Claims about the efficacy of fiscal stimulus in a depressed economy are based on as-flimsy evidence as the Laffer Curve?! Seriously false equivalence
Peter Orzsag calls the claim that the debt-to-GDP ratio can be lowered by providing a fiscal boost to a depressed economy the “Laffer curve of the left.” For those who have real lives and may not get the reference, the “Laffer curve” refers to the theoretical possibility that one can raise overall tax revenues by cutting tax rates. The intuition is that cutting tax rates provides incentives for working longer and saving more. In turn, this will boost economic growth sufficiently to bring in more revenue despite rates having been cut. The claim that it is relevant to the U.S. economy has been discredited empirically (and a long time ago).
In light of this, Orzsag’s claim that the “Laffer curve of the left seems to have as much empirical relevance as the original Laffer curve” is not only odd but also flat wrong.
Orzsag’s target is clearly a recent paper by DeLong and Summers that shows fiscal stimulus in a depressed economy has multiple salutary effects, not just on economic growth but even on long-run budget measures (like the debt-to-GDP ratio). The paper shows stimulus boosts near-term growth directly by relieving the constraint of insufficient demand; it boosts productive investments by giving firms an incentive (i.e., more customers coming in the door) to expand capacity; and it keeps chronic long-term unemployment from turning into a permanent erosion of workers’ skills (i.e., economic “scarring”). The assumptions about the strength of each of these effects that are needed to make fiscal stimulus debt-improving in a depressed economy are probably pretty close to real-life parameters.
Let’s do some simple math with widely-agreed upon parameters, even ignoring some of the supply-side measures DeLong and Summers examine. I’m going to round very aggressively here, but it doesn’t affect results much.
Today’s publicly-held debt is about 70 percent of GDP (call it $10.5 trillion on a base of GDP that is $15 trillion). Let’s say we decided to undertake fiscal stimulus in the form of $150 billion spent on high-multiplier activities like extending unemployment insurance, giving aid to states, or investing in infrastructure (we actually need more than this, but it’s a nice round 1 percent of overall GDP, so we’ll stick with it).
The “fiscal multipliers” on these activities are roughly 1.5, meaning they generate $1.50 in economic activity for every dollar spent on them (actually, it may be quite a bit higher, but we’ll take 1.5 as given).
So, (roughly) a year from now, this stimulus has increased the level of GDP by $225 billion (i.e., the $150 billion stimulus multiplied by 1.5). This extra GDP does indeed lower the budget deficit by bringing in more revenue. A reasonable estimate, based on CBO data, is that when the economy is operating below potential, each 1 percent increase in GDP growth yields a cyclical reduction in the budget deficit of about 0.35 percent of GDP. So, this $225 billion in additional output leads to a $79 billion improvement in the budget deficit, making the “net” fiscal cost of the stimulus just $71 billion ($150 billion minus the $79 billion offset from higher growth).
This $71 billion “net” cost of stimulus increases debt by roughly 0.7% ($71 billion divided by the current $10.5 trillion public debt). But GDP has increased by 1.5 percent. Given the current debt-to-GDP ratio of 70 percent, this means that this measure actually declines because the stimulus has increased debt by 0.7 percent but GDP by 1.5 percent.
None of these parameters, by the way, are particularly contested.1 And let’s say they’re slightly wrong, and that instead of outright improving the debt-to-GDP ratio, providing fiscal stimulus in today’s depressed economy actually makes it slightly worse – say it’s only 80 percent self-financing in terms of its impact on debt-to-GDP ratios. Would this really justify calling claims that providing fiscal stimulus in depressed economies does not damage public finances “the Laffer Curve of the left”? Not by my read of the evidence.
1. For those who like analytical solutions, all of the preceding boils down to: So long as the initial debt/GDP ratio is higher than [(1/multiplier) – fiscal clawback ratio], then fiscal stimulus reduces the debt to GDP ratio. The “fiscal clawback ratio” is simply how much a 1% boost to economic growth leads to a reduction in the budget deficit (measured also as a share in GDP). For the arithmetic above, the multiplier of 1.5 and a clawback ratio of .35 means that fiscal stimulus would reduce debt/GDP for any initial debt ratio above 32%.
Take much more conservative assumptions – a multiplier of 1 and a clawback ratio of just 0.25. Then, stimulus is debt/GDP reducing for all initial debt ratios above 75%.
Also note that this means the calculus for whether or not stimulus reduces the debt/GDP ratio gets more favorable as the initial debt ratio rises, a perhaps counter-intuitive result.
Yesterday, the Congressional Budget Office (CBO) released its annual Long Term Budget Outlook (LTBO), which projects federal spending, revenues, deficits, and debt over the next 75 years. There are many points of controversy with regards to the LTBO, not the least of which is that it’s pretty ridiculous for CBO to pretend it knows what health care costs will look like in 2087. Personally, I think that CBO’s LTBO provides a lot more heat than light, and I would be the first to applaud if CBO decided to only release ten-year budget projections (in themselves subject to a huge margin of error).
Nevertheless, there is still value in looking at the change in projections from one year to the next. The figure below clearly shows that over the past three years CBO’s extended current law budget projections—which assumes no changes are made to the law—have improved drastically.
2009: CBO projected that debt held by the public would rise from around 60 percent of GDP to just over 300 percent of GDP in 75 years.
2010: CBO markedly improves its 75-year outlook, which now shows debt rising to just over 110 percent of GDP. This improvement largely reflected passage of the Affordable Care Act (ACA), which prioritized reducing long-run deficits and slowing the rate health of care cost growth (the predominant driver of long-run deficits).
2011: CBO again improves its outlook, now projecting debt rising to 87 percent of GDP in the first 30 years but then actually falling to 75 percent over the next 45 years. This improvement was largely due to three changes in CBO’s assumptions and projections: (1) lower costs for the new ACA health insurance exchange subsidies; (2) higher taxable wages due to the employer-sponsored health insurance excise tax (pushing worker compensation away from the tax-free health coverage); and (3) a slightly higher long-run economic growth rate.
The ultimate goal of budget reform is to reach “fiscal sustainability,” a point at which public debt is growing no faster than the economy (stabilizing debt relative to national income, i.e., ability to pay). According to 2011 LTBO projections, the federal government had already achieved long-run “fiscal sustainability.”
2012: For the third straight year in a row, CBO favorably revises its long-run budget outlook: Starting in 2014, public debt is projected to fall by 0-3 percentage points each year. The public debt is shown to be fully paid down by 2070, and within 75 years the federal government is projected to have accrued reserve surpluses equal to about a third of the economy.
This improvement is primarily due to two factors. First, the Budget Control Act (the result of last summer’s debt ceiling crisis) cuts spending by over $2.1 trillion through 2021, and because of the way CBO indexes discretionary spending for inflation in its projections, it continues to reduce deficits in subsequent years. And second, CBO changed the way it projects health care cost growth. In the past, it used the average growth rate over the last 25 years, but in this report it calculated a weighted 25-year average that puts more weight on recent years. This new methodology does a better job of taking into account the fact that health care costs have been slowing recently, possibly evidence that the ACA has exceeded expectations.
Budget wonks will rightly point out that the projections in question are CBO’s extended baseline, which assumes no changes to current law. This means that the Bush-era tax cuts expire next year, the sequestration cuts also go into full effect next year, the Alternative Minimum Tax will apply to more upper middle-income households, and Medicare reimbursements to doctors will be allowed to fall dramatically. But with the exception of the sequestration trigger, all those other factors were also present when CBO made their projections in 2009, 2010, and 2011. The fact is the fiscal outlook of the federal government has improved dramatically in the last three years.
More importantly, this report clearly shows that the path toward fiscal sustainability includes allowing some—if not all—of the Bush-era tax cuts to expire and fully implementing and protecting the Affordable Care Act.
New York Times columnist David Brooks went all out in heralding the “debt is evil” stigma in his column yesterday. Regrettably, this blanket condemnation of borrowing as intemperate or immoral, intergenerational theft is all too pervasive among Washington’s policymaking elite, and all too wrong: Not all debt is created equal and suggesting otherwise impedes sound fiscal policy.
Economic actors borrow money for a wide array of activities, and both businesses and households know better than to apply a universal value judgment to debt. Borrowing money for college tuition allows for human capital accumulation, which will hopefully yield a high rate of return; borrowing money to take to the casino is widely viewed as imprudent, as the expected rate of return at any casino is negative. Businesses borrow money to build factories, buy equipment, finance research and development, and engage in other productive activities that add value to the economy. Financial firms leveraging themselves the way of Long-Term Capital Management (using debt to proportionally magnify both risk and potential returns), on the other hand, adds systemic financial risk and zero—more likely negative—economic value. Similarly, there are good and bad reasons alike to run federal budget deficits. What matters much more than the accumulation of nominal debt is the purpose of the borrowing and the ability to repay the amount borrowed.
Brooks laments that the “federal government has borrowed more than $6 trillion in the last four years alone, trying to counteract the effects of the [dotcom and housing] bubbles.” Yes, the implosion of the housing market and the ensuing financial crisis and recession forced Congress to borrow heavily as the cyclical portion of the budget deficit ballooned and fiscal policy was used to arrest a steep economic contraction, propping up aggregate demand and the financial sector alike. The alternative, however, was a depression that would have swollen budget deficits regardless, while greatly impeding our ability to repay debt because of lost income and economic scarring reducing future potential income. Indeed, policymakers’ failure to restore full employment—which still necessitates much more deficit-financed stimulus—is producing such scarring effects: The U.S. economy is still running $861 billion—or 5.3 percent—below potential output and the Congressional Budget Office has downwardly revised projected potential output for 2017 by 6.6 percent since the onset of the recession. That is real, welfare-reducing economic waste resulting from insufficient public borrowing—borrowing that could have put productive resources to use instead of allowing them to atrophy.
