Gregory Mankiw, despite being a professor of economics at Harvard, tends to be interesting. His “I Can Afford Higher Taxes. But They’ll Make Me Work Less.” (2010) may explain our lack of economic growth (the most productive workers in our society face a 90 percent marginal tax rate).
Now he’s written another nytimes piece: “How Best to Tax Business.” Let’s look at this…
Mr. Hassett finds that corporate taxes depress wages for manufacturing workers. In a world where capital is mobile and labor is not, capital escapes from high-tax nations, leaving workers behind to bear the burden of lower productivity and reduced incomes.
Most nations aim to impose taxes on economic activity that takes place within their borders. Such a system is called territorial. By contrast, the United States has a worldwide corporate tax. If a company based in the United States produces a product abroad and then sells it abroad, our Treasury takes a cut of the profits when they are brought back home. The House tax bill would move our system toward international norms. American companies would be able to compete abroad on a level playing field with companies based in other nations. The tax incentive for corporate inversions would be eliminated.
Consumption taxes would do less to discourage saving and investment and would thus be more favorable to economic growth. In addition, consumption taxes are arguably fairer: They tax the standard of living people enjoy rather than the value of what they produce. The House plan moves toward a consumption tax by allowing businesses to deduct their investment spending immediately, rather than depreciating it slowly over time. By exempting the income that businesses reinvest, the government would essentially be taxing consumed profits.
The corporate tax system is now origin-based. It levies taxes on the profit from goods produced in the United States, regardless of where they end up. An alternative, proposed in the House bill, would be to tax all goods consumed in the United States, regardless of where they are made. This destination-based approach would tax imports and exempt exports, which is sometimes called a border adjustment. In this way, the business tax would resemble many of the value-added taxes used in Europe. … The main advantage of destination-based taxation is that it is easier to determine where a good is consumed than where it is produced. In a world where multinationals produce goods using parts from around the world, origin-based taxes invite firms to game the system with transfer pricing schemes. Destination-based taxation is less easily gamed.
Now, firms can deduct interest payments to bondholders, but they cannot deduct dividend payments to equity holders. This treatment encourages firms to rely on debt rather than equity, making them more financially fragile than they would otherwise be. The House plan fixes this asymmetric treatment of debt and equity by no longer allowing firms to deduct interest payments. A business’s taxes would be based on its cash flow: revenue minus wage payments and investment spending. How this cash flow is then paid out to equity and debt holders would be irrelevant.
There are a lot of weighty issues above, but Professor Mankiw doesn’t come down strongly on any side. The summary is even more wishy-washy:
While I like the policy choices proposed by the House bill, not all economists agree. Some view the bill as too radical, risking too many unintended consequences. Others worry that transitioning from the old system to a new one is not worth the cost, even if the new one is better. Without a doubt, the coming debate will involve immense politicking. Any large tax change creates winners and losers, and the losers are sure to make their voices heard. But what matters most is whether the changes are better for the United States over all, not for special-interest groups. The more voters understand, the better off we all will be.
Mankiw says that economists can’t agree on whether these proposed changes are good or bad, presumably because they can’t understand all of the implications. Then Mankiw pins his hopes on the average voter understanding all of the implications.
From this I infer that we are screwed.
Readers: What do you think? How does a country with $20 trillion in debt squeeze cash out of companies that have the ability to move most operations to more efficient and less indebted nations?
I’m always surprised when you reference Mankiw’s ridiculous 90% marginal tax rate calculation. The entire calculation requires 8% growth over 30 years (why only 30? you can juice the numbers even more if you make it 40 since those extra 10 years will give another 100% return on investement).
“Mankiw says that economists can’t agree on whether these proposed changes are good or bad, presumably because they can’t understand all of the implications. ” I would guess that ALL implications of any broad decision can not be calculated in advance, impossible to predict in advance and not yet slated to become extant. If changes are sound then economy will accommodate the change. I guess if economists existed during Magna Carta they would warn about catastrophic consequences for feudal economy. An there were negative financial effects. But overall it is now considered to be a positive development. Probably because some unrelated changes based on decisions most people are not aware about.
Mankiw’s famous textbook “10 Principles of Economics” translated for the layman in just 5 minutes:
https://m.youtube.com/watch?v=VVp8UGjECt4
Corporate taxes constitute about 11% of the federal tax revenue, with the bulk of 80% being individual+payroll taxes. Not sure how much more can be squeezed out of the evil corps.
The relative US sovereign debt (74% of GDP) is not terribly high in comparison to other countries: Germany 69%, the UK 92%, Canada 99%, Japan 235%. So, it would seem we are good in this department, at least not worse than others.
I think the government should just print more money and give it to the Chinese.
Ivan: I think you’re using older data. https://fred.stlouisfed.org/series/GFDEGDQ188S shows that U.S. public debt was 74% of GDP back in 2008. Now it is over 100%.
Check out http://www.tradingeconomics.com/country-list/government-debt-to-gdp
Perversely, the rapidly growing countries are the ones with much less debt. The senior citizens of the world economy are the ones that have borrowed like crazy. So sovereign debt is apparently being used to pay for consumption, not investment. (Look at South Korea at 38% or China at 44%. Estonia is at 9.5%. Those crazy bastards actually pay their bills!)
