Topic: Tax and Budget Policy

It’s the Government’s Money — They’re Just Letting You Keep It

At a policy forum yesterday, I mixed it up a bit with Jason Furman and Kate Baicker over the concept of “tax expenditures” and whether it is accurate to describe exclusions, deductions, credits, etc. as “government spending.”  I previously laid out my views on the matter here

Earlier this month, my colleauge Andrew Coulson took issue with someone who claimed that “yes, vouchers or tax expenditures in the form of tax credits are public funding.”  Coulson cited court cases that disagreed.  He then commented:

When I see obviously counterfactual, readily falsified claims such as [this], by people who should know better, I’m always deeply puzzled as to how and why they occur. Somebody throw me a bone here.

Here are two possible explanations. 

  1. People who describe the revenue lost to tax breaks as “government spending” wish to suggest that the money, though in private hands, actually belongs to the government, and therefore the government has the right to take it and spend it on something else.  Taking those resources out of private hands (i.e., by eliminating the tax break) is therefore not a tax increase, but merely a reallocation of government resources.
  2. Alternatively (but no less opportunistically), some describe the revenue forgone as “government spending” because they do not like how private actors are spending that money.  Defining it as government spending subjects it to limitations that would preclude the objectionable expenditures — such as when teachers’ unions object that tax credits make it easier for the citizenry to spend their own money on religious schools (read: the unions’ non-union competitors).

Unfortunately, as Jason Furman gleefully pointed out in an email, even Cato scholars sometimes use the term “tax expenditure” — without the scare quotes.

OECD Admits That Tax Competition Leads to Better Tax Policy

The bureaucrats in Paris are a schizophrenic bunch. The OECD’s Committee on Fiscal Affairs seeks to thwart tax competition in order to prop up Europe’s uncompetitive welfare states, yet the professional economists in the organization frequently write about the benefits of lower tax rates and the liberalizing impact of tax competition – a division discussed in this article. Perhaps there is hope that the economists will triumph in this internal battle. A new report from the OECD notes how tax competition is lowering tax rats and creating more efficient tax systems. There is an unfortunate sentence expressing concern that tax competition could reduce income redistribution, though this may have been inserted to placate some of the European governments that dominate the OECD:

Globalisation, especially the increased mobility of capital and highly-skilled labour, fosters greater tax competition. While corporation tax is only one among many factors that shape firms’ location decisions, it has a significant impact. Most OECD countries have cut their corporate tax rates over the past decade, some by a considerable amount. Similarly, empirical evidence indicates that lower income tax rates can be attractive to highly skilled migrants. Many governments have also reduced the top marginal rate of income tax, which is an important determinant of the effective tax rate for highly skilled workers. On average across OECD countries, the top marginal income tax rate fell from 45% in 1995 to 37% in 2005. … Globalisation also encourages the pursuit of efficiency gains in tax systems. To the extent that globalisation encourages a move to less elastic tax bases, it should improve the efficiency of tax systems. … On the other hand, tax competition could potentially reduce the ability of the tax system to contribute to the achievement of income redistribution objectives.

The Wall Street Journal likes the new report, focusing on the evidence that lower corporate tax rates are generating a Laffer Curve effect. This editorial makes the key point that the goal of lower tax rates is not to increase government, but rather to increase growth and opportunity – which is why it calls for further rate reductions:

Globalization skeptics claim the world is locked in a tax-rate race to the bottom. Luckily, they’re right – taxes are falling. But this trend also makes government finances better, strengthens economies and creates jobs. In “Making the Most of Globalization,” released yesterday, the OECD draws a direct link between lower tax rates and fiscal well-being. Over the past decade, most OECD countries cut corporate taxes, some by a great chunk, and saw average state revenues go up – not just in absolute terms. …corporate-tax proceeds have also risen as a percentage of GDP. So there’s plenty of room to cut further. By scrapping tax exemptions and lowering headline rates, governments have attracted investment, boosted growth and corporate profits, and improved tax compliance. It’s a nice demonstration of the Laffer curve at work.

Maine Moving in Right Direction While Michigan Considers Tax Hikes

Tax competition helps discipline profligate state governments. States that raise taxes cause jobs, capital, and entrepreneurial talent to escape to better fiscal environments. The Detroit News understands this relationship, which is why the paper is strongly condemning the governor for pushing irresponsible tax rate increases:

Gov. Jennifer Granholm and state House Democrats are pushing for an increase in the state’s income tax rate to erase the budget deficit. The income tax is the most easily comparable of taxes. At a 3.9 percent flat tax rate, Michigan’s income tax compares extremely well with other states and gives it a rare advantage. Pushing it to near 5 percent would throw that small edge away, particularly since fast-growing and highly attractive states like Florida, Texas and Tennessee have no income tax, and more than a dozen states across the country have either cut their income tax this year or are considering doing so. For Michigan to head in the opposite direction will give potential employers and residents yet one more reason to pass by the state. Even worse, the governor and House Democrats reportedly want to place a graduated income tax on the ballot for the fall of 2008. A graduated tax would mimic the federal tax in creating different tax rates for different income levels. This soak-the-rich approach by the Democrats will lessen Michigan’s chances of attracting the high-tech entrepreneurs Granholm says she is counting on to turn around the state’s economy. Why come here and give the state a greater percentage of the profits from their risk taking when they can locate in other states that don’t punish success?

