…Anthony Kennedy… said Wednesday there is a ‘powerful’ point to the Obama administration’s argument that the health-care law would fall apart if the subsidies were ruled unlawful. ‘There is a serious constitutional problem,’ Kennedy said, if the court rules for the challengers’ attack on tax credits designed to help people afford insurance…. As of 11:28 a.m. in New York. Tenet was up 7.4 percent to $50.52, and HCA rose 7 percent to $75.71. Community Health Systems Inc. advanced 6.3 percent to $52.70.”
The Very Puzzling Political Economy of King v. Burwell: Focus
Ezra Klein, one of the viri illustres making us hope that the press corps over the next generation will actually be a net plus to the nation (cough, Judy Miller of the New York Times; cough, Fred Hiatt of the Washington Post) has a good post that, I think, misses one important point:
…if the mandate was repealed, it would cripple the law…. The White House would have to agree to… at least root-and-branch reform. The challenge to Obamacare’s subsidies makes less political sense: if the subsidies are ripped out of federal exchanges, it will only cripple the law in red states… [which] will be left with a policy disaster–and a hefty bill…. Republicans in those states will still be paying the taxes and bearing the spending cuts needed to fund Obamacare. They just won’t be getting anything back. So the Republican plan… to fight Obamacare is for Republicans to rip themselves off…. This is why the GOP’s political strategy is so bizarre…. The GOP is taking its own voters-—along with million of poorer people who live in Republican states–hostage…. Democrats might want to deal on Obamacare because they want, as a moral matter, to cover poorer people in red states. But on a practical level, the post-King status quo is a much bigger disaster for Republican states than Democratic ones.
All this makes sense. But what it misses is that the original Republican challenge to ObamaCare was two-pronged: an attack on the mandate and thus on the functioning of the exchanges, yes; and also an attack on the Medicaid expansion. The attack on the mandate failed. The attack on the Medicaid expansion succeeded.
This then left Republican governors and legislators in red states with a big problem: if they used the freedom John Roberts had given them when he rewrote the law from the bench to accept the Medicaid expansion, they became complicit in the implementation of the hated ObamaCare (never mind that it was really just the loved RomneyCare with the serial numbers filed off). If they rejected the Medicaid expansion, they taxed their own people in order to pay for health treatment for the poor and working poor, for topping-off hospital budgets, and for raising doctors’ incomes in blue states. The Republican governors and legislators of the red states have already fixed the question of whether their strategy to fight ObamaCare is simply to rip the people they represent off. And they have, for the most part, with some hesitation, already decided: “Yes it is.”
From the perspective of any state-level decision-makers, both the Medicaid expansion and the exchange subsidies are free money for their constituents. And both are free money for a wide range of constituencies within their states.
- One-third of Medicaid-expansion dollars are spent on providing extra health care for the poor (who in red states are, I must note, 70% white)
- One-third are spent on hospitals (which then flow to all hospital stakeholders, from patients and nurses to doctors and administrators and health-insurance companies).
- And one-third boost the incomes of doctors.
It is even more such the case as far as the exchanges are concerned: As best as I can figure out, the benefits from having the exchanges up and running flow:
- about one-third to middle-class residents who do not work for large bureaucracies and thus benefit from a well-functioning marketplace,
- one-third to the working poor recipients of exchange subsidies,
- and one-third primarily to the insurance companies that receive the subsidies and secondarily to other health-sector providers.
It is from a political-economy standpoint very strange. “We bring home free money from the feds for our state” is not a losing argument for any state-level politician. Maybe you could argue against accepting free money from the feds if it all went to “moochers”. But insurance companies and doctors are not usually thought of as core Democratic Party constituencies.
Yet the fallout from King v. Burwell may well make them so…
Equitable Growth Conference in a Box: Topics
More often than I would have thought likely, people ask me: “We’re thinking of having a conference about economic inequality What should be on the agenda?”
My standard answer makes three points:
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Have the conference about not inequality but equitable growth. “Inequality” automatically forces you into a partisan political frame, and you may want to get there at the end of your conference but you probably do not want to start there.
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Focus down: you cannot cover the whole topic–you need to pick one or two or three subtopics if you are going to get anywhere.
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Have a balance between people who summarize past literatures and people who break new ground.
But often they ask for more: a list of what the topics and issues are.
So here it is: my Equitable Growth Conference in a Box: Topics
Equitable Growth Conference in a Box
The Race Between Education and Technology
How good a strategy is more higher education for overall economic growth, for raising middle-class standards?
