Friedman, Taxes and Pidgeonholing Economists

Scott Adams, Dilbert Cartoonist is funding a survey of 500 economists about which candidate they support. A comment to the unveiling of this read as follows:

Milton Friedman is the most respected economist of the 20th century.
Friedman says in all cases raising taxes and increasing government
slows down the economy. This is principle is pretty universally known
by now.
Given that Obama wants to do exactly that, if we find these 500
economists think Obama has the better way, we'll know that the fix is
in.
Why do I have the feeling it will turn out that way?

There are about 3 things wrong with this statement: (1) Milton Friedman (was) a very highly respected economist of the 20th century, but not necessarily the "most" - at the very least you would have to qualify it to only look at MACROeconomists; (2) raising taxes slows the economy, ceteris paribus, you know, assuming the money is thrown in a bottomless pit (the devil is in the details of how those taxes are structured, and how their revenues would be used), and; (3) that something that is universally known can be universally applied (the "law" of gravity works great at sea level and in a vacuum).

I'll start with point (1). Friedman was a great macroeconomist. Think of it like the difference between the 30,000 feet up that Rummy looked on Iraq from versus the ground-level view on which the troops are getting shot at. There are tons of other fields of study in economics: International trade, developing economies, labor markets, econometrics, microeconomic theory, environmental economics, economic history, game theory, public finance, political economy, etc., etc. How you feel about the candidates may depend on the issue at hand. Take for instance the environment. I've railed on the misuse of the term "incentive" as a euphemism for "subsidy," because incentives can be negative, too. In a MICROeconomic context taxes are negative incentives, and often sticks (taxes) work better than carrots (subsidies) to do the job. In the case of the environment, if your goal is reducing emissions, taxes work "better" in the sense that (a) they encourage pollution abatement to save on the cost of the tax, and; (b) they discourage output in pollution intensive industries.

Next consider the proposition about higher taxes. For starters, this comment is intended to mean that lower taxes will reduce government spending and involvement in our lives. The last 8 years have done exactly the opposite with lower taxes - Bush spends more, saddles us with more public debt, and gets in our business more than any administration in a long, long time. Also, the premise of Friedman's neoclassical model begins from a balanced budget and no debt (heroic?). Finally, just because taxes slow production, it is not universally true that either (a) the converse (lowering taxes helps growth) is true, or; (b) higher taxes are not necessary for accomplishing certain objectives. Let's look at the current situation. We have a large and growing debt and are waging a war without funding it. When the government spends (say, on a war) it is committing itself to higher taxes, now or later. Since it is the rich who also own most of the Treasury's debt, by supporting irresponsible taxcuts today's administration is screwing tomorrow's middle class for the sake of todays upper class. This is where I wish conservatives would go back to true fiscal conservatism and stop railing a dogma of "low taxes - good." Higher taxes, if used to reduce the current deficits and debt, might actually promote growth in the long run.

I think a fair argument for (3) against Joe Commenter's claim follows from the previous arguments. Still, the fact remains that the structure of the taxes is important. The taxes that are most "universally-accepted" to be harmful are those levied against capital. Therefore, it is probably true that capital gains and dividends could be taxed less with quite a bit of benefits. In particular, interest income and capital gains should, at the very least, be indexed against inflation (deflated) in terms of the basis against which the value of the asset or principal is compared. On the other hand, it is probably true that raising the tax on the highest marginal income bracket will not be very harmful. Taxes on wages and salaries have been found in both the theoretical (Ramsey, other optimal tax macro models here) models and empirical literature to be pretty benign. Taxing the million and first dollar earned from salary another percent does not drastically impact effort; taxing the 10,001st might.

I'm sorry that the world of economics is such a complicated place. Ultimately my rule, is that most politicians do a pretty good job of ignoring economic advice from pros, and neither party has a monopoly on ignorance of economic theory. So feel free to go out and vote on the basis of some banal social issue like gay marriage, guns, or which party has had more sex scandals in the last 90 days.

Terrorism and Oil

This is an interesting post on the World Bank PSD blog, with nice links to support.

Yea, Moral Hazard!

Californians Gather To Celebrate Annual Wildfire Tradition

Economics Joke (You've been Warned)

If you get this joke, seek help.

