If workers could be assured that rising productivity would translate into better jobs and higher pay, the outlook would be different. But the last several decades of stagnant wages have undermined that promise. The growth that has occurred was not widely shared — it did not trickle down as promised — and the frustrations and uncertainties households have are understandable. It’s a mistake to think that just because the economy starts growing again, all will be well. If the growth that occurs post-recession simply picks up where pre-recession growth left off, i.e. with income gains flowing mainly to the upper classes, and with even more income inequality than we have now, the frustrations and tensions will continue to build and our troubles will not have ended.

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November 30….make a phone call

Nov. 30, is National Call Congress Day to fight Social Security cuts! It’s not too late to commit to participating in this important event.

Call your Senators tomorrow (Tuesday) at 1-866-529-7630, toll-free. The operator will identify your senators by asking for your zip code. Call BOTH of your senators if you have time. It only takes a minute each.

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A Proposed Bet for Professors Bryan Caplan and David R. Henderson

by Mike Kimel

A Proposed Bet for Professors Bryan Caplan and David R. Henderson (and Anyone Else Who Believes Lower Taxes Generate Faster Economic Growth)
Cross posted at the Presimetrics blog.

Professors Caplan and Henderson,

Both of you have had recent posts that indicate you have some enthusiasm for betting on economic outcomes. (Your co-blogger at Econlog, Arnold Kling seems less enthusiastic about bets, and thus I have not addressed him by name here.) I have a few criticisms of your approach to betting. The first is that, frankly, y’all are betting on some rather peripheral issues. Why not cut to the chase? Why not propose a bet on something vital to your way of thinking but with which many people disagree? For example, as libertarians you believe that lower marginal tax rates on the “producer class” result in faster economic growth in a well-functioning, more or less market based economy, and that this outcome can be observed in the US economy. (Forgive the wordiness, but I want to be precise so you don’t think I’m trying to trap you up in a technicality or some oddball example.) I believe you are generally wrong, at least about the US economy. Many people share your beliefs, and many people share mine, so this would be an ideal topic on which to bet if your goal is to prove a point.

Another criticism I have of the bets I’ve seen you propose is that your bets tend to be based on a small number of events, typically one or a handful of observations occurring over ten years or less. But that is too short a period to leave out the effect of random fluctuations, acts of God, or long running conditions. For example, though I haven’t verified the data myself, I understand that it has been pointed out that had the Julian Simon bet (a favorite of Professor Henderson’s) occurred a few years later results would have been different. A truly fair bet would look at more data. In fact, an ideal bet would look at many different overlapping long time periods. Results over ten year windows, twenty windows, thirty year windows, etc., would all combined to ensure that the results aren’t just an artifact of the data.

Another safeguard which helps get at a “true outcome” rather than some random fluctuation is to consider whether the effect you are looking at can have lags of different lengths. For example, it may be that the marginal tax rate in 2010 might affect growth rates from 2009 to 2010, or from 2010 to 2011, or from 2010 to some later year. After all, as any libertarian would say, if you pay less in taxes this year, it means more money in your pocket this year. Since you spend more efficiently than the government, that creates more growth this year, and that additional growth has positive effects next year too. Of course, at some point, the future effects of today’s tax rates dissipate. Not having a precise theory, it probably pays to consider several of these “effect periods” to (perhaps) coin a term.

The third problem I have with your bets is that, frankly, it takes too long to find out who won. Professor Henderson indicates in one post that he’ll probably be settling up with the estate of fellow bettor. If bets are intended as a way to help move the field, not to say the bettors beliefs, forward, results have to come in more quickly to make an appreciable difference. Now, at first glance, this last complaint kind of clashes with my previous criticism that ten years of data is just not enough. But if you think about it, there’s an easy way to square the circle: the obvious solution is to bet on outcomes that occurred on the past.