Switzerland is an interesting case. They have the world’s most in-demand currency and yet they’ve borrowed only 34% of GDP. How did they resist keeping their hands out of the cookie jar?
[Remember also that bond debt is only a tiny portion of what the U.S. owes. Our Social Security, Medicare, and public employee pension systems are not funded. So the real debt is closer to 500 percent of GDP. See http://www.nytimes.com/2010/03/12/business/global/12pension.html (inset chart).]
These simple measures of outstanding government debt aren’t really very useful. Total debt including banks and such matters, and unfunded liabilities like Social Security matter. The Chinese debt is in the banking system.
The entire world has been expanding debt at over double the rate of GDP growth for a long time now. Decades in the case of the USA. The whole globe is cruising towards some sort of monetary reset, because there’s no way the debts underpinning the system can be paid off. So the talk of tax policy tweaks seems kind of moot.
Phil,
The over 100% figure consists of the bondholders portion and “intragovernment holdings”, mainly borrowings from the Social Security trust fund.
According to the latest Treasury numbers as of March 2017, the bondholders own 14,369,682 M, intragovernment holdings are 5,476,738 M, and 2016 GDP was 18,869.4 B which gives the following percentages: 76.1% and 29%, or the 105% total as reflected by the graph you referenced. So, the sovereign debt holders portion is slightly higher but not by much in comparison to the earlier figure.
https://www.treasurydirect.gov/govt/charts/principal/principal_govpub.htm
https://www.bea.gov/newsreleases/national/gdp/gdpnewsrelease.htm
I cannot figure out the NYT article. It appears they do not know what they are talking about here (as usual). Are there any other reputable sources showing that our debt is closer to 500% ? I am not aware of any …
@bobbybobbob
Social Security is not “unfunded” today. Its expenses may start exceeding income some time after 2019. See
http://www.cnbc.com/2016/08/08/social-securitys-looming-32-trillion-shortfall.html
https://www.ssa.gov/oact/TRSUM/index.html
Not sure what you mean by “the Chinese debt”. They are willing participants in the 14,369,682 M sovereign bonds, as much as the domestic public is.
Ivan: Social Security is “unfunded” compared to what they have in other countries, in which money is set aside to pay for pensions (just as you would do when setting up an individual retirement). Society Security and Medicare rely on current tax receipts to pay for current expenses. See https://en.wikipedia.org/wiki/PAYGO
(Not that there is anything wrong with a PAYGO system, as long as you have a letter from God telling you what the size of the working population will be 50 years from now and how much each worker will earn. https://economics.mit.edu/files/691 lays out some of the issues in “PAYG” versus “Funding”)
Phil,
Not sure about other countries, but in Germany, the state pension is also “paygo”, just like in this country, and accordingly, “unfunded”:
“Funds paid in by contributors (employees and employers) are not saved (or invested) but are used to pay current pension obligations.”
https://en.wikipedia.org/wiki/Pensions_in_Germany
They do have private pensions, again just like in this country, but their state pension appears to be fully equivalent to our Social Security, in the way of funding.
I should have said “in SOME other countries”. There are plenty of examples around the world of government-run PAYGO and Funded systems. I think China and Singapore are Funded.
PAYGO is obviously better from a politician-seeking-reelection point of view. You can start paying benefits (and generating grateful voters) on Day 1 of the scheme.
Phil,
As I recall the evil George W Bush had a plan to convert SS to voluntary private accounts. The idea went nowhere:
http://www.washingtonexaminer.com/what-if-george-w-bushs-social-security-reforms-had-passed/article/2570131
Some of the comments on the actual article complain that taxing consumption leaves the rich to have untaxed money. I am perplexed. As soon as the rich use that money, it gets taxed. Also, if they save it or invest it, that money is hopefully used to generate something taxable by a third party. The only situation where massive untaxed wealth would sit idle is in Scrooge’s money bin, and there would not be any way to enjoy it. What am I missing? as soon as I get pay my large salary I will spend some, and what I do not spend is still used by a third party (the bank) for some economic activities — unless I hide under the bed. If taxation on consumption is progressive (bread is taxed less than cake) where is the issue here?
@Federico
I did not read the comments, but I would guess that the commenter is opposed to the VAT on the grounds that since the tax is not progressive, the reach will essentially be paying as much as those who are not so rich.
I’m against a VAT because it’s insidious. That stealth is used to more easily raise taxes on the population. It happens every time. Taxes should be made to be consciously painful so the population is aware of them and more politically stimulated.
@B: This is exactly the problem with the Republican approach of cutting taxes first. Although they (Republicans) generally will tweak Democratic spending priorities, real spending cuts have never followed.
Ivan, I meant that China has massive amounts of “private” debt in its state controlled banks. A huge fraction of this debt burden will never realistically be retired. These sums are relevant to international comparisons, just like the unfunded liability of Social Security is relevant. But it’s not so easy to add these things to the relevant totals.
