Showing posts with label Taxes. Show all posts
Showing posts with label Taxes. Show all posts

7 Sept 2020

Don't Believe the Economic Pessimists - Barokong

Source: Wall Street Journal
No matter who wins Tuesday’s presidential election, now ought to be the time that policy makers in Washington come together to tackle America’s greatest economic problem: sclerotic growth. The recession ended more than seven years ago. Unemployment has returned to normal levels. Yet gross domestic product is rising at half its postwar average rate. Achieving better growth is possible, but it will require deep structural reforms.

The policy worthies have said for eight years: stimulus today, structural reform tomorrow. Now it’s tomorrow, but novel excuses for stimulus keep coming...

Keep reading here, the Wall Street Journal Oped. I'll post the whole thing in 30 days as usual.

Somehow the WSJ thinks anyone is interested in growth and serious policy on the eve of the election. Or maybe they were just tired of Trump vs. Clinton and needed to fill space.  At any rate, it might give you a little reprieve from the election coverage.

23 Aug 2020

The Tax-and-Spend Health-Care Solution - Barokong

A Wall Street Journal Oped, From July 29 2018. Now that 30 days have passed, I can post the whole thing.

The Tax-and-Spend Health-Care Solution

Honest subsidies beat cross-subsidies. They’d encourage competition and innovation.

By John H. Cochrane

Why is paying for health care such a mess in America? Why is it so hard to fix? Cross-subsidies are the original sin. The government wants to subsidize health care for poor people, chronically sick people, and people who have money but choose to spend less of it on health care than officials find sufficient. These are worthy goals, easily achieved in a completely free-market system by raising taxes and then subsidizing health care or insurance, at market prices, for people the government wishes to help.

But lawmakers do not want to be seen taxing and spending, so they hide transfers in cross-subsidies. They require emergency rooms to treat everyone who comes along, and then hospitals must overcharge everybody else. Medicare and Medicaid do not pay the full amount their services cost. Hospitals then overcharge private insurance and the few remaining cash customers.

Overcharging paying customers and providing free care in an emergency room is economically equivalent to a tax on emergency-room services that funds subsidies for others. But the effective tax and expenditure of a forced cross-subsidy do not show up on the federal budget.

Over the long term, cross-subsidies are far more inefficient than forthright taxing and spending. If the hospital is going to overcharge private insurance and paying customers to cross-subsidize the poor, the uninsured, Medicare, Medicaid and, increasingly, victims of limited exchange policies, then the hospital must be protected from competition. If competitors can come in and offer services to the paying customers, the scheme unravels.

No competition means no pressure to innovate for better service and lower costs. Soon everybody pays more than they would in a competitive free market. The damage takes time, though. Cross-subsidies are a tempting way to hide tax and spend in the short run, but they are harmful over years and decades.

We have seen this pattern over and over. Until telephone deregulation in the 1970s, the government wanted to provide telephone landlines below cost. It forced a cross-subsidy from overpriced long distance and a telephone monopoly to keep entrants out and prices up. The government wanted to subsidize small-town air service. It forced airlines to cross-subsidize from overpriced big-city services and enforced an oligopoly to keep entrants from undercutting the profitable segments. But protection bred inefficiency. After deregulation, everyone’s phone bills and airfares were lower and service was better and more innovative.

Lack of competition, especially from new entrants, is the screaming problem in health-care delivery today. In no competitive business will they not tell you the cost before providing service. In a competitive business you are bombarded with ads from new companies offering a better deal.

The situation is becoming ridiculous. Emergency rooms are staffed with out-of-network anesthesiologists. Air ambulances take everyone without question, and Medicare, Medicaid and exchange policies underpay. You wake up with immense bills, which you negotiate afterward based on ability to pay. The cash market is dead. Even if you have plenty of money, you will be massively overcharged unless you have health insurance to negotiate a lower rate.

Taxing and spending is not good for the economy. But it’s better than cross-subsidization. Taxing and spending can allow an unfettered competitive free market. Cross-subsidies must stop competition and entry at the cost of efficiency and innovation. Taxing and spending, on budget and appropriated, is also visible and transparent. Voters can see what’s going on. Finally, broad-based taxes, as damaging as they are, are better than massive implied taxes on very few people.

This is why continued tinkering with the U.S. health-care system will not work. The system will be cured only by the competition that brought far better and cheaper telephone and airline services. But there is a reason for the protections that make the system so inefficient: Allowing competition would immediately undermine cross-subsidies. Unless legislators swallow hard and put the subsidies on the budget where they belong, we can never have a competitive, innovative and efficient health-care market.

But take heart—when that market arrives, it will make the subsidies much cheaper. Yes, the government should help those in need. But there is no fundamental reason that your and my health care and insurance must be so screwed up to achieve that goal.

Mr. Cochrane is a senior fellow of the Hoover Institution at Stanford University and an adjunct scholar of the Cato Institute

20 Aug 2020

Testimony 2 - Barokong

On the way back from Washington, I passed the time reformatting my little essay for the Budget committee to html for blog readers. See below. (Short oral remarks here in the last blog post, and pdf version of this post here.)

I learned a few things while in DC.

The Paul Ryan "A better way" plan is serious, detailed, and you will be hearing a lot about it. I read most of it in preparation for my trip, and it's impressive. Expect reviews here soon. I learned that Republicans seem to be uniting behind it and ready to make a major push to publicize it. It is, by design, a document that Senatorial and Congressional candidates will use to define a positive agenda for their campaigns, as well as describing a comprehensive legislative and policy agenda.

"Infrastructure" is bigger in the conversation than I thought. But since there is no case that potholes caused the halving of America's trend growth rate, do not be surprised if infrastructure fails to double the trend growth rate. It's also a bit sad that the most common growth idea in Washington is, acording to my commenters, about 2,500 years old -- employment on public works.

Washington conversation remains in thrall to the latest numbers. There was lots of buzz at my hearing about a recent census report that median family income was up 5%. Chicagoans used to get excited about the 40 degree February thaw.

The quality can be very very good. Congressman Price, the chair of my session, covered just about every topic in my testimony, and possibly better. Congressional staff are really good, and they are paying attention to the latest. If you write policy-related economics, take heart, they really are listening.

The questions at my hearing pushed me to clarify just how will debt problems affect the average American. What I had not said in the prepared remarks needs to be said. If we don't get an explosion of growth, the US will not be able to make good on its promises to social security, health care, government pensions, credit guarantees, taxpayers, and bondholders. Something's got to give. And the growing size of entitlements means they must give. Even a default on the debt, raising taxes to the long-run Laffer limit, will not pay for current pension and health promises. Those will be cut. The question is how. If we wait to a fiscal crisis, they will be cut unexpectedly and by large amounts, leaving people who counted on them in dire straits. Greece is a good example. If we make sensible sustainable promises now, they will be cut less, and people will have decades to adjust.

Ok, on to html testimony:

Growing Risks to the Budget and the Economy.

Testimony of John H. Cochrane before the House Committee on Budget.

September 14 2016

Chairman Price, Ranking Member Van Hollen, and members of the committee: It is an honor to speak to you today.

I am John H. Cochrane. I am a Senior Fellow of the Hoover Institution at Stanford University 1 . I speak to you today on my own behalf on not that of any institution with which I am affiliated.

Sclerotic growth is our country's most fundamental economic problem. 2 From 1950 to 2000, our economy grew at 3.6% per year. 3 Since 2000, it has grown at barely half that rate, 1.8% per year. Even starting at the bottom of the recession in 2009, usually a period of super-fast catch-up growth, it has grown at just over 2% per year. Growth per person fell from 2.3% to 0.9%, and since the recession has been 1.3%.

The CBO long-term budget analysis 4 looks out 30 years, and forecasts roughly 2% growth. On current trends that is likely an over-estimate, as it presumes we will have no recessions, or that future recessions will have not have the permanent effects we have seen of the last several recessions. If we grow at 2%, the economy will expand by 82% in 30 years, almost doubling. 5 But if we can just get back to the 3.6% postwar normal growth rate, the economy will expand by 194%, almost tripling instead. We will add the entire current US economic output to the total. In per-person terms, a 1.3% trend gives the average American 48% more income in 30 years. Reverting to the postwar 2.3% average means 99% more income, twice as much. And economic policy was not perfect in the last half of the 20th century. We should be able to do even better.

Restoring sustained, long-term economic growth is the key to just about every economic and budgetary problem we face.

Nowhere else are we talking about doubling or not the average American's income. 6

Nowhere else are we talking about doubling or not Federal revenues. Long-term Federal revenues depend almost entirely on economic growth. In 1990, the Federal Government raised $1.6 trillion inflation-adjusted dollars. In 2016, this has doubled to $3.1 trillion. Wow! Did the government double tax rates? No. The overall federal tax rate stayed almost the same -- 18.0% of GDP in 1990, 18.8% of GDP today. Income doubled.

Whether deficits and debt balloon, whether we our government can pay for Social Security and health care, defend the country, and fund other goals such as protecting the environment, depend most crucially on economic growth.

Why has growth halved? Some will tell you that the economy is working as well as it can, but we've just run out of new ideas. 7 A quick tour of the Silicon Valley makes one suspicious of that claim.

Others will bring you novel and untested economic theories: we suffer an ill-defined "secular stagnation" that requires massive borrowing and spending, even wasted spending. The "multiplier" translating government spending to output is not one and a half, and a temporary expedient which can briefly raise the level of income in a depression, but six or more, enough to finance itself by the larger tax revenues which larger output induces --a proposition long derided of the "supply side" --and it can now kick off long-term growth. 8 Like 18th century doctors to whom disease was an imbalance of humors, modern macroeconomic doctors have one diagnosis and remedy for all the complex ills that can befall a modern economy: "demand!"

I'm here to tell you the most plausible answer is simple, clear, sensible, and much more difficult. Our legal and regulatory system is slowly strangling the golden goose of growth. There is no single Big Fix. Each market, industry, law, and agency is screwed up in its own particular way, and needs patient reform.

America is middle aged, out of shape and overweight. One voice says: well, get used to it, buy bigger pants. Another voice says: 10 day miracle detox cleanse! I'm here to tell you that the only reliable answer is good old-fashioned diet and exercise.

