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

Libertarians Looking Vaguely in the Direction of Apostasy

by Mike Kimel

Libertarians Looking Vaguely in the Direction of Apostasy

Tyler Cowen is a prominent libertarian, a professor at GMU and Director of the Mercatus Institute. He is also on very, very dangerous ground. Lately he has had a couple of posts – the latest one here – that quote a new book by Alexander Fields. I haven’t read the book yet, but it seems to describe the 1930s as a period of great innovation despite pervasive misery.

But some of the passages Tyler quotes come tantalizingly close to noting that the economy was actually growing very rapidly by 1939. But what happens if he realizes it isn’t just after 1939, that real growth under FDR was faster than under any President since data has been collected – even if you leave out 1941 through 1945. See Figure 1 at this post. (Or that FDR was followed by LBJ, and then JFK, and then Clinton.) What if he takes a look at private investment during the New Deal era. What if he looks at the relationship between tax rates and economic downturns or comparison of growth rates between the “roaring 20s” favored by libertarian myth and the New Deal era?

Could a person really remain a libertarian if they realized things like that? Cowen has a lot at stake. I wonder if he’ll take the next step.

Note… Arnold Kling is also skating on the same ground. As of this writing, his readers, usually good for at least a few comments on every post, are stunned into silence.

Cross-posted at the Presimetrics blog.

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Human Resource thought….fire to retire?

by Tom aka Rusty Rustbelt

Human Resources: Coincidence or Trend

I have been around a long time, and have worked with and taught many people, so I get calls from people on career and workplace advice (I also have done expert witness work on certain aspects of employment practices).

In the past two weeks I have received 4 contacts from people 55 – 64 years old wondering about being “reorganized” (gracefully fired) from their managerial jobs.

Now I am certain people in that age group are having trouble being hired, but I wonder if fire-to-retire is going to become more common place. Bad economy paranoia? Smart intuition?

Coincidences or trends. Any thoughts out there?

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Ask Mr Grammar Person

What is wrong with this sentence ?

It is true that making the headline corporate income tax rate lower would be a good idea since that might give us a less distortionary tax code,, but in light of the long-term budget crunch that means we need to make up for any rate cuts by closing dividends.

Yes I write about grammar partly as a joke (I don’t joke about spelling — it is too painful). But I am serious. Matthew Yglesias draws a very definite conclusion in the italicized indicative from a claim in the subjunctive. It is always a mistake to say that something “is” true because something else “might” be true. This point is too elementary to be elementary logic.

I think I have something medium serious and almost worth reading on the corporate income tax after the jump.

I’ll get to economics soon, but I only now notice another grammar problem. “closing dividends” doesn’t actually mean anything. I honestly didn’t notice anything odd about the phrase when I read the post and decided to comment on grammar. I read it as meaning “taxing dividends as income, that is reversing the Bush 2003 tax reform under which qualified dividend income is taxed at a 15% rate.” Not only did “closing dividends” seem perfectly clear to me; I didn’t even notice the grammatical slip. This aside might be helpful to those of you who hope that I will ever competently proof read my posts — I can’t.

To be fair to Yglesias, I actually agree with his proposal to reduce taxes on re-invested corporate profits and increase taxes on dividends. But that means that he wants to move away from a simple tax on corporate income, yet he presents the problem as a low ratio of corporate income tax receipts to the product of the headline tax rate times corporate profits.

I am picking on Matthew Yglesias because his confidence that a revenue neutral reduction in tax rates and elimination of loopholes improves efficiency. The claim seems to be that tax expenditures are inefficient and some should be eliminated. I think this claim is exactly as sophisticated and worthy of support as the claim that government spending is inefficient and some should be eliminated. No one likes spending in the abstract — we like the programs we get in exchange for the money. So most US adults want to massively cut Federal Spending and want to increase spending on programs which are responsible for at least 98% of the Federal budget. Identically, no one likes tax expenditures in the abstract, and none of the people who write that most should be eliminated discusses which should be.

Another aside. Many people want to eliminate the mortgage interest deduction and I am one of them. I support taxing especially expensive employer provided health plans as in the PPACA. I oppose the absurd subsidies to oil companies. So I am against some tax expenditures. I also oppose building the F-35 and wasting more money on missile defenses and oppose some federal spending. I don’t consider “cut spending” or “cut tax expenditures” to be useful proposals.

It is often just assumed that a simpler tax code is better and, in particular, that any choices made because of the tax code are inefficient. The same people who generally denounce tax expenditures, propose new tax based incentives including say a carbon tax. Yet somehow the fact that they propose to use the tax code to influence behavior has no effect on their claim that past efforts to use the tax code to influence behavior are worse than worthless. See this post by the very same Matthew Yglesias on the very same day “This is an inefficient outcome, which is why we need taxes and regulation.”

