There's been some talk in the blogosphere today about Campbell's Law, which, as Wikipedia helpfully explains, holds that, "the more any quantitative social indicator is used for social decision-making, the more subject it will be to corruption pressures and the more apt it will be to distort and corrupt the social processes it is intended to monitor.
"The social science principle of Campbell's law is sometimes used to point out the negative consequences of high-stakes testing in U.S. classrooms.... [Thus,] achievement tests may well be valuable indicators of general school achievement under conditions of normal teaching aimed at general competence. But when test scores become the goal of the teaching process, they both lose their value as indicators of educational status and distort the educational process in undesirable ways."
This clearly applies as well to corporate governance and indicators of good managerial performance, be they elements in executive compensation formulas or markers that pervasively affect stock prices (e.g., meeting quarterly earnings targets).
It's also related to the argument (originally from Henry Hansmann) for why, in some settings (e.g., education), donors or consumers may prefer dealing with nonprofit to for-profit entities.
Tuesday, March 29, 2011
Earworms, courtesy of Captain Beefheart
I've been listening quite a bit to the good Captain lately, at least when no family members are in the room. Ice Cream for Crow, Shiny Beast (Bat Chain Puller), The Spotlight Kid, Clear Spot, and soon to be joined by Doc at the Radar Station.
Though one tends not to think of Beefheart this way, in fact there are lots of catchy or memorable bits that keep running through my mind when I'm otherwise engaged (such as writing, preparing for various talks and classes, phone conferencing, or playing tennis). Right now, for example, the bluesy riff from "When I See Mommy I Feel Like A Mummy."
Go ahead, you try operating this way, see how you like it. (Though actually, I do.)
Though one tends not to think of Beefheart this way, in fact there are lots of catchy or memorable bits that keep running through my mind when I'm otherwise engaged (such as writing, preparing for various talks and classes, phone conferencing, or playing tennis). Right now, for example, the bluesy riff from "When I See Mommy I Feel Like A Mummy."
Go ahead, you try operating this way, see how you like it. (Though actually, I do.)
Monday, March 28, 2011
March 24 NYU Tax Policy Colloquium (with Kirk Stark)
Last Thursday at the colloquium, Kirk Stark presented his paper, Bribing the States to Tax Food, along with an earlier (and recently published) companion paper, The Federal Role in State Tax Reform.
The earlier piece discusses state revenue volatility, arguably a contributing factor to the horrendous fiscal problems that a number of states and localities currently face. In fat times they tend to ramp up spending, but in lean times they may find it hard (or undesirable) to shoot back down again. An appealing normative approach might be "smoothing" (e.g., have the same teacher to child ratio in a fat year as a lean one), along with updating as one's long-term revenue expectations change but without following the business cycle as such. (And with countercyclical macro policy left to the federal level, leaving aside the political problems we've recently seen with trying to execute it there.) This is what one would expect to observe with optimal political decisionmaking plus the requisite state-level access to capital markets.
A main argument of the earlier piece is that the feds should want the states to use revenue sources that are less volatile rather than more so, since state-level volatility (especially if not handled well) may impose federal costs, including the problem of bailout that could lead to moral hazard. (One could also add the undesirability from a federal macro policy standpoint of encouraging state policy to be more procyclical.)
Against this background, Stark argues in the earlier piece that the federal government undesirably pushes states towards having more, rather than less, volatile revenue sources. For example, individuals can deduct their state and local income taxes paid, but for the most part not their state and local sales taxes. The latter tend to be less volatile, because consumption is flatter from year to year than income (since individuals to a degree smooth). Likewise, state corporate income taxes, though highly volatile, are deductible as a business expense.
In response, one could argue that it's a mistake just to assume that state-level volatility is bad. Rather, perhaps one needs to compare the social costs of federal versus state revenue volatility (at least insofar as the question is where to locate volatility, not just how much there should be overall). He notes that one could imagine thinking of federal volatility as worse. To be sure, the feds have much greater economic power, since they can tax economic activity in all 50 states and can print money. So they might be better able to handle volatility in an optimal scenario. But if they fail it's much worse than if a few states do so (a diversification point). Plus, their much larger permissible credit card balance means they can run up bigger problems. E.g., states can't implicitly default via inflation the same way they can. And while the states may have political incentives to play games with employee pensions, the feds can do this with the entire federal retirement system (Social Security & Medicare) - programs no state would be tempted to run given migration between states.
The newer, work-in-progress paper that Stark presented argues that the federal government should push states towards having comprehensive sales taxes rather than exempting food that is purchased for home consumption (rather than being prepared or restaurant food). The classic argument for exempting home-prepared food from a state sales tax is regressivity, since poorer households spend a larger percentage of their budget on it than do rich households. Problems include extreme complexity from classification issues (e.g., does it matter if you get your bagel toasted? Are chocolate chips different than Hershey's Kisses?), enormous waste of the subsidy (since rich households spend more on exempted food in absolute terms), and inefficiency from tax-favoring food consumption relative to other consumption.
Stark argues that a further cost of the widespread food exemption is increased revenue volatility. State sales taxes would be less volatile if food was generally included, since people's food consumption responds less to the business cycle than their overall consumption (reflecting that one can postpone big consumer purchases but can't decide not to eat for a while). On this basis, he suggests a large federal tax credit of some kind that would only go to taxpayers in states that taxed food at the same rate as everything else in their sales taxes.
Despite the volatility point, I wonder how much of the problem with states not taxing food is really a federalism problem, instead of simply a good versus bad tax design problem. Plus, states really should be able to handle the regressivity problem through other adjustments to their fiscal systems. It's a political economy failure, not a fiscal federalism one, that leads them not to do this. So it wasn't clear to me why it makes sense for the feds to pay the states this "bribe" for improving their tax policies. Plus, if the point of the bribe is simply to get state tax laws to improve, why direct the subsidy to poor households that would be hit by an otherwise unadjusted state sales tax change? Should the incentive be directed instead at state legislatures and their general revenues? I felt one might need to specify more fully the subsidy's purpose in order to determine its optimal design.
The earlier piece discusses state revenue volatility, arguably a contributing factor to the horrendous fiscal problems that a number of states and localities currently face. In fat times they tend to ramp up spending, but in lean times they may find it hard (or undesirable) to shoot back down again. An appealing normative approach might be "smoothing" (e.g., have the same teacher to child ratio in a fat year as a lean one), along with updating as one's long-term revenue expectations change but without following the business cycle as such. (And with countercyclical macro policy left to the federal level, leaving aside the political problems we've recently seen with trying to execute it there.) This is what one would expect to observe with optimal political decisionmaking plus the requisite state-level access to capital markets.
A main argument of the earlier piece is that the feds should want the states to use revenue sources that are less volatile rather than more so, since state-level volatility (especially if not handled well) may impose federal costs, including the problem of bailout that could lead to moral hazard. (One could also add the undesirability from a federal macro policy standpoint of encouraging state policy to be more procyclical.)
Against this background, Stark argues in the earlier piece that the federal government undesirably pushes states towards having more, rather than less, volatile revenue sources. For example, individuals can deduct their state and local income taxes paid, but for the most part not their state and local sales taxes. The latter tend to be less volatile, because consumption is flatter from year to year than income (since individuals to a degree smooth). Likewise, state corporate income taxes, though highly volatile, are deductible as a business expense.
In response, one could argue that it's a mistake just to assume that state-level volatility is bad. Rather, perhaps one needs to compare the social costs of federal versus state revenue volatility (at least insofar as the question is where to locate volatility, not just how much there should be overall). He notes that one could imagine thinking of federal volatility as worse. To be sure, the feds have much greater economic power, since they can tax economic activity in all 50 states and can print money. So they might be better able to handle volatility in an optimal scenario. But if they fail it's much worse than if a few states do so (a diversification point). Plus, their much larger permissible credit card balance means they can run up bigger problems. E.g., states can't implicitly default via inflation the same way they can. And while the states may have political incentives to play games with employee pensions, the feds can do this with the entire federal retirement system (Social Security & Medicare) - programs no state would be tempted to run given migration between states.