Now, before you say that’s silly, hear me out. You wouldn’t (dare I say couldn’t?) be a libertarian if you didn’t believe that historically, economic growth in the US was faster when the marginal income tax rates on what you would term the productive class were lower than when they were higher. And in the unlikely event you’ve read anything I’ve written, whether on the Presimetrics or Angry Bear blogs, or the book I cowrote with Michael Kanell, you would be aware that I am pretty certain the US economy is not characterized by such a relationship between marginal tax rates and economic growth. Simply put, what each of us knows about the past contradicts what the other knows. At least one of us has to be wrong.

Given how bet-happy you all are, and your core beliefs, I would have expected you to propose this one (not necessarily to me, who you no doubt don’t know from Adam) a long time ago. To be precise, here’s the bet I would have expected you to issue:

For the vast majority (say, at least 70%) of overlapping windows, the correlation between top marginal individual income tax rate and the growth in real GDP will be negative. Windows of data to be considered are ten years long, twenty years long, etc., through sixty or seventy years long. Growth rates to be compared with marginal tax rates at time period t include t – 1 to t, t to t+1, t to t+2, t to t+3, t to t+4, and t to t+5.

Now, I could see variations of that bet. For instance, Professor Henderson has indicated in a recent working paper that he doesn’t believe National Accounts data for the WW2 years are accurate, so perhaps he would structure the bet to only use data from 1946 on, rather than the 1929 on which is possible with the official BEA data. Alternatively, perhaps t to t+5 might seem a little much to consider, or perhaps one would prefer to include t to t+x where x is something larger than 5. Nevertheless, this is very close to the bet I would have expected to be proposed from people with strong libertarian beliefs who like to engage in wagers on economic outcomes.

One other thing – notice that I indicate the correlations should be negative well over half the time. I have yet to hear a libertarian hedge when he/she tells me about the benefits of lower taxes. Getting a touch above 50% just doesn’t fit that with that sort of certainty, and is more akin to random fluctuation, is it not? (But don’t worry, where we’re going, the distinction between 50.00001% and something more appropriate to your level of certainty won’t matter.)

What is left is to consider – what should have been the size of the bet we should have expected to see. Now, Professor Caplan has recently noted:

But why are small sums enough to deter 95%+ of the people who disagree with me? I see two main reasons:

1. We aren’t just betting $100. We’re betting $100 plus reputation plus bragging rights. That’s why I prefer to bet the famous. The Simon-Ehrlich victory wouldn’t have been nearly as awesome if Simon bet a random Malthusian.

2. Many spouses, perhaps most, disapprove of betting. They think you’re irresponsible when you bet, and stupid when you lose. Imagine how badly they’d react if the stakes were $25k! Even the victor might find himself stuck in the doghouse.

So… $100 plus bragging rights is about right. Of course, I’m not famous, so I doubt the bet would have been issued to me. I would have taken the $100 bet, though, if offered. More – well, probably not, despite my certainty, given item number 2. Nevertheless, I am surprised that neither of you offered this bet to someone.

But here’s the thing. You would have lost that bet. And we’re not talking by a smidge, we’re talking by a country mile… or seventeen and a half.

Here’s what I get:

by Mike KimelFigure 1.

(Note – you might have to click on the figure to see it in full. It seems to cut off on my browser. The same is true of the next figure.)

The way to read this graph…. consider the cell with t to t+3 on the horizontal and 50 years on the vertical. That cell has 62.1% in it. That indicates that of the 29 fifty year windows in which you can measure the growth in real GDP from a given year to three years later, 18 of them (or 62.1% of them) show a positive correlation between the top marginal tax rate. That is to say, in 62.1% of those windows, growth is faster when top marginal tax rates are higher than when tax rates are lower.

Notice… most of the squares have numbers above 50% in them. That means, in most situations we considered, more often than not, the correlations between marginal tax rates and growth rates are positive, not negative. When the negative correlations do occur, they tend to occur over the very short term. Put another way – they have negative repercussions that hit later. (And yes, that is what the table indicates.) Over longer periods of time, the percentage of time positive correlations are observed approaches 100%. This cannot in any way be reconciled with libertarian theory.

