Tag: economics

George Leventhal Should Teach Paul Krugman about Public Finance and the Economics of Taxation

Montgomery County in Maryland is not exactly a hotbed of free market thinking or a bastion of limited government.

It’s one of the richest counties in the nation, but not because of entrepreneurship and wealth creation. Instead, it’s a bedroom community filled with over-paid bureaucrats, corrupt lobbyists, fat-cat contractors, and other ne’er-do-wells who commute into Washington and live off the blood, sweat, and tears of people in the economy’s productive sector.

To give you an idea of its political leanings, Obama won 72 percent of the vote in Montgomery County in 2008 and all nine members of the County Council are Democrats.

So you wouldn’t think this is a place where lawmakers ever have anything sensible to say about tax policy. But, lo and behold, one Councilman recognizes that there’s no Berlin Wall surrounding the County. As such, higher tax rates may not generated additional tax revenue if people vote with their feet.

You can listen to George Leventhal by clicking here, but here’s the relevant quote.

We may be reaching a tipping point with tax rates. There’s a point beyond which you can keep raising the tax rates, but you won’t get more revenue because if people leave the county or if new businesses don’t start you’re not getting new revenue.

For the uninitiated, Leventhal is talking about…gasp…the Laffer Curve.

Folks like Paul Krugman would like you to believe that the Laffer Curve is a twisted fantasy concocted by stooges for the rich. He writes that it is “junk economics” to consider the relationship between tax rates, taxable income, and tax revenue.

In the real world, though, at least some left-leaning lawmakers realize that higher tax rates backfire if the geese that lay the golden eggs fly away (as has happened in Italy, France, and the United Kingdom).

Maybe we can take up a collection and hire Mr. Leventhal to do a bit of economics tutoring for a certain Nobel laureate?

P.S. Just in case you’re not convinced by the experiences of a local politician, there is lots of empirical evidence for the Laffer Curve.

International Data on Living Standards Show that the United States Should Not Become More Like Europe

I’m not a big fan on international bureaucracies, particularly the Paris-based Organization for Economic Cooperation and Development. The OECD, funded by American tax dollars, has become infamous for its support of statist pro-Obama policies.

But I’m a policy wonk, so I’ll admit that I often utilize certain OECD’s statistics. After all, if numbers from a left-wing organization help to advance the cause of liberty, that makes it harder for opponents to counter our arguments.

With that being said, let’s look at some truly remarkable statistics from the OECD website on comparative living standards in industrialized nations. This chart shows average levels of individual consumption (AIC) for 31 OECD countries. There are several possible measures of prosperity, including per-capita GDP. All are useful, but AIC is thought to best capture the well-being of a people.

As you can see from this chart, the United States ranks far ahead of other nations. The only countries that are even close are Norway, which is a special case because of oil wealth, and Luxembourg, which also is an outlier because it is a tiny nation that also serves as a tax haven (a very admirable policy, to be sure).

At the risk of making an understatement, this data screams, “THE U.S. SHOULD NOT BECOME MORE LIKE EUROPE.”

For all intents and purposes, Americans are about 40 percent better off than their European counterparts, in part because we have less government and more economic freedom.

Yet Obama, with his plans to exacerbate class-warfare taxation and further expand the burden of government spending, wants America to be more like nations that have lower living standards.

And don’t forget European living standards will presumably fall even further - relative to the U.S. - as the fiscal crisis in nations such as Greece, Spain, and Italy spreads to other welfare states such as France and Belgium

Here’s another chart that looks at the G-7 nations. Once again, the gap between the U.S. and the rest of the world is remarkable.

Maybe, just maybe, the United States should try to copy nations that are doing better, not ones that are doing worse. Hong Kong and Singapore come to mind.

Getting there is simple. Just reduce the size and scope of government.

Celebrating Milton Friedman

Today is the 100th anniversary of Milton Friedman’s birth and wonderful pieces have appeared all over the Web to commemorate the occasion. I particularly like Stephen Moore’s editorial in the Wall Street Journal, and economist Bryan Caplan’s brief but thoughtful blog post.

To add to the celebration, we’ve put together a brief interview with Bob Chitester, producer of Milton’s “Free to Choose” documentary series, and provided a link to the site where you can watch the whole thing for free. I’ve also added a few thoughts of my own on Milton’s impact on the school choice movement, and the high standards he set in his life and work.