Or, a better metaphor perhaps: our economy, legal and regulatory system has become like a hoarder's house. No, there isn't a miracle organizer system. We have to patiently clean out every room.

Economic regulation, law and policy all slow growth by their nature. Growth comes from new ideas, new products, new processes, new ways of doing things, and most of these embodied in new companies. And these upend old companies, and displace their workers, both of whom come to Washington pleading that you save them and their jobs. It is a painful process. It is natural that the administration, regulatory agencies, and you, listen and try to protect them. But every time we protect an old company, an old industry, or an old job, from innovation and competition, we slow down growth.

How do we solve this problem and get back to growth? Our national political and economic debate has gotten stale, each side repeating the same base-pleasing talking points, but making no progress persuading the other. Making one or the other points again, or louder, will get us nowhere. I will try, instead, to find policies that think outside of these tired boxes, and that can appeal to all sides of the political spectrum.

Rather than "more government" or "less government," let's focus on fixing government. We need above all a grand simplification of our economic, legal, and political life, so that government does what it does competently and efficiently.

Regulation: fix the process.

"There's too much regulation, we're stifling business. No, there's too little regulation, businesses are hurting people." Or so goes the tired argument. Regulation is strangling business investment, and especially the formation of new businesses. But the main problem with regulation is how it's done, not how much. If we fix regulation, the quantity will take care of itself. We can agree on smarter regulation, better regulation, not just "more" or "less" regulation. 9

Regulation is too discretionary --you can't read the rules and know what to do, you have to ask for permission granted on regulators' whim. No wonder that the revolving door revolves faster and faster, oiled by more and more money.

Regulatory decisions take forever. Just deciding on the Keystone Pipeline or California's high speed train --I pick examples from left and right on purpose --takes longer than it did to build the transcontinental railroad in the 1860s. By hand.

Regulation has lost rule-of-law protections. You often can't see the evidence, challenge witnesses, or appeal. The agency is cop, prosecutor, judge, jury and executioner all rolled in to one. [And, a Congressman pointed out during the discussion, recipient of collected fines.]

Most dangerous of all, regulation and associated legal action are becoming more politicized. Each week brings a new scandal. Last week 10 , we learned how the Government shut down ITT tech, but not the well-connected Laureate International. The IRS still targets conservative groups 11 . The week before, we learned how the company that makes Epi-pens, headed by the daughter of a Senator, got the FDA to block its competitors, Congress to mandate its products, and jacked up the price of an item that costs a few bucks to $600. This is a bi-partisan danger. For example, presidential candidate Donald Trump has already threatened to use the power of the government against people who donate to opponents' campaigns. 12

America works because you can lose an election, support an unpopular cause, speak out against a policy you disagree with, and this will not bring down the attentions of the IRS, the EPA, the NLRB, the SEC, the CFPB, the DOJ, the FDA, the FTC, the Department of Education, and so forth, who can swiftly put you out of business even if eventually you are proven innocent, or just slow-roll your requests for permissions until you run out of money.

This freedom does not exist in much of the world. The Administrative state is an excellent tool for cementing power. But when people can't afford to lose an election, countries come unglued. Do not let this happen in the US.

Congress can take back its control of the regulatory process. Write no more thousand-page bills with vague authorizations. Fight back hard when agencies exceed their authorization. Insist on objective and retrospective cost benefit analysis. Put in rule-of law protections, including discovery of how agencies make decisions. Insist on strict timelines --if an agency takes more than a year to rule on a request, it's granted. [I later learned this is called a "shot clock" in Washington, a nice metaphor.]

Health care and finance are the two biggest new regulatory headaches. The ACA and Dodd-Frank aren't working, and are important drags on employment and economic growth. Simple workable alternatives exist. Implement them.

The real health care problem is not how we pay for health care, but the many restrictions on its supply and competition. 13 If hospitals were as competitive as airlines, they would work darn hard to heal us at much lower --and disclosed! --prices. If the FDA did not strangle new medicines and devices, even generics, prices would fall.

Competition is always the best disinfectant, guarantor of good service and low prices. Yet almost all uncompetitive markets in the US are uncompetitive because some law or regulation keeps competitors out.

Rather than guarantee bank debts, and unleash an army of regulators to make sure banks don't risk too much, we should instead insist that banks get their money in ways that do not risk crises, primarily issuing equity and long-term debt. Then banks can fail just like other companies, and begin to compete just like other companies. 14

"The planet is dying, control carbon!" "Your crony energy boondoggles and regulations are killing the economy!" Well, that argument is not getting us anywhere, is it? The answer is straightforward: A simple carbon tax in exchange for elimination of all the growth-killing, intrusive, cronyist, and ineffective micromanagement. We can continue to argue about the rate of that tax, but it will both reduce more carbon, and increase more growth, than the current ineffective policies --and stagnant debate.

None of these recommendations are ideological or partisan. These are just simple, clean-out-the-junk, workable ways to get our regulatory system to actually work, for its goal of protecting consumers and the environment, at minimal economic and political damage.

Social programs: Fix the incentives.

"Cut spending, or the debt will balloon!" "Raise spending or people will die in the streets!" That's getting nowhere too. And it ignores central problems.

In many social programs, if you earn an extra dollar, you lose a dollar or more of benefits. Many programs have cliffs, especially in health care and disability, where earning one extra dollar triggers an enormous loss. Even when one program cuts benefits modestly with income, the interaction of many programs makes work impossible. 15 No wonder that people become trapped. We need to fix these disincentives. Doing so will help people better. If we fix the incentives, though it may look like we spend more, in the end we will spend less --and encourage economic growth as well as opportunity.

Spend more to spend less. "Spending is out of control! We need to spend less or there will be a debt crisis!" "Oh there you go being heartless again. We need to invest more in programs that help Americans in need." I feel like I'm at a dinner party hosted by a couple in a bad marriage. This isn't getting us anywhere.

It is important to limit Federal spending. However, we tend to just limit the appearance of spending by moving the same activities off the books. Off-the-books spending does the same economic damage. Or more.

For example, we allow an income tax deduction for mortgage interest, in order to subsidize homeownership. From an economic point of view, this is exactly the same thing as collecting higher taxes, and then sending checks to homeowners. It looks like we're taxing and spending less than we really are. But from an economic growth point of view, it's the same thing.

Actually, it's worse, because it adds unfairness and inefficiency. Suppose a colleague proposes a bill to you: The U.S. Treasury will send checks to homeowners, but high income people get much bigger checks, as will people who borrow a lot, and people who refinance often and take cash out. People with low incomes, who save up to buy houses, or don't refinance, get a lot less. You would say, "You're out of your mind!" But that's exactly what the mortgage interest deduction achieves!

If we were to eliminate the mortgage deduction, and put housing subsidies on budget, where taxpayers can see where their money is going, the resulting homeowner subsidy would surely be a lot smaller, much more progressive, helping lower income people, better targeted at getting people in houses, and less damaging of savings and economic growth. Both Republicans and Democrats should rejoice. Except the headline amount of taxing and spending will increase. Well, spend more to spend less.

We allow a tax deduction for charitable deductions. This is exactly the same thing as taxing more, but then sending checks to non-profits as matching contributions --but much larger checks for contributions from rich people than from poorer people. Then, many "non-profits" spend a lot of money on private jet travel, executive salaries, and political activities. Actual on-budget federal spending, convoluted and inefficient as it is, at least has a modicum of oversight and transparency. If we removed the deduction, but subsidized worthy charities, with transparency and oversight, we'd do a lot more good, and probably overall tax less and spend less. Except the headline amount of taxing and spending might increase. Well, spend more to spend less.

Mandates are the same thing as taxing and spending. Many European countries tax a lot, and then provide services, like health insurance. We mandate that employers provide health insurance. It looks like we're taxing and spending less, but we're not. A health insurance mandate has exactly the same economic effects as a $15,000 head tax on each employee, financing a $15,000 health insurance voucher.

Economics pays no heed to budget tricks. Spending too much rhetorical effort on lowering taxes and spending induces our government to such tricks, with the same growth-destroying effects. If you want economic growth, treat every mandate as taxing and spending.

Taxes: break up the argument.

The outlines of tax reform have been plain for a long time: lower marginal rates, broaden the base by getting rid of the massive welter of special deals. But it can't get done. Why not?

When we try to fix taxes, 16 we argue about four things at once: 1) What is the right structure for a tax code? 2) What is the right level of taxes, and therefore, of spending? 3) What activities should the government subsidize -- home mortgages, charitable contributions, electric cars, and so on? 4) How much should the government redistribute income?

Tax reforms fail because we argue about all these together. For example, the Bowles-Simpson commission got to an improvement on the structure of taxes, but then the reform effort fell apart when the Administration wanted more revenue and congressional Republicans less.

I am back at my dysfunctional dinner party. Sometimes, in politics as in marriage, it is wise to bundle issues together, each side accepting a minor loss to ensure what they see as a major gain. You clean up your socks, I'll clean up my makeup. Sometimes, however, we bundle too many issues together, and the result is paralysis, as each side vetoes a package of improvements over a small issue. Then, it's better to work on the issues separately.

So, let's fix taxes by separating these four issues, in four commissions possibly, or better in four completely separate sections of law.

1) Structure. Agree on the right structure of the tax code, with its only goal to raise revenue at minimal economic distortion, but leave the rates blank.

2) Rates. Determine the rates, without touching the structure of the tax code. A good tax code should last decades. Rates may change every year, and likely will be renegotiated every four. But those who want higher or lower rates know they can agree on the structure of the tax code.

3) Separate the subsidy code from the tax code. Mortgage interest subsidies? Electric car subsidies? Sure, we'll talk about them, but separately. Then, we don't have to muck up raising revenue for the government with subsidies, and the budgetary and economic impact of subsidies can be evaluated on their own merits

4) Separate the redistribution code from the tax code. Then we don't muck up raising revenue for the government with income transfers.

The main point is that by separating these four elements of law, each with fundamentally different purposes, we are much more likely to make coherent progress on each. You need not oppose beneficial aspects of an economically efficient tax simplification, say, if you wish to have a greater level of redistribution --well, at least any more than you might oppose any random bill in order to force your way on that issue.