Economists Lawrence Summers and Brad DeLong compellingly argue that given present U.S. economic conditions (where the Fed cannot singlehandedly stabilize the economy), deficit-financed stimulus is actually self-financing. Essentially, if nominal interest rates are below long-run trend real GDP growth adjusted for reduced economic scarring effects and improvements in the cyclical budget deficit resulting from stimulus, a dollar of debt more than pays for itself in the long-run. CBO projects real GDP growth will average 2.4 percent over the next 25 years, whereas the yield on 10-year Treasuries is only 1.55 percent (hovering around a record low); high bang-per-buck fiscal stimulus passes any reasonable cost-benefit analysis test so long as the economy remains mired well below potential in a liquidity trap.
What Brooks misses entirely is that any value judgment regarding debt boils down to the opportunity cost of debt and the value added of the tax or spending program being deficit-financed—particularly in ways that affect the ability to repay debt.
Example 1: The Bush-era tax cuts were entirely deficit-financed, adding some $2.6 trillion to the public debt between 2001 and 2010, while failing to produce even mediocre economic performance (the 2001-2007 Bush economic expansion was the weakest since World War II). Numerous economists believe that, between their dismal efficacy and the reduction in national savings they induced, the Bush tax cuts decreased long-run potential output.
Example 2: If the rate of return on infrastructure spending exceeds the cost of financing, it makes sense to borrow money to build a bridge, or better yet repair a bridge (the cost of repair increases with time and preventative maintenance is much more cost effective than rebuilding infrastructure from scratch). As my colleague Ethan Pollack points out, the case with infrastructure is a clear cut “win-win-win” because it raises potential future output, making the incurred borrowing relatively easier to pay back, and infrastructure spending increases actual present output and employment (reducing cyclical deficits). And today, the opportunity cost of infrastructure investment is at historic lows.
There is good debt and wasteful debt alike, just as both constructive editorializing and gibberish can be found scrawled across op-ed pages. Brooks’ failure to recognize any economic context or nuance only feeds the misguided debt hysteria that has pushed most of Europe back into recession and encouraged U.S. policymakers to give up job creation in favor of premature, counterproductive austerity.
Brad DeLong links to what he calls a “DeLong-Summers ‘Simplistic Keynesians’ Smackdown Watch“—a piece by Ken Rogoff calling “dangerously facile” those who argue for the “simplistic Keynesian remedy that assumes that government deficits don’t matter when the economy is in deep recession; indeed, the bigger the better.”
Since “simplistic Keynesianism” is a pretty good description of my diagnosis and remedy for today’s U.S. economic troubles, and since I don’t want to ever be “dangerously facile,” I read both the Rogoff commentary and the Reinhart, Reinhart, and Rogoff (2012) paper that it links to.
I did learn one thing—it turns out that my earlier post about the likely provenance of a Rogoff claim about the potential damage from high public debt isn’t quite right—but the new provenance of this claim isn’t right either.
There’s not much particularly new in either piece. Instead, they recycle the finding that, looked at over several centuries, there is an odd threshold of debt-to-GDP ratios—90 percent—that sees growth beneath the threshold run about 1 percentage point higher per year than growth above the threshold. They then do the arithmetic and argue that every year that the public debt-to-GDP ratio is over 90 percent is a year of GDP growth 1 percent lower than it would otherwise be and voila, the damage from high debt has been documented.
Or not. We’ve already noted why we think this threshold, while it might be an interesting (if odd and deeply atheoretical) curiosity, has no relevance to current U.S. policy debates (and yet somehow the 90 percent scare-mongering won’t stop—see David Brooks’ latest invocation of it).
The main reason for this judgment is that the causality between slow growth and high public debt is extremely two-way. There have almost surely been times when exogenous decisions to add to public debt have hampered countries’ growth. But there have also surely been times (and many more times, in my guess) when slow growth has led directly to rising debt-to-GDP ratios. And when this is the case, noting a simple negative correlation between GDP growth and a particular debt-to-GDP threshold tells us nothing about how dangerous—or, more likely, useful—a policy of further fiscal support would be.
And, there is no doubt that the increase in public debt over the past four years in the U.S. is directly the result of the Great Recession, and not a cause of it. Further, adding to this public debt going forward (so long as it was intelligently spent on job creation) would not only not harm the economy, it would reduce the debt/GDP ratio.
To be blunter, applying results gleaned from the over 80 percent of the country-years in their high-debt sample period that began before World War II, as well as the other clear-as-day cases where high debt was driven by slow growth (Japan in the 1990s and 2000s) does nothing to aid policy analysis about fiscal support in the here-and-now.
The authors even miss an obvious clue regarding those episodes in their data where high debt is driven by slow growth—the failure of elevated public debt to lead to upward pressure on interest rates. High public debt-to-GDP ratios combined with no upward pressure on interest rates is a key tell that it’s likely that below-potential growth is driving the debt ratio and not vice-versa.
Further, if interest rates are not pushed up by rising debt-to-GDP ratios, there is no mechanism for rising debt to impede growth. The authors gloss over this—just noting that “the growth-reducing effects of public debt are apparently not transmitted exclusively through high real interest rates.” More likely, the growth-reducing effects of public debt are simply non-existent when economies are deeply depressed.
Lastly, the paper makes a mistake that I think is key to understanding why policymakers keep getting blindsided by bad news (like the last two-months’ poor job growth) that just should not be that surprising: it assumes that economies naturally heal themselves from recessions, and quite quickly.Read more
One hallmark of the first 30 years after World War II was the “countervailing power” of labor unions (not just at the bargaining table but in local, state, and national politics) and their ability to raise wages and working standards for members and non-members alike. There were stark limits to union power—which was concentrated in some sectors of the economy and in some regions of the country—but the basic logic of the postwar accord was clear: Into the early 1970s, both median compensation and labor productivity roughly doubled. Labor unions both sustained prosperity, and ensured that it was shared. The impact of all of this on wage or income inequality is a complex question (shaped by skill, occupation, education, and demographics) but the bottom line is clear: There is a demonstrable wage premium for union workers. In addition, this wage premium is more pronounced for lesser skilled workers, and even spills over and benefits non-union workers. The wage effect alone underestimates the union contribution to shared prosperity. Unions at midcentury also exerted considerable political clout, sustaining other political and economic choices (minimum wage, job-based health benefits, Social Security, high marginal tax rates, etc.) that dampened inequality. And unions not only raise the wage floor but can also lower the ceiling; union bargaining power has been shown to moderate the compensation of executives at unionized firms.
Over the second 30 years post-WWII—an era highlighted by an impasse over labor law reform in 1978, the Chrysler bailout in 1979 (which set the template for “too big to fail” corporate rescues built around deep concessions by workers), and the Reagan administration’s determination to “zap labor” into submission—labor’s bargaining power collapsed. The consequences are driven home by the two graphs below. Figure 1 simply juxtaposes the historical trajectory of union density and the income share claimed by the richest 10 percent of Americans. Early in the century, the share of the American workforce which belonged to a union was meager, barely 10 percent. At the same time, inequality was stark—the share of national income going to the richest 10 percent of Americans stood at nearly 40 percent. This gap widened in the 1920s. But in 1935, the New Deal granted workers basic collective bargaining rights; over the next decade, union membership grew dramatically, followed by an equally dramatic decline in income inequality. This yielded an era of broadly shared prosperity, running from the 1940s into the 1970s. After that, however, unions came under attack—in the workplace, in the courts, and in public policy. As a result, union membership has fallen and income inequality has worsened—reaching levels not seen since the 1920s.
By most estimates, declining unionization accounted for about a third of the increase in inequality in the 1980s and 1990s. This is underscored by Figure 2, which plots income inequality (Gini coefficient) against union coverage (the share of the workforce covered by union contracts) by state, for 1979, 1989, 1999, and 2009. The relationship between union coverage and inequality varies widely by state. In 1979, union stalwarts in the northeast and Rust Belt combined high rates of union coverage and relatively low rates of inequality, while just the opposite held true for the southern “right to work” states. A large swath of states—including the upper Midwest, the mountain west, and the less urban industrialized states of the northeast—showed lower-than-national rates of inequality at union coverage rates a bit above or a bit below that of the nation. More importantly, as we plot the same relationship in 1989, 1999, and 2009, those states move as a group towards the less-union coverage, higher-inequality corner of the graph. The relationship between declining union coverage and rising inequality is starkest in the earlier years (between 1979 and 1989). After 1999, union coverage has bottomed out in most states and changes in the Gini coefficient at the state level are clearly driven by other factors, such as financialization and the real estate bubble.
Adding to Joe Nocera’s piece: A revival of the labor movement is necessary to preserve our democracy
It was good to see Joe Nocera’s column today affirming Tim Noah’s recent call for a revival of the labor movement, saying “if liberals really want to reverse income inequality, they should think seriously about rejoining labor’s side.” I would add that such a revival is necessary to rebuild the middle class and to preserve our democracy.
I’m proud that EPI has provided a lot of great research addressing the role of unions in the economy, ranging from: the impact on firms and competitiveness; the impact on the wages and benefits of union and nonunion workers; the impact on wage inequality; the flawed nature of the current process for choosing union representation; and much more. Here’s a brief guide:
- See a talk by Paul Krugman addressing the problem of income inequality, including the problem of eroded unionization. Krugman expresses some of the same sentiment as Nocera, paraphrasing “we didn’t know what we were missing until they were gone.” Pieces by Tom Kochan and Beth Shulman, and by Harley Shaiken, echo his arguments.
- Testimony by me, and another by Rutgers professor Paula Voos, articulate the importance of unions for American workers and the role unionism can play in rebuilding the middle class.
- Matt Vidal and David Kusnet provide 12 case studies from a variety of industries, including nursing, meatpacking, and janitorial, to show how unions can benefit workers and communities while making companies more productive. They also illustrate the damage inflicted when union representation is removed.