- College funding and college attendance
- College funding and college quality
- College completion
- New modes and orders in college education
- How much of a difference does our losing the race between education and technology make, and where in the distribution does it make it?
——
The Dilemmas of K-12 Education
Is there low-hanging fruit in institutional or funding reform for K-12 education?
- Getting the K-12 schools that we need: exit, voice, and loyalty in the school district
- Getting the K-12 teachers that we need after the decline of sex discrimination in employment
- Getting the K-12 students that we need
- Getting the parents of the K-12 students that we need
Social Equality, Diversity, and Economic Distribution
we need to integrate our understanding of the decline in discrimination with our understanding of economic inequality
- Was America in the 1950s a more equal place than today, really?
- Feminism, read families and blue families, and their discontents.
- Family planning, reproductive rights, and inequality.
- Disparate impact: The rising salience of class and the declining salience of race.
- Mass incarceration, militarized policing, race, and inequality.
The Business Cycle and the Income and Wealth Distribution
Moving beyond the false assumption that business cycles are simply fluctuations around stable and unaffected trends
- Hysteresis.
- The business cycle in the labor share: how much of a point did Kalecki have?
- The political economy of austerity.
Taxes and Transfers and the Level and Distribution of Well-Being
What have been the effects of the lowered marginal tax rates starting in 1980?
- What, really, has happened to the progressivity of the tax-and-transfer system since 1980?
- what, really, have been the supply-side effects of reduced marginal tax rates on economic activity?
- How have declining marginal tax rates and other shifts altered the balance of bargaining power among stakeholders of corporations?
- what should the tax-and-transfer system look like?
Institutions, Globalization, and the Bargaining Power of America’s the Working Class
- How much of the decline in unions has been a reaction to rather than a cause of declining working-class bargaining power?
- How much of the decline in working-class bargaining power has been due to globalization, really?
- What is the proper role of labor unions in the twenty-first century?
- Why have attempts to envision alternative economic arrangements to the for-profit corporation controlled by shareholders not had greater success?
Rents and Quasi-Rents in the American Economy, and Their Division
Will wealth be invested in productive capital or in rent-seeking capital…
- NIMBYism
- “Oil and gas” and other rent-seeking sectors and lobbies.
- The financial octopus.
- Intellectual property, the information economy, and rent seeking.
What Special Factors Are at Work in Finance, Takeovers, Private Equity, and CEOs?
How did CEOs become the owners of 20% of the equity value of the corporations they run anyway?
- The old-school corporate structure of the 1970s and its incomes.
- Takeovers, private equity, and the overclass.
- Financial deegulation and financial sector compensation.
What Special Factors Are at Work in the Information Economy?
Technological change used to produce not just technoplutocrat but middle-class prosperity, didn’t it?
- Why did the technological advances that produced Kodak generate middle-class prosperity for Rochester while the technological advances that produced Hollywood generate stars and superstars?
- What is the balance between consumer surplus and factor cost in the information economy, and how should that affect our perceptions of economic growth?
- What is the proper role of the government in the information economy?
- Accept for the moment that the rise of the robots will put downward pressure on both prices of consumer goods and services and wages. How would we know whether this is a process that should worry us?
The Political Economy of Gilded Ages: Does Piketty Have It Right? And If Not Him, Who Does Have It Right?
What is the “natural” distribution of wealth and inheritance in industrial societies? Gilded Age or Social Democratic Era?
- Land rents and inequality in historical perspective.
- Rates of profit and rates of accumulation.
- How strong is the tendency for wealth to concentrate?
- Piketty-World or its inverse? Rule of a plutocratic overclass or “euthanasia of the rentier“?
The uncertain nature of the natural rate of interest
Over the past couple of months something strange swept across parts of Europe—yields on government-issued bonds turned negative as the European Central Bank prepares to buy bonds as part of its forthcoming quantitative easing program. This short-term phenomenon raises the question about the long-term trends in interest rates. Are the extremely low rates in not only the Eurozone but also the United States the result of a long-run trend known as secular stagnation? Or are these negative bond yields just the result of a particularly nasty business cycle?
A new paper argues that the concerns about permanently lower interest rates are overhyped. The authors, James D. Hamilton of the University of California at San Diego, Ethan S. Harris of Bank of America Merrill Lynch, Jan Hatzius of Goldman Sachs, and Kenneth D. West of the University of Wisconsin, take aim in particular at the idea that the main determinant of the natural rate of interest, or the rate when the economy is in equilibrium, is the growth rate of the economy. If this relationship doesn’t hold up, then slower economic growth in the future won’t necessarily result in lower interest rates.