Some thoughts on how each of these might work:

Structure. The economic damage of taxation is entirely about "marginal'' rates --if you earn an extra dollar, how much do you get to enjoy it, after all taxes, federal, state, local, sales, estate, and so forth. Economics has really little to say about how much taxes people pay. The economists' ideal is a tax system in which people pay as much as the Government needs --but each extra dollar earned is tax-free. Politics, of course, focuses pretty much on the opposite, how much people pay and ignoring the economically-distorting margins.

Thus, if you ask 100 economists, "now, forget politics for a moment --that's our job --and tell me what the right tax code is, with the only objective being to raise revenue without distorting the economy,'' the pretty universal answer will be a consumption tax --with no corporate tax, income tax, tax on savings or rates of return, estates, or anything else, and essentially no deductions. (They will then say "but..." and go on to demand subsidies and income redistribution, at which time you have to assure them too that we'll discuss these separately.)

A massive simplification of the tax code is, in my opinion, as or more important than the rates --and it's something we're more likely to agree on. America's tax code is an obscenely complex cronyist nightmare.

For example, that's why I favor, and you should seriously consider, eliminating the corporate tax. Corporations never pay any taxes. All money they send to the government comes from higher prices, lower wages, or lower returns to shareholders --and mostly the former two. If you tax people who receive corporate profits, rather than collecting taxes from higher prices and lower wages, you will have a more progressive tax system.

But more importantly, if you eliminate the corporate tax, you will eliminate the constant stream of lobbyists in your offices each day asking for special favors.

Far too many businesses are structured around taxes, and far too many smart minds are spending their time devising corporate tax avoidance schemes and lobbying strategies. A much simpler tax code even with sharply higher rates --but very clear rates, that we all know about and can plan on --may well have less economic distortion than a massively complex code, with high statutory rates, but a welter of complex schemes and deductions that result in lower taxes.

Subsidy code. Tax expenditures --things like deductions for mortgage interest, employer provided health care, charitable contributions, and the $10,000 credit my wealthy Palo Alto neighbor got from the taxpayers for buying a Tesla -- are estimated at $1.4 trillion, 17 compare with $3.5 trillion Federal Receipts and $4 trillion Federal Expenditures. 18 Our Federal Government is really a third larger than it looks.

While the subsidy code could consist of a separate discussion of tax expenditures, it would be far better for the rules of the subsidy code to be: all subsidies must be on budget, where we can all see what's going on.

Redistribution. Even a consumption tax can be as progressive as one wants. One can use the regular income tax code with full deduction of savings and omitting capital income, thus taxing high consumption at higher rates and low consumption at lower rates.

Again, however, it might well be more efficient to integrate income redistribution with social programs. Put it on budget, and send checks to people. Yes, that makes spending look larger, but sending a check is the same thing as giving a tax break. And spending can be more carefully monitored.


Infrastructure is all the rage 19 . America needs infrastructure. Good infrastructure, purchased at minimum cost, that passes objective cost-benefit criteria, built promptly, can help the economy in the long run. Soft infrastructure --a better justice system, for example --matters as much as hard infrastructure --more asphalt.

However, there is no case that the halving of America's growth rate in the last 20 years is centrally due to potholes and rusting bridges. Poor infrastructure is not the cause of sclerosis, so already one should be wary of infrastructure investment as the central plan to cure that sclerosis.

The claim that infrastructure spending will lift the economy out of its doldrums lies on the "multiplier" effect, that any spending, even wasted, is good for the economy. That is a dubious proposition, especially when the task is to raise the economy by tens of trillions, over decades.

Modern infrastructure is built by machines, and not many people; even less people who do not have the specialized skills. A Freeway in California will do little to help employment of a high school dropout in New York, or a middle-aged mortgage broker in New Jersey. Neither knows how to operate a grader.

The problem with infrastructure is not lack of money. President Obama inaugurated a nearly trillion dollar stimulus plan 8 years ago. His Administration found out there are few shovel-ready projects in America today. They're all tied up waiting for historic review, environmental review, and legal challenges.

The problem with infrastructure is a broken process. Put a time limit on historic, environmental, and other reviews. Require serious, objective, and retrospective cost-benefit analysis. Repeal Davis-Bacon and other contracting requirements that send costs soaring. If the point is infrastructure it should be infrastructure, not passing money around. You ought to be able to agree on more money in return for assurance that the money is wisely spent.

Debt and deficits

This hearing is also about budgets and debts, which I have left to the end. Yes, our deficits are increasing. Yes, every year the Congressional Budget Office declares our long-term promises unsustainable.

I have not emphasized this problem, though in my opinion it is centrally important, and I think I was invited here to say so.

Recognize that computer simulations with hockey-stick debt, designed to frighten into submission a supporter of what he or she feels is necessary government spending, are as ineffective as computer simulations with hockey-stick temperatures, designed to frighten into submission a supporter of current economic growth and skeptic of draconian energy regulation. Yelling about each, louder, is not going to be productive.

And there are many voices who tell you debt is not a problem. Interest rates are at record lows. Why not borrow more, and worry about paying it back later? So, let me offer a few out of the box observations, and suggestions that you might agree on.

It is useful to clarify why debt is a problem. The case that large debts will slowly and inexorably push up interest rates, and crowd out investment, is hard to make in this era of ultra-low rates. Debt does place a burden of repayment on our children and grandchildren, but if we have reasonable economic growth they will be wealthier than we are.

The biggest danger that debt poses is a crisis.

Debt crises, like all crises that really threaten an economy and society, do not come with decades of warning. Do not expect slowly rising interest rates to canary the coalmine. Even Greece could borrow at remarkably low rates. Until, one day, it couldn't, with catastrophic results.

The fear for the US is similar. We will have long years of low rates. Until, someday, it is discovered that some books are cooked, and somebody owes a lot of money that they can't pay back, and people start to question debts everywhere.

For example, suppose Chinese debts blow up, and southern Europe as well. Both Europe and China will start selling Treasury debt quickly. Suppose at the same time that student loans, state and local pensions, and state governments are blowing up, along with some large U.S. companies, and banks under deposit insurance. A recession looms, which the US will want to fight with fiscal stimulus. The last crisis occasioned about $5 trillion of extra borrowing. The next one could double that.

So, the U.S. needs to quickly borrow additional trillions of dollars, while its major customers --foreign central banks --are selling. In addition, the U.S. borrows relatively short term. Each year, the U.S. borrows about $7 trillion to pay off $7 trillion of maturing debt, and then more to cover the deficit.

Imagine all this happens 10 years from now, with social security and medicare unresolved and increasing deficits. The CBO is still issuing its annual warnings that our debt is unsustainable. Now, bond investors are willing to lend to the US government so long as they think someone else will lend tomorrow to pay off their loans today. When they suspect that isn't true, they pull back and interest rates spike.

But our large debts leave our fiscal position sensitive to interest rate rises. At 100% debt to GDP ratio, if interest rates rise to just 5%, that means the deficit rises by 5 percentage points of GDP, or approximately $1 Trillion extra dollars per year. If bond investors were worried about sustainability already, an extra trillion a year of deficits makes it worse. So they demand even higher interest rates. Debt that is easily financed at 1% rates is not sustainable at 5% rates and a catastrophe at 10% rates --if you have a large debt outstanding.

This is a big part of what happened to Greece and nearly happened to Italy. At low interest rates, they are solvent. At high interest rates, they are not.

Debt crises are like an earthquakes. It's always quiet. People laugh at you for worrying. Buying insurance seems like a waste of money. Until it isn't.

So, the way to think about the dangers of debt is not like a predictable problem that comes to us slowly. View the issue as managing a small risk of a catastrophic problem, like a war or pandemic.

The easy answers are straightforward. Sensible reforms to Social Security and Medicare are on the table. Fix the indexing, improve the incentives for older people to keep working. Convert medicare to a premium support policy.

The harder problems are those less recognized. Underfunded pensions, widespread credit guarantees, and explicit or implicit too big to fail guarantees add tinder to the fire. Dry powder and good credit are invaluable.

Above all, undertake a pro-growth economic policy. We grew out of larger debts after World War II; we can do that again.

You can also buy some insurance. Every American household that takes out a mortgage faces the choice: fixed rate, or variable rate? The fixed rate is a little higher. But it can't go up, no matter what happens. The variable rate starts out lower. But if interest rates rise, you might not be able to make the payments, and you might lose the house. That is what happens to countries in a debt crisis.

For the US, this decision is made by the Treasury Department and the Federal Reserve. The Treasury has been gently lengthening the maturity of its borrowings. The Federal Reserve has been neatly undoing that effort.

Both Treasury and Fed need direction from Congress. The Treasury does not regard managing risks to the budget posed by interest rate rises as a central part of its job, and the Fed does not even consider this fact. Congress needs to decide who is in charge of the maturity structure of US debt, and guide the Treasury. I hope that guidance leans towards the fixed rate plan. By issuing long-term debt --I argue in fact for perpetuities, that simply pay a $1 coupon forever with no fixed roll over date -- and engaging in simple swap transactions that every bank uses to manage interest rate risk, the U.S. can isolate itself from a debt crisis very effectively. 20 But at least ask that fixed or floating interest rate question and make a decision.

As I have warned against focusing too much attention on on-budget spending, so let me warn against too much attention on deficits rather than spending. If you focus on debt and deficits, the natural inclination is to raise tax rates. Europe's experience in the last few years argues against "austerity" in the form of sharply higher tax rates, as always adding to the disincentive to hire, invest, or start innovative businesses.

Concluding comments

I have sketched some novel and radical-sounding approaches to restoring robust economic growth. Economic growth, together with commonsense fiscal discipline are keys to solving our budget problems.

This is not pie in the sky. These are simple straightforward steps, none controversial as a matter of economics. And there really is no alternative. Ask of other approaches: Does this at all plausibly diagnose why America's growth rate has fallen in half? Does the cure at all plausibly address the diagnosis? Is the cure based on a reasonable causal channel that you can actually explain to a constituent? Does the cure have a ghost of a chance of having a large enough effect to really make a difference?

You may object that fundamental reform is not "politically feasible." Well, what's "politically feasible" can change fast in this country. This is an exciting time politically. The people are mad as hell, and they're not taking it any more. They are ready for fundamental changes.

Furthermore, it is time for Congress to take the lead. These are properly Congressional matters, and no matter who wins the Presidential election you are unlikely to see leadership in this direction.