- Professor John DiNardo of the University of Michigan describes his and other research that unionization does not cause businesses to fail. Using a ‘regression discontinuity’ technique, DiNardo compares places that unionize to those that don’t and finds that differences in representation election outcomes were very similar: The near-losers are a very good “control group” for firms where the workers have just won the right to bargain collectively. DiNardo says: “This research provides evidence that this causal effect of union recognition is zero and has been zero since at least the 1960s, which is how far back we can go with the available data. In short, the biggest fear voiced by employer groups regarding unionization—that it will inevitably drive them out of business—has no evidentiary basis.”
- EPI Research and Policy Director Josh Bivens shows why unions are not to blame for the loss of U.S. manufacturing jobs, and that in fact, the real culprits are manipulated currency rates that make U.S.-made goods overly expensive. A dysfunctional health care system that burdens responsible employers with outsized costs, and high executive and managerial salaries, also contribute to any lack of competitiveness.
- Richard Freeman of Harvard University, perhaps the world’s leading labor market economist (I think so at least), writes that an overwhelming majority of workers say in surveys that they want a stronger collective voice on the job, and believe that a union would be good for their firm as well. Freeman’s findings “suggest that if workers were provided the union representation they desired in 2005, then the overall unionization rate would have been about 58%.”
- To get a picture of the broken process of union representation elections where employers freely intimidate workers, read Kate Bronfenbrenner’s report. Private-sector employer opposition to workers’ efforts to form unions has intensified and become more punitive than in the past. Employers are more than twice as likely to use 10 or more tactics—including threats of and actual firings—in their campaigns to thwart workers’ organizing efforts.
- Last, see the statement in support of the Employee Free Choice Act by me, along with Richard Freeman of Harvard and Frank Levy of MIT, citing the recent unprecedented growth of inequality in household income and the urgent need to give workers more bargaining power. Forty prominent economists signed the original statement, including three Nobel Prize winners, agreeing that the reform would be an overall benefit to the economy, and would provide a boost to workers when they need it most. Other economists later added their voices by signing the same statement, which resulted in close to 200 more signatories. The statement is available for download in both its original and updated versions.
Washington Post columnist Richard Cohen recently illustrated how much overt racial bigotry against blacks has been reduced. He used the case of Wesley A. Brown, the first African American graduate of the United States Naval Academy. Brown was the first to “successfully endure the racist hazing that had forced the others to quit.” When Brown joined the Naval Academy, if blacks dared to enroll, they were harassed to force them out. Today, there is a building in the Naval Academy named in Brown’s honor.
Cohen is correct. Today, black children know that there is no occupation that is categorically off limits to them. They can grow up to be president, an idea that seemed farfetched just a few years ago.
On the other hand, the picture Cohen painted would have looked starkly different had he focused less on interpersonal discrimination and more on institutional discrimination. By “institutional discrimination,” I am referring to the ways that the normal policies and practices of social institutions like the educational system, the labor market, and the criminal justice system serve to maintain racial inequality.
Cohen celebrates the end of legally enforced segregation, but fails to acknowledge that we still live with a great deal of de facto racial segregation. A large number of our neighborhoods are racially segregated, which means that many of our schools are racially segregated. Segregation concentrates black children not merely in majority-black schools, but also in schools where a majority of students are in poverty. While, in theory, there are no limits facing black children, children born into economically disadvantaged families, in economically disadvantaged communities, who then attend economically disadvantaged schools have the odds stacked against them.
One reason black families are disproportionately economically disadvantaged is because blacks are still about twice as likely as whites to be unemployed. This was the case in the 1960s, and it remains true today. This basic relationship holds true at all education levels. Black high school dropouts are about twice as likely to be unemployed as white high school dropouts. Black college graduates are about twice as likely to be unemployed as white college graduates. Research shows that employers still have a preference for hiring whites over blacks.
Our criminal justice system is another site where policies and practices systematically disadvantage blacks. As the book Dorm Room Dealers illustrates, white middle-class youth use illicit drugs and sell illicit drugs, but this population is much, much less likely to be incarcerated for these offenses than are poor black youth engaging in the same activities. Michelle Alexander’s The New Jim Crow goes into greater detail about how our illicit drug policies and practices produce institutional discrimination against African Americans.
Cohen is correct. There is no better time to be black in America than today. While this is a true statement, we also still have a long way to go before there is equal opportunity for all.
Business groups and conservatives constantly attack the federal government for overregulating. They claim that businesses are “drowning in a sea of regulations” and that job creation and profitability are being sacrificed in favor of a nanny state. Workplace safety rules, in particular, have been a favorite target of the Chamber of Commerce and other business associations, but the fact is that the federal government regulates too little, not too much. Most of the 4,500 workplace fatalities and 50,000 occupational disease deaths each year could be prevented with better rules, more diligent employers, and better enforcement by the Occupational Safety and Health Administration.
The Center for Public Integrity has begun publishing Hard Labor, a series of articles exploring this reality, and the first two stories make for compelling reading. One describes the consequences of OSHA’s inability to issue a combustible dust standard to protect against the kind of fires and explosions that have killed 130 workers since 1980, injured another 800-plus, and caused more than 450 accidents. Factory managers ignore hazards in plain sight—for example, piles of metallic dust that crackle with static electricity and ignite into small fires every week. Nothing is done to prevent the build-up, despite the past occurrence of catastrophic explosions at the same company that left some workers dead and others with gruesome, debilitating injuries. Finally, the critical elements come together and instead of a small fire, another terrible explosion occurs as airborne dust ignites, and more workers die from horrendous burns.
OSHA has no standard that addresses this hazard in spite of the pleas of union representatives and the urgings of the federal Chemical Safety Board, which has jurisdiction to investigate explosions and recommend preventive standards but has no power to issue them. OSHA hasn’t regulated, and workers continue to be burned, disfigured and killed unnecessarily.
Industry representatives resist any new standard, reflexively making the same tired arguments about flexibility and cost they always make. But as the story points out, in the case of grain dust explosions, an industry that fought OSHA’s efforts to issue a standard now realizes that the standard has saved workers’ lives and saved the companies money. The National Grain and Feed Association, which at one point sued OSHA to block the grain dust rule, recognizes today that the standard was win-win regulation, and that the grain industry is financially better off as a result of the rule and the unprecedented reduction in deaths and injuries it achieved.
The second Hard Labor story focused on the weakness of OSHA’s enforcement of the rules it already has on the books. Violations that cause the death of a worker result in an average fine of less than $9,000, and companies contest every citation, no matter how justified. The chances of an executive being indicted as a criminal for intentional or recklessly indifferent acts or omissions that kill their employees are infinitesimal, and the penalties are tougher for someone who harasses a wild burro on federal land than for an employer who sends a worker into a known hazard that causes the worker’s death.
The Center for Public Integrity is doing a real service by publishing these stories that reveal just how weak OSHA’s standards and enforcement are, and how light the regulatory burden that OSHA imposes really is. In the case of workplace safety and health, we need more regulation, not less.
Just once, I wish Mary Williams Walsh would write a story about public employee pensions that included key information that isn’t convenient to an agenda of doing away with or greatly reducing public employee pensions. Every story she writes, including her most recent, seems designed to scare the public, make public employees look bad, their unions look greedy, and government administrators seem weak or stupid.
In her most recent piece, Walsh lends great support to those claiming that public pension plans are erring (or even dissembling) in using assumptions about annual rates of return for their assets that are unrealistically high. The further claim is that using more “reasonable” rates of return (i.e., lower ones) will show the “true” crisis in public pensions.
Walsh writes: “The typical public pension plan assumes its investments will earn average annual returns of 8 percent over the long term, according to the Center for Retirement Research at Boston College. Actual experience since 2000 has been much less, 5.7 percent over the last 10 years, according to the National Association of State Retirement Administrators.”
This may seem like bloodless analysis, but it’s not—it’s giving great aid to a bogus argument forwarded by ideologues that are deeply hostile to public pension plans on principle. Because most plans look to be in decent shape based on current actuarial standards that justify assuming 8 percent rates of return, these ideologues have to claim that these assumptions are somehow wrong. But pointing to returns over the past 10 years as evidence of this is ridiculous because it completely ignores the fact that the U.S. and world economies experienced the biggest financial downturn in 80 years! How can Walsh be surprised that returns over a period that included two recessions have been subpar? This isn’t front-page news or news at all. It would be news if returns over that period had met expectations.
Even more serious is Walsh’s distortion of the National Association of State Retirement Administrators’ report, which was a very positive statement about the returns public employee plans have achieved:
Although public pension funds, along with most other investors, have experienced sub-par returns over the past decade, median public pension fund returns over longer periods exceed the assumed rates used by most plans. As shown in Figure 1, median annualized investment returns for the 20- and 25-year periods ended June 30, 2011, exceed the most-used investment return assumption of 8.0 percent. For example, for the 25-year period ended June 30, 2011, the median annualized return was 8.5 percent.
Walsh quotes the professed doubts of Edward McMahon, a fellow at the anti-government Empire Center for New York State Policy, that even a 7 percent return on investment can be safely assumed. But McMahon is not a neutral observer; he’s a right-wing, anti-union ideologue with an agenda to do away with public employee defined benefit pensions altogether. It is not news to me that the Empire Center has long wanted to cut public employee benefits and compensation, but Walsh would have done most readers a service by mentioning that to her readers.
Just once I wish Walsh would cite Dean Baker’s opposing analysis, which is based on the fact that the stock market is currently priced low enough, as measured by the ratio of prices to earnings, to justify expected returns of 8 percent or more. As Baker, the co-director of the Center for Economic and Policy Research, points out, individuals who sold Social Security privatization with visions of never-ending 8-10 percent stock market returns back when price-to-earnings ratios were at historic highs (hence making inflated returns hugely unlikely) now have the gall to attack pension plans that expect returns of 7.5 percent when price-to-earnings ratios have returned to historic norms (norms generally consistent with long-run returns of 8 percent).