Politicians in Maine, by contrast, may finally be learning that high tax rates have hurt state competitiveness. Lawmakers are considering a couple of proposals to significantly reduce the state’s onerous income tax rates in hope of luring new business. The Times Record reports:

The Taxation Committee is considering two competing tax reform plans — one that would lower the income tax to a flat 6 percent and another that would drop that rate to a flat 4.9 percent by adding a penny to the sales tax. …The committee has been working on its tax reform proposal for months. The goal is to replace the state’s graduated income tax system with a flat tax and bring down Maine’s top income tax rate of 8.5 percent. That high rate kicks in at a low level — $18,250 of taxable income for individuals — and adds to Maine’s reputation as one of the most overtaxed state’s in the county. … The plans are based on the same logic, said Rep. Dick Woodbury, an independent from Yarmouth, who is pushing the bolder version. He believes the lower income tax would help attract more businesses to the state. … The proposal to decrease the income tax rate to 6 percent by expanding the sales tax base appeared to have the most support Monday among committee members, although the 4.9 percent plan was picking up steam. “I like the 4.9 percent. It really does change the perception of Maine’s income tax,” said Sen. Joe Perry, D-Penobscot, the Senate chairman of the Taxation Committee. … Rep. Scott Lansley, R-Sabattus, picked up on Woodbury”s theme that the lower income tax rate would attract more business here because it would make the state more attractive to higher-paid professionals. “If the CEO moves here, the company’s going to move here,” Lansley said. “Aren’t we trying to attract more business? Aren’t we trying to keep our young people here?”

Rizzo versus Thaler on “Libertarian Paternalism”

Earlier this month, a few of us at Cato had the opportunity to hear NYU economics professor Mario Rizzo discuss a paper he has been working on with Glen Whitman on the so-called “new paternalism.” Their conclusion is that there is nothing “new” about it, and that it collapses into plain old paternalism. Today, over at the Wall Street Journal’s Econoblog, Mario takes on Richard Thaler, who along with his University of Chicago colleague Cass Sunstein, is responsible for the notorious ”libertarian paternalism” pseudo-concept.

Mario, gets the best of Thaler, I think, despite the fact that Thaler is incredibly evasive and slippery in this exchange, basically refusing to address a number of Mario’s rather deep objections head on. He wants to keep the “libertarian paternalism” terminology while denying that he is offering a set of ideas that are in the same line of semantic business as either “libertarian” or “paternalism.” It’s hard to see the point of this, other than to rhetorically “nudge” people into thinking that paternalism is sometimes okay because it is sometimes “libertarian,” and to get people to think that even libertarianism can sometimes be “paternalistic.” 

It is surely true, as “behavioral economists” like Thaler have shown, that we have a tendency to make certain kinds of cognitive “mistakes” (relative to some impossible blackboard standard of economic rationality, at least) and suffer from certain weaknesses of will. And it may also be true that many workers will be glad to accept labor contracts that provide for work and compensation arrangements that help them structure their time or manage their money in light of these foibles. I guess if one insisted on abusing words, one could say that voluntary labor agreements are “libertarian” in the sense that they are uncoerced. (By the same standard, choosing to eat pistachio instead of rocky road ice cream is “libertarian.”) But if there is no coercion, there is no paternalism, since “paternalism” already means something. 

Here is how Thaler motivates “libertarian paternalism”:

People make mistakes, so sometimes they can be helped. It is possible to help without coercion. That is libertarian paternalism. The concept can be and is used in both the public and private sectors. For example, in London, pedestrians from abroad are reminded by signs on the pavement to “look right” because their instincts from back home are to expect traffic to approach from the left. No one is forced to look right, but fewer pedestrians are hit by trucks.

This is so broad as to be completely intellectually useless. If your kid is misspelling a lot of words, and then you teach them the “ ‘I’ before ’E’ except after ‘C’ ” rule, you’ve helped them correct mistakes non-coercively. Is that libertarian paternalism? A “watch your step” sign in restaurant? An instructional DVD that helps your golf swing? 