Taking a look at the history of interest rates over the past 200 years, the authors argue that other factors are critical to determining the natural rate. They list quite a few factors, among them demographics, debt defaults by national governments, and the level of financial regulation. The last factor is particularly interesting. The four economists show that periods of tighter financial regulation coincide with lower interest rates. Given the deregulation of the finance sector during the 1970s and 1980s, they would expect the natural rate to be higher as other sources of financing are available in the economy. One case in point: Companies can access the bond market instead of getting a loan from a bank.
But the broader point the paper makes is that determining the natural rate of interest is quite difficult. According to the data, the rate has changed quite a bit over the years. After reading their paper, it doesn’t take much to think that accurately estimating the rate is a fool’s errand—mainly because it is so difficult to know the actual long-term natural rate of interest.
Matthew Klein at FT Alphaville takes this seeming inability to be further proof of nihilism when it comes to monetary policy. If such an important parameter can’t be estimated then he says monetary policy makers are “forever doomed to be fumbling about in the dark rather than smoothing out the vicissitudes of the cycle.” But it seems unwarranted to abandon efforts to smooth out the business cycle just because a long-run parameter is uncertain.
Indeed, Hamilton, Harris, Hatzius, and West incorporate this uncertainty into the Federal Reserve staff’s preferred macroeconomic model and find that it leads to the conclusion that monetary policy should have more “inertia.” In other words, uncertainty means that the Fed should wait a while before shifting course. Given the current situation, this would mean waiting a while to raise interest rates and then rapidly raising rates when the time comes.
Intriguingly, this recommendation also arises from models that assume we know the natural rate of interest. Greg Ip used a model created by Federal Reserve of San Francisco economists to see how interest rates should be increased if we believe that demand is the major problem at the moment and that the long-run rate has not changed at all. The policy recommendation: keeping interest rates low for a long time and then rapidly raising them.
Economic models are simplifications of reality and are often quite dependent upon assumptions, guesses, and estimations of important parameters in the far more complicated real economy. At times, these inputs can be so wildly off base as to make the entire endeavor worthless. As this new paper shows, it can be incredibly difficult to figure out even an adequate assumption. Yet economists and policymakers will continue to need models to interpret a complex world, so we’ll have to continue onwards comfortable with a certain amount of fog shrouding the path ahead.
Evening Must-Read: Martin Wolf: Riches and Perils of the Fossil-Fuel Age
…Improvements in energy efficiency are a… more important driver of the relatively low growth in emissions than shifts in the fuel mix…. These forecasts… imply a faster rise in energy efficiency than between 2000 and 2013…. Could we do better?… We need an accelerated technological revolution…. The sense of the BP report… is that… obstacles are many: costs, technological limits, slow turnover of the capital stock, inability to implement policy globally and natural inertia…. If governments could agree to implement a tax on carbon, they would give a big impulse towards an energy future that is more efficient and less polluting…
Afternoon Must-Read: Douglas Irwin: Tariff Incidence: Evidence from U.S. Sugar Duties, 1890-1930
…This paper examines the incidence of U.S. sugar duties using a unique set of high-frequency (weekly, and sometimes daily) data on the landed and the duty-inclusive price of raw sugar in New York City from 1890 to 1930, a time when the United States consumed more than 20 percent of world sugar production and was therefore plausibly a ‘large’ country. The results reveal a striking asymmetry: a tariff reduction is immediately passed through to consumer prices with no impact on the import price, whereas about 40 percent of a tariff increase is passed through to consumer prices and 60 percent borne by foreign exporters. The apparent explanation for the asymmetric response is the asymmetric response of demand: imports collapse upon a tariff increase, but do not surge after a tariff reduction.