What does this detour into what people claimed during fights over Social Security privatization have to do with the attack on public pensions? Earlier, I referred to ideologues like McMahon pushing the claim that projected returns of 8 percent for public pension plans are unrealistically high. How do I know this claim is ideology instead of professional judgment? Well, because in 2003 McMahon claimed that replacing public pensions with 401(k) plans would be fair for employees because they could expect returns of 9.75 percent.
In short, what at first seem like wonky debates over appropriate rates of return have actually degenerated into misinformation campaigns waged by committed opponents of public pensions. The rates these plans are assuming today are in line with actuarial practice and (much more importantly) economically reasonable. I’m sorry that this view doesn’t advance the much juicier story of a fiscal crisis coming, but it’s based on the facts.
A majority of Alabama’s politicians apparently believe that they can improve their state economy by chasing away the undocumented workers who live there. By making them criminals (turning them into illegal aliens), denying them basic services like water and electricity, and terrifying their families, they hope to rid the state of people they see as a burden on taxpayers and competitors for scarce jobs. Well, after a year’s application of this medicine (June marks the first anniversary of the passage of HB 56), how’s the experiment coming along? Has the economy been jump-started or even improved?
Let’s start with job creation. Has Alabama created more jobs than its neighbors over the last year? No; in fact, it’s both below the regional average and well below the national average. Alabama’s employment growth has been only one-seventh the national average (0.2 percent vs. 1.4 percent). The United States has regained about 43 percent of the jobs lost at the bottom of the recession; Alabama has only recovered about 9 percent of the jobs it lost.
Figure 1: Source: EPI analysis of Local Area Unemployment Statistics public data sets
Has it made the state or its workers richer or better off? No, apparently not. Even with fewer workers, personal income per worker fell in Alabama during the two quarters that followed enactment of HB 56, while in the neighboring states, it was unchanged.
Figure 2: Source: EPI analysis of Current Employment Statistics and Bureau of Economic Analysis National Income and Product Accounts public data
How about unemployment? Has chasing away all of those immigrants opened up tens of thousands of existing jobs for native Alabamans and cut the number of unemployed more than Alabama’s neighbors? No, not exactly. Compared to all four of its neighboring states (Tennessee, Georgia, Mississippi, and Florida), Alabama’s unemployment fell a little faster over the past year—2 percentage points vs 1.7 percentage points—but Alabama lost 52,000 workers from its labor force in less than a year while the labor force grew in the four neighboring states. Alabama doesn’t have a positive story to tell.
Figure 3: Source: EPI analysis Local Area Unemployment Statistics public data series
Far from being an economic panacea, the early returns suggest that HB 56 has not been good for Alabamans in terms of job creation or personal income. Immigrant-bashing isn’t the path to prosperity.
Conservatives say CEO compensation levels are fine now that it takes 10 hours to earn a typical worker’s annual compensation
There have been some interesting responses by conservatives to the new data Natalie Sabadish and I have released on the CEO-to-worker pay ratio. Apparently, our study reporting that CEO pay has fallen during the fiscal crisis and is far down from the dizzying heights of the tech bubble in 2000 is taken to mean that that any concern about the growth of top incomes is now out-of-date and inappropriate.
Conservative columnist Wynton Hall at Breitbart.com writes:
“A graph by the Economic Policy Institute shows that while the relative pay of CEOs shot up in the 1990s, it has since fallen by nearly half, a trajectory that hardly supports the class warfare rhetoric of Occupy Wall Street and the Obama Administration.”
And Greg Mankiw also touted our findings, writing, “The relative pay of CEOs skyrocketed during the 1990s and has since fallen by about half.”
The attention and the recognition of the accuracy of our empirical work are much appreciated. A few comments are in order. First, it seems that these folks are celebrating that a non-problem, at least in their view, has been solved. After all, I don’t recall conservatives being upset by the roughly $20 million CEO pay packages in 2000 or the $18 million CEO packages in 2007. So, it is hard to understand why they feel so gratified by CEO compensation packages averaging $11 or $12 million in 2011.
Second, while it is true that the CEO-to-worker compensation ratio fell from 411.3 in 2000 to 209.4 in 2011, that still means that CEO compensation is spectacularly high. For instance, that means that the average CEO earns in 10 hours what a typical worker earns in an entire year. Moreover, as we reported in our study (page 4):
“CEO compensation in 2011 is very high by any metric, except when compared with its own peak in 2000, after the 1990s stock bubble. From 1978–2011, CEO compensation grew more than 725 percent, substantially more than the stock market [which grew less than 400 percent] and remarkably more than worker compensation, at a meager 5.7 percent.”
The trend in CEO compensation since 1965 is in the figure. Two measures are presented, one where stock options granted are included and the other where stock options exercised are included. In either measure of CEO compensation, the growth between 1978 ($1.3 or 1.4 million), 1989 ($2.5 or 2.6 million), or 1995 ($5.6 or $6.2 million) and 2011 ($11.1 or $12.1 million) is pretty astounding and very hard to justify. Exactly how does one justify/explain that CEO compensation has doubled since 1995?
Figure 1: Note: “Options granted” compensation series includes salary, bonus, restricted stock grants, options granted, and long-term incentive payouts for CEOs at the top 350 firms ranked by sales. “Options exercised” compensation series includes salary, bonus, restricted stock grants, options exercised, and long-term incentive payouts for CEOs at the top 350 firms ranked by sales. Sources: Authors’ analysis of data from Compustat ExecuComp database, Bureau of Labor Statistics Current Employment Statistics program, and Bureau of Economic Analysis National Income and Product Accounts Tables
I was on PBS’ NewsHour last night, talking austerity. I’m against it. Ken Rogoff from Harvard was also on, and he’s actually against it too. One point of disagreement came up, though, when I made the argument that public debt incurred when the economy is depressed causes no economic damage (in fact, it acts instead as a useful palliative).
Rogoff disagreed in principle and then said something kind of startling—that increases in deficits and debt could lead to incomes in the near-ish future (i.e., less than 30 years from now) that are “20 percent lower.”
I’m assuming this claim has some relation to a Congressional Budget Office estimate of the effect of one particular fiscal scenario (the “alternative fiscal scenario,” or AFS) that projects the effects of large increases in budget deficits in coming decades on economic growth (see table below from the CBO report (p. 28)). The mechanism is that rising deficits increase interest rates which lead to lower private investment and a stronger dollar, which leads in turn to higher trade deficits and rising foreign debt.
Set aside for a second whether or not there are some problems with these calculations—both in relying on the AFS to make predictions and in how to apportion the impact of higher interest rates between crowded-out domestic investment versus increased trade deficits. The more salient point is simply that there is nothing in the CBO analysis that rebuts my larger point: Potential damage from increased public debt does not materialize when this debt is taken on when the economy is depressed. Here’s the CBO on the issue (p. 21 in the linked report):
“… when the economy has substantial unemployment and unused factories, offices, and equipment, federal budget deficits—and thus additional debt—generally boost demand, thereby increasing output and employment relative to what would occur with a balanced budget. … CBO’s estimates in this chapter [ed: estimates about the output-depressing effects of budget deficits and extra public debt] do not take those short-run effects on demand into account. Indeed, the estimates reflect the assumption that over the long run, output is always at its potential level”
In short, the potential output-depressing effects stemming from budget deficits that the CBO is estimating only hold when “output is at its potential level.” Or to say it another way, the exact way I said it earlier, extra public debt incurred when the economy is depressed (i.e., output is not “at its potential level”) causes no economic damage.
And in fact, when extra public debt is incurred when the economy is depressed, the boost it gives (if spent wisely) to economic output can easily be large enough to actually reduce overall the overall debt/GDP ratio by boosting the denominator and by spurring enough additional tax collections to actually self-finance part of the extra debt. How are people so sure that the extra debt incurred in recent years hasn’t led to any of the downsides from crowding out or upward pressure on the value of the dollar? Simple—interest rates have not risen. And remember, the entire economic chain wherein incurring public debt leads to crowding-out and trade deficits is through upward pressure on interest rates. And, since the depressed economy is putting ferocious downward pressure on interest rates, there is no damage done.
Until the economy recovers and this downward pressure on interest rates relents, additional increments of public debt do not hurt, and scare-stories about the 20 percent income loss possible 25 years from now because of deficits do not change this calculus at all.
For the past few months, I (and others in favor of allowing the Bush-era tax cuts for the rich to expire) had worried that once we got into the lame duck session, congressional Democrats would let their position slip and start supporting extending tax cuts for couples with income above $250,000 (individuals above $200,000). But I thought at the very least it would happen in the last month or two, when the pressure was really being brought to bear.
Turns out, it happened a lot sooner than that. Yesterday, House Minority Leader Nancy Pelosi (D-Calif.) signaled support for allowing the Bush-era tax cuts under $1 million to expire. Pelosi explained, “It is unacceptable to hold tax cuts for the middle class hostage to extending multi-billion dollar tax breaks for millionaires, Big Oil, special interests, and corporations that ship jobs overseas.”
Yes, I understand that “tax breaks for millionaires” sounds better in a press release than “tax breaks for households with income over $200,000, or $250,000 for couples.” And perhaps she felt forced into this, worrying that she might not be able to hold her caucus at the $250,000 mark, opting instead to retreat to more defensible terrain before the battle royal later this year.
But this shift has a number of very disturbing consequences:
1) Slipping to the right.This will now be the left pole of the debate. The Democratic Party has moved from opposing the Bush-era tax cuts to supporting 80 percent of them, to now supporting nearly 90 percent of them. And yet these concessions have been given for free, without any countervailing progressive demands. This is just more evidence that the tax debate is shifting further to the right. Pelosi may have done this for short-term advantage, but in the long run, these shifts tend to be very difficult to reverse.