On Death Tax, the U.S. Is Worse than Greece, Worse than France, and Even Worse than Venezuela

Considering that every economic theory agrees that living standards and worker compensation are closely correlated with the amount of capital in an economy (this picture is a compelling illustration of the relationship), one would think that politicians - particularly those who say they want to improve wages - would be very anxious not to create tax penalties on saving and investment.

Yet the United States imposes very harsh tax burdens on capital formation, largely thanks to multiple layers of tax on income that is saved and invested.

But we compound the damage with very high tax rates, including the highest corporate tax burden in the developed world.

And the double taxation of dividends and capital gains is nearly the worst in the world (and will get even worse if Obama’s class-warfare proposals are approved).

To make matters worse, the United States also has one of the most onerous death taxes in the world. As you can see from this chart prepared by the Joint Economic Committee, it is more punitive than places such as Greece, France, and Venezuela.

Who would have ever thought that Russia would have the correct death tax rate, while the United States would have one of the world’s worst systems?

Fortunately, not all U.S. tax policies are this bad. Our taxation of labor income is generally not as bad as other industrialized nations. And the burden of government spending in the United States tends to be lower than European nations (though both Bush and Obama have undermined that advantage).

And if you look at broad measures of economic freedom, America tends to be in - or near - the top 10 (though that’s more a reflection of how bad other nations are).

But these mitigating factors don’t change the fact that the U.S. needlessly punishes saving and investment, and workers are the biggest victims. So let’s junk the internal revenue code and adopt a simple and fair flat tax.

What Obama and the New York Times Don’t Understand about Worldwide Taxation

Mitt Romney is being criticized for supporting “territorial taxation,” which is the common-sense notion that each nation gets to control the taxation of economic activity inside its borders.

While promoting his own class-warfare agenda, President Obama recently condemned Romney’s approach. His views, unsurprisingly, were echoed in a New York Times editorial.

President Obama raised … his proposals for tax credits for manufacturers in the United States to encourage the creation of new jobs. He said this was greatly preferable to Mitt Romney’s support for a so-called territorial tax system, in which the overseas profits of American corporations would escape United States taxation altogether. It’s not surprising that large multinational corporations strongly support a territorial tax system, which, they say, would make them more competitive with foreign rivals. What they don’t say, and what Mr. Obama stressed, is that eliminating federal taxes on foreign profits would create a powerful incentive for companies to shift even more jobs and investment overseas—the opposite of what the economy needs.

Since even left-leaning economists generally agree that tax credits for manufacturers are ineffective gimmicks proposed for political purposes, let’s set that topic aside and focus on the issue of territorial taxation.

Or, to be more specific, let’s compare the proposed system of territorial taxation to the current U.S. system of “worldwide taxation.”

Worldwide taxation means that a company is taxed not only on its domestic earnings, but also on its foreign earnings. Yet the “foreign-source income” of U.S. companies is “domestic-source income” in the nations where those earnings are generated, so that income already is subject to tax by those other governments.

In other words, worldwide taxation results in a version of double taxation.

The U.S. system seeks to mitigate this bad effect by allowing American-based companies a “credit” for some of the taxes they pay to foreign governments, but that system is very incomplete.

And even if it worked perfectly, America’s high corporate tax rate still puts U.S. companies in a very disadvantageous position. If an American firm, Dutch firm, and Irish firm are competing for business in Ireland, the latter two only pay the 12.5 percent Irish corporate tax on any profits they earn. The U.S. company also pays that tax, but then also pays an additional 22.5 percent to the IRS (the 35 percent U.S. tax rate minus a credit for the 12.5 percent Irish tax).

In an attempt to deal with this self-imposed disadvantage, the U.S. tax system also has something called “deferral,” which allows American companies to delay the extra tax (though the Obama administration has proposed to eliminate that provision).

Romney proposes to put American companies on a level playing field by going in the other direction. Instead of immediate worldwide taxation, as Obama wants, Romney wants to implement territorial taxation.

But what about the accusation from the New York Times that territorial taxation “would create a powerful incentive for companies to shift even more jobs and investment overseas”?

Well, they’re somewhat right … and yet they’re totally wrong. Here’s what I’ve said about that issue:

If a company can save money by building widgets in Ireland and selling them to the US market, then we shouldn’t be surprised that some of them will consider that option.  So does this mean the President’s proposal might save some American jobs? Definitely not. If deferral is curtailed, that may prevent an American company from taking advantage of a profitable opportunity to build a factory in some place like Ireland. But U.S. tax law does not constrain foreign companies operating in foreign countries. So there would be nothing to prevent a Dutch company from taking advantage of that profitable Irish opportunity. And since a foreign-based company can ship goods into the U.S. market under the same rules as a U.S. company’s foreign subsidiary, worldwide taxation does not insulate America from overseas competition. It simply means that foreign companies get the business and earn the profits.