The newer, work-in-progress paper that Stark presented argues that the federal government should push states towards having comprehensive sales taxes rather than exempting food that is purchased for home consumption (rather than being prepared or restaurant food). The classic argument for exempting home-prepared food from a state sales tax is regressivity, since poorer households spend a larger percentage of their budget on it than do rich households. Problems include extreme complexity from classification issues (e.g., does it matter if you get your bagel toasted? Are chocolate chips different than Hershey's Kisses?), enormous waste of the subsidy (since rich households spend more on exempted food in absolute terms), and inefficiency from tax-favoring food consumption relative to other consumption.
Stark argues that a further cost of the widespread food exemption is increased revenue volatility. State sales taxes would be less volatile if food was generally included, since people's food consumption responds less to the business cycle than their overall consumption (reflecting that one can postpone big consumer purchases but can't decide not to eat for a while). On this basis, he suggests a large federal tax credit of some kind that would only go to taxpayers in states that taxed food at the same rate as everything else in their sales taxes.
Despite the volatility point, I wonder how much of the problem with states not taxing food is really a federalism problem, instead of simply a good versus bad tax design problem. Plus, states really should be able to handle the regressivity problem through other adjustments to their fiscal systems. It's a political economy failure, not a fiscal federalism one, that leads them not to do this. So it wasn't clear to me why it makes sense for the feds to pay the states this "bribe" for improving their tax policies. Plus, if the point of the bribe is simply to get state tax laws to improve, why direct the subsidy to poor households that would be hit by an otherwise unadjusted state sales tax change? Should the incentive be directed instead at state legislatures and their general revenues? I felt one might need to specify more fully the subsidy's purpose in order to determine its optimal design.
Saturday, March 26, 2011
Lost opportunity
I've just started Simon Johnson & James Kwak's Thirteen Bankers. The brief period in 2008-2009 when the U.S. government could have broken the plutocrats' grip on the U.S. economy as part of the rescue reminds me of nothing so much as the moment at the end of the Second Age in the Lord of the Rings when Isildur fails to throw the Ring into Mount Doom. But I am less optimistic than Tolkien that the lost opportunity will ever be made good.
Friday, March 25, 2011
Government lobbying rules
This past Tuesday, I participated in a very interesting event at NYU Law School: the 11th Annual NYU/KPMG Tax Lecture, featuring several hours of lectures, panel discussions with audience participation, and tightly structured debates on various topics within the purview of “Increasing Transparency in the U.S. Self Assessment Tax System: A Paradigm Shift.”
The event always features one or more prominent speakers from the Treasury Department or IRS, along with practitioners and academics from New York and around the country.
Here's an odd fact about such events. When one invites Treasury or IRS officials, as inevitably one does since both the organizers and audience are eager to hear what they are thinking, even just paying for airfare and hotels is potentially an issue. Taking them to dinner, even to plan a conference session, is pretty much out of the question.
What's amusing about this is the combination of Draconian restriction here, where it really doesn't matter much (though I agree that there are genuine concerns being addressed), with the utter flexibility of the rules governing members of Congress. I'm pretty sure you can hold a week-long conference in Hawaii, fly out an important tax committee member first-class or in a corporate jet, put him in a luxury suite, have golfing outings each day and fancy dinners each night, hold ongoing "seminars" that are essentially lobbying sessions, make large campaign contributions, etcetera, and not have a concern in the world apart from some minor tax planning issues (e.g., what can you deduct, or alternatively should you run it through a tax-exempt organization).
UPDATE: In case I was being too Delphic, this comment is meant to be read in light of the prior one. It might be illuminating to compare the ethical issues that would have been raised by the NYU/KPMG Tax Lecture organizers buying dinner for an upper level IRS official to those suggested in the NYT story on GE with regard to Congressman Rangel.
The event always features one or more prominent speakers from the Treasury Department or IRS, along with practitioners and academics from New York and around the country.
Here's an odd fact about such events. When one invites Treasury or IRS officials, as inevitably one does since both the organizers and audience are eager to hear what they are thinking, even just paying for airfare and hotels is potentially an issue. Taking them to dinner, even to plan a conference session, is pretty much out of the question.
What's amusing about this is the combination of Draconian restriction here, where it really doesn't matter much (though I agree that there are genuine concerns being addressed), with the utter flexibility of the rules governing members of Congress. I'm pretty sure you can hold a week-long conference in Hawaii, fly out an important tax committee member first-class or in a corporate jet, put him in a luxury suite, have golfing outings each day and fancy dinners each night, hold ongoing "seminars" that are essentially lobbying sessions, make large campaign contributions, etcetera, and not have a concern in the world apart from some minor tax planning issues (e.g., what can you deduct, or alternatively should you run it through a tax-exempt organization).
UPDATE: In case I was being too Delphic, this comment is meant to be read in light of the prior one. It might be illuminating to compare the ethical issues that would have been raised by the NYU/KPMG Tax Lecture organizers buying dinner for an upper level IRS official to those suggested in the NYT story on GE with regard to Congressman Rangel.
New York Times article on GE's tax planning
Today's New York Times has a very interesting article (the cliché of choice would be "must-read") concerning General Electric's enormously successful tax planning. This has been a GE trademark since at least the 1980s, or well before the current generation of personnel were there. A bit of disclosure: I know several of the leading tax people at GE, as indeed would anyone in my professional niche. The people at the higher levels of what the article calls the finest tax law firm in the world are definitely interested in academic and intellectual outreach and activity, in addition to any of the topics (such as direct political outreach) that are discussed in the article. They are familiar with and actively involved in the current debate, and are among the players from across the spectrum that anyone seriously interested in this debate, whether sharing their views or not, needs to have in his or her metaphorical Rolodex. This is obviously a genuine corporate asset even though we academics, like cats, have a considerable tendency to do what we like.
In terms of understanding U.S. corporate and international taxation, the article makes two important points, neither of which comes as a surprise. The first concerns the central role of financial activity (banking and insurance, in economic if not regulatory terms) in multinational tax planning. In effect, these activities are highly tax-favored by reason of the global mobility of the income they generate, and there may be tax synergies to combining this with "real" business activity, such as GE's still-important equipment production and the like.
The second is the vital role that ongoing political lobbying plays in cutting-edge contemporary tax planning by U.S. companies. This is not structurally a good way for a country to operate, and does lead one to think about whether fundamental tax reform - even leaving aside political reform, such as to the campaign finance and lobbying rules - could someday make a significant difference.
In terms of understanding U.S. corporate and international taxation, the article makes two important points, neither of which comes as a surprise. The first concerns the central role of financial activity (banking and insurance, in economic if not regulatory terms) in multinational tax planning. In effect, these activities are highly tax-favored by reason of the global mobility of the income they generate, and there may be tax synergies to combining this with "real" business activity, such as GE's still-important equipment production and the like.
The second is the vital role that ongoing political lobbying plays in cutting-edge contemporary tax planning by U.S. companies. This is not structurally a good way for a country to operate, and does lead one to think about whether fundamental tax reform - even leaving aside political reform, such as to the campaign finance and lobbying rules - could someday make a significant difference.
Wednesday, March 23, 2011
Dividend tax holiday?
The White House and Eric Cantor are sparring over the idea of enacting a dividend repatriation tax holiday, Part Deux. Cantor proposes that U.S. companies be given a temporary low rate for bringing foreign earnings home. We tried this back in 2004, and academic research predominantly found that it did not (as promised by the proponents) lead to job creation. Instead, it led almost exclusively to increased share buybacks and dividend payouts.
In general, temporary tax holidays of this sort are a horrendously bad idea, because they send the message that one shouldn't repatriate any earnings, once the holiday ends, until the next one is declared - surely just a matter of time if we do it for the second time in only eight years. The reason this is bubbling up again is that it has powerful backing from narrow economic interests that know how to make friends in Washington, in particular the companies (e.g., Cisco) that have lots of earnings trapped out there (in large part because they have tax-planned effectively to treat a disproportionate share of their global earnings as arising in tax havens abroad).
In defense of the tax holiday, James Pethokoukis of Reuters argues:
"[E]ven if all the cash returning to the United States went to companies’ shareholders, that could still generate more consumption, growth and jobs, a knock-on effect Treasury ignores. Yet this so-called wealth effect is explicitly part of the rationale behind the Fed’s second round of quantitative easing."
OK, fair enough, and the general rule that one wants to avoid creating tax-motivated timing distortions in economic decision-making can rightly be called off during a recession (as when Congress enacts temporary expensing rules for business investment).
