Tuesday, July 30, 2013

Partial transcript of my Bloomberg TV appearance

The Bloomberg TV website where you can find the videotape of my appearance with Pimm Fox and Mark Everson (available here) also has a transcript, which of course is not word-for-word or 100% accurate.  But for what it's worth, here is most of what I said at the chat (slightly corrected): 

[With regard to why President Obama is discussing corporate tax reform:]

"I can't talk about what the political strategy is, but everyone realizes the system is a terrible mess and the proposal at least purports to address some of those problems, but we could debate whether it's the right way or not."

[With regard to whether there are good prospects for fundamental tax reform:]

"I personally don't think it is going to get anywhere anyway.

"There are too many differences of opinion.

"People say that because it happened in 1986 that it can happen again, but that's like saying because you won the lottery one day, you can play the lottery thirty years later and win it again."


"We have a high nominal [corporate] rate of 35%, but not many [companies] pay that.

"If you look at groups like Apple, they are paying almost nothing at all.

"We really need to address that."

[With regard to whether corporate tax reform could happen]

"Frankly, the people paying very little taxes are powerful on both sides of the aisle.

"Making them pay more is a hard bipartisan proposal to run up the flagpole."

[With regard to why it could easily backfire to do do corporate tax reform without individual tax reform] 

"Say you have a big-time business idea, you form a corporation and get taxed at 25% and never pay yourself a salary. 

"Why should you?

"That's an example of a garden-variety problem when you push corporate and individual rates apart too far apart."

[With regard to the prospects for tax simplification;]

"No one ever gave money to Congress to make the Code simpler.   They make speeches about it, but that’s about it.

"A lot of people like complexity.

"We have the whole situation with interest groups that leads to complexity, and you have a bunch of hard problems.

"For example, the question of where A
pple earned its money is not an easy problem to solve.

"If you have simple rules, they had better be well drafted because otherwise people will beat them to death."

Let's go to the videotape

As per the preceding post, today at 5 pm I was a guest, along with former IRS Commissioner Mark Everson, on Pimm Fox's Bloomberg TV show, Taking Stock. We discussed the Obama Administration corporate tax reform proposal from earlier today, for a bit over 5 minutes.  I felt it went pretty well, apart from the fact that (like many people) I don't like hearing my own voice from the outside.

Video of the session is available here.

The Administration's corporate tax reform proposal

The Obama Administration has announced a new corporate tax reform proposal that they describe as part of a proposed "grand bargain."

Today on Bloomberg TV, I will be discussing the proposal, I believe live, on the show "Taking Stock with Pimm Fox," which airs starting at 5 pm.  But the following offers far more detail than I am likely to be able to squeeze in on-air.

The basic idea is to lower the corporate rate from 35% to 28% - and to 25% for domestic manufacturers - but to raise revenue overall.  The net revenue increase would be used to pay for a new "growth and jobs" package involving infrastructure outlays and job training.

The Republicans, of course, have already rejected the plan.  Now, while this is simply what they always do with White House proposals - even those that are 99.5% based on Republican rather than Democratic ideas - this time around they actually have a point.  The plan really isn't much of a compromise as a policy matter.  Enacting a net tax increase on business, in order to pay for infrastructure and job training, is not much of a nod towards current Republican policy preferences, even though they'd get the corporate rate cut.  But then again, as there's no chance they would have considered accepting an actual compromise," one can hardly be surprised about this.  At some point you need a track record of bargaining in good faith, in order to induce others to bargain with you in good faith.

Cribbing from a recent Jane Gravelle paper, I'll go back of the envelope here and guesstimate a more than $1 trillion revenue loss over 10 years just from the proposed rate cuts, if enacted without base broadening. But a package that raises net revenue, at least over the next 5 to 10 years, and in great enough amounts to finance the infrastructure and job training, clearly is possible here.

The proposal remains sketchy, at least so far as anything that I have been able to find on-line is concerned.  It's probably meant to remain that way at least for now, both to avoid being pinned down and to leave open hypothetical room for negotiation over the details.  But the big revenue-raisers that might be contemplated appear to include at least the following (each followed by a brief comment):

--Reduce depreciation deductions.  OK, I don't like accelerated depreciation in the current Code insofar as (a) it creates inter-asset biases, since not all assets get the same treatment, and (b) it can create better-than-expensing results when paired with interest deductibility.  But lowering the rate plus scaling back depreciation combines a windfall gain for old investment (which got accelerated depreciation deductions at the higher pre-enactment rate) with reducing the impetus for new investment.