Winston Churchill once said that Americans can be trusted to do the right thing after we've tried everything else. [NB: apparently this is an urban legend. Oh well, it's a good quip if not a quote] Well, we've tried everything else. It's time to prove him right.


1. You can find a full CV, a list of all affiliations, and a catalog of written work at http://faculty.chicagobooth.edu/john.cochrane/index.htm. ↩

2.This testimony summarizes several recent essays. On growth and for an overview, see "Economic Growth." 2016. In John Norton Moore, ed., The Presidential Debates Carolina Academic Press p. 65-90. http://faculty.chicagobooth.edu/john.cochrane/research/papers/cochrane_growth.pdf; "Ending America's Slow-Growth Tailspin." Wall Street Journal, May 3 2016. http://www.wsj.com/articles/ending-americas-slow-growth-tailspin-1462230818, and "Ideas for Renewing American Prosperity" Wall Street Journal July 4 2014. http://online.wsj.com/articles/ideas-for-renewing-american-prosperity-1404777194. ↩

3. https://fred.stlouisfed.org/series/GDPCA, Continuously compounded annual rates of growth. Per capita https://fred.stlouisfed.org/series/A939RX0Q048SBEA ↩

4. https://www.cbo.gov/sites/default/files/114th-congress-2015-2016/reports/51580-LTBO-2.pdf ↩

5. 100*exp(30 x 0.02) = 182. 100*exp(30*0.035) = 286. ↩

6. As an example of agreement on the fundamental importance of growth among economists of all political leanings, see Larry Summers, "The Progressive Case for Championing Pro-Growth Policies," 2016. http://larrysummers.com/2016/08/08/the-progressive-case-for-championing-pro-growth-policies/ ↩

7. For an excellent recent exposition of this view, see Robert J. Gordon, The Rise and Fall of American Growth: The U.S. Standard of Living since the Civil War. Princeton University Press 2016. http://press.princeton.edu/titles/10544.html ↩

8. An influential example of these views, including self-financing stimulus: J. Bradford DeLong and Lawrence H. Summers, "Fiscal Policy in a Depressed Economy" Brookings Papers on Economic Activity. Spring 2012. https://www.brookings.edu/bpea-articles/fiscal-policy-in-a-depressed-economy/. Interestingly, DeLong and Summers condition their view on interest rates stuck at zero, a cautionary limitation that current stimulus advocates seem to have forgotten. ↩

9. See "Rule of Law in the Regulatory State." 2015. http://faculty.chicagobooth.edu/john.cochrane/research/papers/ rule_of_law_and_regulation essay.pdf ↩

10. http://www.wsj.com/articles/the-clinton-for-profit-college-standard-1473204250 ↩

11. http://www.washingtontimes.com/news/2016/sep/7/irs-refuses-to-abandon-targeting-criteria-used-aga/ ↩

12. http://www.usatoday.com/story/news/politics/onpolitics/2016/02/22/trump-ricketts-family-better-careful/80761060/ ↩

13. See "After the ACA: Freeing the market for health care." 2015. In Anup Malani and Michael H. Schill, Eds. The Future of Healthcare Reform in the United States, p. 161-201, Chicago: University of Chicago Press. http://faculty.chicagobooth.edu/john.cochrane/research/papers/after_aca_published.pdf ↩

14. See "Toward a run-free financial system." 2014. In Across the Great Divide: New Perspectives on the Financial Crisis, Martin Neil Baily and John B. Taylor, Editors, Stanford: Hoover Institution Press, p. 197-249. http://faculty.chicagobooth.edu/john.cochrane/research/papers/across-the-great-divide-ch10.pdf, and "A Blueprint for Effective Financial Reform." 2016. In George P. Shultz, ed, Blueprint for America Hoover Institution Press, p. 71 - 84. http://faculty.chicagobooth.edu/john.cochrane/research/papers/george_shultz_blueprint_for_america_ch7.pdf ↩

15. See Casey Mulligan The Redistributon Recession, Oxford University Press 2012. ↩

16. See "Here's what genuine tax reform looks like." Wall Street Journal, December 23 2015. http://www.wsj.com/articles/heres-what-genuine-tax-reform-looks-like-1450828827 ↩

17. https://www.whitehouse.gov/omb/budget/Analytical_Perspectives Table 14; http://www.taxpolicycenter.org/briefing-book/what-tax-expenditure-budget ↩

18. https://fred.stlouisfed.org/series/W019RCQ027SBEA ↩

19. See "The Clinton Plan's Growth Deficit." Wall Street Journal, August 12 2016. http://www.wsj.com/articles/the-clinton-plans-growth-deficit-1470957720. Also, for an excellent and well documented review of these issues, see Edward L. Glaeser, 2016, "If you Build it..." City Journal, Summer 2016, http://www.city-journal.org/html/if-you-build-it-14606.html ↩

20. For more details see: A New Structure For U. S. Federal Debt." 2015. In David Wessel, Ed., The $13 Trillion Question: Managing the U.S. Government's Debt, pp. 91-146. Washington DC: Brookings Institution Press. https://www.brookings.edu/book/the-13-trillion-question/ and http://faculty.chicagobooth.edu/john.cochrane/research/papers/Cochrane_US_Federal_Debt.pdf. For a clear analysis of the problem, that recommends the opposite action --shortening the maturity structure to take advantage of low rates --see Robin Greenwood, Samuel G. Hanson, Joshua S. Rudolph, and Lawrence H. Summers, "The Optimal Maturity of Government Debt" and "Debt Management Conflicts between the U.S. Treasury and the Federal Reserve," also in David Wessel, Ed., The $13 Trillion Question: Managing the U.S. Government's Debt.↩

16 Aug 2020

Blueprint for America - Barokong

Some of the inspiration for this project came from the remarkable 1980 memo (here) to President-elect Ronald Reagan from his Coordinating Committee on Economic Policy.

Like that memo, this is a book about governance, not politics.  It's not partisan -- copies are being sent to both campaigns. It's not about choosing or spinning policies to attract voters or win elections.

The book is about long-term policies and policy frameworks -- how policy is made, return to rule of law, is as important as what the policy is --  that can fix America's problems. It focuses on what we think are the important issues as well as policies to address those issues -- it does not address every passion of the latest two-week news cycle.

The book comprises the answers we would give to an incoming Administration of any party, or incoming Congress, if they asked us for a policy package that is best for the long-term welfare of the country.

The chapters, to whet your appetite:


CHAPTER 1: The Domestic Landscape by Michael J. Boskin

IN BRIEF: Spending by George P. Shultz

CHAPTER 2: Entitlements and the Budget by John F. Cogan

CHAPTER 3: A Blueprint for Tax Reform by Michael J. Boskin

CHAPTER 4: Transformational Health Care Reform by Scott W. Atlas

CHAPTER 5: Reforming Regulation by Michael J. Boskin

CHAPTER 6: National and International Monetary Reform by John B. Taylor

CHAPTER 7: A Blueprint for Effective Financial Reform by John H. Cochrane

IN BRIEF: National Human Resources by George P. Shultz

CHAPTER 8: Education and the Nation’s Future by Eric A. Hanushek

CHAPTER 9: Trade and Immigration by John H. Cochrane

IN BRIEF: A World Awash in Change

CHAPTER 10: Restoring Our National Security by James O. Ellis Jr., James N. Mattis, and Kori Schake

CHAPTER 11: Redefining Energy Security by James O. Ellis Jr.

CHAPTER 12: Diplomacy in a Time of Transition by James E. Goodby

CLOSING NOTE: The Art and Practice of Governance by George P. Shultz

My chapter on a Blueprint for Effective Financial Reform is a better version of the talk on Equity Financed banking which I posted here. (The talk was based on the paper. Now you have the paper.)

My chapter on Trade and Immigration is new, and an uncompromising red-meat free-market view. I don't think one should compromise centuries old economic understanding just because it's not politically popular at the moment.

If you got this far, you might also be interested in my Economic Growth essay written for a parallel but similar project.

15 Aug 2020

Summers on growth and stimulus - Barokong

Larry Summers has an important, and 95% excellent, Financial Times column. Larry is especially worth listening to. I can't imagine that if not a main Hilary Clinton adviser he will surely be an eminence grise on its economic policies. He's saying loud and clear what they are, so far, not: Focus on growth.

The title "the progressive case" for growth, is interesting enough. Perhaps Larry now uses the word "progressive" to describe himself. More importantly, Larry's audience here is the Clinton campaign and the Democratic party. He's saying loud and clear: you're not paying enough attention to growth, and growth ought to be at the center of the party, and the new Administration's, economic plans.

...many people, in their eagerness to focus on fairness, neglect the single most important determinant of almost every aspect of economic performance: the rate of growth of total income,
Hooray. Not only is this vitally important and factually correct, a growth oriented policy, if sold without the usual demonization, could well attract bipartisan support. That sentence could come from Paul Ryan's a better way

Alas, Larry blows that spirit right off the bat with a sentence that take a gold medal for convoluted calumny and bombastic bulverism:

Because those who champion strategies that centre on business tax-cutting and deregulation and favour the wealthy have placed the most emphasis on growth over the past 35 years, the objective of increasing growth has been discredited in the minds of too many progressives.
Translated into something approximating English: because people whose only and base motive was "favoring the wealthy" happened to advocate growth to sell their (as later described) useless tax-cutting and deregulation strategies, the goal of growth has become tarnished in the minds of good progressives.

This is below Larry -- in person I have always known him to recognize that conservatives and free-marketers have exactly the same dispassionate goal, advocate growth primarily to help the less well off, and tax-cutting and deregulation as time-proven policies that improve growth.  But, again, his audience is to the left, so perhaps one can excuse some I-hear-you agreeing with common demonizations.

But then he gets to well written and praiseworthy work, so good I must quote it in entirety:

It can hardly be an accident that the decades of maximum growth, the 1960s and 1990s, also saw the most rapid job growth and most rapid increase in middle-class living standards.

Growth provides the wherewithal for increased federal revenue and so encourages the protection of vital social insurance programmes such as Social Security and Medicare....

Tight labour markets are the best social programme, as they force employers to hire and mentor inexperienced people in order to be adequately staffed. Some years ago, I estimated that for each 1 per cent point increase in adult male employment, the employment of young black men rose 7 per cent. More recent research confirms economic growth has an outsized benefit for younger people and minorities.