But I see two problems. The first is that this is really poorly-directed stimulus, although no more so than extending the Bush tax cuts for high-bracket taxpayers. The second is that U.S. multinationals' decisions over where to report their earnings and when to repatriate their funds play out more time-sensitively than, say, when to buy new machines for a business. A temporary expensing rule doesn't significantly induce companies to wait for the next time such a rule is enacted during the next recession. But multinationals' decisions about where to report earnings and when to move their funds around can very well involve waiting for the next holiday.
Pethokoukis may be arguing, not entirely without reason, that even a really badly designed stimulus with bad behavioral effects on the side is worth considering if all better-designed stimulus measures are ruled out on political grounds - though I must say, I still don't like the terms of trade here. But he is further off-base when he argues that "Treasury is stretching a point in assuming the government would somehow lose revenue by taxing repatriated income at a sharply lower rate. In reality, without the reduction most of the money will remain offshore."
The revenue estimates that show the holiday as costly are based on actual repatriation rates, which are expected to be low in any event but not zero. They decline, as independent studies (e.g., by Thomas Brennan) have also suggested, when granting a holiday affects expectations.
Our policy process has grown amazingly debased when this sort of proposal keeps coming up even though it was done so recently, so decisively failed to have the promised effects, and is so transparently a bad idea. The irony, of course, is that this very debasement offers the best argument for doing it, on the ground that the entire vast universe of better-designed stimulus options is politically off-limits.
In general, temporary tax holidays of this sort are a horrendously bad idea, because they send the message that one shouldn't repatriate any earnings, once the holiday ends, until the next one is declared - surely just a matter of time if we do it for the second time in only eight years. The reason this is bubbling up again is that it has powerful backing from narrow economic interests that know how to make friends in Washington, in particular the companies (e.g., Cisco) that have lots of earnings trapped out there (in large part because they have tax-planned effectively to treat a disproportionate share of their global earnings as arising in tax havens abroad).
In defense of the tax holiday, James Pethokoukis of Reuters argues:
"[E]ven if all the cash returning to the United States went to companies’ shareholders, that could still generate more consumption, growth and jobs, a knock-on effect Treasury ignores. Yet this so-called wealth effect is explicitly part of the rationale behind the Fed’s second round of quantitative easing."
OK, fair enough, and the general rule that one wants to avoid creating tax-motivated timing distortions in economic decision-making can rightly be called off during a recession (as when Congress enacts temporary expensing rules for business investment).
But I see two problems. The first is that this is really poorly-directed stimulus, although no more so than extending the Bush tax cuts for high-bracket taxpayers. The second is that U.S. multinationals' decisions over where to report their earnings and when to repatriate their funds play out more time-sensitively than, say, when to buy new machines for a business. A temporary expensing rule doesn't significantly induce companies to wait for the next time such a rule is enacted during the next recession. But multinationals' decisions about where to report earnings and when to move their funds around can very well involve waiting for the next holiday.
Pethokoukis may be arguing, not entirely without reason, that even a really badly designed stimulus with bad behavioral effects on the side is worth considering if all better-designed stimulus measures are ruled out on political grounds - though I must say, I still don't like the terms of trade here. But he is further off-base when he argues that "Treasury is stretching a point in assuming the government would somehow lose revenue by taxing repatriated income at a sharply lower rate. In reality, without the reduction most of the money will remain offshore."
The revenue estimates that show the holiday as costly are based on actual repatriation rates, which are expected to be low in any event but not zero. They decline, as independent studies (e.g., by Thomas Brennan) have also suggested, when granting a holiday affects expectations.
Our policy process has grown amazingly debased when this sort of proposal keeps coming up even though it was done so recently, so decisively failed to have the promised effects, and is so transparently a bad idea. The irony, of course, is that this very debasement offers the best argument for doing it, on the ground that the entire vast universe of better-designed stimulus options is politically off-limits.
Saturday, March 19, 2011
The bubble metaphor pops again
Law school admissions appear to have dropped 11.5% this year, the Wall Street Journal reports.
Slate Magazine's Annie Lowry goes for more drama, suggesting that “the law school bubble may have just burst.” In addition, while the Journal emphasizes the decline in the legal job market in recent years, Lowry, noting that it has recently turned up again (and not considering response lags) posits that "the biggest reason may be cultural, not economic. In the past year or two, scads of blogs have committed themselves to exposing law school as a 'scam,' and the New York Times and Wall Street Journal have devoted thousands of words to telling readers why law school is a bad, bad idea if you do not actually want to be a lawyer."
How about legal fiction as a contributing cause? Let's look at a randomly (?) chosen recent entry that is all too typical in its negativity, if atypically satiric rather than melodramatic in approach:
"At the well-appointed offices of Ashby & Cinders, Peter Crossley, the partner who had been rather casually appointed to handle the new Barlow matter, was waiting for his subordinates. They were due to visit him at 4 o'clock, and already it was 3:59:30."
Not sure I'd want to go to school for 3 years (even if it's really not that bad) just as prep to work in a place with people like that.
Slate Magazine's Annie Lowry goes for more drama, suggesting that “the law school bubble may have just burst.” In addition, while the Journal emphasizes the decline in the legal job market in recent years, Lowry, noting that it has recently turned up again (and not considering response lags) posits that "the biggest reason may be cultural, not economic. In the past year or two, scads of blogs have committed themselves to exposing law school as a 'scam,' and the New York Times and Wall Street Journal have devoted thousands of words to telling readers why law school is a bad, bad idea if you do not actually want to be a lawyer."
How about legal fiction as a contributing cause? Let's look at a randomly (?) chosen recent entry that is all too typical in its negativity, if atypically satiric rather than melodramatic in approach:
"At the well-appointed offices of Ashby & Cinders, Peter Crossley, the partner who had been rather casually appointed to handle the new Barlow matter, was waiting for his subordinates. They were due to visit him at 4 o'clock, and already it was 3:59:30."
Not sure I'd want to go to school for 3 years (even if it's really not that bad) just as prep to work in a place with people like that.
What did the voters know and when did they know it?
James Kwak at the Baseline Scenario blog is kind enough to quote me being, I guess, prescient 4 years ago when I wrote:
"U.S. political leaders now seem determined to follow Nero’s reputed example when setting budget policy. They dicker with trivial deficit reduction packages, and then on a regular basis stoke the fire by passing much larger tax cuts, while the long-term budget picture keeps getting worse. They know what is happening, as do the voters."
Kwak continues:
"That’s from Taxes, Spending, and the U.S. Government’s March Toward Bankruptcy by Daniel Shaviro, a tax professor at NYU’s law school (and blogger). Despite the apocalyptic title, the book is less about actual fiscal policy and more about the language we use to debate fiscal policy — and how that language is notoriously unhelpful, except perhaps for ideologues. For example, eliminating the mortgage interest tax deduction would increase tax revenue, which conventionally is thought of as 'bigger government'; but it would reduce the distorting effects of government policy, which means the government would have a smaller impact on the economy.
"The book was published in 2007 — that is, before the latest turn of the wheel, in which a $900 billion tax cut is being rapidly followed by a spending cut that will range somewhere between $10 billion and $60 billion, yet could reduce GDP on the order of one percentage point this year.
"My only quibble is with the last sentence: 'They know what is happening, as do the voters.' On that point, I think Krugman may be right. If voters really knew what was going on, then at some point the politicians couldn’t get away with the nonsense they continue to spout."
I think the voters do in fact at least quasi-know. I've never talked to any "lay" person about the U.S. fiscal situation and found that he or she was surprised or that the horrendous long-term picture was in any way news. Sure, people are confused about the details - not understanding, for example, the triviality of the budgetary savings that are being debated this year relative to the cost of extending the tax cuts - just as they apparently believe, for example, that half the U.S. budget goes to foreign aid. But there is a strong element of deliberate intellectual laziness founded on self-interest - if you let yourself understand it, you may have to contemplate solutions that would be bad for you. Why not wait and hope that it will be solved on someone else's back?
If Krugman were right, the political "market" would operate better. A politician (Obama?) would have something to gain by pointing out the truth. This doesn't seem to be so, however.
Kwak is right about the title of my book. My proposed title was "The Use and Abuse of Fiscal Language." The publisher didn't like that as much as the "March Toward Bankruptcy" concept, and no doubt was 100% correct from a commercial standpoint, which is not to say that the sales as is have been all that staggering.