2) More spending cuts. Given that the Bush-era tax cuts cost $2.6 trillion over the last decade and will cost over $4 trillion in the next decade, this concession will put even greater pressure on the budgets of vital safety net and public investment programs.
3) The definition of “middle class” is losing relevance. The previous definition of the middle class as being anyone under the $250,000 threshold was already a severe stretch. After all, you’re talking about people who (1) are making five times that of the typical American household (which makes closer to $50,000 a year in combined income), and (2) whose incomes are higher than 98 percent of American households. To now extend the definition of middle class to people who make 20 times that of the average household and whose income is greater than over 99 percent of households is to define away the entire concept of the middle class.
4) Bigger tax cuts to the highest-income Americans. This shift isn’t just a huge boon to upper-income households making between $250,000 and $1 million in income. In fact, about half of these additional tax cuts would go toward households with over $1 million in income. This is because the cut-off—be it $250,000 or $1 million—represents the portion of a taxpayer’s income that is subject to the continued tax cut. So the previous Democratic position—which remains President Obama’s public position—is that if you make over $250,000, you still get to keep your tax cuts for all your income below that threshold and only have to pay higher rates on income above that threshold. Revising the threshold up to $1 million basically means that all income between $250,000 and $1 million also retains its tax cuts, and as it turns out, about half of those tax cuts will go to people with income over $1 million.
As Jared Bernstein said, we’ll let the game theorists argue over whether this helps or hurts the Democrats’ negotiating position. But even if this does give the Democrats the upper hand in negotiations, what then? The whole point is to enact a tax code that can adequately fund the social safety net and public investments that we need to create a stronger economy with equal opportunity for all. Retaining the tax cuts for most people making over $250,000 and reducing the tax increase that people making over a $1 million would be subject to, makes that job significantly more difficult, if not impossible.
With New Jersey joining several other states in considering raising its minimum wage, it is appropriate to do some myth-busting around the minimum wage, in particular addressing myths around who comprises the minimum-wage workforce, and what the employment impact of increasing the minimum wage would be.
EPI’s analysis of the New Jersey proposal shows that 307,000 workers will be directly helped by raising the New Jersey minimum wage from $7.25 an hour to $8.50 an hour (because their current wages fall between those points), with another 233,000 workers benefiting indirectly (those whose wages are slightly above the new minimum wage who would see their wages increased modestly). The prevailing misconception is that most minimum-wage workers are middle-class teenagers working part-time for extra spending money. The facts tell a different story. Of those workers benefiting from the proposed minimum wage increase, slightly over half (55 percent) are female, more than four in five (85 percent) are 20 years of age or older, and nearly four in five (79 percent) work more than part-time (29 percent work mid-time, between 20-35 hours a week, and 50 percent work full-time, 35-plus hours a week). More than 3 in 4 workers (76 percent) benefiting from an increase in the minimum wage have a high school diploma or more—and nearly half (46 percent) of workers affected are white non-Hispanic (as seen in Figure 1). Over 282,000 New Jersey children have a parent who would benefit from increasing the minimum wage.
Figure 1: Source: EPI Analysis of 2011 Current Population Survey, ORG data
GDP impact and job creation
The EPI analysis of the impact of the proposed minimum wage increase shows that those workers benefiting (both directly and indirectly) from increased wages, will see an additional $439 million in wages in the first year following the proposed minimum wage increase. For those benefiting, the average increase in their annual income would be $810.
In the first year following the increase in the minimum wage, we estimate that increased spending by workers who see a raise will boost GDP by $278 million. Wage increases resulting from indexing to inflation would result in further GDP boosts in future years. Economists widely recognize the relationship between GDP growth and employment growth. Our model shows that 2,420 full-time equivalent (FTE) jobs would be created in the first year as a result of the GDP boost resulting from New Jersey’s proposed minimum wage increase. These jobs would be concentrated within New Jersey, since lower-income workers disproportionately spend their wages locally to meet the immediate needs of their families.
The minimum wage as defense against further erosion of wages
As seen in Figure 2, New Jersey saw significant erosion of low wages (those at the 20th percentile) between 2009-2011. New Jersey’s $0.60 erosion of wages at the 20th percentile was the 11th greatest wage loss of all states, exceeding the national low-wage erosion by $0.14. With unemployment rates remaining high, employers do not have to provide wage increases to get and keep the workers they need. Since well over half (56 percent) of those receiving additional income as a result of the proposed minimum wage increase fall in the bottom two income quintiles, it is clear that slowing this wage erosion would significantly help lower-income workers.
Figure 2: Source: EPI analysis of Current Population Survey, ORG data. Note, “Low Wage” = wage at the 20th percentile. Figure shows change in the 20th percentile real wage between 2009 and 2011.
Increasing New Jersey’s minimum wage is the right thing to do for several reasons. It is smart economics, boosting a weak economic recovery that has New Jersey firmly in its grips, and it improves the well-being of working families still reeling from the effects of the Great Recession.
Does J.P. Morgan Chairman and Chief Executive Jamie Dimon belong on the board of the New York Federal Reserve? Of course not. And there’s actually a petition demanding his resignation or removal, being pushed by former IMF Chief Economist Simon Johnson.
But it’s also important to note that he didn’t belong on the board two months ago either—before the large trading loss J.P. Morgan suffered made news. And it’s not just Dimon, it’s the whole structure of Federal Reserve banks that needs reform.
The problem is that the boards of directors for regional Federal Reserve banks are composed of financial-sector executives—and these boards then get to choose five of the 12 voting members of the Federal Reserve’s Open Market Committee (FOMC), the body that makes monetary policy decisions. So, essentially 42 percent of the committee that controls the single most important lever of macroeconomic policy for the country is picked by banking executives. Oh, and the New York Fed, while technically a regional bank, occupies a permanent seat on the FOMC.
This is all made more ironic by the fact that any attempt by outsiders to criticize the Fed often leads to distressed hand-wringing by the Beltway elite about the sanctity of Fed “independence.” But of course, they are not talking about “independence” in any normal sense of the word, but rather independence from having to consider the views of those in the economy who might have different interests from finance.
So, sign the Dimon petition. But also, and much more importantly, support the efforts by legislators in Congress like Barney Frank and Bernie Sanders to undertake more comprehensive reform of the Fed. Because none of this is personal, it’s just business.
Given that Speaker of the House John Boehner (R-Ohio) essentially promised last week to engineer a replay of last summer’s debt ceiling fight at the first opportunity, people have been wondering if that previous fight could be tied directly to subsequent economic damage in the form of lost output or jobs.
The short answer: maybe.
Before going into this question, however, it is worth noting that there is absolutely zero economic reason to believe that current levels (and expansions in recent years) of public debt are damaging to the economy. We can say this with confidence for a couple of reasons, based in pretty boring textbook macroeconomics. First, interest rates remain historically low, meaning that lenders are not just willing, but intensely eager, to keep financing budget deficits. Second, these low interest rates are not based on capricious market sentiment that could turn on a dime; instead they’re based on economic fundamentals.
To put it quickly, the same thing that is keeping interest rates low is what is keeping the economy weak – an excess of desired savings from households and businesses over demand for new borrowing and investments. So there will be upward pressure on interest rates if and only if this fundamental economic weakness is resolved, and not before.
But while economic fundamentals regarding public debt pose no threat to the U.S. economy, political brinksmanship might. As the nation approached the (arbitrary, unuseful, and dangerous) statutory debt ceiling last summer, what had been historically a pro forma vote to keep the federal government from defaulting on its obligations became this time a chance for GOP members of Congress to extort passage of some of their own pet policies in exchange for not causing an economic crisis. Eventually, the debt ceiling was raised in a deal to cut more than $1 trillion in spending over the next decade.
Given Boehner’s threat/promise of last week, this brings us back to the main question: Did last summer’s political wrangling over the debt ceiling inflict tangible harm on the economy?
Circumstantial piece of evidence exhibit A is that economic growth decelerated markedly in the middle of the year (see figure below on year-over-year GDP growth), roughly as the debt ceiling debate came to a head.
Source: Author’s analysis of Bureau of Economic Analysis National Income and Product Accounts public data series
Further, a paper by Scott Baker, Nicholas Bloom, and Stephen Davis (2012) has attempted to construct an empirical measure of economic uncertainty and estimate the association of rising uncertainty with economic performance. While the paper has often been cited by critics of the Obama administration who think that it estimates the effect of regulatory uncertainty on growth, there is actually almost nothing in the paper to support this reading.
But the paper does show a very large increase in economic uncertainty associated with the debt ceiling fight (see the figure below, which is lifted directly from the paper, including the association of the last spike with the fight over the debt ceiling). In fact, the index of economic uncertainty rose more in the midst of last summer’s debt ceiling fight than it did during the financial meltdown of fall 2008 (when Lehman Brothers collapsed).
Lastly, Baker, Bloom and Davis (2012) estimate that the rise in economic uncertainty as large as the total rise that occurred between the index’s trough in 2006 and its peak in 2011 is associated with a contraction in GDP of more than two percentage points and a reduction in employment of more than 2 million jobs. Eyeballing their chart, the fight over the debt ceiling accounts for nearly half of this 2006 to 2011 rise. If one believes their estimates of the effect of a rise in uncertainty of roughly this size and one is willing to make very strong assumptions about causality (more on this below) this means that the fight over the debt ceiling could have cost the economy a percentage point of GDP and a million jobs (Baker, Bloom and Davis say that these effects manifest between nine and 24 months later).
How hard should we lean on an estimate like this? Not very—the causal relationship between measures of economic uncertainty and performance clearly runs both ways. As Baker, Bloom and Davis note, “So, for example, it could be that policy uncertainty causes recessions, or that policy uncertainty is a forward-looking variable that rises in advance of anticipated recessions.”