--Scale back interest deductions for companies.  Here we'd need more detail, but interest deductibility does indeed create big problems, such as its creating tax bias in favor of debt over equity.  This bias may have contributed to the severity of the 2008 financial crisis.

--Enact a 25% minimum tax on US companies' global income.  While I certainly like the idea of aggressively addressing base erosion and profit-shifting to tax havens, this is a very flawed way of doing it.  The problem is that one can wholly avoid paying tax to the US under this proposal, by simply paying it to other countries instead.  We don't really benefit from encouraging US companies to plan their way down to a global tax rate of exactly 25%, out of which we may get zero or close to it.

--Enact a one-time "transition tax" on US companies' unrepatriated foreign earnings.  I may have been the first person to argue in writing for doing this.  (See here.)  But note that, if we are using this proposal to pay for a rate cut, based on revenue estimates over a limited time window, one may actually be losing revenue over the long run.  Outside the estimating window, revenue loss from the rate cut continues out into the future, while the one-time pay-for is done and gone.

What about the proposed corporate rate cut itself?  At present, our statutory tax rate (the official 35% rate in the Internal Revenue Code) is very high by global standards.  Peer countries' rates are mostly below 30% and in many cases below 25%.  But we are much more middle of the road in terms of EFFECTIVE tax rates - that is, in the percentage of income our companies actually pay to us in taxes.  Here a typical figure, both for us and peer countries, is in the range of 20 to 25% (again, cribbing from the Gravelle paper).  Now, there is of course often a good case for lowering the rate and broadening the base.  But even apart from the question of whether one is actually fully financing it over the long-run when it has one-time pay-fors, here are a few issues to keep in mind:

--Lowering the corporate rate, while keeping the individual rate in place, can make the use of corporations a tax shelter for high-income owner-employees.  The basic trick is to have one's highly profitable incorporated business pay one a very low salary, which doesn't matter economically if one own enough of the stock.  The corporation in effect pays tax on the underpaid salary by proxy, if it isn't otherwise tax-sheltering, since it doesn't get the salary deductions, but this only happens at the low corporate rate.  Then, at death, one's kids inherit the stock with a stepped-up basis, and thus they will never have to pay tax on the stock appreciation during one's lifetime.  So the tax benefit is permanent.

--At least some of the base broadeners would presumably apply to unincorporated businesses, which wouldn't be getting the benefit of the rate cut.  So they get a pure tax increase, which could be a political problem even if one is fine with it substantively.

--Two giveaways in the proposed package that I don't like are (a) the 25% domestic manufacturing rate - why this fetish about "manufacturing"?, and (b) a proposal of small business tax cuts.  These might address the base-broadening point directly above, but the targeting wouldn't necessarily be a great match.  On the other hand, a proposal to make permanent the research and development tax credit would at least end the farce (and campaign fund-raising bonanza for members of the Congressional tax committees) of repeatedly extending the credit for just a couple of years at a time. On the merits, I am somewhat agnostic about the R&D credit because, while one can make positive-externality arguments about some activity that we might label "R&D" in an economic model, it's not clear how great a match we get in practice.

Wednesday, July 24, 2013

New article publication (relevant to tax reform design)

The Canadian Tax Journal has just published my short article, "The Bucket and Buffett Approaches to Raising Taxes on High-Income U.S. Individuals," at volume 61, pages 425-434 (2013).  A PDF is available here.

It's in a "Policy Forum on Recent Developments in U.S. Tax Policy" that also features an article by Andrew Samwick on long-term fiscal policy challenges that the U.S. faces.

My abstract for the piece, which I wrote for SSRN rather than for the publication as such, can be slightly revised to go something like this:

"In the aftermath of the 2012 U.S. presidential election, while it was agreed to increase high-income individuals’ taxes, there was and is considerable disagreement about how this might best be done. In particular, while some favor raising upper-bracket marginal income tax rates, others prefer an approach that I call distributionally selective base-broadening. Here the idea is to restrict or deny the benefit of various tax preferences in such a way as to target the impact of the base-broadening on high-income individuals who have such items. An inevitable byproduct of such an approach is that different individuals will in effect face different tax bases.

