Introductory Econ Textbooks: A Different Take on the Issues

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The fundamentals are “sound”?:

PICTURE = 1000 WORDS

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Dylan Matthews has a typically excellent explainer about taxing the rich. Just click the link.
I have one thought. Matthews is soft on capital income.

Matthews wrote

Saez and Diamond also argued that capital income — income from things like capital gains, corporate profits, dividends, etc. — should be taxed, which broke with previous models of optimal tax theory. (Our current capital gains top rate is 23.8 percent.) Those models had suggested the proper tax rate on capital income was zero, on the grounds that it discouraged savings: If you spend money on an investment, your profits are taxed, but if you spend money on food or a house or what have you, you don’t get hit with a capital tax — so a capital tax’s presence pushes you to spend more and save less.

This is a roughly correct description of the previous models, but it isn’t exact. In fact, the mathematical result is that as time goes to infinity the tax rate on capital income should go to zero. There is no justification for arguing that this means the rate should be zero in 2019 or 3019. The infinite jump from t goes to infinity to now is simply a dishonest rhetorical trick.

Another problem is that the academic literature on capital income taxation is not sound. The classic paper by Judd is simply mathematically incorrect. Yet it is still regularly cited. The key assumption which Judd made which makes his conclusion a mistake (a mistake like 2+2=5 not a mistake like taking a crazy assumption seriously) is that the state runs a balanced budget. Given Judd’s assumptions, the correct math shows a positive tax rate on capital income for all time.

It is interesting that a math boo boo could be so influential. One might almost guess that ideology and self interest are involved.

If the state is allowed to run deficits or surpluses, then the optimal policy involves building up a huge sovereign wealth fund so high that all desired spending is financed by the socialist profits on state owned means of production (this is just what the math says). At that point, the optimal tax on capital income is zero, because there is no reason not to tax. In particular if one wishes to tax capital income because one cares about inequality, the math suggests no compromise at all. In the simplest model it is optimal to tax capitalists until the richest capitalist has the national average income. With more reasonable assumptions, an egalitarian who also cares about efficiency would end up taxing the rich until they become poorer than average.

An egalitarian would accept that the tax on capital income eventually go to zero when the recipients of capital income are as poor as the average person or poorer. A class warrior who wanted the rich to starve but didn’t want to deprive workers of capital to work will would tax the rich till they starved.

A critique of the standard anti capital income taxation program should conclude “it is not until capital income ceases to go to the rich and goes to the relatively poor can we inscribe on our banner from each capitalist zero taxes and to each capitalist the full market income”

In contrast, if some have high labor income, it is best to let them end up with above average income. As is often argued, the equality efficiency tradeoff is different for capital income taxation, but it is different because less is optimally conceeded to the rich in the name of efficiency. Nothing or less than nothing should be conceded.

This is a simple mathematical result based on standard assumptions.

Also the standard model assumes dynamic effiency. Matthews is very smart, but he accepts the assumption that we should encourage saving. This is an implication of the Ramsey Cass Koopmans model, which might or might not have anything to do with reality. It is possible to decide if a higher steady state ratio of capital to effective labor implies higher or lower welfare.

It has been argued that the standard case for more capital is valid if r>g where r is the expected return on capital (including the expected value of risky returns) and g is the trend rate of gdp growth. In fact, it is valid only if rf > g where rf is the safe rate of interest which has almost always been less than g. This isn’t a fringe claim. It is Public Debt and Low Interest Rates Olivier Blanchard — another Frenchman, January 2019.

He would have cited AngryBear if he had known about this post.

In fact, the math says we can benefit from lower saving. This means a higher debt to gdp ratio would be better if it crowds out saving. I have co-authors now, so I shouldn’t type more.

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A Small Anecdote about Alan Krueger

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The government shutdown may have caused a mini-recession

Aside from being a monumentally poor policy outcome, and aside from the hardship it caused nearly a million workers, the government shutdown may also have caused a general contraction in production, sales, and income, and a slowdown in employment, that if it were longer would qualify as a recession.