A bird in the hand is worth:

[(1+W₀)^(1+s)/p – (1 – p)W_o^(1+s)/p]^1/(1+s) - W_o

in the bush.

Optional ARM

I've moaned about the "negative amortization option" on three part optional ARM mortgages here already. Basically an optional ARM an adjustable rate mortgage that lets you pay one of three payments (not by agreeing to it in advance but on a month to month basis):
1. normal payment that (if made each and every month) amortizes the loan after X months.
2. interest only payment that (if made each month) never amortizes the loan (the bank perpetually owns your house).
3. "negative amortization" payment that doesn't even pay off the interest, and adds the difference onto the principle (I'd rather call this the "default incentive" option - do this as long as the bank will let you, default, foreclose, and rent for the rest of your life).
Now the Economist is onto the stupidity (just so you know that I'm not making this stuff up).

Two Bad Ideas

In the August 11 WSJ, Newt Gingrich & Jerry Brown proposed their ideas for how they could or would spend $10b. in public funds. One thing both authors ignore is how pitifully small the sum of $10b. is for tackling any truly problem confronting the public good.

In the Gingrich corner, there were some very good and well-focused goals that he hoped to accomplish with the money, but they were ultimately based on a bad idea: an "innovation lottery." He also ignores the fact that $10b. couldn't possibly resolve all 7 of his issues, and if it could, at least 5 of them would already be solved. For instance, "6) A method for reusing nuclear waste to make Yucca Mountain, Nevada unnecessary as a repository," would probably benefit the nuclear power industry by at least the amounts that Mr. Gingrich would award the winner of said lottery. Also, while lotteries have been shown to actually be a pretty good way for the government to meet its goals financially, they are horribly distortive of behavior. People will over-invest in trying to accomplish goals, and may reap zero payoff for their investments of personal resources. Basically, a lot of time effort and capital will go wasted.

From Brown's corner we actually see a little bit more reality by focusing on one goal, but that goal is simply too big for $10b. "Curbing our energy appetite with efficiency programs incentives," cannot be done for such a paltry amount. In fact, "incentives" may not even be the best way to do it. While incentives for producing more energy sources (even cleaner ones) may be usefull for stimulating research, they don't do the job of "curbing our energy appetite" because subsidies mean lower prices, and lower prices mean more output and use of energy. On the other hand, applying the carbon tax prescribed by the UN on coal power would stimulate wind and solar energy output AND curb consumption. Coal is now about $0.05 per kilowatt; wind is about $0.08. The UN's proposed carbon tax of about $30 a tonne would bring coals cost up to par, and energy producers, comparing the 2 sources will naturally invest in the latter. Also, it wouldn't cost the man a dime! In fact the government would generate revenues from the deal, which it could distribute as a tax rebate or use to bomb (bomb bomb, bomb bomb) Iran.

If You Can't Bring Compeitive Markets to Health Care ...

bring your health care to the competition.

Competition lowers prices and improves welfare for the average consumer. Trade, offshoring, outsourcing, immigration, privatization, etc. all tend to promote competition. But one problem with health care is that high fixed costs and localization of many markets allow the market to be dominated by a small number of providers who don't have to do much to compete, and often cross-subsidize losses on emergency care with high prices on "elective care." The Economist briefing asks, "What if elective care procedures can be performed equally well in developing countries at a cost low enough to offset the travel cost?"

Until recently most medical outsourcing was limited to hospitals reducing costs by having tests performed and analyzed offshore. But now, folks are taking it to the competition themselves. Other issues here are complex, but it provides an interesting economic analysis in three areas: competition/basic micro; trade and offshoring, and; insurance.

The first two are related and more clear cut. Insurance is an interesting aspect because one might ask what happens once insurance companies start to save a buck by allowing patients to go to India for their knee surgery? Will they begin to require patients to do so if they want that to be covered at their current rates? Will the compensate for it by lowering prices? Will insurers, foreign providers, and patients be equally informed about the benefits and costs? How will US providers respond - will they compete by lowering prices or will they try to differentiate their product by bashing foreign facilities and/or playing to nationalism? All intersting questions. I do not have the answers to them.