Rising growth has other benefits, as well. It strengthens the power of the American example in the world. It obviates the need for desperation monetary policies that risk future financial stability. Greater growth also has historically operated to reduce crime, encourage environmental protection and contributes to public optimism about the country that our children will inherit.

The reality is that if American growth continues to have a 2 per cent ceiling, it is doubtful that we will achieve any of our major national objectives.

If, on the other hand, we can boost growth to 3 per cent, interest rates will normalise, middle-class wages will rise faster than inflation, debt burdens will tend to melt away and the power of the American example will be greatly enhanced.

...the vast majority of job creation and income growth comes from the private sector. If the next president is lucky enough to oversee the creation of 10m jobs from 2017-20, more than 8m of them will surely come from businesses hiring in response to profit opportunities.
All true, excellent, well-stated, and bipartisan (at least for the pre-Trump era). Jeb Bush's 4%, Paul Ryan's opportunity society agree totally. Heck, even Gary Johnson might find little to quibble with here. If growth could be the mantra for the Hilary Clinton administration, and if Larry can persuade his fellow "progressives," great things could follow.

And now to the remaining 5%:

There is no case for reducing already low corporate taxes or removing regulations unless it can be shown that these have costs in excess of benefits.

What is needed is more demand for the product of business. This is the core of the case for policy approaches to raising public investment, increasing workers’ purchasing power and promoting competitiveness. No case? Really? The higher taxes, steadily more convoluted tax code, vast expansion of regulation (Dodd-Frank, Obamacare are just the start) that coincided with our epic slow growth, have nothing at all to do with that sorry experience?   There is absolutely nothing wrong with the microeconomics of the American economy and its vast administrative, judicial and regulatory state, we just need a bit more "demand?"

Leave aside the last 30 years of growth theory, which is silent on "demand," we can do nothing better than move around 1970s era IS and LM curves, and revive ideas from the 1930s?

Read the second paragraph carefully. "More demand" is the ""core of the case for policy approaches to raising public investment, increasing workers’ purchasing power and promoting competitiveness."

That "more demand" is the "core of the case" for (The Federal Government to borrow a lot of money and spend it on things labeled as) "public investment" admits up front that the actual value of such investment is at best secondary. Public investment in a great Ice Wall of Westeros on the southern border, or for high-speed trains from Tonopah to Winemucca, do just as well in boosting "demand."

What is needed is a serious negotiation: Fund needed infrastructure investment, but put in serious cost-benefit analysis,  buy it at reasonable prices, and so forth. That negotiation should start by abandoning the whole idea that we're doing it to provide "jobs" and "demand." If you're not wiling to do that, at least be honest and state that Mr. Trump's wall provides the same "demand."

Then explain to us how Japan has been at this for 20 years, producing no great shakes of growth.

"policy-approaches to... increasing worker's purchasing power" is another classic hidden-subject clause. I presume it means [The Federal Government, by legislation, regulation, or threat, will force companies to pay workers more, and then control employment to make sure those companies don't just fire workers or select better ones in order to ] increase [some] worker's purchasing power." Gary Johson's program also increases worker's purchasing power, and I don't think that's what Larry has in mind. I'm also curious where in modern economics forced transfers increase employment and long-run growth.

But in context, this is a small complaint. If Larry can persuade Mrs. Clinton and the "progressives" in the Democratic Party to focus on growth, to state goals for growth, and to hold themselves accountable for growth, then we can have an honest and very productive conversation about what's stopping growth and what steps can further it.

11 Aug 2020

Testimony - Barokong

I was invited to testify at a hearing of the House budget committee on Sept 14. It's nothing novel or revolutionary, but a chance to put my thoughts together on how to get growth going again, and policy approaches that get past the usual partisan squabbling. Here are my oral remarks. (pdf version here.) The written testimony, with lots of explanation and footnotes, is here. (pdf) (Getting footnotes in html is a pain.)

Chairman Price, Ranking Member Van Hollen, and members of the committee: It is an honor to speak to you today.

Sclerotic growth is our country’s most fundamental economic problem. If we could get back to the three and half percent postwar average, we would, in the next 30 years, triple rather than double the size of the economy—and tax revenues, which would do wonders for our debt problem.

Why has growth halved? The most plausible answer is simple and sensible: Our legal and regulatory system is slowly strangling the golden goose of growth.

How do we fix it? Our national political and economic debate just makes the same points again, louder, and going nowhere. Instead, let us look together for novel and effective policies that can appeal to all sides.


Let’s get past “too much” or “too little” regulation, and fix regulation instead.

Regulation is too discretionary – people can’t read the rules and know what to do. Regulatory decisions take forever. Regulation has lost rule-of-law protections. Agencies are cop, prosecutor, judge, jury and executioner all rolled in to one. Most dangerous of all, regulation is becoming more politicized.

Congress can fix this.

Social programs

Let’s get past spending “more” or “less” on social programs, and fix them instead.

Often, if you earn an extra dollar, you lose more than a dollar of benefits. No wonder people get stuck. If we fix these disincentives, we will help people better, encourage growth and opportunity--and in the end we will spend less.

Spend more to spend less.

Spending is a serious problem. But moving spending off the books does not help.

For example, we allow a mortgage interest tax deduction. This is exactly the same as collecting taxes, and sending checks to homeowners – but larger checks for high income people, people who borrow a lot, and people who refinance often.

Suppose we eliminate the mortgage deduction, and put housing subsidies on budget. The resulting homeowner subsidy would surely be a lot smaller, help lower-income people a lot more, and be better targeted at getting people in houses.

The budget would look bigger. But we would really spend less -- and grow more.


Tax reform fails because arguments over the level of taxes, subsidies, or redistribution torpedo sensible simplifications. We could achieve tax reform by separating its four confounding issues.

First, determine the structure of taxes, to raise revenue with minimal economic damages, but leave the rates blank. Separately negotiate the rates. Put all tax incentives in a separate subsidy code, preferably as visible on-budget expenditures. Add a separate income-redistribution code. Then necessary big fights over each element need not derail the others.

A massive simplification of the tax code is, I think, more important than the rates – and easier for us to agree on.

Debt and deficits

Each year the CBO correctly declares our long-term debt unsustainable. Yelling louder won’t work.

First, let’s face the big problem: a debt crisis, when the U.S. suddenly needs to borrow a lot and roll over debts, and markets refuse. This, not a slow predictable rise in interest rates and crowding out, strikes me as the biggest problem.  Crises are always sudden and unexpected, like earthquakes and wars. Even Greece could borrow at remarkably low rates. Until, one day, it couldn’t.

The answers are straightforward. Sensible reforms to Social Security and Medicare are on the table. Address underfunded pensions, widespread credit and bailout guarantees.

Buy some insurance. Like every homeowner shopping for a mortgage, the US chooses between a floating rate, lower initially, and a fixed rate, higher initially, but forever insulating the budget from interest rate risks, which are the essential ingredient of a debt crisis. Direct the Treasury and Fed to buy the fixed rate.

Above all, undertake this simple, pro-growth economic policy, and grow out of debt.

Concluding comments

You may object that fundamental reform is not “politically feasible.” Well, what’s “politically feasible” changes fast these days.

Winston Churchill once said that Americans can be trusted to do the right thing, after we’ve tried everything else. Well, we’ve tried everything else. It’s time to do the right thing.

10 Aug 2020

EconTalk - Barokong

As in other recent projects (growth essay,testimony) I'm trying to synthesize, and also to find policies and ways to talk about them that avoid the stale left-right debate, where people just shout base-pleasing spin ever louder. "You're a tax and spend socialist" "You just want tax cuts for your rich buddies" is getting about as far as "You always leave your socks on the floor" "Well, you spend the whole day on the phone to your mother."

We did this as an interview before a live audience, at a Chicago Booth alumni event held at Hoover, so it's a bit lighter than the usual EconTalk. This kind of thought helps the synthesis process a lot for me.  Russ' pointed questions make me think, as did the audience in follow up Q&A (not recorded). Plus, it was fun.

I always leave any interview full of regrets about things I could have said better or differently. The top of the regret pile here was leaving a short joke in response to Russ' question about what the government should spend more on. Russ was kindly teeing up the section of thegrowth essay "there is good spending" and perhaps "spend more to spend less" ideas in several other recent writings. It would have been a good idea to go there and spend a lot more time on the question.

From the growth essay, I think the government could profitably spend a lot more money on the justice system. That so many of our fellow citizens rot in jail awaiting trials, that the vast majority never receive a trial anyway but a hasty plea-bargain, that their legal representation is so thin, is a disgrace -- and causing huge problems. If a wrongly accused young man spends two years in jail before charges are dropped, the consequences for him and his family are awful. Business relies on a speedy and efficient justice system to adjudicate commercial disputes, and that seems to be falling apart too, partly for lack of resources.  The cost here is peanuts compared to, say, peanut subsidies.

Our public infrastructure doesn't just consist of steel and asphalt. The public software needs investment as well, or more.

Public health is one of the most essential public goods. Of all the civilization-ending scenarios you can think of, nuclear war and a pandemics top my list. Many past pandemics followed a surge in globalization -- the plague of the 1350s, that wiped out half or more of the population; the smallpox that wiped out native America in the 1500s, the 1918 flu. (Larry Summers has a good article on this point.) We are ripe for antibiotics to stop working and new diseases to spread catastrophically, if not among humans among the plants and animals on which we depend. Don't count on the UN and the WHO.

The government can profitably fund basic research. "Yes, 95% of funded research is silly. Yes, the government allocates money inefficiently. Yes, research should also attract private donations. But the 5% that is not silly is often vital, and can produce big breakthroughs." (Basic research is not the same thing as subsidies for commercializing research.)

Yes, Martha, I should have said, there are public goods here and there.

Of course, more spending on things like these does not imply more spending overall. They're all remarkably cheap, and could easily be funded by spending a little less on some of the colossal waste. (Example: We spend $6 billion on the FBI and $13 billion on border control.) Of course, one must also spend wisely and use the results wisely. And one could add a lot to the list. But repeating a fun joke about spending is not the right answer.