Does fighting about the statutory debt ceiling in and of itself damage the economy? Maybe—and it’s clear that the current economy needs no further drags on growth in the coming year.
What’s much clearer is that an actual financial crisis caused by debt ceiling brinksmanship would have real economic consequences, and would also be the first purely self-inflicted sovereign debt crisis in history. Even flirting with this is unspeakably stupid.
Many in the media have accepted the notion put forward by conservatives and business associations that unions make businesses uncompetitive by raising wages and benefits irresponsibly. The poster child for this view of the world is the auto industry, where the United Auto Workers supposedly drove the “Big Three” (Chrysler, Ford, and General Motors) into the ground while foreign competitors ate their lunch.
This is false history. As Case Western Reserve University manufacturing scholar Sue Helper has helped me understand, the auto industry’s problem stemmed from decades of mismanagement, and regardless of the UAW contracts, the Big Three made choices that doomed them to lose market share and the ability to compete.
The biggest element of mismanagement was designing and selling poor products. Anyone who lived in Michigan in the 1970s remembers when Detroit began building truly terrible cars, like the Chevy Vega, the AMC Gremlin, the Chrysler Imperial, and the Ford Pinto; it was the beginning of what became a slow-moving train wreck. As the Economist published in the May 2009 story, “A Giant Falls,” Detroit began making cars that were both dull and unreliable:
“Only in the 1970s, after the first oil shock, did faults start to become visible. The finned and chromed V8-powered monsters beloved of Americans were replaced by dumpy, front-wheel-drive boxes designed to meet new rules (known as CAFE standards) limiting the average fuel economy of carmakers’ fleets and to compete with Japanese imports. As well as being dull to look at, the new cars were less reliable than equivalent Japanese models.
By the early 1980s it had begun to dawn on GM that the Japanese could not only make better cars but also do so far more efficiently. A joint venture with Toyota to manufacture cars in California was an eye-opener. It convinced GM’s management that “lean” manufacturing was of the highest importance. Unfortunately, that meant still less attention being paid to the quality of the cars GM was turning out. Most were indistinguishable, badge-engineered nonentities.”1
Bad design and engineering were accompanied by disastrous pricing decisions, which further jeopardized quality:
“As the appeal of its products sank, so did the prices GM could ask. New ways had to be found to cut costs further, making the cars still less attractive to buyers.”
Autoworker wages didn’t make the Big Three uncompetitive by driving prices up; poor value drove prices down. As prices and quality fell together, consumers fled. The UAW’s contracts were almost irrelevant. One way to show this is to compare the pricing of the competitors’ vehicles with the size of the labor cost differential bargained by the UAW. Labor costs make up only 10 percent of the cost of a typical automobile. Before the auto rescue, the Big Three paid $55 an hour in compensation per auto worker while the Japanese paid only $46 an hour. (Company lobbyists and publicists inflated the total Big Three labor cost to $71 by attributing the unfunded pension and health benefit costs for decades of retired workers to the much smaller currently employed workforce2; the legacy costs for Japanese transplants were only $3 an hour.)3 But even if, for the sake of argument, we accept the unfairly inflated $71 figure, the difference in the cost of a vehicle attributable to the UAW (the UAW premium) would be 30 percent of the average 10 percent labor cost, or 3 percent of total cost.
In 2008, according to Edmunds, GM sold its average large car for $21,518. Assuming GM sold its cars at cost, the UAW premium would have been only $645 (3 percent of $21,518). Did the UAW premium raise the selling price so high as to make GM cars uncompetitive with Toyotas? Not exactly. Toyota sold its comparably equipped average large car for $31,753—$10,000 more than GM.4 It wasn’t price that made GM cars uncompetitive, it was the quality of the product and the customers’ perception of quality.5
For nearly 30 years, the Big Three’s market share fell steadily, from 77 percent in 1980 to 45 percent in 2009, almost entirely because the U.S. companies built cars that were noisier and less comfortable, had poorer fit and finish, poorer gas mileage, more defects, and a poorer repair record and resale value.6 Helper has documented the hostile relationships the Big Three developed with their suppliers,7 which led to the provision and assembly of parts that did not work well together, did not fit seamlessly, and whose inherent quality was sometimes substandard.8 In 2006, before the auto industry collapsed (and before gas prices skyrocketed), economists Kenneth Train and Clifford Winston did a careful econometric analysis of buyer preferences and concluded that:
“… the U.S. automakers’ loss in market share during the past decade can be explained almost entirely by the difference in the basic attributes that measure the quality and value of their vehicles. Recent efforts by U.S. firms to offset this disadvantage by offering much larger incentives than foreign automakers offer have not met with much success. In contrast to the numerous hypotheses that have been proffered to explain the industry’s problems, our findings lead to the conclusion that the only way for the U.S. industry to stop its decline is to improve the basic attributes of their vehicles as rapidly as foreign competitors have been able to improve the basic attributes of theirs.”
The authors conducted a simulation to determine “how much U.S. manufacturers would have to reduce their prices in 2000 to attain the same market share in 2000 that they had in 1990 and found that prices would have to fall more than 50 percent.” In other words, reducing the cars’ price by the UAW premium would have had no discernible effect on market share. The Big Three were building cars that most people simply didn’t want to buy, and only by cutting the price in half could they have retained their market share.
What happens to a corporation that sells its products at a low price while losing market share for 30 years? It goes bankrupt.
Fundamental mismanagement and building cars that customers didn’t want doomed the Big Three, not the UAW. Read more
This post originally appeared in the Huffington Post
If Latinos are to fully recover from the ravages of the Great Recession, they will need not simply jobs, but jobs that lead to increased earnings over time and that also have good benefits. In short, they will need what we call “good jobs.” Recent evidence from EPI research on state and local public sectors portends that getting good jobs will continue to be a major challenge for Hispanic workers.
From 2007 (the year the recession started) to 2011, Latinos workers’ wages in state and local public sectors declined more than the wages of whites and African Americans. The median wage of Hispanic employees declined 5.2 percent, compared with a decline of 1.9 percent for African Americans, and 0.7 percent for whites.
Since the 1970s, the rich have been getting richer as the rest of America has been suffering from a good jobs crisis. Wages have declined or stagnated and benefits have been cut. Just about everyone on Main Street has been hurt by the decline in the share of good jobs, but Hispanic men have been hit the hardest. From 1979 to 2008, the share of Hispanic men in good jobs declined 15.5 percent. For white and black men respectively, the declines were 12.8 percent and 9.3 percent.
Without a good job, it is very hard to keep one’s family out of poverty. A third of Hispanic children are living in poverty, nearly three times the rate for white children. Since the start of the recession, Latino child poverty has increased the most of the major racial and ethnic groups. To lower this high rate of poverty, we need to increase the wages of Hispanic workers. Unfortunately, Hispanics lead in the share of workers earning wages that cannot lift a family out of poverty.
In terms of benefits, Latinos are also in a dire situation. Hispanics have the lowest share of workers with employer-sponsored health insurance. Given that Latinos are underrepresented in good jobs that provide a retirement plan and overrepresented in jobs that do not provide enough for savings, it is not surprising that Latinos are very weak on measures of retirement security. The fact that Latinos have lost a significant amount of wealth over the recession does not improve the situation.
What can be done to produce more good jobs in the American economy and more good jobs for Latinos specifically? I discuss several policies in Getting Good Jobs to America’s People of Color, but here I will only address one: unions.
Recently, Knowledge@Wharton, the online business journal of the Wharton School of Business, published State of the Unions: What It Means for Workers — and Everyone Else (May 9, 2012). This article provided information about how a strong union movement helps provide good jobs.
Good jobs require good wages. Knowledge@Wharton cited recent research that has shown that the decline in union membership since the 1970s has played a significant role in the growth in income inequality. The journal quoted the sociologist Jake Rosenfeld, who observed, “It is hard to think of a way to tackle income inequality without a vibrant labor movement.”
Unions also help create good jobs by fighting for worker’s rights and for worker benefits. Wharton Professor Janice Bellace noted, “If you think of major pieces of legislation that have been very important to working persons, you will often see that the legislation was pushed by unions. The Employee Retirement Income Security Act of 1974 (ERISA) . . . was pushed by the unions and almost no one else. And the Pregnancy Discrimination Act of 1977 . . . was brought by the International Union of Electrical Radio and Machine Workers.” She added that unions are truly the “national voice for the average working person.”
Without a strong union movement, and without increasing Latino unionization, it will be difficult, if not impossible, to reverse the decline in good jobs in America. While all racial and ethnic groups are hurting from this decline, Latinos have been hurt the most.
House Speaker John Boehner’s (R-Ohio) high-profile speech at last week’s 2012 Fiscal Summit garnered much attention for its pledge to again hijack the debt ceiling; less noticed was his announcement that the House of Representatives will establish a fast-track process for expediting “tax reform.” Comprehensive tax reform could add much needed revenue and balance to a long-term deficit “grand bargain,” but that’s not what Boehner is talking about:
“If we do this right, we will never again have to deal with the uncertainty of expiring tax rates. We’ll have replaced the broken status quo with a tax code that maintains progressivity, taxes income once, and creates a fairer, simpler code. And if we do that right, we will see increased revenue from more economic growth.” (Full text here.)