"This brief article, prepared for a forthcoming tax policy forum in the Canadian Tax Journal, assesses two such approaches that have received recent attention. The first is a "'bucket' approach to limiting the use of particular tax preferences, endorsed by the 2012 Romney campaign. The second is the so-called ''Buffett tax,' endorsed by the Obama Administration. I argue that, while either might conceivably be better than politically feasible alternatives, they have significant defects that should be kept in mind as well, and in some respects bring to mind the much-reviled alternative minimum tax."

While I wrote the article against the backdrop of the then-pending fiscal cliff negotiations, I think it has ongoing relevance to discussions about how to raise high-income individuals' taxes, if this ends up being done.  Distributionally selective limitations on tax benefits, such as those that these two approaches would employ, have in my view gotten better press than they deserve, relative to the alternative of more straightforwardly broadening the base and/or raising high-end rates.  So these issues may well arise again.

What is a "tax expenditure" and when does this matter?

Not to return to a periodic gripe of mine - but then again, why not indulge myself by engaging in it after all - but it is sometimes frustrating to see people writing about "tax expenditures" without any notion of whether this is a coherent category, if so what is it about, etc.

What makes it a gripe, on my part, is that I have actually solved the problem. Or more specifically, I have (ahem, if I do say so myself) developed the most coherent way to think about a concept that, in the end, is not entirely coherent.  The underlying problem is that it says that certain "tax" rules are actually "spending" rules, whereas these two categories are not well-defined to begin with.  I have explained, however, that in context what it often means is an "allocative" rule that has been smuggled into a mainly "distributional" instrument, such as the U.S. federal income tax, which discourages earning income but is not actually designed to do so (the aim, rather, is distributional, with income being used as an imperfect metric for "ability" or "ability to pay" or "low marginal utility of a dollar" or some such thing.)

Anyway, you can see a version of my paper on the subject, "Rethinking Tax Expenditures and Fiscal Language," here.  The publication cite is 57 Tax Law Review 187 (2004).  A shortened version appears as chapter 8 of my book on fiscal language, which is available here.  But to quote the hilarious Will Ferrell character from Zoolander: "Doesn't anyone notice this?  I feel like I'm taking crazy pills."

Does it always matter?  No. Suppose we are considering which "tax expenditures" to repeal, and it simply means we have a list of items in front of us, such as those officially listed by the Joint Committee on Taxation as tax expenditures, such as in their 2013 estimates, available here.  Then it's just a list of items.  The rationale for assembling this particular list doesn't necessarily matter, so long as we look at each item on its merits and are willing to look at items that aren't on the list.

But there is a persistent delusion, which use of the lists in this way may unduly eccourage, that the tax expenditure concept as traditionally used has more of a coherent core than it actually does.  And even very good economists may be subject to this problem.

Case in point, a very interesting (and otherwise meritorious) paper just posted by Raj Chetty, Nathaniel Hendren, Patrick Kline, and Emmanuel Saez, entitled "The Economic Impacts of Tax Expenditures: Evidence from Spatial Variation Across the U.S.," and available here.

As per its abstract, the paper "stud[ies] the effects of tax expenditures on intergenerational mobility, using spatial variation in tax expenditures across the United States."

Chetty et al take "tax expenditures" as given, such as from the JCT lists, but do appear to be convinced that it's a coherent category as to which one can reach general conclusions about tradeoffs, costs and benefits, etcetera.  They study three in particular:: deductions for state and local income taxes, home mortgage interest deductions, and the earned income tax credit. For all three, they find "consistent and fairly robust relationships between higher local tax expenditures and lower intergenerational elasticity (IGE), i.e. higher economic mobility."

OK, that's an interesting result concerning these items that doesn't necessarily turn on broader generalizations about a "tax expenditure" concept. But what is the concept?  All they say, in the first paragraph of the article, that tax expenditures are "spending" despite their placement in the tax code.

OK, fair enough with regard to home mortgage interest deductions, which are naturally thought of as allocative subsidies delivered through the tax code.  (Although more precisely, the subsidy is excluding imputed rent from income, and home mortgage interest deductions merely preserve the net exclusion for people with mortgages.)