"U.S. political leaders now seem determined to follow Nero’s reputed example when setting budget policy. They dicker with trivial deficit reduction packages, and then on a regular basis stoke the fire by passing much larger tax cuts, while the long-term budget picture keeps getting worse. They know what is happening, as do the voters."
Kwak continues:
"That’s from Taxes, Spending, and the U.S. Government’s March Toward Bankruptcy by Daniel Shaviro, a tax professor at NYU’s law school (and blogger). Despite the apocalyptic title, the book is less about actual fiscal policy and more about the language we use to debate fiscal policy — and how that language is notoriously unhelpful, except perhaps for ideologues. For example, eliminating the mortgage interest tax deduction would increase tax revenue, which conventionally is thought of as 'bigger government'; but it would reduce the distorting effects of government policy, which means the government would have a smaller impact on the economy.
"The book was published in 2007 — that is, before the latest turn of the wheel, in which a $900 billion tax cut is being rapidly followed by a spending cut that will range somewhere between $10 billion and $60 billion, yet could reduce GDP on the order of one percentage point this year.
"My only quibble is with the last sentence: 'They know what is happening, as do the voters.' On that point, I think Krugman may be right. If voters really knew what was going on, then at some point the politicians couldn’t get away with the nonsense they continue to spout."
I think the voters do in fact at least quasi-know. I've never talked to any "lay" person about the U.S. fiscal situation and found that he or she was surprised or that the horrendous long-term picture was in any way news. Sure, people are confused about the details - not understanding, for example, the triviality of the budgetary savings that are being debated this year relative to the cost of extending the tax cuts - just as they apparently believe, for example, that half the U.S. budget goes to foreign aid. But there is a strong element of deliberate intellectual laziness founded on self-interest - if you let yourself understand it, you may have to contemplate solutions that would be bad for you. Why not wait and hope that it will be solved on someone else's back?
If Krugman were right, the political "market" would operate better. A politician (Obama?) would have something to gain by pointing out the truth. This doesn't seem to be so, however.
Kwak is right about the title of my book. My proposed title was "The Use and Abuse of Fiscal Language." The publisher didn't like that as much as the "March Toward Bankruptcy" concept, and no doubt was 100% correct from a commercial standpoint, which is not to say that the sales as is have been all that staggering.
Friday, March 18, 2011
I guess he likes quilts
Seymour likes to help out around the house. Maybe he can work on the batting. Others quilts that resemble this one (except that they've been finished and have no cats on them) can be seen here.
Thursday, March 17, 2011
What an immense relief
Facing time pressure on multiple fronts even though this is our spring break at NYU, I am immensely relieved to have completed a first draft (various footnotes aside) of the article that I've mentioned here several times, "1986-Style Tax Reform: A Good Idea Whose Time Has Passed."
Reflecting that the piece is aimed at policymakers (or at least policy discussers) rather than being pure academic research, I am hoping to submit it to Tax Notes fairly soon, once I've had the chance both to give it a fresh look and to sample informal reader / audience responses a bit. But conceivably it will hit the presses within a couple of months.
Reflecting that the piece is aimed at policymakers (or at least policy discussers) rather than being pure academic research, I am hoping to submit it to Tax Notes fairly soon, once I've had the chance both to give it a fresh look and to sample informal reader / audience responses a bit. But conceivably it will hit the presses within a couple of months.
Tuesday, March 15, 2011
Travel light and keep moving
It’s nice, I guess, to be credited as the founder or initiator of a literature that has burgeoned in the law reviews over the last ten or twelve years. Hence, I enjoyed noting a newly published article by Ilan Benshalom and Kendra Stead, entitled “Values and (Market) Valuations: A Critique of the Endowment Tax Consensus,” which begins as follows:
“A consensus is hard to come by, and to the extent you find one you should be suspicious of it. There are hints of such a consensus among several prominent tax scholars—endorsement of endowment as the ideal tax base. An endowment tax would be based on individuals’ ability to earn income rather than on income actually earned. This Article challenges this agenda at a crucial moment, as developments in genetics and quantitative social sciences may start allowing endowment taxation to creep outside the boundaries of abstract tax theory, potentially affecting real tax policy arrangements.
“Many leading tax scholars writing today have endorsed the endowment tax—that is, the tax of material wealth and innate earning capacity one is born into—as a tax base superior to consumption or income. Daniel Shaviro was the first tax law scholar to articulate the potential importance of the endowment tax, noting that endowment could serve as a proxy for well-being. Viewed as an indicator of well-being, endowment appears to be an equitable tax base under certain liberal egalitarian approaches. The main appeal of the endowment tax, however, is that its progressivity does not seem to have very high efficiency costs. If endowment is innate, individuals cannot change their behaviors to avoid the tax and will therefore have the incentive to allocate their time and wealth resources in the most efficient way. Given the undeniable force behind this reasoning, the notion of endowment as an ideal tax base has won many supporters.”
Benshalom and Stead then criticize the idea and several of its prominent recent proponents, making what they recognize is a more old-fashioned case for wanting to base taxes on actual earnings or income, rather than on some gauge of mere potential.
My original article on endowment taxation attempts to make one point clear that has frequently been forgotten in the debate (which itself sometimes strikes me as having too much of an angels-on-the-head-of-a-pin character).
“Inequality … plays an important role in a variety of views of distributive justice, although under any it rests at least one turtle from the bottom. [Footnote citing the old story of the woman who claimed that the earth rests on the back of a turtle and, when asked what the turtle rests on, responded that it was “turtles all the way down.”] The move from a description of who is better-off under some metric to the claim that tax burdens should vary by reason of the differences that this metric identifies requires motivation.”
I argue that, under plausible assumptions, endowment or earnings ability is one turtle down from actually observed income or market consumption as a marker of material wellbeing. For example, if we think of utility as produced by market consumption plus leisure, someone who voluntarily chooses more leisure isn’t, by reason of the choice, worse-off than someone who happens to prefer choosing more work and market consumption.
But endowment differences, even if deemed both meaningful and measurable, don’t get you all the way to relative wellbeing, and they certainly don’t get you all the way to relative marginal utility of a dollar given people’s circumstances, which is the key distributional factor in a utilitarian social welfare function.
So we’ll always remain a few turtles from the bottom (to put it optimistically), no matter how far down we go. And endowment can’t be a first-best tax and transfer base, any more than income or consumption, even if in some respects it’s superior. (Not in all respects, however – for example, it can’t address the role of an income or consumption tax in addressing the risks associated with under-diversified human capital, e.g., because one may have to specialize in a particular profession that faces variable future returns.)
First-bests are generally unavailable theoretically, not just practically.
“A consensus is hard to come by, and to the extent you find one you should be suspicious of it. There are hints of such a consensus among several prominent tax scholars—endorsement of endowment as the ideal tax base. An endowment tax would be based on individuals’ ability to earn income rather than on income actually earned. This Article challenges this agenda at a crucial moment, as developments in genetics and quantitative social sciences may start allowing endowment taxation to creep outside the boundaries of abstract tax theory, potentially affecting real tax policy arrangements.
“Many leading tax scholars writing today have endorsed the endowment tax—that is, the tax of material wealth and innate earning capacity one is born into—as a tax base superior to consumption or income. Daniel Shaviro was the first tax law scholar to articulate the potential importance of the endowment tax, noting that endowment could serve as a proxy for well-being. Viewed as an indicator of well-being, endowment appears to be an equitable tax base under certain liberal egalitarian approaches. The main appeal of the endowment tax, however, is that its progressivity does not seem to have very high efficiency costs. If endowment is innate, individuals cannot change their behaviors to avoid the tax and will therefore have the incentive to allocate their time and wealth resources in the most efficient way. Given the undeniable force behind this reasoning, the notion of endowment as an ideal tax base has won many supporters.”
Benshalom and Stead then criticize the idea and several of its prominent recent proponents, making what they recognize is a more old-fashioned case for wanting to base taxes on actual earnings or income, rather than on some gauge of mere potential.
My original article on endowment taxation attempts to make one point clear that has frequently been forgotten in the debate (which itself sometimes strikes me as having too much of an angels-on-the-head-of-a-pin character).