In the corporate tax post, Yglesias suggests shifting taxes from corporate profits to dividends. I agree. He also complains about loopholes in the corporate tax code. One such loophole (a huge one and for all I know the hugest) is the investment tax credit which serves to shift the burden of taxes from re-invested profits to dividends. We could eliminate that loophole, cut the corporate income tax rate and introduce a new flat witholding tax on dividends. This would change precisely exactly nothing. But it would reduce the headline corporate income tax rate without reducing tax revenues (I tried to propose a change such that each and every corporation would have exactly the same tax bill under the reformed system).

I vaguely recall (so no link) the most extreme example of illogic in the cause of tax simplification. Someone argued that we should eliminate corporate tax loopholes in general (mentioning no exceptions) because we want corporations to invest in R%D and hire engineers and not to invest in tax avoidance and hire lawyers and accountants. I claim a fair summary of this argument is the following: To increase corporate investment in R&D we should eliminate, among other things, the R&D tax credit.

I don’t really know much about the corporate tax code, so I will close by discussing a topic on which I am extraordinarily expert — laziness. I think a large part of the reason that commentators hate the complexity of the tax code is that it makes commentary on tax policy much more difficult. The inefficiency which bothers me sometimes is the huge amount of work I would have to put into learning about the tax code if I were to try to discuss its effects on the economy responsibly. Discussing it would be much simpler if it were much simpler.

I don’t think this is a serious consideration. The time and effort of lawyers and accountants aiming to minimize tax liabilities is a social waste and a large one. The time and effort of economists and pundits trying to understand the tax code is a social cost, but it is a small cost.

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The Effect of Oil Prices on Oil Drilling in the U.S.

by Mike Kimel

The Effect of Oil Prices on Oil Drilling in the U.S.

Oil markets have changed dramatically in the past couple of decades or so. Except for a few years following the second Oil Embargo – prices got as high as $60 (in 2005 $) a barrel in 1981 – real prices have tended to be below $25 a barrel through about 1999. Conversely, 2003 prices have been higher than that – in some years quite a bit higher. Now, there are all sorts of explanations for this big change we’ve observed over the past few years, ranging from Peak Oil to the war in Iraq to the rise of the BRICs to market manipulation, but that’s the point of this post…

Instead, I want to look at the relationship between the price of oil and the number of oil rigs, and how that relationship has changed over the last couple of decades or so. Oil rigs, of course, are the machines that dig oil wells; once a well is completed and has begun production, the rigs are removed and either go into storage or move on to drilling another well. Data on the number of oil rigs in operation in the United States used in this post comes from Baker Hughes. Regular readers know I normally do not use data from private sources, but Baker Hughes data are as close to “official” as possible, as the figures you’ll find the Dep’t of Energy’s website on rigs originate with Baker Hughes. Rig count data comes out weekly and begins in mid-1987. I’ve taken annual averages beginning in 1988. Price data are annual averages from Table 5.18 of the 2010 Annual Energy Review put out by the Department of Energy. That data runs through 2009.

Now, a few details. Some time toward the end of the last millennium and the first few years of this one, there was a revolution in the drilling of oil (and natural gas). Two new technologies, hydraulic fracturing and horizontal and/or directional drilling, changed everything. Hydraulic fracturing is the fine art of pumping sand and water mixed with small amounts of some fairly toxic chemicals at high pressure to break apart some types of rock formations (usually shale) in which oil (or gas) is trapped. And the other thing available now are rigs that don’t just drill straight down, but instead can drill sideways once they reach the desired depth.

There is no fine line we can point to and say: this is the point when these two technologies became widespread. Instead, based in part on the numbers, I’m just going to say that until about 1998, those technologies were rarely used in the US, but after 2002 they were in widespread use. So… let me put up two graphs. The first one shows the relationship between the rig count and the price of oil from 1988 to 1998, and the second shows the same relationship between 2002 and 2009.

Figure 1

Figure 2.

(A few comments to the statistically oriented… yes, I know that a single equation regression is nothing more than a correlation, but this was for illustrative purposes. And before you mention autocorrelation, take a look at the graph again and think of exactly what would change if I did correct for it.)