On deducting state and local income taxes, it's a little trickier.  You could get exactly the same end result, without "spending," by adjusting state and local income tax rates to reflect directly the impact that we currently get from the federal deduction, accompanied by an intergovernmental transfer so that each government unit comes out the same.  (But is that "spending?"  What if we integrated the units of government but they were all doing exactly the same thing?  By analogy, the Defense Department spends lots of money, but we don't have a second tier of "spending" when the Treasury sends over money that the Defense Department can use to pay its bills.)

Then we get to the earned income tax credit.  Is this "spending"?  All it actually does is adjust net income tax rates that apply to labor income in certain ranges for certain taxpayers.  That isn't "spending" unless the rate structure is generally an aspect of "spending," which is not how traditional tax expenditure analysis is done.

These are certainly good enough economists that it would be nice if they were more aware of what the "tax expenditure" category can and cannot be coherently used to mean.  Again, the results about these items that they reach are good contributions to our state of knowledge.  But generalizing about "tax expenditures" should be done with a bit more care.

Sunday, July 21, 2013

Goldman Sachs aluminum scam?

Today's NY Times has an interesting article about an apparent scam that Goldman Sachs is pulling, we are told at consumers' expense, involving lots of aluminum that is moved desultorily around between lots of warehouses.  But the one thing the article doesn't do is explain how the scam actually works, as an economic matter.

Matt Yglesias asks exactly the same question I had:

"[The article] seems to allege that Goldman Sachs uses its control of aluminum warehouses to increase prices to end-users by billions of dollars.  And yet having read the piece twice, I don't understand how the scam works. The basic idea seems to be that by shuffling aluminum around rather than delivering it promptly, Goldman can charge more rent and boost its profits.

"But this (a) doesn't appear to have anything in particular to do with Goldman Sachs' well-known investment banking activities and (b) sounds like far too ridiculous a scam to actually work. It amounts to saying that Goldman's amazing business strategy is to deliberately provide terrible customer service (shipping delays) and high prices (charging extra rent to cover the delays). If it were that easy to make billions of dollars, we'd all be doing it. The story is entirely missing a clear explanation of why this doesn't just lead someone else to open aluminum warehouses and undercut them."

OK, let's go back to the beginning.  Apparently there's a regulation that limits the time you can spend just holding aluminum in a given warehouse.  Goldman dodges the regulation through economically pointless activity in the form of just shipping aluminum endlessly back and forth again in a circle.  I get how that dodges the regulation, but I don't understand the rationale for this regulation any more than the underlying profit scheme.  (Does the former combat the latter somehow?)

A hint somewhere else in the article appears to suggest that it all has something to do with Goldman's playing games with regulations that control aluminum spot prices.  Playing games with pricing regs, so that Goldman can reap large profits from pure arbitrage transactions, not only might be plausible economically if the right sorts of regulations exist, but is exactly the sort of thing one might imagine Goldman being good at.  But again, if that's the story, I'm hoping someone will come forward and explain it to all of us.

The article also suggests a connection between Goldman's profits and the idea that aluminum speculators enjoy getting to bet on price movements (and might pay Goldman for this privilege).  But you shouldn't need actual aluminum in warehouses to bet on aluminum price movements - why not just use derivative financial instruments, such as notional principal contract?

Anyway, there seems to be enough smoke here that I really do suspect there is a fire.  (Why would Goldman be moving aluminum back and forth otherwise?)   But we do need to learn more about it.

UPDATE: A reader suggests that the regulation against keeping aluminum in the warehouse aims to prevent speculators from artificially suppressing demand by taking it out of circulation and driving up the price.  A la, the Hunt brothers' play with silver a few decades back.  Surely that is indeed the reason for the regulation about keeping aluminum in the warehouse, and Goldman is clearly making a farce of the reg by shipping aluminum back and forth between warehouses.

But the mystery remains re. what they are actually doing.  Pulling a Hunt brothers-type squeeze is very risky because others have every reason to step in and satisfy the shortfall.  Indeed, the Hunt brothers lost more than a billion dollars trying to corner the silver market.  It also doesn't sound like the type of thing Goldman would want to pull, unless it was very pre-wired to work.  So while we have a plausible explanation for that regulation, and for how Goldman gets around it, we still need to explain how they are making money.  Something other than cornering the aluminum market has got to be playing a large role here (even if they might be trying a bit of that on the side), and my guess (from the Times article) is that it has something to do with spot prices, some bit of regulatory arcana that I don't know about, etcetera.