FWIW, the table above represents a grand total of 1,652 observed correlations between the top marginal tax rate and growth rates of real GDP. 56.5% of those correlations are positive.

Note… I haven’t included it in the table, but for giggles I checked the t to t+10 results. For ten and twenty year windows, the percentages are below 50%. For thirty year windows and up, the percentages are above 50% and go above 70% at 40 year windows and hit 100% at the 70 year windows. Put another way… t to t+10 looks an awful lot like t to t+4.

Now, say you’re Professor Henderson and you want to discard the data through the end of WW2. In that case, you come out looking even worse:

Figure 2.

Now, 64.6% of all the correlations observed are positive.

Now, this post is starting to get awfully long, so let me wrap it up. I think you should offer this bet. In fact, my advice to any libertarian or conservative is to offer to make this bet. Sure, its easy for me to say, because the bet goes against you, but I promise if you offer the bet or something similar I will refrain from jumping in so I’m not making that suggestion for personal gain. The reason I think you should offer this bet is that, knowing you’d lose gives only a few options:

1. You can change your beliefs.
2, You can tapdance into the opposite result. To some extent, that’s where the economic profession is now. There are any number of studies by well known academics that show that cutting taxes lead to faster economic growth under some or most conditions, and they all require either weird special cases or assumptions that, frankly, could be used to show that a 400 year old sketch of a chicken is a nuclear submarine.
3. You can pretend none of this ever happened.
4. You can show there is a problem with what I have done or proposed.

Now, its possible I’ve made a mistake, but to repeat myself, if you’ve read anything I’ve written before, you’ll find that I’ve been on a “the data shows that lower taxes do not equal faster economic growth” kick for a long time. I’ve gotten here every which way, using data from all sorts of sources and at all levels of granularity. In this case, I’m guessing that if you included windows of 11, 12, 13, etc. years, you might push the percentage of positive correlations down. For all I know, with judicious fiddling, you might even get to a point where a slight majority of cases have a negative correlation. I don’t have an institute or a university paying me to make this sort of argument and I’m running out of spare time this afternoon. But even if you got that percentage down a bit – the libertarian position is not that lower taxes lead to faster economic growth somewhere around half the time, is it? And frankly, it would take a heck of a lot to get that number down for a Henderson post-WW2 look. And no matter what, you aren’t going to escape one more detail – over longer periods of time, the correlations are overwhelmingly positive. I’d hate be touting the benefits of lower taxes and having to explain that fact.

Moving on, the problem with option 2, the status quo, or option 3, is that its simple enough to show what I’ve shown. The results are there. As noted above, I’ve done this sort of thing so many times, so many ways, with so many different data sets, and at so many levels of granularity. Sooner or later someone that other folks do listen to will discover the same thing. Then what?

As to option 1, well, Upton Sinclair said it best a long time ago, “It is difficult to get a man to understand something when his job depends on not understanding it.” And frankly, its hard to see GMU or the Mercatus Institute or Hoover or even the blog where you write keeping you on if you start telling people that higher top marginal rates are correlated with faster economic growth. You have a lot to lose if you change your beliefs.

So if you can’t take any of these options, you really need a different approach. And what’s better than going on the offensive? Offer up the bet. Sound confident- a true believer would insist that correlations between lower taxes and faster growth should be there 90% of the time, right? Heck, issue odds. Do that and people might assume you know the results favor your position. People are lazy, and they don’t check. That’s why so many people believe so many things that simply don’t hold up when confronted by data.


Mike Kimel

PS. The Excel file containing the data and analysis that went into this post is published as a webpage here. I’m not quite sure why but the ten year results seem to have acquired an error upon uploading into google. Everything else seems OK, but should anyone want the original Excel file, drop me a line at mike period and my last name, all at gmail dot com.

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