Afternoon Must-Read: Taxes and Fairness in an Era of High Inequality
…The tax code does less to reduce inequality than it did in the late 1970s. (2) Efforts to reduce inequality are not in tension with economic growth…. (3) There are policy options that can make the tax code more progressive that will have broad benefits for everyone…. There are many examples of changes that would be consistent with the literature. Two that are on the table right now would be Eliminating the “stepped-up basis” for taxation of bequests and expanding the Child Tax Credit…. Families passing along large estates to children… the potential damages that could have on the vitality of the economy… a loophole we should close… eliminating the carried interest loophole… transfer taxes, raising the ordinary income tax rates or limiting deductions and exclusions. We can also do a variety of things at the low end…. The Child Tax Credit… partially refundable for a set percentage of income (15 percent) over a set threshold (currently $3,000). The value of the tax credit has been increased and the threshold decreased, both temporarily, in recent years. I recommend making these reforms permanent…”
Taxation and fairness in an era of high inequality
Heather Boushey, Executive Director and Chief Economist, Washington Center for Equitable Growth, testifying before the U.S. Senate Committee on Finance on “Fairness in Taxation.”
I would like to thank Chairman Hatch, Ranking Member Wyden, and the rest of the Committee for inviting me here today to testify.
My name is Heather Boushey and I am Executive Director and Chief Economist of the Washington Center for Equitable Growth. The center is a new project devoted to understanding what grows our economy, with a particular emphasis on understanding whether and how rising levels of economic inequality affect economic growth and stability.
I’m honored to be here today to discuss a very important topic: the relationship between fairness and taxation. Over the past several decades, economic inequality, on a variety of measures, has increased in the United States. The benefits of economic growth have flowed primarily to households and individuals at the top of the income and wealth ladders. We need to keep this fact in mind when we consider taxation and fairness in the years ahead.
There are three major conclusions from my testimony:
- As inequality has increased, the tax code has not kept pace with this change. The tax code does less to reduce inequality than it did in the late 1970s
- Efforts to reduce inequality are not in tension with economic growth. A variety of research shows that steps taken to reduce inequality do not significantly hinder economic growth
- There are policy options that can make the tax code more progressive that will have broad benefits for everyone
The rest of my testimony will focus on documenting the rise in inequality, reviewing the academic research on the effects of taxation, and some thoughts about where policy should go forward.
Download the full pdf for a complete list of sources
The rise of inequality
Inequality, at least in the popular conversation about it, is talked about like it is a single phenomenon. Even the most widely used measure of inequality, the Gini coefficient, treats it as such. If the coefficient rises, we know that inequality has gone up. But what we don’t know is how exactly inequality has increased.
In short, the story of the past four decades when it comes to inequality is a rapid rise in incomes and wealth for those at the top, slower growth for the middle compared to earlier time periods, and stagnation, if not outright declines, for incomes at the bottom of the ladder.
According to data from Paris School of Economics professor Thomas Piketty and University of California-Berkeley economist Emmanuel Saez, the average pre-tax income of the top 1 percent grew by 178 percent from 1979 to 2012. Correspondingly, the top 1 percent’s share of pre-tax income has increased from 8 percent to 19 percent over the same time period.
At the same time, inequality of wealth has been rising as well. According to research by Saez and London School of Economics professor Gabriel Zucman, the share of wealth going to top 0.1 percent of households has increased to 22 percent in 2012 from roughly 7 percent in 1979. That’s a 3-times increase in the share of wealth held by the top 10 percent of the top 1 percent. The reason for this rise? The rich have a much higher savings rate than the rest of population and the increase income inequality appears to be calcifying into wealth inequality as the rich save their incomes.
According to data from the Congressional Budget Office, the pre-tax, pre-transfer income of the median U.S. household grew by an average of 0.9 percent a year from 1979 to 2007, the last year before the Great Recession. That growth rate is considerably slower than the 4.7 percent a year for the average income of the top 1 percent of households.
For those at the bottom, the reductions in poverty over the past several decades have been driven almost entirely by tax-and-transfer programs. This means that our anti-poverty programs are working to reduce material hardship. Whether they have reduced it enough is another question. But this research also raises concerns about how the labor market is working for those at the bottom of the ladder.
Another shift toward inequality has been the shift of income from labor income (salaries and wages) toward capital (business income and capital gains). This shift matters for inequality because the distribution of capital income is far more unequal than the distribution of labor income. Households at the bottom and the middle of the income ladder rely much more on labor as a source of income than capital. And capital income is concentrated much more at the top of the income ladder.
As these shifts in inequality occurred, the federal tax system was doing less to reduce inequality, though the federal tax system is still progressive. A quick look at Figure 1 below shows how much the top marginal tax rate for labor income has been declining since the early 1980s.
Figure 1
However as the top rate has decreased, the improved economic performance that we might expect given the conventional wisdom doesn’t show up in the data. Figure 2 shows no discernible relationship between employment growth and the level of the top marginal tax rate. If cutting taxes resulted in stronger employment growth then there would be a discernible pattern in the years between 1948 and 2014, represented by a green dot in Figure 2. There is no pattern.