“Inequality … plays an important role in a variety of views of distributive justice, although under any it rests at least one turtle from the bottom. [Footnote citing the old story of the woman who claimed that the earth rests on the back of a turtle and, when asked what the turtle rests on, responded that it was “turtles all the way down.”] The move from a description of who is better-off under some metric to the claim that tax burdens should vary by reason of the differences that this metric identifies requires motivation.”
I argue that, under plausible assumptions, endowment or earnings ability is one turtle down from actually observed income or market consumption as a marker of material wellbeing. For example, if we think of utility as produced by market consumption plus leisure, someone who voluntarily chooses more leisure isn’t, by reason of the choice, worse-off than someone who happens to prefer choosing more work and market consumption.
But endowment differences, even if deemed both meaningful and measurable, don’t get you all the way to relative wellbeing, and they certainly don’t get you all the way to relative marginal utility of a dollar given people’s circumstances, which is the key distributional factor in a utilitarian social welfare function.
So we’ll always remain a few turtles from the bottom (to put it optimistically), no matter how far down we go. And endowment can’t be a first-best tax and transfer base, any more than income or consumption, even if in some respects it’s superior. (Not in all respects, however – for example, it can’t address the role of an income or consumption tax in addressing the risks associated with under-diversified human capital, e.g., because one may have to specialize in a particular profession that faces variable future returns.)
First-bests are generally unavailable theoretically, not just practically.
Friday, March 11, 2011
March 10 NYU Tax Policy Colloquium (with Eric Zolt)
Very interesting session of the Tax Policy Colloquium yesterday concerning Eric Zolt’s paper, Tax Deductions for Charitable Contributions: Domestic Activities, Foreign Activities, or None of the Above.
Eric’s paper responds to scholarship that has argued for (a) more vigorously embracing the idea that U.S. charitable deductions are appropriate even when they fund charitable activities that occur abroad, (b) allowing suitably vetted foreign charitable organizations to get tax-deductible contributions from U.S. donors, and (c) allowing for-profit firms to receive deductible charitable contributions when their activities advance charitable purposes.
Proponents of each of these claims relied at least in part on good old legal analogy. As in: This stuff is just as good as, and/or is hard to tell apart from, things that unambiguously and/or uncontroversially get the charitable contributions deduction. So if we allow the deduction in other cases, we should here as well. To which Eric, in addition to assessing those arguments, says: But what if the charitable contribution deduction is itself questionable policy? Then, rather than accepting reasoning by analogy, we should rethink it across the board. He notes that the Obama Administration recently proposed converting the charitable deduction into a 28% credit, the Bowles-Simpson Fiscal Commission Report suggested a merely 12% credit, and in general there are other subsidy delivery techniques (e.g, direct spending).
Early in the paper, Eric rightly observes: “We lack any coherent theory that explains successfully why governments should allow [charitable deductions]. It is not from lack of trying.” In response, I’d say that the theoretical literature on this topic is fairly mature, and supports 2 clear conclusions. First, the deduction is not theoretically correct in the sense of, say, allowing business deductions under an income tax. Second, as a practical matter, using it involves a well-understood set of tradeoffs. It certainly isn’t an optimal subsidy design, but with limited information and political economy problems it’s plausible that one might choose deductibility, subject to a few bells & whistles. But I personally would opt for something a bit different.
More particularly:
1) The so-called “donor” theory, under which allowing charitable deductions is a part of measuring the taxpayer’s income correctly, is in my view clearly wrong. The great Harvard Law professor Bill Andrews made this argument almost 40 years ago, and in doing so advanced the literature, but I would say that this view has rightly been rejected. Andrews supported this result by defining the relevant consumption that an income or consumption tax would want to reach as “private preclusive appropriation” of resources. But if you think about the distributional rationale for a non-lump sum tax on terms that are based on welfare considerations, and thereby are drawn to the idea that people at higher budget lines should pay more tax (and/or get smaller transfers) than people at lower budget lines, it clearly follows that voluntary outlays that people make in pursuit of their own preferences are not like business outlays incurred in the course of earning gross income. Alf likes going to restaurants, Brenda likes giving money to charity, and we wouldn’t say that Brenda is worse off because she spent her $100 on something she valued, rather than on the sort of thing that Alf values. If one thinks (as I do) about the income tax as insurance against ability risk and under-diversified human capital risk, one doesn't really need insurance against voluntarily deciding to spend money on things. (One could try to build a case for behind-the-veil insurance against having particular "expensive tastes" such as for charitable giving that raise one's marginal utility of a dollar, but that would be a steep uphill climb.)
2) Absent the donor theory, one is left (as everyone recognizes these days) with subsidy theories for the charitable deduction. There are lots of ways to provide public support for what we define as "charitable" activity. E.g., direct government expenditure is an alternative, and often we use more than one method to increase supply of the same output. The key features of the charitable deduction are:
(a) It's a decentralized approach rather than one where Washington decides. Well-understood set of tradeoffs here. (The paper emphasizes minority vs. majority preferences, but I thought this a better framework given the complicated question of how majority coalitions arise, e.g., via logrolling.)
(b) It's a "skin in the game" approach. That is, the way to get the federal government to cut a check for a given charity (albeit indirectly via the tax savings to you from the deduction) is to cut the charity a larger check yourself. This has the virtue of forcing people to take seriously the question of where federal dollars should be directed federal dollars, along with the vice of creating radically unequal degrees of voice. Rich people effectively get way more votes regarding where to direct federal resources, whereas generally we make some show of saying one vote apiece (however slanted actual political influence turns out to be). Suppose instead that we eliminated charitable deductions and gave each adult U.S. citizen the right to allocate $X in federal money to the charity of his or her choice (with criminal penalties for selling the right). This would equalize voice, but presumably would undermine how seriously people took it.
(c) To the extent the deduction is allowed, it causes the marginal reimbursement rate or MRR (how much per dollar contributed you get back from the federal government) to your marginal tax rate or MTR. In other words, the MRR automatically equals the MTR. There is absolutely no reason to think that the MRR should generally equal the MTR, as different considerations apply to optimizing them. The optimal MRR depends on a number of different inputs, including the elasticity of donor response. Batchelder, Goldberg, and Orszag argue for a refundable flat-rate MRR, here and elsewhere in the Internal Revenue Code. Elasticity considerations might conceivably lead one to favor a rising MRR, if one isn't worried about the unequal voice aspect of it, but there's no reason to think that the MRR would rise in lockstep with, and generally equal, the MTR.
MRR-type thinking supports charitable deduction floors (e.g., rules providing that you can only deduct charitable contributions to the extent in excess of $X or Y% of your adjusted gross income), but it doesn't necessarily support the existing deduction ceiling (e.g., that limiting certain charitable contributions to 50% of one's adjusted gross income). The latter limits are hard to rationalize other than as a response to unequal voice, but in that case one might want the ceiling to have an absolute dollar rather than percentage of AGI structure, since we presumably don't need to limit the exercise of voice by low-earners.
3) The case for subsidizing charitable activity is often rationalized in terms of alms. But in practice, so far as the charitable deduction is concerned, it mostly means universities, arts institutions, and the like - things that rich donors prefer, and that typically are rationalized on public goods grounds. I agree with the paper that the public goods explanations for a lot of the non-alms stuff that generates big deductions today can be questioned. For example, even if we agree that institutions like Harvard generate public goods and should be subsidized, does their $30 billion endowment suggest that they don't really need the money right now, especially in light of other U.S. fiscal burdens?
If I had a fixed charitable budget, I'd want to direct much more of it to true alms and less to affluent donors' favored institutions. Note that the public goods explanation often emphasized in this area need not apply to alms, which responds to a public goods problem only insofar as people generally would like the poor to be helped but would prefer not to pay for it themselves. But helping people in bad straits is good in itself (i.e., a direct argument in the social welfare function), not just good because people who happen to like it face a collective action problem amongst themselves.
Eric’s paper responds to scholarship that has argued for (a) more vigorously embracing the idea that U.S. charitable deductions are appropriate even when they fund charitable activities that occur abroad, (b) allowing suitably vetted foreign charitable organizations to get tax-deductible contributions from U.S. donors, and (c) allowing for-profit firms to receive deductible charitable contributions when their activities advance charitable purposes.
