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Thursday, May 15, 2003



Robert Shiller Appears In The NY Times

In one of the stranger columns we have encountered at the Times, Robert Shiller, Professor of Economics at Yale, proposes that the US index its tax brackets and rates to the level of income inequality. No, seriously. Eventually, we will get to our rebuttal points, which is that his concept slices the pie without growing it, is hopelessly complex, deliberately confuses "income" with "wealth", ruins incentives, and annoys me. Meanwhile, we have some fun.

"...While economic stimulus [of the current tax proposal] is important, Congress and the president should also take up an issue with far more consequence for America's long-term growth and stability: economic inequality.

According to the Census Bureau, the bottom 40 percent of American families earned 18 percent of the national income in 1970, but by 1998 they earned only 14 percent — and that figure could fall to 10 percent before too long. On a global scale, too, inequality is a problem. Per capita gross domestic product in India in 2000 was only 7 percent of that of the United States, and for China the figure was 11 percent. Such a difference could increase the possibility of greater inequality within America.

The prospect of worsening inequality is truly frightening... "


Emphasis added. Well, I am familiar with statistics indicating that median and working class incomes have stagnated, and that a rising tide has not lifted all boats. Maybe Prof. Shiller should present them, rather than me, since I am Not On His Side. That said, what can we make of the prospect which truly frightens the Timorous Prof? If the US GDP doubled tomorrow, and I managed to claim half, I suspect that income inequality would rise. Would that be such a terrible thing? Income inequality fell during the Great Depression and WWII - were those frightening times? Say it with me - it is not just how you slice the pie that matters, it is also the size of the pie that counts! YES, it's a cliche, and for a reason - it is still true after all these years.

...The tax cut passed two years ago was fairly conventional. Tax rates and brackets were mostly indexed to the Consumer Price Index. President Bush's current tax plan proposes some minor adjustments in this plan that accelerate the tax reductions.

This basic framework for tax law doesn't make much sense. Instead, future tax brackets and rates should be contingent on the extent of future inequality. Tax law should be based on a principle that might be called inequality insurance: the taxes would be collected in such a way as to insure that the level of inequality, after taxes and transfers, does not exceed the levels present when the law was enacted. If such indexing were put in place today, the brackets and rates would adjust whenever inequality worsened beyond today's levels.

If the nature of the economy changes, and a small number of people capture the lion's share of pretax income, then the tax rates on them would automatically rise, and the tax rates on lower-income people decline, until today's level of inequality was restored. Higher taxes on the high incomes would be imposed exactly at a time when the few are suddenly becoming enriched relative to the many. There would be no delays while politicians debated whether taxes should be raised or cut.


Ahh, this will not be passed as an attempt at tax simplification. Just for starters, even if we all agreed this was a good idea, aren't there lags in data collection of at least a few years? Not to mention honest disputes about how to interpret the measures of inequality. And do we change brackets and rates annually, or every five years, or what? Surely there is some benefit to pretending to have a predictable tax code. Oh, don't answer these questions, this is a terrible idea for other reasons as well.

First, news flash, and my wife pointed this out to me as I raved about something else at the breakfast table, taxes already increase on people who earn more. First, they move into higher tax brackets, which is why we call it a "progressive" tax system. Secondly, folks who earn more even within the same bracket pay more - the higher rate is applied to more income. This should all be obvious, but it may bear repeating.

Now, the Prof wants to go beyond that and automatically make the tax code even more progressive as income inequality rises. Let's see why:

Reframing the tax system in this way could help deal effectively with one of the world's most serious problems, which is the potential for growing inequality. Highly talented, educated and hard-working people living in less developed countries often earn only a small fraction of what their counterparts in advanced countries earn. As Americans increasingly compete on a world market, there is a serious risk that their jobs will be given to people overseas and their incomes will drop precipitously — producing sudden profit opportunities for other Americans and creating sharp increases in inequality here.

So, globalization may increase income inequality (I agree), inequality is so clearly bad that, with no context or further explanation we should oppose it (really?), and we must DO SOMETHING! Whatever.

No doubt there would be strident opposition, especially among Republicans, to a tax system that would produce automatic tax increases for the wealthy. [Hmm. Do I sound strident?] But the issue is not just what is best for the wealthy; it is how to create a just society with better opportunities for all. Not even the most antitax Republicans want a gratuitously unequal society that could create resentment and even violence.

Speak for yourself, Mr. Bleeding Heart! I know Evil Republicans who can only get themselves out of bed and into their cars each morning because of their hope of driving the BMW past a homeless person. Takes all kinds!

Or seriously (OK, I'm backing down - the last bit was NOT serious), OF COURSE the issue is "not just what is best for the wealthy". Their are plenty of Republicans who think low taxes and reduced Government actually grow the economy and benefit everyone. We even look at places like Germany, which are endlessly contemplating reform of their hopelessly rigid labor markets, and wonder why that should be the model to which we aspire (hey, now my strawman can battle his strawman! Sort of like Intellectual Battle-Bots).

Unlike Europe, the US economy creates jobs and absorbs immigrants; depending on where immigrants arrive on the income scale, they can be a drag on inequality statistics. Should we stop accepting immigrants? That might help the inequality statistics, but I would find that proposal truly frightening.

Now, I should note that I do NOT mean that specific immigrants are a drag on our statistics - if all immigrants go from sweeping the streets to running their own companies over ten years then each is a success story. However, in their first year in the country, they show up in the bottom portion of the inequality stats. My point is that each year, there are new immigrants entering near the bottom of the economic ladder. IF we stopped taking new entrants, the workforce would become smaller (or at least, less large) and more equal - is that an unambiguously "good thing"?

Besides, the prospect of future tax increases that are contingent on changes in the distribution of wealth may not be as politically unlikely as it seems. After all, high rates on the very rich would be put in place only after it became much easier to get rich. The new system could be designed so it would always be just as easy for people to attain the same relative economic status that the upper segments of society enjoy today. There is no reason to worry that more wealthy people will feel any less of an incentive to work hard than they do now.

Incentives won't be affected? Well, at least he acknowledges that it is an issue, saving me the trouble. So, two points. First, he is, presumably deliberately, confusing "wealth" and "Income". When Heinz stock doubles in value, income for Theresa Heinz is unchanged, unless the company also raises the dividend. She is considered "wealthy" not only because of her income, but because of her, ahh, I'm stuck for a word, "wealth". Progressive taxes on "income" may reduce income inequality - whether that is a sensible proxy for wealth inequality is an open question. I suspect that the real problem is wealth - let's see:

When the top tenth of the population has attained such a high percentage of society's wealth that it can effectively block any reform, it can be counted on to use its power to keep its riches.

"Keep its riches"? Sounds like he is referring to the stock of wealth (net worth), rather than the flow, "income". Evidently he is aware of the difference.

Anyway, second point - "high rates on the very rich would be put in place only after it became much easier to get rich". Easy? Was the California Gold Rush easy? Or the recent Silicon Valley Chip Rush, where folks worked 120 hours a week prepping for the IPO? I think the idea of the current system is that, if opportunity knocks, folks can answer the door, work hard, and be rewarded. In Shiller's world, if opportunity knocks, don't answer, you are only increasing inequality and the taxman will, quite rightly, take it away.

So, what do we think? I sense a hidden agenda at work over at the Times. We can keep carping about Krugman all we like, but the Times can threaten us with folks like this. Better the devil you know than the deep blue sea you don't.

UPDATE: More on Shiller's ideas.



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