Ron Paul, 2002

US Politician predicted Georgia Conflict Back in 2002

Georgia, Russia, and Democracy

Democracy in Russia is very publicly flawed, at best, most Americans are aware of the wink-wink election they had to elect Medvedev. This is not a secret, but where does a former expert on Russian and Soviet Politics (Condolezza Rice) get off extolling the virtues of Democracy in Georgia? It's misleading at best to make the claim that Georgia is a well-functioning democracy. Check out the Economist "Intelligence Unit's" 2007 Democracy Index:

Rank Overall Elections Function Particip. Culture Civ. Liberty

Full democracies
Sweden 1 9.88 10.00 10.00 10.00 9.38 10.00
Flawed democracies
S. Afr. 29 7.91 8.75 7.86 7.22 6.88 8.82
Hybrid regimes
Albania 83 5.91 7.33 5.07 4.44 5.63 7.06
Kenya 101 5.08 4.33 4.29 5.56 6.25 5.00
Russia 102 5.02 7.00 3.21 5.56 3.75 5.59
Malawi 103 4.97 6.00 5.00 3.89 4.38 5.59
Georgia 104 4.90 7.92 1.79 3.33 5.00 6.47
Cambodia 105 4.77 5.58 6.07 2.78 5.00 4.41

So, uh, yeah. Georgia is a "hybrid regime" meaning that it is NOT a democracy, it is not even a FLAWED democracy, it is a mix of some democratic elements and some distinctly authoritarian elements, kind of like Cambodia, or Kenya. But funnier still, even with the publicized political shenanigans taking place in Russia, it's still more democratic than Georgia. And oh yeah, does everyone remember from all the biased reporting that Georgia attacked first? Thought not.

Pit Paradox

Damn Interesting

I know I've said THIS before...

Check THIS out. I've said it for several years, citing a mid-nineties Foreign Affairs Article by Krugman (The Myth of the East Asian Miracle...):

China can grow at a rapid rate with a collectivist spirit because it
has so many resources (ie, so much labour) to put towards fuelling
its growth. We saw in previous decades other Asian economies quickly
accumulate capital and labour, and it also resulted in impressive
growth rates. However, long-term growth can only be achieved through
innovation and entrepreneurship.

Pure capital accumulation peters out once relative returns start to even out across sectors and across countries, and pure labor mobilization peters out when the marginal return for "collective" labor is matches that in the market sector. So, kudos to China, but don't be shocked when they hit a "wall" with their ability to grow: Property rights don't incentivize innovation or entrepreneurship, and markets aren't fully in place to weed out those entrepreneurs who take bad risks.

Penn and Teller Bullshit - Mad Cow

Marriage & Insurance

There are a handful of economics articles relating marriage to a type of insurance contract, with an emphasis on countries where arranged marriages are common. This idea is as old as the earth. In fact until about the last 50 years most marriages were a form of diversification and specialization in household production. Now they are more consumption-based in the sense that experiences that make us happy are enhanced by a partner we like. But health care is a new dimension and has turned marriage back to the old model in the US. Couples are marrying because they need their partner's health insurance, but paradoxically, some are considering divorce so that ailing partners can qualify for subsidized insurance. Crazy, but two comments:

1. is marrying for health insurance all that different from the incentives folks are trying to reinforce into the tax code to incentivize marriage?
2. I'm always a little troubled by people who say things like "“Nobody should have to make a choice like that,” Ms. Moulton said. “What happened to our country? I don’t remember growing up like this.”"

I feel for Ms. Moulton, but people like Ms. Moulton (who considered divorce to qualify for subsidies for her kidney transplant) faced even greater difficulties in the past. As bleak as the current system may be for some it was in fact always been difficult for many people like her who were poor and in need of transplants or other very costly procedures. People too often look on the past with rose-tinted glasses. We usually see this type of reactionary response dressed in conservative morality, but Lou Dobbs has bred a new strain of it among progressives. Instead of romanticizing the past that never was let's work together for a better future.

Wither, Reform (Math)?

I received info on a new study on remedial math and studying economics by an acquaintance of mine, Andrew Selzer. Summarizing, they find:

• overall high school performance and performance in high school math positively affect performance in college economics courses.