@Ivan, VAT can in fact applied in a progressive manner (VAT as a function of horse power in a car would be trivial to do). There is no actual reason why it should not be so — in fact it in the UK VAT is not the same across the board, and some goods, such as books, are exempt.
@B stealth taxes are the best taxes: people do not notice and do not try to dodge them.
In any case the question is still open: barring piling my salary under my bed, it is always used by someone (I do doubt the bank just puts it in a vault). If consumption is taxed more than production, and I can save part of my salary, that saving does not disappear from the economy. If someone is not paid enough to save anything the issue is the salary not how much consumption tax we pay.
Stealth taxes are the ‘best’ only if you adopt the perspective of the tax collector and political authority who spends it. That is the correct perspective if one believes that the authority should have priority in political and economic decisions. I think history has shown that that perspective is hurtful to most of societies that adopt it.
I believe that the correct, moral, and effective perspective, as shown by history, is one where political and economic freedom of the population is the ‘best’, and that the priorities should be tilted towards the individual. An income tax is ‘best’ because it limits the political power of the tax collector and increases transparency by allowing individuals to be aware of what is being taken from them.
Usually, when a VAT tax is implemented the country ends up with both an income tax and a VAT tax. The higher the tax burden, the more incentive for people to turn to the black market to dodge taxes. If one has the goal to encourage less tax dodging, then a lower overall tax rate decreases the likelihood that people will dodge taxes.
Ah yes, the usual problems of the ponzi welfare state.
By the way, what do you think will be the strategy for the US paying back all that debt? Sweden raided the public pension funds rather severely and then ran a mandated surplus of 1% of GDP, which was (at least partly) used to pay down the public debt. This worked fairly well, though as usual it hit my generation the hardest. Will the US switch to running a surplus?
(Aside: Unfortunately there are plenty of welfare state problems remaining, not even counting all the expectant migrants we have received. This will likely manifest as taxes ratcheting upward to noose bleed levels even for the least of working tax payers. But that’s another issue.)
@Tom
According to Samuelson and the majority of left leaning economists (99% of them ?), the national debt size is no problem for any country under certain conditions.
In his article of 1958 on the OLG model, Samuelson showed that as long “g” (economy growth rate) exceeds “r” (“natural” interest rate on obligations), the national debt does not create any burden for future generations. See http://worthwhile.typepad.com/worthwhile_canadian_initi/2012/01/the-30-years-debt-burden-non-war.html where economists duke it out. If one subscribes to the logic of “if r < g then we are cool", the debt can go to infinity.
As to the Ponzi scheme, the Nobelist famously declared, apparently based on his previous theoretical work:
"Social Security is squarely based on what has been called the eight wonder of the world — compound interest. A growing nation is the greatest Ponzi game ever contrived."
http://blog.scrivener.net/2005/02/beauty-of-social-security-by-paul.html
@B I take the perspective of the taxpayer. I simply do not trust my fellow citizens with *anything*. Do you ever expose yourself to the general public? Stealth taxation allows for a system where people pay their lawfully due taxes, with minimum or no fuss. I will worry about (indirectly) soliciting people’s opinion on complex and complicated matter only when the population has shrunk enough I know all of them personally, and can vouchsafe for their brainpower. For the record I know no state that provides a transparent, clear and accountable breakdown of where taxation goes.
I know no examples of functioning societies for any for of black market for lawfully traded items. It is a pointless straw man.
Federico, this article provides an example of robust underground economy, with only small portion allocated to illegal activities: “The added value generated by the shadow economy, plus the added value from illegal activities in 2013, is some €16bn, or 1% of GDP. In particular, Istat said, in 2013 the added value generated by the white market derives 47.9% from the component relating to the under-declared activity by traders. The remainder is attributable to the 34.7% of the added value produced by irregular work, to 9.4% for the other components (gratuities and supply-demand integration) and 8% to illegal activities.” http://themarketmogul.com/dark-side-gdp-underground-economy/
Federico, with respect, you’re second sentence contradicts your first. You are also reiterating a difference between us that I acknowledge: you want to give political priority to the government and not the individual. You somehow don’t trust your fellow citizen as an individual taxpayer, but when that same person joins the government, you trust them more. If you find people untrustworthy then you should be even more circumspect when they are in a position of power and can do more harm than if they were a private citizen.
Your position is tantamount to asking, “How can we make it easier for the government to exert its power?” That is not the goal. The question should be “How do we maintain a free and just society?” Your position is equivalent to saying that in order to more efficiently arrest criminals and put them in jail we should do away with habeas corpus. The point isn’t to make the justice system more efficient. Indeed, there are many reasons the justice system is designed to be inefficient so as to benefit the individual and prevent unjust taking.
I don’t know a government that is transparent on spending, either. I was referring to transparency with regard to the taking of taxes. Every year we fill a very long form that puts the numbers in black and white.
I don’t know of a black market for lawfully traded items either. On the other hand, I do know of black markets for un-lawfully traded items. It is a genuine argument. The point also extends to legal ways of tax avoidance, too.
http://www.cnbc.com/id/100787222