Trump Taxes - Barokong

As I see it, important points about the Trump tax affair are not yet reflected in media coverage. 1) This affair reflects the intrinsic difficulties of an income tax. A consumption tax can be more progressive -- Mr. Trump would have likely have paid a lot more. 2) Raising personal income tax rates and especially capital gains and estate tax rates will do little to raise tax payments from the likes of Mr. Trump. No taxable income = no tax at any rate. It will likely have the opposite effect, making more lawyer, accountant, and lobbyist time worthwhile.

The main issue, really, is not what taxes Mr. Trump did or did not pay after the big loss. The big issue is what taxes he did or did not pay beforehand.

If we're going to tax income, the principle of net operating loss carry-forward (this sort of taxese by itself tells you a lot about what's wrong with the system) makes a lot of sense. Suppose you run a business that makes $1,000,000 in even years, and loses $900,000 in odd years. On average, you make $50,000 per year. But if you pay a 40% Federal income tax rate (plus state, local, etc.) in the good years, then you pay $200,000 per year on average in taxes, a 400% tax rate.

So, if Mr. Trump really had earned $1,000,000,000 of income, paid taxes on that income, then lost $900,000,000 as reported, allowing him to deduct future income against that $900,000,000 until he pays taxes only on the net $100,000,000 makes abundant sense. (I'm struggling to keep track of the zeros here.)

Now you see the big issue. The real question is, did Mr. Trump actually make income, pay taxes, and then suffer that $900,000,000 loss? Or, did other people suffer the loss, and Mr. Trump got to use the losses to protect his future income? Or, are the losses basically fictitious?  The reporting (New York Times ) suggests the latter

...net operating loss, or N.O.L., allows a dizzying array of deductions, business expenses, real estate depreciation, losses from the sale of business assets and even operating losses to flow from the balance sheets of those partnerships, limited liability companies and S corporations onto the personal tax returns of men like Mr. Trump.
Thefollow up offered more detail on where fictitious or other people's losses come from:

... he might have been able to record write-downs of assets under a doctrine known as “abandonment,” an aggressive accounting tactic used when an investor walks away from a worthless or nearly worthless asset and writes off the entire capital investment in the property. ["The" does not mean "his?"]
... Mr. Trump personally guaranteed $832 million of debt related to his casinos and other assets. Under tax code provisions available to real estate developers, he could take the full amount as a deduction even if he didn’t invest a dime of his own money. [my emphasis]
Ordinarily, that deduction would be recaptured when the debt was forgiven or the underlying assets sold. If the debt were forgiven, Mr. Trump would have to report that as income. But there are various exceptions. If Mr. Trump was insolvent at the time — if his debts exceeded his assets — he might have avoided having to report the forgiveness of debt as income...
There are other provisions, too, that might have allowed Mr. Trump to deduct the loans but never have to report them as income.
Real estate developers are also uniquely able to realize losses as soon as they occur, but defer gains, often indefinitely, through such tactics as like-kind exchanges. “It’s heads Trump wins, and tails the government loses,” Mr. Knoll said.
As a simple version, lunch conversation had the following anecdote: If you rent out property here, you can depreciate the cost of the house. But the cost of the house in the bay area is 99% value of land which doesn't depreciate. So you can cut your taxable income by this fictitious depreciation. I don't know if it's true, but it is a similar story.

Now, for lessons.

Income and corporate taxes. Compare this outcome to a consumption tax. Suppose that no matter what his income, Mr. Trump had to pay, say, 25% VAT on

...Mr. Trump’s opulent lifestyle over the years. At the nadir of his personal financial crisis in the early 1990s, his lenders put him on an annual “budget” of $450,000 in personal expenses — more than enough to sustain his lifestyle of lavish homes, private jets, country clubs and golf courses
Assuming that he did not, in fact, pay 40% taxes on the $900,000,000 before he "lost" it, he would have ended up paying a lot more in consumption taxes. A consumption tax can be more progressive than an income tax. The attempt to tax income is at the root of all this mess.

It's not just Trump. The great news of this story is that it shines a light on the affairs of America's "dynastic families" (aristocracy), and the puzzle of why they all seem to be so heavily invested in real estate. From the Times again,

...America’s dynastic families, which, like the Trumps, hold their wealth inside byzantine networks of partnerships, limited liability companies and S corporations.
...According to Mr. Mitnick, Mr. Trump’s use of net operating losses was no different from that of his other wealthy clients.
“If it wasn’t clear before, it is now: The tax code is tilted toward the rich in its statutory framework, its exceptions, and in how it is enforced and administered,” said Steven M. Rosenthal, a real estate tax specialist and senior fellow at the Urban-Brookings Tax Policy Center.
It goes on. A real estate lawyer once explained to me how she set up trusts for one of these "dynastic families." On Junior's first birthday he gets complex shares in a limited partnership worth just under the gift tax limit. 50 years later, what do you know by capital gains it's worth $50 million, so the property passes outside of estate taxes.

What fixes it?Neither candidate's tax plan does anything that I see to eliminate these shenanigans among the super-rich who can afford to hire armies of lawyers. (Correct me if I am wrong, please. I have not read them in great detail as I know they will be shredded on Nov. 7). Mrs. Clinton's plans to raise personal income tax rates doesn't raise more taxes from people who have sheltered all their income. Raising capital gains and estate tax rates just raises the incentive to pursue shelters. (See for example Zuckerberg's GRAT)

The right response to this affair is outrage at the astonishing crony complexity of the tax code, not really Mr. Trump's apparently perfectly legal behavior.  I can't see a way to get around this than to abandon the attempt to tax income, and just tax consumption instead.

As for Mr. Trump, I actually have a kind thing to say: This affair makes it clear that politics is indeed a recent avocation.  You can tell which economists want government jobs and which don't by how they pay their nannies. Nobody planning to run for office would have done this!

Update: Debt Parking by John Hempton (HT Marginal Revolution). Short version: Borrow lots of money. Lose it, take tax loss. Sell worthless debt to offshore entity. Get creditors to forgive debt. Normally, debt forgiveness counts as income and eats back your tax losses. But since that "income" is not cash, it's easy to hide it. The big question will be whether Mr. Trump did this, or whether he later paid taxes on the forgiven debt or not.

Hampton speculates he did not pay that tax:

There is a vehicle out there (say an offshore trust or other undisclosed related party effectively controlled by Donald Trump) - which owns over $900 million in debt and is not bothering to collect it.
I do not have the time or energy to find that vehicle. But it is there. Now that this blog has gone public journalists are going to look for it.
There is a Pulitzer prize for whoever finds it. Just give me a nod at the acceptance ceremony
Update 2: Josh Barro writes about a more plausible explanation from Lee Sheppard -- the "Gitlitz loophole." Until 2002, someone in Mr. Trump's position could, in fact, set up a company, borrow a ton of money, lose it, have the debt forgiven in the company's bankruptcy, but use the lost borrowed money against future personal taxes. Apparently, it was an error in writing the tax code, which Congress fixed when it came to light.

I stick to my interpretation that the episode reveals more about insane complexity of the tax code, a necessary result of trying to tax income, than much of anything else.

A first step to progressive consumption taxes - Barokong

What's an easy way to get going on progressive income taxes? Simply remove all limits on contributions to and withdrawals from IRAs. (I thank my Hoover colleague Michael Bernstam for this clever idea, and the Hoover coffee room for bumping us into each other.)

Background: Once people see that a consumption tax, in place of income tax, corporate tax, estate tax, etc. is much simpler and more economically efficient, the natural question is "what about progressivity?" The answer is that there are lots of ways to make a consumption tax progressive.

My favorite (today) is a flat consumption tax, with the same rate on everything, collected as a VAT.

Then, realize that progressive taxation is the same thing as flat taxation plus redistribution. If I pay 40% tax and you pay 20% tax, that's the same thing as both of us paying 40% tax and you receiving a check from the government. So, I think, separate taxation (raising revenue for the government at minimum cost), subsidy, and redistribution. Make redistribution coherent, integrate it with other programs, and implement it by sending people checks, on budget.

Most countries try to make it progressive by charging different rates for things that rich people buy vs. poor people. But that is a mistake as it distorts the economy. Even rich people can buy more tacos and less yachts, and maybe a poor person wanted to buy a yacht and start a rental business.

An alternative implementation is to turn the current income tax system into a progressive consumption tax. If you can fully deduct savings from income, the "income" tax becomes a consumption tax. Alternatively, pay taxes on all "earned" income, but no tax on  dividends, interest, or capital gains. That works out to the same thing -- no tax distortion on whether you consume the day you get the income, or later after returns compound.

That approach leads to all sorts of definitional problems, which is why I haven't been a huge fan. (Though I'm not strongly opinionated, recognizing that people who advocate it know a lot more about the tax code than I do.)

So, along comes Michael. Why not just remove all limits on IRAs? Contribute as many pre-tax dollars as you want. Interest, dividends, and capital gains accumulate tax free. No minimum distributions, estate taxes, etc. But when you take money out of the IRA, to consume it (otherwise you'd leave it in!) you pay income tax.

Yes, it's imperfect. It doesn't solve the Trump issue that what is "income" is an elastic concept in the hands of lawyers and lobbyists. But it's a quick and easy step that gets us a long way there.

Our tax code sort of recognizes that taxing rates of return is a bad idea. We tax "unearned" income -- but then there is a huge list of complex exemptions. 401(k), 526(b), IRA, Roth IRA, health savings accounts, college savings accounts, step up of capital gains at death, like-kind exchanges, and on and on, each with complex rules to follow. Just removing all limits on IRAs would be a big step towards a consumption tax, and then we wouldn't need all these other ones either.

Objections? I'm not great on tax law, so it will be fun to hear comments.

4 Aug 2020

Growth full oped - Barokong

Source: Wall Street Journal

On November 7 I wrote "Don't believe the economic pessimists," an oped about growth in the Wall Street Journal. Now that 30 days have passed, I can post the whole thing here. pdf here (my webpage).

Don't Believe the Economic Pessimists

No matter who wins Tuesday’s presidential election, now ought to be the time that policy makers in Washington come together to tackle America’s greatest economic problem: sclerotic growth. The recession ended more than seven years ago. Unemployment has returned to normal levels. Yet gross domestic product is rising at half its postwar average rate. Achieving better growth is possible, but it will require deep structural reforms.