Figure 2
The lack of any obvious relationship isn’t the case for just employment growth. Figure 3 below shows that there is no clear correlation between the growth in labor productivity, one of the key sources of long-run economic growth, and the top marginal tax rate.
Figure 3
A more in-depth treatment of the relationship between tax rates and macroeconomic growth can be found in a 2012 Congressional Research Service report by Thomas Hungerford.
Now it’s true that the federal income tax has become slightly more progressive by some measures. But more tax revenue has come from payroll taxes, which have become less progressive. And those at the top of the distribution are paying a large share of federal income taxation. According to Congressional Budget Office data, the top 1 percent of earners had 14.2 percent of federal tax liabilities in 1979. By 2011, that share increased to 24 percent.
Yet over that same time period, the top 1 percent’s share of pre-tax income increased from 8.9 percent to 14.6 percent. So if progressivity is measured by the distribution of taxes paid, then progressivity has gone up. But that measure doesn’t account for the rising inequality in the distribution of income. The result of inequality increasing as the tax system does less to reduce inequality (as a CBO report points out) is that the inequality of incomes after taxation has increased more than the inequality of income before taxation.
Why should we care about the rise in inequality? There’s an emerging consensus in economic research that high levels of inequality can threaten economic growth. My colleague Carter C. Price and I went through the research literature on the relationship between inequality and growth and found that research points toward a negative relationship. As inequality goes up, economic growth tends to go down. A recent paper by researchers at the International Monetary Fund further finds that redistribution does not necessarily hamper growth. The exact reason for this apparent relationship is unclear and my organization was founded to help better understand it. But the evidence as it stands is cause to seriously grapple with the negative effects of inequality.
Academic research on taxation
Given the rise in inequality, what can tax policy do about this trend? One potential concern about taxation is that in an effort to reduce inequality, it can reduce economic growth and cause more problems than were already there. An increase in labor taxation might cause some workers to work less or an increase in capital taxation might cause a reduction in savings, both of which are important for economic growth.
These assumptions are widely held by policymakers and economics commentators. And to a certain extent they are true. But the level of taxation at which these problems would occur is much higher than usually expected.
On the subject of income taxation, a body of new research shows that labor income taxes for those at the top of the income ladder have no adverse effect on economic growth. A paper by Nobel Laureate Peter Diamond and UC-Berkeley economist Emmanuel Saez reviewed the research literature on income taxation and finds that progressive taxation is well-supported by the research.
When it comes specifically to top rates, another paper by Saez along with Thomas Piketty and Harvard University’s Stefanie Stantcheva look at the underlying forces that determine what the optimal level of taxation could be. After accounting for a variety of factors, the three economists find that the top marginal rate could be as high as 83 percent without affecting economic growth. I wouldn’t take this paper as evidence that the United States could increase its top income rate to such a level. Rather, the result is instructive that tax rates could be significantly higher without major adverse effects.
Research also shows that reducing certain tax expenditures wouldn’t negatively affect the economy either. Research that shows tax incentives are often ineffective at incentivizing behavior. The tax code may provide a tax break for a certain behavior on the belief that this economic incentive will dramatically change behavior, but some work casts doubt on how much behavior is changed by these kind of incentives. Take, for example, Harvard economist Raj Chetty’s work on retirement savings decisions. He and his co-authors look at millions of data points on changes in retirement savings after a change in tax policy in Denmark. What they found is that 85 percent of workers were non-responsive to changes in tax incentives and savings rates didn’t decline. Of course, this result isn’t perfectly applicable to the U.S. situation. But its results are suggestive and should be considered in the U.S. policy situation.
New research also challenges the idea that capital taxation will invariably result in lower savings and consequently lower economic growth. Recent work that shows the long-held belief that capital income shouldn’t be taxed at all is flawed. A paper by Piketty and Saez shows the flaws with the famous Chamley-Judd assumptions. Chamley-Judd assumptions imply that savers have infinitely long-time horizons when thinking about saving for the future. If I care about the returns on my savings very, very far in the future, then a tax on savings would end up compounding to a point where the burden is immense. Taxing capital in this situation would drastically reduce savings. But Piketty and Saez show that this assumption doesn’t hold up under scrutiny. And a recent paper by Ludwig Straub and Ivàn Werning of the Massachusetts Institute of Technology show that the zero taxation result doesn’t even hold up within the Chamley-Judd framework.