To put it bluntly, America’s tax code is driving jobs and investment to other nations. America’s high corporate tax rate is a huge self-inflected wound for American competitiveness.

Getting rid of deferral doesn’t solve any problems, as I explain in this video. Indeed, Obama’s policy would make a bad system even worse.

But, it’s also important to admit that shifting to territorial taxation isn’t a complete solution. Yes, it will help American-based companies compete for market share abroad by creating a level playing field. But if policymakers want to make the United States a more attractive location for jobs and investment, then a big cut in the corporate tax rate should be the next step.

Europe’s Crisis Is Because of Too Much Government, Not the Euro Currency

The mess in Europe has been rather frustrating, largely because almost everybody is on the wrong side.

Some folks say they want “austerity,” but that’s largely a code word for higher taxes. They’re fighting against the people who say they want “growth,” but that’s generally a code word for more Keynesian spending.

So you can understand how this debate between higher taxes and higher spending is like nails on a chalkboard for someone who wants smaller government.

And then, to get me even more irritated, lots of people support bailouts because they supposedly are needed to save the euro currency.

When I ask these people why a default in, say, Greece threatens the euro, they look at me as if it’s the year 1491 and I’ve declared the earth isn’t flat.

So I’m delighted that the Wall Street Journal has published some wise observations by a leading French economist (an intellectual heir to Bastiat!), who shares my disdain for the current discussion. Here are some excerpts from Prof. Salin’s column, starting with his common-sense hypothesis.

…there is no “euro crisis.” The single currency doesn’t have to be “saved” or else explode. The present crisis is not a European monetary problem at all, but rather a debt problem in some countries—Greece, Spain and some others—that happen to be members of the euro zone. Specifically, these are public-debt problems, stemming from bad budget management by their governments. But there is no logical link between these countries’ fiscal situations and the functioning of the euro system.

Salin then looks at how the artificial link was created between the euro currency and the fiscal crisis, and he makes a very good analogy (and I think it’s good because I’ve made the same point) to a potential state-level bankruptcy in America.

The public-debt problem becomes a euro problem only insofar as governments arbitrarily decide that there must be some “European solidarity” inside the euro zone. But how does mutual participation in the same currency logically imply that spendthrift governments should get help from the others? When a state in the U.S. has a debt problem, one never hears that there is a “dollar crisis.” There is simply a problem of budget management in that state.

He then says a euro crisis is being created, but only because the European Central Bank has surrendered its independence and is conducting backdoor bailouts.

Because European politicians have decided to create an artificial link between national budget problems and the functioning of the euro system, they have now effectively created a “euro crisis.” To help out badly managed governments, the European Central Bank is now buying public bonds issued by these governments or supplying liquidity to support their failing banks. In so doing, the ECB is violating its own principles and introducing harmful distortions.

Last but not least, Salin warns that politicians are using the crisis as an excuse for more bad policy - sort of the European version of Mitchell’s Law, with one bad policy (excessive spending) being the precursor of an additional bad policy (centralization).

Politicians now argue that “saving the euro” will require not only propping up Europe’s irresponsible governments, but also centralizing decision-making. This is now the dominant opinion of politicians in Europe, France in particular. There are a few reasons why politicians in Paris might take that view. They might see themselves being in a similar situation as Greece in the near future, so all the schemes to “save the euro” could also be helpful to them shortly. They might also be looking to shift public attention away from France’s internal problems and toward the rest of Europe instead. It’s easier to complain about what one’s neighbors are doing than to tackle problems at home. France needs drastic tax cuts and far-reaching deregulation and labor-market liberalization. Much simpler to get the media worked up about the next “euro crisis” meeting with Angela Merkel.

This is a bit of a dry topic, but it has enormous implications since Europe already is a mess and the fiscal crisis sooner or later will spread to the supposedly prudent nations such as Germany and the Netherlands. And, thanks to entitlement programs, the United States isn’t that far behind.

So may as well enjoy some humor before the world falls apart, including this cartoon about bailouts to Europe from America, the parody video about Germany and downgrades, this cartoon about Greece deciding to stay in the euro, this “how the Greeks see Europe” map, and this cartoon about Obama’s approach to the European model.

P.S. Here’s a video narrated by a former Cato intern about the five lessons America should learn from the European fiscal crisis.