The policy worthies have said for eight years: stimulus today, structural reform tomorrow. Now it’s tomorrow, but novel excuses for stimulus keep coming. “Secular stagnation” or “hysteresis” account for slow growth. Prosperity demands more borrowing and spending—even on bridges to nowhere—or deliberate inflation or negative interest rates. Others advocate surrender. More growth is impossible. Accept and manage mediocrity.

But for those willing to recognize the simple lessons of history, slow growth is not hard to diagnose or to cure. The U.S. economy suffers from complex, arbitrary and politicized regulation. The ridiculous tax system and badly structured social programs discourage work and investment. Even internet giants are now running to Washington for regulatory favors.

If you think robust growth is impossible, consider a serious growth-oriented policy program—one that could even satisfy many of the left’s desires.

• Taxes. The ideal tax system raises revenue for the government while distorting economic decisions as little as possible. A pure tax on consumption, with no corporate, income, estate, or other taxes is pretty close to that ideal.

The U.S. tax system is the opposite: By exempting lots of income, the government raises relatively little money. Yet an extra dollar is heavily taxed, greatly lowering incentives and encouraging people to find or create exemptions. This massive complexity and obscurity undermine faith in the system.

Progressives, ponder this: With a sales tax of only 25%, the government would likely have gotten a lot more money from Donald Trump—who has employed complex but legal tax-avoidance schemes—than it did by purporting to tax income at high rates.

• Regulation. U.S. regulation is arbitrary, slow, discretionary and politicized. Speak out on the wrong side of the party in power and some federal agency will be after you.

Imagine a deep rule-of-law regulatory reform, along the lines proposed by House Speaker Paul Ryan’s “Better Way” plan. Congress must review and approve major regulations. People and businesses have a right to see evidence and appeal. Regulators face a shot clock—no more years and years of delays on decisions. Agencies must conduct serious, transparent and retrospective cost-benefit analysis.

Imagine a similar deep reform of state and local restrictions including zoning laws and occupational-licensing regulations.

• Social programs. When many people earn an extra dollar, they lose more than a dollar of benefits. If we fixed these disincentives, more Americans would work—and fewer would need benefits.

• Health. Replace ObamaCare with a simple health-insurance voucher. Deregulate insurance and entry into health care dramatically.

• Finance. Replace strangling regulation of financial companies with a simple rule: If you issue enough equity that stockholders bear the risks, you can do what you want. Rep. Jeb Hensarling has proposed such legislation. Hearty competition is the best consumer protection.

• Labor. The best worker protection is a worker’s ability to swiftly change jobs. This is more likely if employers do not face a mountain of red tape, complex rules and legal liability.

• Immigration and trade. The politically incorrect truth: Allowing Americans to buy from the best supplier and permitting people who want to work and start businesses to immigrate is good for the economy. Trying to impoverish China will not revive America.

• Education. Let lower-income Americans get a decent education from charter schools and vouchers.

• Energy. Trade all the crony subsidies and credits and regulations for a simple uniform revenue-neutral carbon tax. The country will have more growth and less carbon.

It would take an entrenched obtuseness to claim such a program cannot substantially improve economic output and incomes. If you claim such good policy cannot help, then it follows that bad policies do not hurt. Nativism, trade barriers, overregulation, legal capture, high taxes, controlled markets and people excluded from work won’t hurt our slow but positive growth. Don’t give populists cover to try it again.

If you object that such good policy is politically infeasible, then you at least grant that robust growth is economically possible. And small steps help. Current bipartisan proposals to reform taxes, Social Security, immigration, the regulatory state and trade agreements would go a long way to reviving growth. Have a bit more faith in democracy.

On the other hand, the major party presidential candidates’ signature plans—child-care tax credits, college subsidies, higher taxes on people who don’t hire good enough lawyers; threatening a trade war and deporting millions of unauthorized immigrants—cannot revive substantial growth.

So why is there so little talk of serious growth-oriented policy? Regulated and protected industries and unions, and the politicians who extract support from them in return for favors, will lose enormously. The global policy elite, steeped in Keynesian demand management for the economy as a whole, and microregulation of individual businesses, are intellectually unprepared for the hard project of “structural reform”—fixing the entire economy by cleaning up the thousands of little messes. Even economists fight to protect outdated skills.

Mr. Cochrane is a senior fellow of the Hoover Institution and an adjunct scholar of the Cato Institute.

Trump Taxes Two - Barokong

Source: Wall Street Journal
"President-elect Donald Trump owns a helicopter in Scotland.

To be more precise, he has a revocable trust that owns 99% of a Delaware limited liability company that owns 99% of another Delaware LLC that owns a Scottish limited company that owns another Scottish company that owns the 26-year-old Sikorsky S-76B helicopter, emblazoned with a red “TRUMP” on the side of its fuselage."
So write Jean Eaglesham, Mark Maremont, and Lisa Schwartz in the Wall Street Journal

"WTF?" wonders the incredulous reader. Why does Mr. Trump structure his finances with such mind-boggling complexity, to say nothing of astronomic legal costs? The article is pretty thin on explaining the logic of all this.

You can see the Journal writers struggling for a narrative. Is this about Mr. Trump's "conflict of interest" issues? Is this something nefarious about Mr. Trump, efforts to hide something? (You can be sure earnest investigative reporters at the Times will be beating both drums for the next four years. And just as sure that nobody will pay much attention unless they can tempt Mr. Trump into saying something stupid about it all.)

Let me suggest a productive narrative. Mrs. Clinton's email saga laid bare for all of us to see the financial arrangements of prominent public figures -- "charitable foundations" to funnel money around, all "legal." In my view, rightly felt disgust at that look into our political system had a lot to do with the election. Mr. Trump's financial arrangements lay bare for all of us to see the financial arrangements of the super-wealthy in this country, also massively complex, perfectly "legal," and smelling equally of last week's fish. The right response is equal disgust at the obscene tax code and crony capitalist system that produces this mess.  Mitt Romney's taxes were 550 pages long, and he only had investments, not operating companies! Fellow peasants, get out your pitchforks!

What are all these shell companies about? I would love to hear from some of the attorneys who set these things up. But we get some hint from the article

LLCs registered in Delaware are widely used for real estate because of their tax advantages.
Delaware LLCs don't have to publish any financial information or even disclose the identity of the owner. In addition, the most a member of an LLC can lose if the company fails is normally the amount he or she has invested in that company
I actually know something about this because, like Mr. Trump I own an aircraft. Mine doesn't even have an engine, but the law is the same. When you register an aircraft, the state sales tax authorities come looking for you and want their share. If you register the aircraft in a Delaware LLC, they have a much tougher time finding you. Google "Delaware Aircraft Registration" and many ads from very nice companies will pop up explaining it all. If your airplane is worth less than $100,000, it's not worth the bother. (Disclosure: I paid the sales tax. Chump that I am.) If its worth millions, it is very much worth the bother. Google the FAA aircraft registry (public, online) and you will see lots of Delaware owners. Hint, there aren't a lot of airports in Delaware.

I suspect this is about a lot more than sales taxes. There has been another drumbeat that Mr. Trump should sell or transfer his businesses to his children. This is ridiculous to anyone who pays taxes. If you actually sell a business you pay a huge capital gains tax, and if you transfer it you pay a huge gift tax. The affairs of real estate moguls are exquisitely structured to avoid estate and gift taxes, through vehicles and trusts that need to operate over long spans of time. It helps a lot to have very complicated structures where nobody knows what anything is worth.

(The second big advantage, mentioned in the above ads, is protection from liability. If the plane crashes into a puppy farm, they won't be able to go after Mr. Trump's other assets.)

The journal article also tries on the narrative that we don't know how much Mr. Trump is really worth, I think keeping up the spin from the campaign that maybe he was lying about his billions. But that too deserves a better narrative. We don't know how much he's worth. Neither does Mr. Trump, pretty obviously. Why did he set up his businesses so it is impossible for even him to know how much he's worth? Well, stated that way, one conjectures it's a pretty good idea for the IRS to be unable to figure out how much you're worth too!

Every time a sensible person pipes up that we should repeat 1986, lower marginal rates of the federal income tax, broaden the base, and simplify the tax code, our friends on the left (including a lot of prominent economists, who should know better than to echo propaganda) scream "tax cuts for the rich!" Reading this story, I can imagine just how much Mr. Trump's lawyers and accountants chuckle when they hear that. Personal income taxes? Who even bothers with those!

What has happened to America that, if you have the money to buy a plane, it is perfectly normal to route that purchase through a network of Delaware LLCs? What has happened to America that any citizen living on an investment portfolio should file 550 pages of personal tax returns? What has happened to America that if you ask for estate planning, even just on the web, it is perfectly normal that any citizen should set up a living trust, a trust A and trust B to get spousal exemptions, a descendants' trust to preserve the generation-skipping limit, and if you have any real money a grantor retained annuity trust and so on? What has happened to America that every wealthy person, and especially sports personalities, politicians and moguls, sets up a "charity" so they can write off private jet travel, the salaries of their entourage, and "employ" their relatives? Workers of America (and by this I mean rather unfashionably people who, like, actually work, and therefore pay taxes) unite, you have nothing to lose but your piles of papers and what should be your seething sense of injustice!

Really, and I appeal to my friends on the left here: Seeing this insanity, don't you want to throw it all out and have a simple VAT or consumption tax --and nothing else? Both Mr. Trump and Mrs. Clinton would pay a lot more taxes! (The Hall-Rabushka proposal is one good implementation.)

Drain the swamp, please, Mr. Trump. The tax code is a good place to start. When all the lawyers and accountants who set these things up for you are driving for Uber,  you will know you have done a good job.

(Previous Trump Tax post here.)

1 Aug 2020

Corporate Tax - Barokong

My view: the corporate tax should be zero. Not just a zero rate, but the tax should be abolished. Lowering a rate is just an invitation to renegotiation, and a quick raise when the next party takes over. Lowering a rate keeps all the lobbyists around to keep all the exemptions going. To reduce a tax, you must follow the advice of a zombie movie -- kill it, and drive a stake through its heart. Burn the code, delete it from the hard drive.

In my best guess, the tax is entirely really paid by consumers in higher prices and workers in lower wages. However, it works best only with a shift to a consumption tax (progressive if you wish) on individuals.