There is also the assumption that reducing capital taxation will induce corporations into investing more. The reduction in taxation supposedly will increase the return to investment. But research by the University of California-Berkeley’s Danny Yagan finds that the 2003 dividend tax cut didn’t have any effect on investment or employee compensation. Yagan compares the investment behavior of public companies, which would were affected by the tax cut, with the behavior of privately held companies. What he found was that the public companies, which should have invested more due to the tax cut, didn’t invest more than similar privately held companies.
Another possible form of capital taxation is increased taxation of bequests and inheritances. A 2013 Econometrica article by Piketty and Saez argues that the optimal tax rate for inheritances for the United States may be as high as 60 percent. And that the rate would be even higher for those at the very top. In their paper a high inheritance tax is optimal if those bequeathing wealth are relatively unaffected by taxation, inheritances are very unequally distributed and society favors work over inheritance. And the United States fits this description, hence the high level of taxation found in their paper.
With this knowledge, what can we say about tax policy moving forward?
Possible policy steps
So we know that inequality has risen in the United States over the past several decades. At the same time we have learned from research that there is more room to make the tax code more progressive to help reduce inequality. There are quite a few policies that could move the tax code in that direction.
There are many examples of changes that would be consistent with the literature. Two that are on the table right now would be eliminating the “stepped-up basis” for taxation of bequests and expanding the Child Tax Credit and making it permanent. A rather large loophole currently exists when it comes to the taxation of capital gains. When a person inherits, say, a large amount of stock holdings from a parent, the inheritor is only taxed on the gains made after they inherit the stocks. So if a parent bought a stock at $1 and it appreciates to $99 before the child receives the stock, then the child would only be taxed on the gains over $99. So the capital gains that occurred over the lifetime on that asset since it was first purchased aren’t taxed as income.
If we are concerned about the possibility of families passing along large estates to children and the potential damages that could have on the vitality of the economy, this seems like a loophole we should close. There are a variety of other ideas for taxation in this area, including eliminating the carried interest loophole, whereby hedge fund managers do not pay the ordinary income tax. David Kamin, a professor at New York University School of Law, outlines a menu of options for taxing the wealth of the very wealthy, including transfer taxes, raising the ordinary income tax rates or limiting deductions and exclusions.
But we can also do a variety of things at the low end of the income laddee. One example is the Child Tax Credit, which provides workers with children a tax credit of up to $1,000 per child in hopes of offsetting the costs of raising a child. The tax credit is currently partially refundable for a set percentage of income (15 percent) over a set threshold (currently $3,000). The value of the tax credit has been increased and the threshold decreased, both temporarily, in recent years. I recommend making these reforms permanent. Given the rising costs of child care and the incredibly important role of children and the development of their future talents for the future growth of the economy, giving parents more funds to help raise children makes sense.
Conclusion
The past four decades have been a period of high and rising inequality in the United States. Tax policy has an important role to play in the policy response to this major shift in our economy. It cannot, and should not, be policymakers’ sole response. But changes are needed.
Our economy currently isn’t creating prosperity that is broadly shared. And it hasn’t for a while. Today’s hearing is an important contribution to the conversation about how to get our economy on a track to creating shared prosperity for all Americans.
The unfulfilled promise of tax credits as economic policy
The relative paucity of the modern welfare state in the United States is a well-known fact among researchers. Compared to rich countries in Europe, the United States spends far less on social insurance programs and other social programs such as education. But these large disparities decrease once the private-sector side of the U.S. welfare state is included in the analysis. Yale University professor Jacob Hacker calls this the “divided welfare state,” where in many instances the U.S. tax code is now the main vehicle for social policy in retirement, college savings, and housing.
How well has this “submerged state” worked? At least in these three areas, the effectiveness of the tax code, via deductions and credits, is questionable. Consider the state of the private-sector retirement system in the United States. Over the past 30 years, workers have come to rely more and more on defined contribution plans such as a 401(k) account. Workers who contribute to these voluntary plans are able to deduct the value of their contributions on their tax returns and reduce their taxable income. This means the value of the deduction is much higher for high earners and the tax savings from the deduction go disproportionally to those at the top of the income ladder.
Or consider the submerged state approach to high college tuitions. The cost of college is skyrocketing, leading to a proliferation of tax-sheltered savings plans. These plans, including the popular 529 savings plan, attempt to help families save enough money to pay for college. But the benefits from these plans go disproportionately to those at the top. A paper by University of Michigan economist Susan M. Dynarski finds that the benefits from tax-advantaged savings plans are highly and positively correlated with income. Those at the top are getting the most.