Proponents of each of these claims relied at least in part on good old legal analogy. As in: This stuff is just as good as, and/or is hard to tell apart from, things that unambiguously and/or uncontroversially get the charitable contributions deduction. So if we allow the deduction in other cases, we should here as well. To which Eric, in addition to assessing those arguments, says: But what if the charitable contribution deduction is itself questionable policy? Then, rather than accepting reasoning by analogy, we should rethink it across the board. He notes that the Obama Administration recently proposed converting the charitable deduction into a 28% credit, the Bowles-Simpson Fiscal Commission Report suggested a merely 12% credit, and in general there are other subsidy delivery techniques (e.g, direct spending).
Early in the paper, Eric rightly observes: “We lack any coherent theory that explains successfully why governments should allow [charitable deductions]. It is not from lack of trying.” In response, I’d say that the theoretical literature on this topic is fairly mature, and supports 2 clear conclusions. First, the deduction is not theoretically correct in the sense of, say, allowing business deductions under an income tax. Second, as a practical matter, using it involves a well-understood set of tradeoffs. It certainly isn’t an optimal subsidy design, but with limited information and political economy problems it’s plausible that one might choose deductibility, subject to a few bells & whistles. But I personally would opt for something a bit different.
More particularly:
1) The so-called “donor” theory, under which allowing charitable deductions is a part of measuring the taxpayer’s income correctly, is in my view clearly wrong. The great Harvard Law professor Bill Andrews made this argument almost 40 years ago, and in doing so advanced the literature, but I would say that this view has rightly been rejected. Andrews supported this result by defining the relevant consumption that an income or consumption tax would want to reach as “private preclusive appropriation” of resources. But if you think about the distributional rationale for a non-lump sum tax on terms that are based on welfare considerations, and thereby are drawn to the idea that people at higher budget lines should pay more tax (and/or get smaller transfers) than people at lower budget lines, it clearly follows that voluntary outlays that people make in pursuit of their own preferences are not like business outlays incurred in the course of earning gross income. Alf likes going to restaurants, Brenda likes giving money to charity, and we wouldn’t say that Brenda is worse off because she spent her $100 on something she valued, rather than on the sort of thing that Alf values. If one thinks (as I do) about the income tax as insurance against ability risk and under-diversified human capital risk, one doesn't really need insurance against voluntarily deciding to spend money on things. (One could try to build a case for behind-the-veil insurance against having particular "expensive tastes" such as for charitable giving that raise one's marginal utility of a dollar, but that would be a steep uphill climb.)
2) Absent the donor theory, one is left (as everyone recognizes these days) with subsidy theories for the charitable deduction. There are lots of ways to provide public support for what we define as "charitable" activity. E.g., direct government expenditure is an alternative, and often we use more than one method to increase supply of the same output. The key features of the charitable deduction are:
(a) It's a decentralized approach rather than one where Washington decides. Well-understood set of tradeoffs here. (The paper emphasizes minority vs. majority preferences, but I thought this a better framework given the complicated question of how majority coalitions arise, e.g., via logrolling.)
(b) It's a "skin in the game" approach. That is, the way to get the federal government to cut a check for a given charity (albeit indirectly via the tax savings to you from the deduction) is to cut the charity a larger check yourself. This has the virtue of forcing people to take seriously the question of where federal dollars should be directed federal dollars, along with the vice of creating radically unequal degrees of voice. Rich people effectively get way more votes regarding where to direct federal resources, whereas generally we make some show of saying one vote apiece (however slanted actual political influence turns out to be). Suppose instead that we eliminated charitable deductions and gave each adult U.S. citizen the right to allocate $X in federal money to the charity of his or her choice (with criminal penalties for selling the right). This would equalize voice, but presumably would undermine how seriously people took it.
(c) To the extent the deduction is allowed, it causes the marginal reimbursement rate or MRR (how much per dollar contributed you get back from the federal government) to your marginal tax rate or MTR. In other words, the MRR automatically equals the MTR. There is absolutely no reason to think that the MRR should generally equal the MTR, as different considerations apply to optimizing them. The optimal MRR depends on a number of different inputs, including the elasticity of donor response. Batchelder, Goldberg, and Orszag argue for a refundable flat-rate MRR, here and elsewhere in the Internal Revenue Code. Elasticity considerations might conceivably lead one to favor a rising MRR, if one isn't worried about the unequal voice aspect of it, but there's no reason to think that the MRR would rise in lockstep with, and generally equal, the MTR.
MRR-type thinking supports charitable deduction floors (e.g., rules providing that you can only deduct charitable contributions to the extent in excess of $X or Y% of your adjusted gross income), but it doesn't necessarily support the existing deduction ceiling (e.g., that limiting certain charitable contributions to 50% of one's adjusted gross income). The latter limits are hard to rationalize other than as a response to unequal voice, but in that case one might want the ceiling to have an absolute dollar rather than percentage of AGI structure, since we presumably don't need to limit the exercise of voice by low-earners.
3) The case for subsidizing charitable activity is often rationalized in terms of alms. But in practice, so far as the charitable deduction is concerned, it mostly means universities, arts institutions, and the like - things that rich donors prefer, and that typically are rationalized on public goods grounds. I agree with the paper that the public goods explanations for a lot of the non-alms stuff that generates big deductions today can be questioned. For example, even if we agree that institutions like Harvard generate public goods and should be subsidized, does their $30 billion endowment suggest that they don't really need the money right now, especially in light of other U.S. fiscal burdens?
If I had a fixed charitable budget, I'd want to direct much more of it to true alms and less to affluent donors' favored institutions. Note that the public goods explanation often emphasized in this area need not apply to alms, which responds to a public goods problem only insofar as people generally would like the poor to be helped but would prefer not to pay for it themselves. But helping people in bad straits is good in itself (i.e., a direct argument in the social welfare function), not just good because people who happen to like it face a collective action problem amongst themselves.
Tuesday, March 08, 2011
NYU/UCLA Tax Policy Conference
As detailed here, NYU Law School and UCLA Law School have agreed to launch a "joint annual conference focusing on tax policy issues from both a legal and economic perspective." The term is potentially ongoing although only the first two years are definitely set.
Quoting from the official announcement, the first conference, "Tax Policy and Health Care Reform," will be held in October 2011 in Los Angeles, with a focus on the tax policy implications of health care reform. Topics will include tax alternatives to fund health care reform, tax subsidies and penalties for health insurance, using the tax system to implement individual health insurance mandates, and the desirability of tax benefits for non-profit health care providers in the post-health care reform world.
The second conference will be held in October 2012 in New York. Tentatively titled "The Income Tax at 100," it will observe the hundredth anniversary of the modern U.S. income tax in 2013. Participants will take stock of the American income tax at its centennial, and consider prospects for tax reform as the income tax begins its second century.
Papers presented at the conferences will generally be published in the Tax Law Review.
I think of the niche that these conferences will serve as similar (the Tax Law Review aspect aside) to that of a number of recent conferences in Los Angeles that typically were co-sponsored by one or more of the law schools there and the Urban-Brookings Tax Policy Center in Washington DC. Recent examples include "Starving the Hidden Beast: New Approaches to Tax Expenditure Reform," co-sponsored by Loyola Law School of Los Angeles and the Tax Policy Center, and held on January 14, 2011; and Train Wreck: A Conference on America's Looming Fiscal Crisis, co-sponsored by USC Law School, the USC-Caltech Center for the Study of Law and Politics, and the Tax Policy Center, and held on January 15, 2010.
Quoting from the official announcement, the first conference, "Tax Policy and Health Care Reform," will be held in October 2011 in Los Angeles, with a focus on the tax policy implications of health care reform. Topics will include tax alternatives to fund health care reform, tax subsidies and penalties for health insurance, using the tax system to implement individual health insurance mandates, and the desirability of tax benefits for non-profit health care providers in the post-health care reform world.
The second conference will be held in October 2012 in New York. Tentatively titled "The Income Tax at 100," it will observe the hundredth anniversary of the modern U.S. income tax in 2013. Participants will take stock of the American income tax at its centennial, and consider prospects for tax reform as the income tax begins its second century.
Papers presented at the conferences will generally be published in the Tax Law Review.
I think of the niche that these conferences will serve as similar (the Tax Law Review aspect aside) to that of a number of recent conferences in Los Angeles that typically were co-sponsored by one or more of the law schools there and the Urban-Brookings Tax Policy Center in Washington DC. Recent examples include "Starving the Hidden Beast: New Approaches to Tax Expenditure Reform," co-sponsored by Loyola Law School of Los Angeles and the Tax Policy Center, and held on January 14, 2011; and Train Wreck: A Conference on America's Looming Fiscal Crisis, co-sponsored by USC Law School, the USC-Caltech Center for the Study of Law and Politics, and the Tax Policy Center, and held on January 15, 2010.