In the news, Marginal Revoultion has a short piece on eliminating the corporate tax, linking to Utah SenatorMike Lee and to Matt Yglesias,Scrap the Corporate Income Tax. When I agree with Matt on something, a rare event, I like to celebrate. Matt:

"Closing loopholes while lowering rates would still leave the basic structure in place, with well-connected companies ferociously lobbying for their tax breaks. We need something much bigger and tougher that corporate income tax reform: an alternative source of revenue that will let us do away with the corporate income tax entirely.
.. Just give up. Though the corporate income tax as presently constructed supports a small army of accountants, tax lawyers, lobbyists, and CNBC talking heads, it doesn’t raise very much revenue.
Rather than trying to mend the tax, we ought to end it and replace it with something else.

Pick who or what we want to tax, and tax it deliberately." Lee writes

"..what would a tax system that puts American workers first look like? It would start with a cut in the federal corporate tax rate. Not to 25 percent or 15 percent, but to zero. Eliminate it altogether."
Issue 1 Incidence

What, shouldn't corporations "pay their fair share?" As both authors recognize, corporations bear no tax burden. Every cent of corporate tax comes from people -- from higher prices for products, lower wages for workers, or lower profits for investors. A corporation is just a shell, money goes in and money goes out.

The difference between who pays a tax and who bears the burden of taxation is one of the nicest lessons of econ 101. The clearest example is sales tax. Stores "pay" the sales tax, but it's clear to every shopper that they "bear the burden" -- that prices would be exactly that much lower without the tax. (This may not be true or exactly true, but it's a good example nonetheless as people see it that way.) But if a sales tax is passed on completely in higher prices, and is thus borne by consumers, the same principle applies to corporate taxes as well.

So who bears the burden of the corporate tax -- consumers (higher prices), workers (lower wages), or investors (lower profits?)

I agree with Matt (again!)

Who ultimately pays those corporate income taxes? This is a fascinating question in the economics literature, and a bit of a black box, with nobody quite sure who’s paying or why
Lee explains

It may seem ironic that a populist, pro-worker tax reform could begin with what sounds like a handout to corporations. But it’s true. Remember, the corporate tax is not assessed on some villainous collection of “Wall Street fat cats.” ... The corporate income tax takes money that would otherwise be some combination of investors’ dividends and workers’ wages. [JC: and consumer's lower prices.]
Economists differ on the precise ratio, but the consensus is that lost wages make up between one-quarter and one-half of corporate tax revenue. (According to one recent study, it may be even more.) But whatever the proportion, we know that eliminating the corporate tax would immediately liberate every penny of American workers’ share of it, and in short order boost take-home pay in every industry across the country
Lee links toMajor Surgery Needed: A Call for Structural Reform of the U.S. Corporate Income Tax

by Eric Toder and Alan D. Viard, who find workers bear 50% of the corporate tax,  andCorporate Tax Burden on Labor: Theory and Empirical Evidence by Aparna Mathur and Matt Jensen, interesting papers on the subject.

The principle is pretty straightforward, and I think points to the major mistake in current thinking. Who bears a tax? He or she that cannot get out of the way! (The inelastic demand in econospeak.)

Consumers? If US corporations face, say, strong competition from non-corporate business or foreign corporations on prices, they won't be able to raise prices to pay the tax. But don't confuse an individual firm's ability to raise prices with the whole industry. When all businesses must pay tax, and all privately held businesses must pay a coordinated income tax, and they have to pay it on all goods, there really is nowhere else to go. You can buy less overall and enjoy free things instead -- walks in the park -- but that's about it. So it's a good bet that much corporate tax is paid by consumers in the form of higher prices, just like sales and VAT taxes.

Workers? If companies lower wages overall, permanently, how much less do people work? Not a lot, actually. Poorer people work harder, but given income, people work less for a lower wage. These "income" and "substitution" effects largely offset, so at first pass, the amount of labor overall does not change or if anything slightly increases with lower wages overall. So, lower wages can be passed on.

Capital? The widespread presumption is that the corporate "profits" tax results in lower profits, and thus is borne by Mr. Toppam Hat. I think much of this is a sunk cost fallacy.

Suppose we institute a 35% corporate tax, and suppose corporations as a whole cannot raise prices or lower wages, and they do not shrink in size. Then dividends go down 35%. The stock price goes down 35%. The initial owners of the company lost the entire present value of the corporate tax. But after that, anyone who buys a stock for 35% lower price, getting 35% lower dividends gets exactly the same return going forward. Fast forward 50 years or so, and the current owners are bearing no burden of taxation whatsoever.

You can see the key assumption I made -- that the rate of return new investors demand does not change (just like the assumption prices can't change or wages can't change, which would insulate consumers or workers from bearing the tax). But of all the can't changes, that seems the most reasonable. In a global capital market, trying to get people to give you savings at a lower rate of return is a lot harder than trying to get them to pay more for products or work for lower wages.

Furthermore, there is another avenue out: Save less. If indeed new capital is bearing the burden, people save less. Firms become smaller, to the point that the marginal product of capital equals the old rate of return plus the corporate tax. Then once again consumers and workers are bearing the entire tax, even though no prices have changed. They just get less products and less work. This is the intuition why the optimal tax rates on rates of return is zero, which is the reason for a consumption tax.

One piece of evidence, I see no difference in average return on stocks or interest rates on corporate bonds through wide variation in corporate tax rates. I also don't know of evidence for big stock price declines when corporate tax rates are introduced. The former suggests the rate of return is the same, and corporate taxation does not therefore get paid by investors. The latter suggests that it is coming out of prices or wages, not dividends in the first place.

So, econ 101 first principles suggest to me that most of the corporate tax is borne by consumers and workers, not by current owners.

We want "science" to guide public policy. If the fact that who pays the tax and who bears the tax cannot be explained and acted on in our public forums, we really are in trouble.

From Toder and Viard I learned an interesting tidbit:

When it comes to the corporate income tax (CIT), there is no standard assumption that is uniformly applied by those agencies [Congressional Budget Office, Treasury, and the Joint Committee on Taxation]. ...economic incidence is not obvious. While the CBO and Treasury have historically assumed that the CIT is borne by owners of capital, the JCT is wary of assigning incidence to any particular group of individuals..... their distribution tables ignore the incidence of the CIT altogether,
We live in an era of great attention on "facts" and "alternative facts" and "science." Every tax reform is followed by agonizing detail of "facts" on just who gains and who loses down to the last $10 -- with essentially no attention to incentives, the economists laments. But those calculations are seldom transparent, they're just big black boxes. Now, one look in to one black box, we find out that distributional effects of corporate tax cuts arebasically made up by arbitrary assumption.

Issue 2 Replacement

Matt describes high taxes on dividends, but not with any spirit or detail. I prefer a simple consumption tax, for reasons I'll get to in a minute.

Lee  wants to make up the difference with higher investment income taxes rather than a progressive consumption tax

lost revenue could be recouped, at least in part, by raising the tax rates on capital gains and dividends.
Though he points out that even 39.6% Federal income tax is less than the current 50% --"35 percent corporate tax rate, 20 percent rate on capital gains and dividends, and the 3.8 percent Medicare surtax," it's still 39.6% too much (plus state taxes). More later.

I prefer a simple consumption tax, with no income tax at all. It's almost necessary to do this. The corporate income tax is, in a way, one more side effect of the mistake of trying to tax income rather than consumption in the first place.

If we have no corporate income tax, then people rush to incorporate themselves, pay no taxes on the incomes of their corporations, and only take out dividends as personal income when they need to buy something. That's why we have a corporate rate roughly the same as the top personal rate.

The corporate tax comes, I think, from fundamental misconceptions. The first is that corporations are somehow like people, who when taxed bear some burden. No, corporations are just shells or buckets of money, people pouring money in or taking it out bear the entire burden. Second, is that profit is somehow different from the electric bill, wages, or debt. The latter are costs of dong business, the former is a benefit which bears a burden when taxed. I think people have in mind a business completely owned by a person, the business was started long ago, and the person lives on the profit stream. Downton Abbey, say. The error is that businesses need capital just as they need labor and electricity. Profits, paid to capital are a cost of doing business no less than wages or the electric bill. Seen that way, taxing profit is no different conceptually than taxing wage payments, interest payments, or the electric bill.

A lot of the difficulty of lower corporate income taxation revolves around what to do with retained earnings, profits the company makes but does not pay out and instead reinvesting them in the firm. Now we get fancy with investment tax credits, and depreciation schedules, and so forth. You see that   Rube Goldberg complexity springing up in Mathur and Jensen, given their statement at the beginning that they didn't want to consider also scrapping the personal income tax. Matt and Lee both want high taxes on dividends and capital gains for the same reason -- though taxing dividends and capital gains is a terrible idea because it taxes rates of return. It also will involve more 401(k), 526(b) and other complex devices to get around the obviously bad idea of taxing rates of return.

No corporate tax, a large consumption tax, no tax on rates of return, fit well together. (No corporate and estate tax also means "non-profit" ceases to mean much. That would be very healthy -- profit vs. nonprofit could relate to the actual organization mission, not exploiting tax laws.)

One easy way to move towards a progressive consumption tax by the way would just be to remove all limits in IRA, 401(k), etc. I think the ideal is a uniform VAT -- with eliminating corporate, income, and estate taxes -- plus on-budget transfers for progressivity.

Issue 3 Border adjustment

The corporate tax reform question has gotten mixed up with the border adjustment issue. Several readers have asked for my opinion. I have to admit I'm confused. Feldstein likes itSummers hates it. If sold as a VAT, which is border adjusted it makes sense. But it's not a VAT -- wouldn't apply to non-corporate business and, I hope dearly, not to direct imports and services. When I read some of the other blogs it seems like a complex mess ripe for exploitation by clever tax lawyers. Perhaps it's not as bad as a uniform tariff (not much could be worse), but that's weak praise.

Anyway, I've spent a day or so trying to figure it out, and can't get to solid ground. That by itself seems an important weakness. I'm not the smartest person on earth, but I am a reasonably trained economist, and I have put a day into figuring this out. Tax reform ought to be really simple, and transparent to the American people, if for nothing else to put out the smoldering fire that people feel the system is rigged and fancy people with fancy lawyers are getting away with murder.

Most of all, if now is not the time to really do it right, when is? This is surely the one time in most of our lifetimes for a comprehensive, massive simplification of the tax code.


Anies Baswedan