• taking remedial mathematics after arriving has a statistically insignificant effect on college performance, performance in economics core courses, or other long-term outcomes (i.e. these outcomes have more to do with "ability" and pre-college performance).
  

I guess that leaves more questions than answers, though. We know that students who are deficient when they arrive will struggle, but what do we do about it? Essentially, this tells us that if our goal is getting the econ curricula to stick, then remedial "catch-up" math courses are basically a waste of University resources, but why?

I would suggest that the weak link for deficient students is not math per se, but those types of analytical and critical thinking skills that are developed with a longer-term exposure to mathematical reasoning (Atin, we've talked about this in fact). There is also some selection bias in which students are more or less attuned to acquiring these critical skills. Some students (namely non majors forced to take economics courses) have deliberately avoided those types courses as much as possible, taking just the bare minimum. At the same time, this choice may reflect those students' rational awareness of her or his own abilities. Therefore a "D is for degree" approach to their econ courses may be optimal for obtaining the degree credential. Similar selection bias has been show to be exhibited in the fertility choices and educational outcomes of women.

Two neat maps

Interesting parallels.

More Flatulence over Gas

Hopefully the hot air over gasoline prices will wane soon and things will turn again towards emissions. Gas prices are down about $0.30 from their peak and the sheep are starting to jump on the bandwagon for predicting more of a fall. Here's todays fuelgaugereport from AAA (similar info can be gotten from the Department of Energy):

National
Unleaded Average

Regular

Mid

Premium

Diesel

E85

**E85 MPG/BTU adjusted price

Current Avg.	$3.799	$3.962	$4.082	$4.517	$3.070	$4.040
Yesterday Avg.	$3.810	$3.974	$4.093	$4.537	$3.090	$4.066
Month Ago Avg.	$4.104	$4.357	$4.514	$4.817	$3.299	$4.342
Year Ago Avg.	$2.770	$2.941	$3.048	$2.934	NA	NA

*Prices
are in US dollars per gallon

Highest
Recorded Average Price:

Regular Unl.	$4.114	7/17/2008
DSL.	$4.845	7/17/2008

Gasoline hit $3.73 from its $4.19 peak in Lexington. It was rumored to have been $3.47 as close as Roanoke.

Favre... Traded

I guess I miscalcluated, and I still think Favre made a poor choice. Why would someone wanting to contend and play 1 or 2 more great years agree to a trade to the Jets?

Life Could Be Worse

At least students at the US Universities aren't forming fraternity gangs that intimidate, assault, and harrass faculty.

Subtle Racism: Can Repulicans be Proud?

I've respected John McCain for a long time. I said as late as June that I could see myself voting for him, depending on what the alternatives are. But it saddens me to hear the subtle influence of the Karl Rove "How Racist Can We Be Without Putting too Many White People Off?" campaign strategy. The warmup, Joe Lieberman:



Not too bad, now Mitt Romney:



Now, Chris Rock recycling some of his comedy for the topic:



McCain supporters and doners: Tell your candidate this not the honorable campaign we expect and that this insults our intelligence.

Mission Accomplished, Part Duh

The Murdoch Street Journal published and article that once again declares victory: "The War in Iraq is Over. We've Won," reports Bret Stephens. Bold. What does that mean John McCain will do for the next hundred years?

My if it takes more than 100 words to prove victory, then you probably ain't won yet, but he bases the decision on the fact that Francis Fukuyama conceded a bet about whether Iraq would still be "a mess" five years after the war started in 2003. In my book, a country that can't stand on it's own without 100,000+ foreign troops occupying it as peacekeepers qualifies as a mess, and few would argue that it wasn't a mess in March at the date of the 5-year anniversary.

But that's neither here nor there. This is the key point Mr. Fukuyama points out that trumps the current conditions on the ground: "We've spent a trillion or so dollars, 30,000 dead or wounded, a large loss in international influence and prestige, all for the sake of disarming a country with no WMDs." Where is the margin indeed? Few dispute the tangential benefits that have been realized by giving Saddam the boot, but those benefits weren't the main reason for entering. I, along with others including Mr. Fukuyama, have said from the start that regardless of your personal views about the war, it was never giving the American Taxpayer the most bang for it's military spending buck in the socalled "war on terror."