The mortgage-interest tax deduction is another example of policy being run through the tax code. The tax code allows homeowners to deduct the cost of the interest of their mortgage against their taxable income. The intended purpose was to encourage homeownership, which was viewed positively for a variety of reasons. But research finds that the value goes mostly to wealthier Americans while doing little to increase homeownership. If anything, it encourages those that already are buying a home to buy an even-bigger home.
To be sure, the creation of this network of tax credits and tax expenditures wasn’t without reason. Political realities necessitated the use of the tax code to achieve these ends. And these programs have done real good. But as the evidence shows, they are far from optimal.
The record of using the tax code to do tasks traditionally associated with the welfare state is clearly mixed. At best, it works like a Rube Goldberg machine that attacks a problem by hoping that a chain reaction will do the job. At worse, the machine doesn’t work for the broad majority of the population. The relevant question is now how to re-engineer it for future, more efficient use.
Things to Read at Night on March 2, 2015
Must- and Shall-Reads:
- : Bull Market: A collection of finance and business writing
- : “A $300 million mandatory appropriation for a new Local Housing Policy Grants program… to create a more elastic and diverse housing supply… establish a learning network that would provide ongoing capacity building to the organizations and entities to facilitate shared learning opportunities and disseminate best practices…. [NIMBYism] is… officially On The Radar Of People Who Matter…”
- : Ending the Creditor’s Paradise: What would you tell six hundred leading German social democrats about their party’s handling of the Eurocrisis?
- : Thoughts on a Post-King Health Insurance Market
- : One Wrong Sentance After Another
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: The Failure of Macroeconomics: “My beef is with macroeconomics. Olivier Blanchard, the IMF’s chief economist, recently wrote: ‘We in the field did think of the economy as roughly linear… fluctuating, but naturally returning to its steady state….’ Blanchard went on to observe that… macroeconomists… [saw] extreme tail risk events… as a thing of the past in developed countries…. Central banks could prevent or stop market ‘panics’ by flooding the place with liquidity. If you get the policy settings right, linear models will work…. The financial crisis drew to our attention… finance…. No industry that can cause such havoc when it goes wrong should ever be regarded as irrelevant or superficial…” -
: Obamacare and Long-Term Competitiveness: “The long-term economic consequences of uninsuring the many children now insured under the new health law are clear… the importance of early childhood health care for the least advantaged kids among us–on their future workforce productivity, their contributions to our national tax base, their educational attainment, and their declining use of government income supports…. Mirror the… research… I conducted with… Sandra Decker… and Wanchuan Lin…. Medicaid coverage for children born between 1985 and 2005 resulted in a better health trajectory for those kids as they because adolescents and young adults…. What will happen if less-well-off kids today do not get the affordable health care they need to become successful contributors to our economy over the coming decades?…. Children who gained public health insurance in the 1980s and 1990s… the federal government will have recouped at least 56 cents for each dollar spent on childhood health care…. Better public health care among low-income children in the 1980s and 1990s resulted in higher graduation rates from high school and college for these kids…. We already know the empirical long-term economic benefits of expanded health care for those least able to afford it–and can say with strong confidence that taking away health insurance for these five million now covered under Obamacare would harm our economy.” -
: Wealth, Inequality, and the ‘Me? I’m Not Rich!’ Problem: “The real action is at the tip-top, or the tippetty-tip-top. Think not the 1% but the 0.1% or even 0.01%…. The problem might be political rather than economic. The soar-away wealth of those at the pinnacle of the distribution can start to make the people just below them feel distinctly middle-class. I’ve just played the part of Straight Man Scholar in a sketch on “The Daily Show” poking fun at the struggles of those only just scraping into the top 1% with a family wealth of $4 million or more. “Daily Show” correspondent Hasan Minhaj became a faux class warrior on behalf of those struggling to get by with just one or two homes and having to share a private jet…” -
: Game On: “Bottom Line: The Fed’s confidence in the US economy is driving them closer to policy normalization. The labor market improvements are key – as long as unemployment is falling, confidence in the inflation outlook is rising. The more important message, however, is as the timing of the first rate hike draws closer, the level of uncertainty is rising. And it is not just about the timing of that rate hike. The Fed is sending a clear message that the subsequent path of rates is also very uncertain, and they don’t think that uncertainty is being taken seriously by market participants. In their view, financial markets are too complacent about the likely path of interest rates.” -