So what does all this mean? A few comments:

1. The relationship between prices and rig count exists because as world prices rise, U.S. producers have an incentive to drill more.
2. In the first period, for every dollar increase in the price of a barrel of oil, on average 25 rigs were added in the U.S. In the second period, for every dollar increase in the price of a barrel of oil, on average only 3.5 rigs were added.
3. Part of the difference noted in 2. is just due to the fact that rigs are so much more efficient today than they were a decade and a half ago.
4. Another part of the difference noted in 2. is that there are only so many resources available to install new rigs in the U.S.
5. Yet another explanation for the difference in 2. may be price volatility; given price fluctuate so much these days, prices today aren’t as indicative of prices in six months or a year as they used to be.
6. Drilling for oil is a capital-intensive and risky operation. The relationship observed in comment 2. might be even greater were it not for the low interest rates prevalent in the second period.
7. The fit is much better (i.e., the relationship between price and rigs is much tighter, as there are fewer points far off the line) in the second period.
8. Do 2. and 7. indicate that perhaps oil drillers are becoming “more professional”?
9. Should this serve as a bit of an automatic stabilizer on price volatility? In other words, do the volatile oil prices reduce volatility in oil output, which in turn might reduce price volatility?
10. One other thought, only semi-related, and I’m not sure how it fits. In the oil market, you can get a lot of price volatility with even a small change in output. If world output falls by, say 1%, there are a lot of users without that many good substitutes (at present) willing to bid up the price on the marginal unit.

And one last thought…. does any of this say anything, one way or the other, about the notion of Peak Oil?

A few notes. First, full disclosure – I am not authorized to speak on its behalf, nor do I necessarily see the big picture, but I believe the company I work for would benefit from increased regulation of hydraullic fraccing. Second, the idea of looking for a relationship between prices and the means of production of a similar commodity came from Craig Truesdell. I’ve found Craig’s insight seems to provide useful intuition in a lot of markets.

Cross-posted at the Presimetrics blog.

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The re-balancing of trade within the Euro area: some improvement but not enough

I thought that the whole point of fiscal austerity was to turn the balance of trade and capital flow within the Euro area: debtors becoming savers and capital flows out of the Periphery and into to the core. We’re seeing the outset of such a shift; but it’s probably too slow in the making.

The chart below illustrates the trade balance (exports minus imports) within the Euro area (17) for key austerity – Ireland, Greece, Spain, and Italy – and core – Germany, France, and the Netherlands – countries. The data span the last six months and are normalized by the European Commission’s 2010 GDP estimate for each country (listed on the Eurostat website).

(Let me be clear here: the trade balances illustrated below include only trade flows within the Euro area.)

It should be noted that this is an incomplete picture, since there are 17 Euro area countries. However, the following point is worth noting: the balance of trade is arduously improving in Spain and Greece at the cost of just a small share of surplus in the core. To me, policy makers are grasping at straws when they stick to the ‘exports will grow the Periphery out of their debt problems’ story.

* The Netherlands’ intra-Euro area trade surplus increased near 2 pps to 22.6%.
* Italy’s intra-Euro area trade deficit hovered at just under -1% of GDP.
* Spain’s trade deficit improved somewhat, falling roughly 50 basis points to -0.5% of GDP – probably nothing to write home about, given that the economy’s facing a 20%+ unemployment rate.
* The Greek trade deficit improved 90 bps to -5.3% of GDP.
* Ireland remains as open as ever.
* The German surplus dropped 15 bps to 1.3% of GDP.

It is true, that the re-balancing will take time. Some will argue that it’s extra-euro area trade that will provide the impetus for growth in some of these countries (Spain, Ireland, Greece, the usual suspects). However, while exports to the extra-Euro area market have played an important role in some growth trajectories – Spain, for example – intra-Euro area trade is critical. Below I list the average share of total export income derived from within the Euro area:

Average share of exports (source: Eurostat and Angry Bear calcs)
40.9% 38.8% 41.5% 55.7% 48.6% 43.8% 62.0%
Germany Ireland Greece Spain France Italy Netherlands

How much more austerity and ‘competitiveness’ will it take to turn the tide here? Probably more than some are willing to give. A nominal devaluation is needed. Without that, it’s ultimately ‘bailout’ or ‘default’, or both.

A side note: it would have really helped if the ECB allowed prices in Germany, for example, to overshoot the 2% Euro area inflation target.

Rebecca Wilder

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A tax thought…A Modest Tax Proposal

by Tom aka Rusty Rustbelt

A Modest Tax Proposal

The GOP is all breathless about deficits, but this is the same GOP of Dubya Bush that fought a war in Iraq (unnecessary) and Afghanistan (overextended) funded entirely by debt.

So, the following proposal.

A 3% surtax on taxable incomes over $75,000 until the cost of both wars is paid.

This level of tax should not slow the economy, and we should face up to the responsibilities of having troops in the field.

Your thoughts?

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