Monday, March 07, 2011
March 3 NYU Tax Policy Colloquium (with Adam Rosenzweig)
Last Thursday at the colloquium, Adam Rosenzweig presented his paper, Thinking Outside the (Tax) Treaty. The paper, which is still at an early stage, combines a fairly broadly pitched discussion of the need for international tax policy analysis to make greater use of game theory (which is claimed to have large potential payoffs) with a relatively narrow proposal.
With regard to the broader use of game theory, clearly it's true that countries are interacting strategically over time. While in principle there's repeat play and most of the action takes place in public, limited responsiveness for internal political reasons may in some cases create the equivalent of countries, as in the classic prisoner's dilemma, acting to a degree unilaterally.
But in some of the settings that the paper emphasizes, I think a simple Coase set-up also helps one to think clearly. Suppose the U.S. is very unhappy about taxpayers' use of the Cayman Islands to avoid U.S. tax liability. If the issue is information reporting, we actually need cooperation from the Caymans to address the problem. But in many cases (e.g., use of Caymans corporations to avoid U.S. residence, move taxable income to a zero-rate jurisdiction, etc.), we actually could just change our own law, to impose the taxes we ostensibly want, without needing the Caymans to do anything. But despite this, suppose we actually need their cooperation, whether it's information reporting or not.
Suppose further that U.S. companies are taking advantage of Caymans opportunities to avoid $1 billion in U.S. taxes, but are paying the Caymans (through incorporation fees, amounts paid to local lawyers, etc.) only $1 million. The size of the disparity between what we're losing and what they're getting seems to suggest that the U.S. and the Caymans could in principle make a deal leaving both better off.
Let's say the status quo's benefit to the Caymans is $1 million (though presumably it's actually less since they have to provide at least a modicum of services to get this money). But how much is the lost $1 billion of tax revenue hurting us? The answer is less than $1 billion, if those are taxes that U.S. individuals ultimately should have paid, since at least "we" (i.e., all Americans) still have the money one way or the other. Rather, in principle the social welfare cost to the U.S. of failing to collect this $1 billion in tax depends on the difference between the "marginal efficiency and equity cost of funds" (MEECF) from two alternative revenue sources: (a) this $1 billion if we could have gotten it, versus (b) the MEECF of getting the funds by whatever next-best means we are forced to resort to instead.
To make MEECF more intuitive, let's ask why we would have preferred to get the revenue this way rather than some alternative way. Perhaps, if we fail to get the billion dollars this way, there is in effect a tax subsidy for using multinational operations purely as an income-shifting device, rather than due to its non-US tax advantages. Perhaps U.S. businesses have a tax incentive to engage in otherwise unprofitable multinational operations and to do some costly paper-shuffling once they are so engaged. And suppose these machinations undermine our ability to use the entity-level corporate tax to backstop the individual income tax in assuring that high-income individuals pay current tax on their business profits when earned through corporate entities.
In principle, this means we would reasonably have paid $X to get this billion dollars of revenue, rather than having to do something else. Suppose that X here equals $10 million. The Caymans income-shifting is therefore benefiting the Caymans by only $1 million, and yet costing us (in welfare terms) $10 million.
This implies that a Pareto-improving deal - so far as we and the Caymans are concerned - is in principle possible. We simply pay them between $1 million and $10 million not to accommodate the income-shifting, and both sides are better off. And if we get them to recede by threatening them rather than compensating them, then in Coasean bargain terms the outcome is the same, only we've done better and they've done worse distributionally.
If one accepts this setup, then the fact that the deal doesn't take place, presumably reflecting transaction costs (e.g., the fact that, if we pay off the Caymans, U.S. taxpayers might simply park their income somewhere else instead) evidences global inefficiency. Game theory comes into the picture once one starts thinking about why the deals are hard to make with multiple players. But in the context of the paper, it wasn't clear at this point how much of an intellectual payoff one gets by explicitly relying more on game theory to model the problem and possible solutions.
The paper's main suggestion, which it analogizes to an underlying economic literature about using lotteries to pay for public goods, is that countries in a non-treaty relationship (like the U.S. and either the Caymans or Brazil) make greater use of one-off arbitration deals to settle disputes where they think they would benefit from cooperating, without having to commit to broader and more systemic cooperation that they do not consider to be in their mutual interest. It will be interesting to see how later drafts of the article develop this potentially useful idea, although tax haven countries would have to think about whether cooperating in this manner, albeit just sporadically, would undermine their credibility with the suppliers of inbound (actual or paper) capital.
With regard to the broader use of game theory, clearly it's true that countries are interacting strategically over time. While in principle there's repeat play and most of the action takes place in public, limited responsiveness for internal political reasons may in some cases create the equivalent of countries, as in the classic prisoner's dilemma, acting to a degree unilaterally.
But in some of the settings that the paper emphasizes, I think a simple Coase set-up also helps one to think clearly. Suppose the U.S. is very unhappy about taxpayers' use of the Cayman Islands to avoid U.S. tax liability. If the issue is information reporting, we actually need cooperation from the Caymans to address the problem. But in many cases (e.g., use of Caymans corporations to avoid U.S. residence, move taxable income to a zero-rate jurisdiction, etc.), we actually could just change our own law, to impose the taxes we ostensibly want, without needing the Caymans to do anything. But despite this, suppose we actually need their cooperation, whether it's information reporting or not.
Suppose further that U.S. companies are taking advantage of Caymans opportunities to avoid $1 billion in U.S. taxes, but are paying the Caymans (through incorporation fees, amounts paid to local lawyers, etc.) only $1 million. The size of the disparity between what we're losing and what they're getting seems to suggest that the U.S. and the Caymans could in principle make a deal leaving both better off.
Let's say the status quo's benefit to the Caymans is $1 million (though presumably it's actually less since they have to provide at least a modicum of services to get this money). But how much is the lost $1 billion of tax revenue hurting us? The answer is less than $1 billion, if those are taxes that U.S. individuals ultimately should have paid, since at least "we" (i.e., all Americans) still have the money one way or the other. Rather, in principle the social welfare cost to the U.S. of failing to collect this $1 billion in tax depends on the difference between the "marginal efficiency and equity cost of funds" (MEECF) from two alternative revenue sources: (a) this $1 billion if we could have gotten it, versus (b) the MEECF of getting the funds by whatever next-best means we are forced to resort to instead.
To make MEECF more intuitive, let's ask why we would have preferred to get the revenue this way rather than some alternative way. Perhaps, if we fail to get the billion dollars this way, there is in effect a tax subsidy for using multinational operations purely as an income-shifting device, rather than due to its non-US tax advantages. Perhaps U.S. businesses have a tax incentive to engage in otherwise unprofitable multinational operations and to do some costly paper-shuffling once they are so engaged. And suppose these machinations undermine our ability to use the entity-level corporate tax to backstop the individual income tax in assuring that high-income individuals pay current tax on their business profits when earned through corporate entities.
In principle, this means we would reasonably have paid $X to get this billion dollars of revenue, rather than having to do something else. Suppose that X here equals $10 million. The Caymans income-shifting is therefore benefiting the Caymans by only $1 million, and yet costing us (in welfare terms) $10 million.
This implies that a Pareto-improving deal - so far as we and the Caymans are concerned - is in principle possible. We simply pay them between $1 million and $10 million not to accommodate the income-shifting, and both sides are better off. And if we get them to recede by threatening them rather than compensating them, then in Coasean bargain terms the outcome is the same, only we've done better and they've done worse distributionally.
If one accepts this setup, then the fact that the deal doesn't take place, presumably reflecting transaction costs (e.g., the fact that, if we pay off the Caymans, U.S. taxpayers might simply park their income somewhere else instead) evidences global inefficiency. Game theory comes into the picture once one starts thinking about why the deals are hard to make with multiple players. But in the context of the paper, it wasn't clear at this point how much of an intellectual payoff one gets by explicitly relying more on game theory to model the problem and possible solutions.