: The Strange Urge to Raise Rates: “Monetary policy attracts crazy people like moths to a flame: goldbugs, 100-percent-reserve-banking types, amateur historians who think they know exactly what happened when Diocletian ruled Rome…. The obsession with raising interest rates among economists who used to seem sensible…. Up to a point, Feldstein has followed the now-usual arc…. We’re talking about conservatives with vast faith in the wisdom of markets, who somehow are completely sure that markets will make terrible decisions due to low interest rates, and require paternalistic monetary policy to keep them on the strait and narrow. What really strikes me about Marty’s latest… is the muttering that there must be some sinister hidden agenda…. that central banks are operating under… a desire to help finance budget deficits. It’s very, very strange, and distressing.” -
: The Steep Path Forward for Unionization: “[Did] past research underestimated the role of the decline of unions in the rise of economic inequality[?]… Bruce Western… and Jake Rosenfeld… finds that about one-fifth to one-third of the increase in wage inequality can be explained by declining union membership…. Florence Jaumotte and Carolina Osorio Buitron…. Adam Ozimek… [however] makes a very important observation. How exactly will unions return to prominence?… What could make employment at unionized firms grow relatively faster compared to non-union firms?… Freeman… believe[s] that such an outcome is unlikely…. Yet… Freeman notes that increases in unionization rates in the past have come from large and sudden increases in union membership…. Increased unionization in the United States would almost certainly reduce wage and income inequality. But the pathway to a higher rate is steep. A sudden jump seems the only way up. But what will cause or even allow such an increase? That remains to be seen.”
Should Be Aware of:
- : “I’m still quietly reeling from Leonard Nimoy’s death on Friday…. One of the trellises on which I grew my character is gone, really gone…. my leaders and teachers are washing away before my eyes…”
- : The 7 Best Star Trek Episodes Featuring Leonard Nimoy
- : Larry Kudlow and the Failure of the Chicago School
- : GOP Economist Larry Kudlow: Bush Tax Cuts Worked Brilliantly
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: Star Trek is great, and Leonard Nimoy’s Spock was the greatest thing about it: “His lack of insight into human concepts of humor and fun could be, of course, extremely funny. But in the hands of Stark Trek’s writers, Spock’s commitment to logic over emotion was the pinnacle of heroism rather than its antithesis. He deduced an ethic of rigorous utilitarianism and lived and died according to a profoundly moral code…. Spock’s intelligence, bravery, courage, and good judgment don’t win him the universal admiration of his crewmates or of the world. But he did earn their respect, and over time he accomplished most of what he set out to do…. Over time, that turned Spock into something of a cliché. But he was an original in the 1960s, and Leonard Nimoy’s skill in defining the character helped define an entire genre of characters for generations to come…. Star Trek is beloved for good reasons, and Nimoy’s Spock is at the top of what made it great. -
(2008): Stages of the Bubble: “And here’s a trip down memory lane: ‘A national severe price distortion seems most unlikely in the United States’ — Alan Greenspan, October 2004. ‘Homebuilders led the stock parade this week with a fantastic 11 percent gain. This is a group that hedge funds and bubbleheads love to hate. All the bond bears have been dead wrong in predicting sky-high mortgage rates. So have all the bubbleheads who expect housing-price crashes in Las Vegas or Naples, Florida, to bring down the consumer, the rest of the economy, and the entire stock market.’ — Larry Kudlow, June 2005. ‘I suspect that we are coming to the end of this downtrend, as applications for new mortgages, the most important series, have flattened out…. I think the worst of this may well be over.’ Alan Greenspan, October 2006. ‘The housing market is at or near the bottom.’ Henry Paulson, April 2007.” -
: Whatever the Problem Is, Jim Webb Is Not the Solution: “Charles Pierce half-defends Jim Webb…. ‘There is no question that the Democratic party has done a god-awful job of explaining to white working people who’s screwing them and why. Most of the people who have tried that have found themselves marginalized, and not always by Republicans, either. Senator Professor Warren is one of the few of them who has managed to explain these matters in such a way that they are both easily understood, and in such a way that she doesn’t sound like she’s talking down to anyone.’… If Jim Webb can come up with concrete ways of broadening Democratic appeal to the Southern white working class, that would be great, although it would be better if he’d pass them along to someone who’s serious about running for president…”