Anything resembling the tax plan recommended by Ways and Means Committee Chairman Dave Camp (R-Mich.) and included in Budget Committee Chairman Paul Ryan’s (R-Wis.) fiscal 2013 budget resolution—Boehner’s chief fiscal policy deputies—is going to have a devilishly hard time meeting this laundry list of talking points. That’s because conservatives falsely equate a “simpler” tax code with cutting and consolidating tax brackets, which would confer big tax cuts to upper-income households in the top tax brackets. This is the bedrock of the Camp-Ryan tax plan: “Consolidate the current six individual income tax brackets into just two brackets of 10 and 25 percent.” Short of unspecified offsets, this would sap progressivity from the tax code and deprive the Treasury of $2.5 trillion over a decade—accounting for more than half of the $4.5 trillion of unfunded tax cuts proposed in the Ryan budget. Combined with the other major tenants—repealing the alternative minimum tax (AMT), cutting the corporate tax rate to 25 percent, exempting foreign profits from taxation, and repealing health care reform—the tax code would be markedly flattened at the top of the income distribution, as seen in the Tax Policy Center’s (TPC) analysis of the Ryan budget, again short of unspecified offsets:
The red bars show what regressive upper-income tax cuts and lower-income tax increases look like, not what tax reform looks like. The missing element is how the tax cuts would be financed—i.e., which unspecified tax expenditures would be eliminated in “broadening the tax base.” House Republicans object to eliminating or even scaling back the preferential tax rates on capital gains and dividends—the tax expenditures most disproportionately benefiting upper-income households—which would be the only feasible way to maintain progressivity at the top of the income distribution with a top rate of 25 percent and no AMT. Repealing exclusions—like that for employer-sponsored health insurance—would hit middle- and upper-middle class households a lot harder than upper-income households, and repealing refundable tax credits would wallop only lower- and middle-income households (see Table 2 of this TPC report). Itemized deductions are more regressive, but nowhere nearly as regressive as the preferential treatment of capital income. If substantial base broadening were added to the Camp-Ryan tax plan without raising rates on capital income, either substantial progressivity or revenue (likely both) would be lost relative to current policy. Many lower- and middle-income households would effectively foot the bill, subsidizing more upper-income tax cuts.
With respect to the budget, relying on “economic growth” for more revenue translates to, at best, revenue-neutral tax reform relative to the inadequate levels raised by current policy. Official scorekeepers—the Congressional Budget Office and Joint Committee on Taxation—rightfully reject the kind of “dynamic scoring” (i.e., changing economic projections and budget scoring based on potential macroeconomic effects of tax cuts) Boehner and others would cite to show more revenue. Economic growth is the only source of “increased revenue” that would not violate Grover Norquist’s Taxpayer Protection Pledge—signed by 236 members of Boehner’s caucus—because it’s a gimmick, not a revenue source, as my colleague Ethan Pollack recently explained.
Lastly, Boehner’s implied objectives of revenue and distributional neutrality—which guided the Tax Reform Act of 1986—are now wholly inappropriate benchmarks, as they would lock-in the past decade’s unaffordable and regressive Bush-era tax cuts and exacerbate Gilded-Age levels of income inequality. Much of our structural budget deficit and the ad hoc state of temporary tax cuts’ pending expiration stem from the 2001 and 2003 Bush-era tax cuts, which were, in a sense, “fast-tracked” with reconciliation (around the filibuster). Financing an extension of the Bush tax cuts with spending cuts (essentially maintaining revenue around 18 percent of GDP), as the Ryan budget effectively proposes, would require draconian spending cuts. Reducing revenue below current policy levels—the more likely outcome of the Camp-Ryan plan—would require implausibly deeper cuts and exacerbate the unsustainable long-run fiscal trajectory, grossly contradicting purported concern about budget deficits.
If Congress really is heading toward comprehensive tax reform in the next few years, policymakers need to be kept honest about what amounts to reform versus a tax cut. The United States simply can’t afford to let Congress fast-track another tax cut disguised as “tax reform.” And House Republicans are currently $4.5 trillion shy of proposing even revenue-neutral tax reform.
… but don’t lose any weight? You get unsightly bulges elsewhere and can’t breathe well enough to exercise.
That’s essentially the House Republican solution to the long-term budget challenge of escalating health care costs: Shift costs to individuals, and do it in a way that impedes measures that could actually help control costs in the long run.
Nevertheless, belt-tightening is the latest weight-loss fad to hit Washington, prompting Robert J. Shiller to ask in yesterday’s New York Times, “Why is there such strong political support for fiscal austerity, for government cuts and layoffs, at a time of widespread unemployment?”
Shiller thinks the reason austerity has caught on (at least inside the Beltway) is that the other side has better metaphors, like belt-tightening. His proposed alternative—”winter on the family farm“—may not resonate in a non-agrarian economy, but his point is a good one: When there’s no planting, fertilizing or harvesting being done, it’s time for infrastructure projects to make productive use of idle labor.
It’s not even necessary to increase the deficit, though this would be the quickest way back to full employment. Raising taxes to pay for infrastructure and education would still create jobs, because all the money would be spent, whereas some of the income that was taxed would have been saved. This is especially true if the taxes fall on higher-income households. These investments would also pay off in the form of a more productive economy in the long run.
Alas, Shiller notes that despite the fact that a balanced-budget stimulus was endorsed in the International Monetary Fund’s 2012 World Economic Outlook, politicians espousing such measures, such as France’s François Hollande, aren’t taken seriously. Meanwhile, extreme and counterproductive measures put forward by House Budget Chairman Paul Ryan (R-Wis.) have shifted the window of policies considered to be within the political mainstream in the United States, even though Ryan would actually reduce taxes on the wealthy and slash public investment. The House Republican budget may be a non-starter, but so too—for the time being—are balanced-budget measures to get the economy moving again.
At this week’s Peter G. Peterson Foundation 2012 Fiscal Summit, an event dedicated to avoiding the merest possibility that the United States could ever find itself in a sovereign debt crisis, Speaker of the House John Boehner (R-Ohio) was invited to address the assembled crowd, wherein he pledged … to try to maximize the possibility of a sovereign debt crisis.
Specifically, he pledged a repeat of last summer’s showdown over the statutory debt ceiling, when congressional Republicans concocted an artificial crisis of epic proportions, by refusing the historically pro forma task of raising the debt ceiling—done 73 times between 1940 and 2010—unless deep spending cuts were made. This time around, Boehner literally suggested that it would be more responsible to default on the full faith and credit of the United States than to increase the statutory debt ceiling without first hijacking the U.S. credit rating to extract spending cuts:
“Yes, allowing America to default would be irresponsible. But it would be more irresponsible to raise the debt ceiling without taking dramatic steps to reduce spending and reform the budget process… When the time comes, I will again insist on my simple principle of cuts and reforms greater than the debt limit increase.” (Full transcript here.)
Rather than indulge the revisionist histories of last summer invoked by Boehner and others at the Fiscal Summit, here’s a refresher on what happened with the last episode of economic and fiscal “responsibility.” First, Republican leaders demanded policy concessions before agreeing to raise the debt ceiling; after the Obama administration conceded to this, Republican leadership walked away from negotiations over a deficit reduction “grand bargain,” first with Vice President Biden, then from negotiations with President Obama. Republican leadership demanded a dollar in spending cuts for every dollar increase in the debt ceiling, refused any revenue increases accompanying spending reductions, and refused any compromise. Obama and Boehner formally negotiated a variation of these demands on July 31, two-and-a-half months after the Treasury Department declared a “debt issuance suspension period” of unconventional cash-management tools to avoid a sovereign default. The resulting Budget Control Act (BCA) cleared the Senate and was signed into law August 2, the last day Treasury could avoid defaulting.
Shortly thereafter, rating agency Standard & Poor’s exercised “responsibility” in the Boehner sense of the word—i.e., trying to leverage the political debate over debt ceiling into concrete economic damage—by downgrading the U.S. “AAA” credit rating for the first time in history based on a judgment about dysfunctional politics (their economic justification was dropped after the Treasury Department found a $2 trillion error in their budget math). As for the “compromise” that ended the standoff, the BCA solidified Congress’ pivot from prioritizing job creation to prioritizing austerity measures like those that have pushed much of Europe back into recession, even though near-term cuts are largely to entirely self-defeating while the Federal Reserve keeps short-term rates at zero. My colleague Ethan Pollack and I estimated that the first phase of spending cuts would shave 0.3 percentage points from real GDP growth in 2012 and lower employment by 323,000 jobs; the second phase of front-loaded, automatic “sequestration” cuts scheduled for fiscal 2013 and beyond pose graver risks to growth and joblessness.
There are only two theoretical ways in which long-term deficit reduction can accelerate economic recovery. First (and actually plausible), a long-term deficit reduction “grand bargain” could include substantial near-term fiscal stimulus and gradually phase-in deficit reduction after some macroeconomic trigger is met (e.g., EPI proposed a “6-for-6” trigger: unemployment at or below 6 percent for six consecutive months). Second, deficit reduction could lower the premium on government borrowing, and thus private interest rates. This second channel actually has no hope of actually working today, as longer-term Treasury yields are already at historically low levels. Making all future increases in the debt ceiling completely uncertain and chaotic, however, will almost certainly impede both channels in the future.
And this strategy of promising to hold the full faith and credit of the United States hostage in exchange for spending cuts seems entrenched as the GOP strategy. This should not be mistaken simply for excessive zeal for cutting deficits; this is playing chicken with a self-induced sovereign debt crisis. Informed deficit hawks (and they exist—they just put vastly insufficient weight on solving the actually existing jobs crisis, in our view) endorse long-term deficit reduction as a means to avoid a sovereign debt crisis, not cause one.
The statutory debt ceiling has devolved from a pro forma vote into a global economic liability that Congress should put to rest. It seems clear that anybody interested in a sane economic policy regime should be looking for ways to repeal the debt ceiling, either in law or in practice. Time to bring on the $1 trillion coin?
Last night’s memorial service for Bernard Rapoport at the St. Regis Hotel in Washington brought together hundreds of his family members, friends, and colleagues. Everyone in attendance treasured his enthusiasm, generosity, and thirst for economic justice and fairness. “B,” as he was affectionately known, founded American Income Life Insurance and was one of EPI’s longest-serving board members. I was privileged to attend a service that mixed politics, religion, and humor in a celebration of a life well lived.