FURTHER UPDATE: Izabella Kaminska explains what has actually been going on.  A large part of the story is not entirely bad from an economic efficiency standpoint.  The 2008 meltdown created pricing anomalies that Goldman could make money from eliminating, both on its own behalf and to help customers who wanted to do it without overly encumbering their balance sheets.  (While going off-balance sheet is often a recipe for trouble, here things appear to have been reasonably secure given possession of the underlying aluminum.)

Kaminska's bottom line:

"The end result: the mass encumbrance of physical commodities for the purpose of collateralising implied future demand from retail and pension funds — which would otherwise take the shape of a much less tangible and uncollateralised futures investment.

"And there’s nothing wrong with that apart from the fact that:

"1.The process creates the means by which speculation does end up driving and influencing physical prices (rather than being priced off physical realities).  [NOTE: One could say the same thing about, say, rampant stock market day-trading 10 years ago.]

"2.There is a fiduciary issue because banks have an incentive to maintain the illusion of physical scarcity to mislead investors....  [Ah, the Goldman we know and love.]

"3.The dark inventory hoards can be used to the trading advantage of the banks."  Here the point is that Goldman can manipulate publicly known inventory size, and thus win short-term pricing bets the easy way, by driving price changes through its own out-of-view manipulations of the available information that the market has.

My own bottom line on this is that it does indeed significantly strengthen the case for reinstating the Fed's one-time ban on banks trading in physical commodity markets - although admittedly I am far outside my core expertise here.  More broadly, it offers one more anecdotal illustration of the extent to which profitable financial sector activity, while having elements of both societal wealth enhancement and mere rent extraction, is so heavily flavored by the latter that the net contribution to economic efficiency may be negative even before you start thinking about socially externalized default risk.

Friday, July 12, 2013

Article publication

My article from earlier this year, "Should Social Security and Medicare Be More Market-Based?" has now appeared in print - at least, I have gotten a stack of reprints - in Volume 21, Number 1 (2013) of the Elder Law Journal, where it appears at pages 87-148.

My working paper version is available here. It should soon be available on-line from the Elder Law Journal here, although as of this moment their last posting is for the articles in the preceding issue, Volume 20, Number 2.

National Tax Association, fall 2013 meetings

One of the things that has been keeping me busy in recent weeks is a whole lot of organizing work with regard to the National Tax Association's 106th Annual Meeting, which will take place between November 21 and 23 of this year in Tampa.  Tracy Gordon and I are the program co-chairs, and our tasks include deciding which submitted papers and proposed sessions to accept for the conference, and which to reject.

It's baked into the cards or dealt into the cake (whichever deliberately mixed metaphor you prefer) that we have to reject a whole lot of papers, because the conference has limited capacity.  You can only have 3 or 4 papers per session, and there are only so many sessions that we are able to schedule.  Only so many time slots, and only so many rooms available per time slot.  But we have tried to err on the side of being inclusive, even though there are downsides to this (e.g., less time to discuss each paper in a session if we have 4 papers rather than 3, audiences more spread-out if we have as many as 7 simultaneous sessions).  In some cases, people with multiple interesting paper submissions may find that we accepted only one, although the others looked just as good, because of our budget constraint and our eagerness to let more people participate.

We had aimed to get the word out to everyone by June 30, but this proved impossible for several reasons.  For one, even once we had a preliminary list of papers that we wanted to accept, they have to be organized into panels, and sometimes shoehorning a bunch of things into the same panel when they are on totally distinct topics is rather difficult.  We wanted the sessions to be as coherent as possible, but on the other hand we didn't want to ding particular authors, or interesting papers, just because it was hard to fit them in.  We also had to call in the cavalry, which came through for us but this took time, to see if we could get a couple of more rooms for extra panels, thus slightly relaxing our budget constraint.

Anyway, the bottom line, at least for now, is that we should be sending out all of our accept / reject emails later today.  If you had at least one paper accepted, you get the "Accept" email even if we had to reject the others.  Email recipients will be invited to log on to the website (which they had to do upfront in order to submit their papers) in order to see which paper or papers were accepted and what sessions they are on.