Mario, I think, gets it just right:

Libertarianism is a political philosophy that seeks to reduce the activities of the state to a very low level. It is very much about less government. Paternalism is a political or moral philosophy that seeks to override the actual or operative preferences of individuals for their own benefit, however defined, according to Donald VanDeVeer’s 1986 book on the subject. When applied to the actions of government, paternalism cannot be libertarian. It can only be more or less intrusive.

Does Richard wish to reduce his “libertarian paternalism” to the appropriate management of government-owned streets or other enterprises? In the London case, what people want is obvious: They don’t want to get hit by cars. London is doing what entrepreneurs generally do: satisfying actual preferences. London is mimicking the market.

[…]

Richard wants to use the word “libertarian” to differentiate his paternalism from the traditional variants. Yet he uses the word in a fuzzy way. He wants to define libertarian along a continuous variable – the cost of exercising the exit option. However, libertarianism, as every libertarian understands it, uses a bright-line test – who imposes the cost? The authors of the concept of “libertarian paternalism” have said that clearly intrusive/coercive interventions are consistent with it. See my previous post. And they have also said, explicitly, that there is no sharp line between libertarian and non-libertarian paternalism. Thus, Richard cannot claim that his standard creates a bright-line rule that would help us resist the slippery slope.

As Mario and Glen have titled the paper they’re writing: “Meet the New Boss, Same as the Old Boss.”

If you missed it, be sure to check out Glen’s Cato paper, “Against the New Paternalism: Internalities and the Economics of Self-Control.”

German Finance Minister Endorses Flat tax

Sounds like a great headline, but the details leave a lot to be desired. As a matter of fact, the German concept of a “flat tax” is an additional daily levy imposed on prostitutes, not a simple and fair system for all taxpayers. As a news report explains, German politicians are motivated by a desire to capture more revenue:

Germany’s Finance Minister Peer Stein [Ed. note: error in original report. the name should be “Peer Steinbrück”] wants prostitutes to pay a flat tax of 25 euros a day, according to a report in Tuesday’s edition of the daily newspaper Bild. Sex workers would still file an annual tax declaration and, according to the number of clients, the tax authorities would either reimburse them part of the daily tax – or oblige them to pay more, said the paper. … Prostitution has been legal in Germany since the beginning of 2002, and prostitutes in theory have social security cover, but like taxation, the system does not work well in practice. According to a 2003 report, the German taxman misses out on about 2 billion euros from prostitution.

A Rising Tide Lifts all Boats

Kennedy was right. Not Teddy Kennedy, of course, but his brother. President John F. Kennedy stated that a rising tide of economic growth generated benefits for all. A new study from the Congressional Budget Office looks at income trends for families with children and confirms JFK’s wisdom. The Wall Street Journal reviews the key findings:

A new study by the Congressional Budget Office says the poor have been getting less poor. On average, CBO found that low-wage households with children had incomes after inflation that were more than one-third higher in 2005 than in 1991. The CBO results don’t fit the prevailing media stereotype of the U.S. economy as a richer take all affair – which may explain why you haven’t read about them. … The poorest even had higher earnings growth than the richest 20%. The earnings of these poor households are about 80% higher today than in the early 1990s. … CBO says … earnings from work climbed sharply as the 1996 welfare reform pushed at least one family breadwinner into the job market. … earnings for low-income families have still nearly doubled in the years since welfare reform became law. Some two million welfare mothers have left the dole for jobs since the mid-1990s. Far from being a disaster for the poor, as most on the left claimed when it was debated, welfare reform has proven to be a boon. … The report also rebuts the claim, fashionable in some precincts on CNN, that the middle class is losing ground. … every class saw significant gains in income. … the CBO study found that, with the exception of chronically poor families who have no breadwinner, low-income job holders are climbing the income ladder. When CBO examined surveys of the same poor families over a two year period, 2001-2003, it found that “the average income for those households increased by nearly 45%.” That’s especially impressive considering that those were two of the weakest years for economic growth across the 15 years of the larger study.

Even Swiss Politicians Concoct Bad Tax Ideas

Proposals for global tax schemes normally emanate from places like Paris and Brussels. Swiss officials, by contrast, generally have a more sensible attitude – especially since they often are in a position of having to defend Switzerland’s fiscal sovereignty. But as Tax-news.com reports, one Swiss Minister wants a “tax on information” to fund global redistribution:

Swiss Communications Minister Moritz Leuenberger has suggested a ‘tax on information’ to help bridge the digital divide between wealthy countries with good communication infrastructure and poor countries where most of the population have no access to modern communications. Leuenberger revealed his proposal to a United Nations meeting convened to follow up on the World Summit on the Information Society (WSIS), held jointly in Geneva and Tunis in 2003 and 2005. … Leuenberger surmised that such a tax could be raised on information content which is paid for and computers.