President Bill Clinton topped a list of past and current Democratic politicians who spoke of B’s loyalty, persistence, and progressive values. As Sen. Tom Harkin (Iowa) remarked, B was the rare political donor who pushed politicians and the government to demand more from the rich, rather than to cater to them. B was born poor (unlike most rich people), yet he never deluded himself into thinking that he was a self-made man. He knew that the government and our system of laws, the education he received, and his employees were all critical to his success.
Despite being a millionaire and a CEO, B never bought into the notion that as a “job creator” he was entitled to a lower tax rate than the folks who worked for him. He never thought that the government owed him anything. He also vehemently rejected the belief that the nation would be better off if the rich got continually richer at the expense of the many. As President Clinton said, B never tuned in to the message of greed and egotism that has characterized the last 35 years of politics in Washington.
Instead, B learned and subsequently taught a very different lesson: “As I grew up I realized when too few have too much and too many have too little, we do not have a sustainable society.”
I regularly encounter, as I travel around the country, teachers who are dispirited by what they feel is an unrestrained contempt for their calling and career. These teachers feel that this contempt, initially expressed by politicians and “experts” with no classroom experience, has been repeated so frequently that it has spread to the public at large. They feel they are being blamed for all the inequities in American society, and are expected to rescue children from impoverished families and communities with no support from others in society. They feel abused by demands that they discard curriculum it has taken them years to develop, curriculum they are convinced has inspired children who had little prior interest in school, to love learning and inquiry. They do not believe that requirements that they focus on preparing students for standardized tests is respectful of the educational process or their own expertise, because such tests reflect only a tiny part of the knowledge and skills children need. These teachers are embittered and feeling put upon by those who claim to represent the interests of poor children but express this interest by trying to destroy the public education system that is the only institution attempting to serve these children. The teachers I meet all consider some colleagues to be inadequate and would like to see them leave. But the teachers I meet insist that poor performers are a small minority in their schools, and resent the now-popular and, they feel, indiscriminate witch hunt to cleanse schools of incompetents.
Last week, I addressed the 2012 graduates of the School of Education of Loyola University–Chicago. Anticipating (correctly, as it turned out) that these young people shared many of the feelings of the experienced teachers I have described, I urged these students to have the confidence to resist the now-conventional attack on public education and their teachers. Here is what I said to them:
Thank you, Dr. Fine, President Garanzini, Dean Prasse, faculty, parents, and guests.
Congratulations to the graduates.
Good luck as you embark on new responsibilities in one of the most important enterprises with which our society can entrust you – the preparation of the next generation.
Yet you leave here in a national climate of mistrust for all government, including public education. You are entering a highly politicized field where facts are too easily ignored.
In medicine, and in all fields, we know you can’t design proper treatment if your diagnosis is factually flawed.
Yet in education, conventional and widely shared diagnoses are based on fantasy, with little relation to facts.
Understanding these fantasies requires you not only to be good educators, but sophisticated citizens, capable of questioning data and penetrating the relationships between schools and the society that they reflect.
Politicians of both parties, leading educators, and philanthropists like Bill Gates who increasingly influence education policy, repeat incessantly that our schools are failing, especially for disadvantaged children. Past efforts at improvement, and vast increases in spending, have accomplished little or nothing, they say. Achievement gaps between disadvantaged and middle class students have narrowed little, so as the proportion of white children declines, this failure of our schools weakens our nation, rendering it unable to compete internationally.
In truth, this conventional view relies upon imaginary facts.
You may be surprised to learn that African-American elementary school student achievement, in Illinois and nationwide, has been improving so spectacularly that in math, the average black student now performs better than about 90% of all black students performed less than a generation ago.
What’s more, black elementary school math performance is now better than white performance was in the previous generation.
Let me repeat: black elementary school students today have better math skills than white students did only twenty years ago.
These data come from the National Assessment of Educational Progress, a federal sample that is the only reliable source on student achievement over time in this country.
The gains have been almost as great for middle-schoolers in math, and for elementary school students in reading,
Most gains were posted in the 1990s, before the test-obsessed accountability system called “No Child Left Behind,” a law whose flawed premise was that it was necessary to force educators to pay attention to minority students. Read more
The Cambridge Forum hosted a videotaped mini-conference on the impact of global engagement on the U.S. and world economies on April 16. Speakers and topics included University of Massachusetts Amherst economic professor Robert Pollin on the “Globalization of Labor: Is a Race To the Bottom Inevitable?”; Economic Policy Institute Director of Trade and Manufacturing Policy Research, Robert Scott, on the “Globalization of Capital: The Rise of the Multinationals”; editor-at-large of The American Prospect and Washington Post columnist Harold Meyerson on the “Globalization of Markets: Do Corporations Need American Consumers?”; and Harvard Kennedy School of Government Professor of International Political Economy Dani Rodrik, who delivered the keynote address on his book, The Globalization Paradox (New York: W.W. Norton & Company, Inc.).
Each participant delivered brief remarks and engaged in wide-ranging question-and-answer sessions with the audience that were moderated by Robert Kuttner, co-founder of The American Prospect (Note: Kuttner is an EPI co-founder and board member). You can watch videos of all four speakers below:
Sometimes it all seems to come together in a perfect storm of bewildering congressional myopia. This seems like one of those times.
This weekend, as many as 236,300 Americans without work will lose their unemployment insurance as a consequence of the “compromise” that Congress passed in February to save the payroll tax cut and UI extension. This is on top of the estimated 173,000 of the jobless who already lost their benefits this year. Some will inevitably argue that this is a good thing because extending benefits keeps people from taking available jobs. This is a wildly deceptive claim. The research shows that in some cases, the availability of unemployment insurance allows people greater flexibility to find jobs that better match their skills, but it’s not causing anyone to give up work entirely. In fact, unemployment insurance keeps discouraged job seekers from giving up their search for work, and adds a meager source of income to those individuals who are the most likely to spend their income and bolster overall aggregate demand.
The real problem is that there simply are not enough available jobs. Yet, instead of strengthening programs that help these and other people still struggling in the wake of the Great Recession, the Republican-controlled House voted yesterday to slash $310 billion in funding for such programs to avoid the previously agreed-upon cuts to the defense budget. What’s perhaps most shocking about this vote is that it comes despite the fact that an overwhelming majority of Americans—both Democrats and Republicans—favors reductions in defense spending over cuts to other domestic programs.
Cutting important social protections and reducing assistance to people in need is only going to push more Americans into poverty. But in the cruelest of ironies, some members of Congress were not content with shooting America in the foot; they voted to blind her as well. On Wednesday night, House Republicans voted to defund the Census Bureau’s American Community Survey, an incredibly powerful source of data for examining state and local economic trends, and one of the primary tools that the government uses to track poverty!
Some might argue that all of this constitutes the House’s attempt to commit the crime and then hide the evidence. I’ll give them the benefit of the doubt that it is just plain short-sightedness.
Last week, economists Martin Feldstein and Larry Summers sparred over tax reform on a panel discussion hosted by the Brookings Institution’s Hamilton Project. It is widely agreed that Washington is overdue for and likely headed toward comprehensive tax reform in the next few years. Any compromise on a long-term deficit reduction package will necessitate more revenue and a quarter-century has passed since the last major scrubbing of the tax code (though the Tax Reform Act of 1986’s revenue- and distributional-neutrality makes it an inappropriate benchmark for reform). Most of the reform proposals have focused on broadening the tax base—i.e., eliminating or curbing tax expenditures—rather than raising marginal tax rates to increase revenue. Tax reform is also typically couched in the objectives of simplifying the tax code, reducing economic distortions, and creating a “pro-growth” tax code.
Summers raised an excellent point about the tax reform discourse, particularly the way tax simplification is spun by many advocates. Simplifying the tax code is often falsely equated with reducing the number and scale of marginal tax rates. The House Republican budget, for instance, proposed consolidating the income tax to two brackets—of just 10 and 25 percent—as the cornerstone of “simplifying the tax code and promoting job creation and economic growth.” But in the age of tax return software, Summers argued that tax rates don’t add to complexity; the complicating factor is calculating taxable income. Even before TurboTax, citizens managed to navigate a much longer schedule of marginal tax rates; the tax code had at any time between 24 and 26 marginal tax rates between World War II and 1978. The tax code was also much more progressive, particularly at the top of the income distribution, and income growth was evenly shared over this period. At present, compressing the number of marginal tax rates (currently at six) would only further decouple the contours of the tax code from the increasingly uneven distribution of income gains.
Reform is often framed in terms of broadening the tax base and simplifying the code in tandem, but Summers noted the two are often contradictory objectives. Base broadening inherently increases the amount of taxable economic activity, which in some circumstances can actually make the tax code more complex. Summers gave the example of repealing the exclusion on owner-occupied home sales from capital gains taxation, which would broaden the tax base and raise revenue but unquestionably increase complexity for many filers. Summers downplayed the need for simplification—at least as it’s often thought of—in this tradeoff, and instead endorsed base broadening in ways that increase revenue and the perception of tax fairness.
The complex nature of the tax code favors—both in effect and appearance—those with numerous financial planners and accountants, including dozens of Fortune 500 companies paying nothing in taxes. The tax code needs to be cleaned in ways that inhibit tax gaming and avoidance—best accomplished by reducing tax loopholes that allow for income shifting, such as the preferential rates on capital gains and dividends or the tax deferral for U.S.-multinationals’ foreign source income. That largely amounts to base broadening. Flattening the schedule of marginal income tax rates, on the other hand, would not improve tax compliance or simplify the tax code but would markedly reduce both tax fairness and revenue. When push comes to shove, much of what is peddled as “tax simplification” is nothing but an attempt to further undermine tax progressivity and reduce effective tax rates for upper-income households; doing so would amount to a tax cut, not tax reform.