The paper's main suggestion, which it analogizes to an underlying economic literature about using lotteries to pay for public goods, is that countries in a non-treaty relationship (like the U.S. and either the Caymans or Brazil) make greater use of one-off arbitration deals to settle disputes where they think they would benefit from cooperating, without having to commit to broader and more systemic cooperation that they do not consider to be in their mutual interest. It will be interesting to see how later drafts of the article develop this potentially useful idea, although tax haven countries would have to think about whether cooperating in this manner, albeit just sporadically, would undermine their credibility with the suppliers of inbound (actual or paper) capital.
Thursday, March 03, 2011
Corporate tax reform prototypes
Tomorrow, at a conference in Washington, D.C. on taxation and debt bias, I will be giving a brief (15-minute) talk in which I argue that the currently dominant U.S. corporate tax reform model, which is to lower the corporate rate and pay for this somehow (such as through corporate base-broadening) is probably inferior to two alternative models that have been widely discussed.
Here is a pdf version of my PowerPoint slides for the talk.
The basic theme of the talk is as follows. Let's take it as given that we are doing something that reduces corporate tax revenues in the interest of structural improvement, and that through some separate adjustment we are not only making up the revenues, but adequately addressing the impact on (a) shareholder-level taxation and (b) corporate versus non-corporate business taxation. That, after all, is the premise of the lowering-the-corporate-rate tax reform idea (although I might be cheating a bit in sweeping all this under the rug for purposes of the talk, if I had more than 15 minutes).
Within that general approach, I argue that adopting an allowance for corporate equity (ACE), with company-level deductions for corporate equity, at a suitable interest rate, to offset debt bias in the tax code, would be preferable to lowering the corporate rate. Adopting an allowance for corporate capital (ACC), under which the same imputed deduction would apply to both debt AND equity without regard to interest actually paid, would be better still.
Here is a pdf version of my PowerPoint slides for the talk.
The basic theme of the talk is as follows. Let's take it as given that we are doing something that reduces corporate tax revenues in the interest of structural improvement, and that through some separate adjustment we are not only making up the revenues, but adequately addressing the impact on (a) shareholder-level taxation and (b) corporate versus non-corporate business taxation. That, after all, is the premise of the lowering-the-corporate-rate tax reform idea (although I might be cheating a bit in sweeping all this under the rug for purposes of the talk, if I had more than 15 minutes).
Within that general approach, I argue that adopting an allowance for corporate equity (ACE), with company-level deductions for corporate equity, at a suitable interest rate, to offset debt bias in the tax code, would be preferable to lowering the corporate rate. Adopting an allowance for corporate capital (ACC), under which the same imputed deduction would apply to both debt AND equity without regard to interest actually paid, would be better still.
Tuesday, March 01, 2011
Impatience and government spending
It's remarkable to watch the march towards a possible government shutdown (even if it is likely to be delayed for 2 weeks) based on the Republicans' insistence on budget cuts that reputable independent reports suggest will cost 700,000 jobs and result in significantly lower GDP growth.
A shutdown would have further recession-enhancing effects, and let's not even think about the debt default that many of the rank-and-file House Republicans appear eager to orchestrate later this year. Evidently, they are willing to do great harm to the recovery if it advances their goal of doing great harm to the recovery.
The House leadership's rationale, a combination of indifference and "we can't afford these jobs so it's immoral to debt-finance them," is insulting to the intelligence. To begin with, as anyone with budget awareness knows, they, along with President Obama when he focuses on spending cuts, are being what Howard Gleckman of the Tax Vox Blog called anti-Willie Suttons, looking for deficit reduction where the money isn't.
For another, the constantly repeated "we can't afford it" mantra, alongside advocacy of huge tax cuts, involves treating all of us in the audience as if we were idiot children. The last time I checked, there actually were two sides to the budget, revenues and outlays, and the relationship between the two is what leads to sustainability problems. Their deliberate rhetorical strategy is to make any increase in revenues, relative to their baseline that involves multi-trillion dollar reductions in infinite-horizon revenue relative to present law, literally not possible or even thinkable.
There are reasonable arguments for different budgetary equilibria, involving higher versus lower revenues on the one hand and government provision of goods and services (or simply cash) on the other. The argument that we should aim low rather than high, within the spectrum that's up for debate in the U.S., can reasonably be made. And if you want to aim low rather than high, pushing against higher taxes at every opportunity has a rationale.
But treating higher revenues (defined to include keeping present law!) as literally unthinkable is simply an insult to all thinking people who favor honest consideration and discussion of all plausible options.
In addition, their astounding willingness to risk massive job loss under present macroeconomic conditions tells one a lot about whether they ought to be in a position to affect millions of people's lives. The more charitable explanation, which I consider the more likely one, is that they are so insulated from empirics (cf. global warming or evolution) that they simply rule out the possibility of massive job loss - which, in fairness, not all reputable analysts endorse though I believe most would - without honest inquiry. The harsher explanation would be that they hope a heightened recession would be blamed on President Obama and help them in 2012. But that strategy would require them actually to know something.
Let me offer a comparison, given that their underlying long-term goals are within reasonable debate. I think the home mortgage interest deduction is one of the worst rules in the federal income tax, and I strongly favor its elimination. But suppose I had the power to repeal it cold turkey today - or, better yet, suppose the opportunity had arisen back in 2008 or 2009 at the peak of the mortgage default crisis. I certainly wouldn't go ahead with an immediate repeal, because I would realize it would be unacceptably likely to cause a fresh wave of defaults. But if they shared my view of this issue, they would go ahead and do it anyway.
Lady Bracknell observes in The Importance of Being Earnest that "[i]gnorance is like a delicate exotic fruit; touch it and the bloom is gone." She didn't realize how willful and resilient it can be.
A shutdown would have further recession-enhancing effects, and let's not even think about the debt default that many of the rank-and-file House Republicans appear eager to orchestrate later this year. Evidently, they are willing to do great harm to the recovery if it advances their goal of doing great harm to the recovery.
The House leadership's rationale, a combination of indifference and "we can't afford these jobs so it's immoral to debt-finance them," is insulting to the intelligence. To begin with, as anyone with budget awareness knows, they, along with President Obama when he focuses on spending cuts, are being what Howard Gleckman of the Tax Vox Blog called anti-Willie Suttons, looking for deficit reduction where the money isn't.
For another, the constantly repeated "we can't afford it" mantra, alongside advocacy of huge tax cuts, involves treating all of us in the audience as if we were idiot children. The last time I checked, there actually were two sides to the budget, revenues and outlays, and the relationship between the two is what leads to sustainability problems. Their deliberate rhetorical strategy is to make any increase in revenues, relative to their baseline that involves multi-trillion dollar reductions in infinite-horizon revenue relative to present law, literally not possible or even thinkable.
There are reasonable arguments for different budgetary equilibria, involving higher versus lower revenues on the one hand and government provision of goods and services (or simply cash) on the other. The argument that we should aim low rather than high, within the spectrum that's up for debate in the U.S., can reasonably be made. And if you want to aim low rather than high, pushing against higher taxes at every opportunity has a rationale.
But treating higher revenues (defined to include keeping present law!) as literally unthinkable is simply an insult to all thinking people who favor honest consideration and discussion of all plausible options.
In addition, their astounding willingness to risk massive job loss under present macroeconomic conditions tells one a lot about whether they ought to be in a position to affect millions of people's lives. The more charitable explanation, which I consider the more likely one, is that they are so insulated from empirics (cf. global warming or evolution) that they simply rule out the possibility of massive job loss - which, in fairness, not all reputable analysts endorse though I believe most would - without honest inquiry. The harsher explanation would be that they hope a heightened recession would be blamed on President Obama and help them in 2012. But that strategy would require them actually to know something.
Let me offer a comparison, given that their underlying long-term goals are within reasonable debate. I think the home mortgage interest deduction is one of the worst rules in the federal income tax, and I strongly favor its elimination. But suppose I had the power to repeal it cold turkey today - or, better yet, suppose the opportunity had arisen back in 2008 or 2009 at the peak of the mortgage default crisis. I certainly wouldn't go ahead with an immediate repeal, because I would realize it would be unacceptably likely to cause a fresh wave of defaults. But if they shared my view of this issue, they would go ahead and do it anyway.
Lady Bracknell observes in The Importance of Being Earnest that "[i]gnorance is like a delicate exotic fruit; touch it and the bloom is gone." She didn't realize how willful and resilient it can be.
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