The sessions, by the way, don't have time slots yet - that will be among the next stages in our three-dimensional cooperative chess game as program chairs.

Another of our upcoming tasks is to recruit discussants for the accepted papers.  While we'll be doing outreach on this, potentially interested individuals should let either or both of us know.

Anyway, I just wanted to let any readers of this blog who are waiting for the submission outcome know that we are just about there, so you should know within the next few hours unless the task of sending out all the emails takes longer than we are anticipating.

UPDATE: Conceivably, at least some of the emails may not go out until Monday.   Not only is it a big task, but we're trying to make sure there are no mistakes or oversights in dealing with a large list of papers.

Tuesday, July 09, 2013

Everyone's a critic

Wouldn't it be boring if everyone agreed about everything all the time?  Two recent emails that I've received from readers of this blog raise interesting points in response to each of my two blog posts from yesterday.

The first relates to this commentary about particular investors paying a steep premium to Thomson Reuters so that they could get the results of an economic survey that it was publishing, two seconds before everyone else, thereby giving them a large enough time window to reap huge trading profits.  A correspondent notes that the investors were in effect funding the survey, since Thomson Reuters had paid the University of Michigan for the publication rights, presumably with an eye to its own bottom line.  Hence, the investors were financing the provision of information to everyone else, although to be sure this wasn't out of generosity - the information's special value to them rested on its being communicated so that it would move prices, rather than on its informing them along with everyone else about the state of the economy.  But still, one could therefore view the transaction as merely price discrimination on Thomson Reuters' part, in the course of providing an informational service that has social as well as market value.

Fair enough.  And I didn't take a position on whether, say, the transaction, and Thomson Reuters in particular, deserved the legal scrutiny that they apparently were receiving from the New York State Attorney General's office.  I was using it as an illustration of how financial firms can and often do get rich via rent-seeking, rather than socially productive activity, and I'll stand by that as a general proposition even if in this case one can point to a positive spillover.

Second, with regard to this commentary concerning Larry Summers' recent op-ed on international tax policy, a correspondent suspects that the op-ed relates to an Obama Administration goal of proposing what would effectively be a territorial system, though with a  required 15% minimum worldwide rate on foreign source income, for U.S. companies.  One might get there as follows.  Summers proposes a worldwide tax on U.S. companies, with no deferral but only a 15% U.S. tax rate on foreign source income, and with full allowance of foreign tax credits against this liability.  This is equivalent to saying that we will exempt the companies' foreign source income so long as they pay at least 15% in the aggregate abroad.

Whatever the relationship or non-relationship between the Summers op-ed and current Administration thinking, I do think that this equivalence helps to show why getting rid of foreign tax credits is such an important part of well-designed international tax reform, and also why such a "minimum tax" system for foreign source income would be ill-chosen.  There would be little point to enacting a system that made U.S. companies pay a bit more abroad but that didn't raise any revenue for us (because the companies made sure to stop their overseas tax planning - albeit, not necessarily their profit-shifting out of the U.S. - once they had lowered the overall foreign rate, which is itself a manipulable concept, to 15%).  Yet this may be what the Administration is thinking of proposing, although I hope not.

In any event, it would be surprising if Summers, who for all his impressive abilities and knowledge is not an international tax specialist, is fully apprised of the problems that result from foreign tax creditability.  This in turn reflects the defects in the existing literature, which for the most part turns a completely blind eye to these problems apart from decrying the less than fully coherent category of foreign tax credit "abuse."  One of my forthcoming book's main aims is to address and correct this defect in both the literature and prevailing public policy debate.

Jotwell posting on Benn Steil's The Battle of Bretton Woods

A few months ago, I wrote a short piece for Jotwell, the "Journal of Things That We Like (Lots)."  I was supposed to write something about a recent tax book or article that I had enjoyed, but I decided to interpret my mandate broadly and write about a book that's more in the realm of economic and diplomatic history, finance, trade, and monetary policy - Benn Steil's "The Battle of Bretton Woods: John Maynard Keynes, Harry Dexter White, and the Making of a New World Order."

My duly laudatory review (reflecting how much I enjoyed the book) has just come out, and you can read it here.