Because the affected three months straddle Q4 2018 and Q1 2019, both quarters will likely show positive real GDP growth, it won’t be a recession. Let’s call it a mini-recession.

Although shorthand for a recession is two quarters of GDP contraction, that wasn’t the case for 2001, and the NBER has indicated that a general downturn in production, employment, sales, and income are the crucial criteria. So let’s look at each.

 

The same is also true of real retail sales:

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As I explained in a conversation, what was done most recently by some wonderfully-over-funded people in an effort to get their children into a Tier one school certainly did not have to happen in the manner it did. They could have just approached school authorities and with a “Mellon’s” (Back to School’s – Rodney Dangerfield) audacity and offered to pay full ride and make a sizeable donation to the school. Maybe I am wrong; but, I do not know of many schools who would turn down a half a $million donation or so and a student who is willing to pay full price at the same time. Schools are short of funding. I am pretty sure this is going on today with little being said about the donations. Perhaps, others here would disagree with me?

Unfortunately, I was never so well-funded to initiate a back door funding approach such as what we are reading about today. My field of endeavor being Purchasing, Logistics, Distribution, and other similar disciplines did not command the type of salary to allow me to even hint at $hundreds of thousands or even $tens of thousands. In my field, we did not have the respect and admiration the reported actors had in their fields and accumulate such money. I was also caught in the 10 year economic cycle and one year spent time gaffing up trees and cutting them down. As Rodney would say; “Where does one go to get some respect around here?” It kept my family in one place and it paid the bills.

The Boston Globe’s Jeff Jacoby tells us what his mother said to him while a sophomore in high school; “If you want to go to college, you’d better get a scholarship.” I never had such a discussion with my parents other than my dad telling me not to do what he did. At 19 I was in the military, got out at 22, and married this pretty woman from NYC who in the beginning made more money as a Paralegal than I did with a college education. It paid the bills until such time as I caught up.

Suddenly I had responsibility for more than just myself. So I picked out a small Lasallian Catholic college, used my VA bennies and the state grant to pay for it, and finished up in three years. Never thought of Northwestern or University of Chicago as neither were in the cards and my parents would not have understood it much less pay for either. As a good Baptist I chose a Jesuit University over a Vincentian University for my Masters. Going to school at night then seemed to drag on forever. It was years later when I found out the high school and colleges I attended were pretty good schools. Each year, I donate a few hundred and get invited to various functions which I do not attend. I do not know anyone at these schools other than the Deans.

As advice to my own children, I suggested they go to where the money was. If they offered you grants and scholarships, they wanted you. If all they could conjure up was a subsidized Stafford loan at $3,000/year for a $30,000/year education, they were telling you something. Thank the school for their time and move on to the next one. In the end, it worked and we were also able to finagle a few more $thousand yearly at some pretty good small colleges for each. They do well for themselves and have paid their school loans.

As I sit here in my Levi jeans and ratty-looking Jesuit University sweat shirt writing this, I find myself agreeing with Jacoby and confirming what I already know; “No one needs to attend an elite university to get a decent education or to make a success of their lives, just as no one needs to wear a Dolce and Gabbana sweater to keep warm or drive a Ferrari Enzo to get from here to there.”

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Now that Andrew Yang has made it into the first debate by meeting the fundraising threshold, and being on Morning Joe this morning,  it is time to post this interview of him via Freakonomics.

I was impressed by his thought approach.  He is the first person who is talking about the economy as a ecosystem of society.  That is, it’s not just about making money.  He does not come out and say it as I would but I think he is thinking about a question I have asked here in the past: What do we have an economy for?  Is it to just produce the biggest most powerful engine in the world and watch it run?