The Turbo-Charged Italian Version of the Laffer Curve

Thanks largely to the Laffer Curve, there are some impressive examples of failed tax increases in countries such as the United States, France, and the United Kingdom. But if there was a prize for the people who most vociferously resist turning over more of their income to government, the Italians would be the odds-on favorite to win.

When they’re not firebombing tax offices to show their displeasure, they’re taking to the high seas to escape.

Here are some excerpts from a report in the UK-based Telegraph about runaway yachts.

Thousands are weighing anchor and fleeing with their gin palaces to quiet corners of the Mediterranean to escape a tax evasion crackdown – part of efforts by the government of Mario Monti, the prime minister, to tackle Italy’s €1.9 trillion public debt. …in the ports and marinas they are going after the owners of luxury yachts. Uniformed officers of the Guardia di Finanza, or tax police, are performing on-the-spot checks, boarding boats and checking owners’ details against their tax records. …The unwelcome attention has led many yacht owners to flee Italy’s marinas for friendlier foreign ports, from Corsica and the Cote d’Azur in the west to Croatia, Slovenia, Montenegro and Greece in the east. Others are heading southwards, to Malta and Tunisia - where they can access their boats on low-cost budget flights from Italy for a fraction of the tax bill they might otherwise face.

Not surprisingly, a lot of middle-class people are suffering because of lost business.

Around 30,000 yachts have fled Italy this year, costing €200 million in lost revenue from mooring fees, port services and fuel sales, according to Assomarinas, the Italian Association of Marinas. “We’ve lost 10 to 15 per cent of our regular customers,” said Roberto Perocchio, the president of Assomarinas. “This is the worst crisis in Italian boating history. The authorities are using scare tactics and creating a climate of fear.” …Plans for a further 30,000 new berths have been put on hold. Business is down by more than a third in many marinas, with some half empty compared to last summer. “We’ve lost 40 boats in the last few months, all between 20 and 25 metres long,” said Giovanni Sorci, director of a marina at Rimini, on the Adriatic coast. “Most went to Slovenia – in fact it is so popular that there’s now barely a berth to be had there. …At Porto Rotondo in Sardinia, Giacomo Pileri, the general manager of a 700-berth marina, said at least 150 boats had fled to nearby Corsica. …A steep new tax of up to €700 per day on the largest yachts mooring in Italian ports, introduced by the Monti government in December, was watered down in March to exclude foreign-owned boats. But it has further fuelled the exodus of Italian boats abroad.

And it’s not just yachts that are being targeted by a revenue-hungry government. Here’s a remarkable report from Reuters on what’s happened to the luxury car market (h/t: suyts space).

Italians spooked by rising car taxes and highly publicized tax fraud spot checks cut back their purchases of Fiat’s high-end sports car brands Ferrari and Maserati in the first quarter of 2012, an industry body said on Tuesday. Ferrari sales slumped 51.5 percent, in Italy, and Maserati sales plummeted by 70 percent, said Italian car dealers group Federauto in a statement. Prime Minister Mario Monti’s government has stepped up its fight on tax evasion with spot checks on supercar drivers, as well as higher taxes on large cars. “These figures show how the choices made by the government are literally terrorizing potential clients,” said Federauto chairman Filippo Pavan Bernacchi.

I assume those awful sales numbers are partly because the economy is weak, but well-to-do Italians obviously don’t want to attract attention from the tax police.

The moral of the story is that Italy’s government should try a new strategy. The politicians need to understand that taxpayers don’t meekly acquiesce, like lambs in a slaughterhouse.

Heck, even the folks at the International Monetary Fund (a crowd not known for rabid free-market sympathies) have acknowledged that excessive taxation is the leading cause of the shadow economy.

So rather than trying to squeeze more blood from an unwilling stone, maybe the Italian government should junk the current tax code and adopt a simple and fair flat tax.

To conclude, here’s Part II of the three-part video series on the Laffer Curve, which focuses on historical evidence (including what happened to the yacht market in the U.S. when politicians went after the “rich”).

Sort of makes you wonder why politicians never seem to learn from their mistakes - especially when thoughtful people like me give them free lessons about the relationship between tax rates, tax revenue, and taxable income.

P.S. While I’m very happy to defend tax evasion in cases where government is excessive, venal, and/or corrupt, I suspect that Italians would evade even if they lived under a Hong Kong-style fiscal regime. If that ever happened (don’t hold your breath), even I wouldn’t get upset about crackdowns on yacht owners and Maserati drivers who aren’t declaring any income.