Some have interpreted Steil's book as pursuing an ideological agenda with which I happen to disagree, such as by trashing Keynes and asserting that Harry Dexter White, a high Treasury official and the chief U.S. negotiator at Bretton Woods, as well as a Soviet spy, "caused U.S. intervention in World War II," and indeed did so as a Soviet tool.  Whether or not that's a fair reading of the book, I don't think it's a necessary one.  And while Steil's apparent hostility to Keynesianism, on grounds that I disagree with, may raise questions about whether his historical account is balanced (I don't have enough first-hand knowledge of the area to judge this), I would still conclude that, for the lay reader (such as myself in this setting), all that this calls for is a due-caution warning.

Monday, July 08, 2013

A really great example of highly profitable, but socially destructive, financial sector activity

Today's New York Times has the latest on a recent story that grabbed my attention because it is such a perfect exemplar of how the rise of the financial sector over the last twenty years has involved vast profits that often have no social utility whatsoever - and indeed that can make the country as a whole worse off.

"Over the last several years, an exclusive group of investors has paid a steep premium to receive the results of a closely watched economic survey a full two seconds before its broader release. Those two seconds can mean millions of dollars in profits for the investors, who practice a computer-driven strategy called high-frequency trading.

"On Monday, the company providing these investors with that lucrative edge, Thomson Reuters, is expected to announce that it will suspend the practice, yielding to pressure from the New York attorney general, according to a person with direct knowledge of the matter."

Needless to say, these profits have come at the expense of other investors.  It's pure rent-seeking.  (OK, I'm leaving aside the fact that financial markets get to incorporate the new information into prices two seconds faster.   But if that's a good thing, why not let everyone else have the information two seconds sooner still, and so on back to the first moment that anyone knows anything about the economic survey's results.)

Rent-seeking is socially neutral insofar as some people win and others - the suckers who don't get the early head's up - lose.  But it directly wastes the resources that people devote to engaging in it, and in addition can create a pervasive sense of a rigged game that can be very destructive to the proper functioning of financial markets.  And actually doing things that are valuable - but hence inevitably riskier and requiring greater skill - can end up being crowded out at the top by the returns to playing these silly games.

Then of course the people who get rich this way tell themselves (and everyone else) that they are the "makers" who are leading us all to greater prosperity.

Okay, this is just one unusually raw example of non-productive but highly profitable financial sector activity.  But if you look closely at activity in the sector, a lot of it is really no better.  Think of keeping financial products opaque so customers won't understand or be able to price them well.  Or playing games with LIBOR.  In the corporate takeover realm, think of cases where the profits come, not from economic rationalization (improving business operations and shutting down bad ones) but from added interest deductions, reneging on implicit long-term labor contracts, defaulting on pension obligations, and finding bank officers with badly structured incentive compensation who are willing to make sketchy loans.

Larry Summers' view of U.S. international taxation is similar to mine, except for one thing

Larry Summers has an op-ed in today's Washington Post in which he takes a view of international tax policy that is similar to mine, with one significant exception.

"As a very general rule, improvement is possible anytime tax rules are experienced by taxpayers as a substantial burden without generating substantial revenue for the government. Having taxpayers be burdened less and pay more can make them better off and help the fiscal situation. The United States should eliminate the distinction between repatriated and unrepatriated foreign corporate profits for U.S. companies and tax all foreign income (after allowances for taxes paid to other governments) at a fixed rate well below its current corporate rate, perhaps in the range of 15 percent.

"A similar tax should be imposed on past accumulated profits held abroad.

"Such a proposal could easily be designed to raise revenue relative to the current baseline, encourage the repatriation of funds and reduce the competitive disadvantage faced by U.S. multinationals operating abroad. It is about as close to a free lunch as tax reformers will ever get."

The one exception is that he still favors foreign tax creditability - wheher because he hasn't sufficiently thought through the issues that it raises, or because he assumes it is a built-in constraint, or because the proposal would then get too complicated to explain in a 750-word op-ed.

But the same line of argument that he relies on for his proposal would support making foreign taxes merely deductible in revenue-neutral exchange for a lower rate on foreign source income - leaving aside the additional complication that one might want to impose a higher U.S. rate on tax haven income than other foreign source income, so long as one stops short of making U.S. taxpayers indifferent to their foreign tax liabilities (as the foreign tax credit does, by providing 100% reimbursement).