My concern is that the MSN is not prepared to do a proper interview with a person who actually wants to discuss a comprehensive idea regarding social structure and present a plan for it as observed on Morning Joe today.  You could just tell they wanted to throw out the memes of name calling:  “socialist”, “taxing the rich”, “taxing business”, “far left”.  But, I think Mr Yang handled it well considering the short time he had vs his scope of policy.  Plus Mr. Yang had facts noting his “freedom dividend” is what Alaska has.

I don’t expect him to win, but I do hope he and his ideas get more coverage and thus pushes the Overton window back toward society.  The problem is,  his idea is very comprehensive.  It’s talking about society.  Unfortunately, our mindset wants discussion boiled down to the “1 item” reductionist meme.  You know: How are you going to bring the nation together?  My answer: Oh, I don’t know.  How do you handle a 2 year old that always says No? (Mitch McConnell  et al)

Here is the link: http://freakonomics.com/podcast/andrew-yang/

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I just had an unusual experience. I was convinced by an op-ed. One third of the way through “Elizabeth Warren Actually Wants to Fix Capitalism” by David Leonhardt, I was planning to contest one of Leonhard’s assertions. Now I am convinced.

The column praises Elizabeth Warren. Leonhardt (like his colleague Paul Krugman) is careful to refrain from declaring his intention to vote for her in the primary. I am planning to vote for her. I mostly agreed with the column to begin with, but was not convinced by Leonard’s praise of Warren’s emphasis on aiming for more equal pre-fiscal distribution of income rather than just relying on taxes and transfers to redistribute.

In particular, I was not convinced by

This history suggests that the Democratic Party’s economic agenda needs to become more ambitious. Modest changes in the top marginal tax rate or in middle-class tax credits aren’t enough. The country needs an economic policy that measures up to the scale of our challenges.

Here two issues are combined. One is modest vs major changes. The other is that predistribution is needed in addition to redistribution, as discussed even more clearly here

“Clinton and Obama focused on boosting growth and redistribution,” Gabriel Zucman, a University of California, Berkeley, economist who has advised Warren, says. “Warren is focusing on how pretax income can be made more equal.”

The option of a large change in the top marginal tax rate and a large middle class tax credit isn’t considered in the op-ed. I think this would be excellent policy which has overwhelming popular support as measured by polls (including the support of a large fraction of self declared Republicans). I note from time to time that, since 1976 both the Democrats who have been elected president campaigned on higher taxes on high incomes and lower taxes on the middle class (and IIRC none of the candidates who lost did).

This is also one of my rare disagreements with Paul Krugman, and, finally one of my rare disagreements with Dean Baker (link to a book which I haven’t read).

After the jump, I will make my usual case. But first, I note Leonardt’s excellent argument for why “soak the rich and spread it out thin” isn’t a sufficient complete market oriented egalitarian program. It is phrased as a question.

“How can the next president make changes that will endure, rather than be undone by a future president, as both Obama’s and Clinton’s top-end tax increases were?”

Ahh yes. High taxes on high income and high wealth would solve a lot of problems. But they will be reversed. New programs such as Obamacare or Warren’s proposed universal pre-K and subsidized day care will not. Nor will regulatory reforms such as mandatory paid sick leave and mandatory paid family leave. I am convinced that relatively complicated proposals are more politically feasible, not because it is easier to implement them, but because it is very hard to eliminate programs used by large numbers of middle class voters.

I’d note that I had already conceded the advantage of a regulatory approach which relies on the illusion that the costs must be born by the regulated firms. Here I note that fleet fuel economy standards are much more popular than increased gasoline taxes. One is a market oriented approach. The other is one that hides behind the market as consumers don’t know that part of the price of a gas guzzler pays the shadow price of reducing fleet average milage.

OK my usual argument after the jump

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Preventing Presidential autocracy: thoughts on reining in Executive power

Matt Yglesias posted a jarring tweet this past week when he wrote:

He elaborated by linking to a long-form article he wrote four years ago, explaining his position, where in relevant part, he wrote:

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