Actual Economists, Virtual Realities

The economics of video games.

The Price of Fiscal Uncertainty

I have been reading Bob Woodward's new book, The Price of Politics.  It is a detailed recounting of the back-and-forth negotiations among President Obama's White House, the Republican leaders in the House of Representatives, and the major players in the Senate regarding the debt ceiling and long-term fiscal outlook.  The book is primarily an objective narrative, rather than a foaming-at-the-mouth polemic (unlike the over-the-top book The Amateur, which I read over the summer).  Nonetheless, the story Woodward tells does not make this White House look particularly good.

Woodward seems to believe that if we had a President more like Bill Clinton, a fiscal deal could have been struck.  President Obama is described as disdainful of schmoozing with other pols, as mishandling the negotiation process, and as unwilling to move sufficiently toward the political center to get a deal done.  One gets the sense that the Democratic President who signed the 1996 welfare reform would have more easily reached a compromise with House Republicans.

This story brought to my mind recent research by Baker, Bloom, and Davis, which suggests that policy uncertainty has impeded the economic recovery.  If Baker et al. are right that uncertainty depresses the economy, and if Woodward is right that the uncertainty we now face with the upcoming "fiscal cliff" is attributable mostly to the inability of Barack Obama to work with Congress, then the implication is clear: The meagerness of this recovery is not simply a hangover from a financial crisis, but rather a reflection of a fundamental political failure.  The price of politics, indeed.

Surprise Fact of the Day

"Economics undergraduates have been found to be the most promiscuous students on campus."

Source.

Pigou Club Alert

Click here to vote for a carbon tax.

The Taxation of Capital Income

Many economists believe capital income should be taxed at a lower rate than labor income, perhaps even at a zero rate.  Matthew Yglesias explains why.

Economics Teaching Conference

You can still register for the economics teaching conference on November 8 and 9 in Orlando, Florida.  Early bird registration is open until October 10.  Click here for more information.

FYI, I am among the keynote speakers.

Mankiw vs. DeLong and Krugman on the CEA’s Real GDP Forecasts in Early 2009: What Might a Time Series Econometrician Have Said?

This post takes its title from a new article at Econ Journal Watch.  Here is the abstract:

In early 2009, the incoming Obama administration’s Council of Economic Advisers predicted real GDP would rebound strongly from recession levels. In a blog post, Greg Mankiw expressed skepticism. In their blogs, Brad DeLong and Paul Krugman sighed. Of course there would be strong growth, they maintained, because the recovery of employment would mandate it via Okun’s Law. Mankiw challenged Krugman to a bet on the issue, but there was no response. Of course we now have a good idea of the likely outcome, but I posit a hypothetical time series econometrician who, at the time of the blog entries, applies some standard forecasting methods to see whether DeLong and Krugman’s confidence was justified. The econometrician’s conclusion is that Mankiw would likely win the bet and furthermore that a rebound of any significance is unlikely. The econometrician has no idea how DeLong and Krugman could have been so confident in the CEA’s rebound forecast.

Nobel Predictions

From Thomson Reuters.

She's German. He's Greek.

A Break from Economics

My younger son and I attended a great concert last night by Florence + The Machine. If you aren't familiar with their music, here is a sample:

The Trading Game

Duke economist Marc F. Bellemare has a cool in-class experiment to demonstrate the gains from trade.

A Reading for the Pigou Club

Here.  A tidbit:

According to economists crunching the numbers, this makes mileage standards somewhere between 2.4 and 13 times more expensive than a gasoline tax as a tool to reduce our use of fuel. Indeed, by some calculations, raising fuel-economy standards is more costly than climate change itself.

Help Wanted

I am looking to hire a Harvard student to work with me as I revise my principles textbook (along with several other less time-consuming tasks). The part-time job requires strong writing/editing skills, the ability to proofread carefully, some facility with data, and an interest in pedagogy. Work would start soon, and it would continue throughout the academic year.

If you are interested, please drop off a brief letter, resume, and transcript with my assistant Lauren LaRosa in Littauer 236.

Harvey Rosen on the Romney Tax Plan

You can read what the Princeton public finance expert says at this link.  Here is the bottom line:

I analyze the Romney proposal taking into account the additional income that might be generated by economic growth. The main conclusion is that under plausible assumptions, a proposal along the lines suggested by Governor Romney can both be revenue neutral and keep the net tax burden on high-income individuals about the same. That is, an increase in the tax burden on lower and middle income individuals is not required in order to make the overall plan revenue neutral.

A Surprising Pitchman

The Case for Big Banks

From University of Maryland economist Phill Swagel.

Ranking Universities

Last month, the Center for World-Class Universities at Shanghai Jiao Tong University released the 10th edition of its annual global university ranking.  Click here to see the economics ranking.

An Article without a Single Wasted Word

Here is a paper I wish I had written,...I mean, not written.

A Reply from Martin Feldstein

I am happy to lend this space to my Harvard colleague Martin Feldstein. -- Greg

 

Feasibility of the Romney Tax Plan – Reply to Comments

Martin Feldstein

This note is a reply to those who commented on my August 28 WSJ article (available here) about the Romney Tax Plan. The Romney income tax plan includes a 20% cut in all individual tax rates, eliminating the AMT, and eliminating the taxes on interest, dividends and capital gains for those with incomes under $100,000.  The resulting revenue loss is balanced in the plan by broadening the tax base for high-income taxpayers.

The Tax Policy Center (and others citing their report) claimed that the Romney plan is “mathematically impossible” and that the plan would inevitably lead to a large middle class tax increase or a rise in the budget deficit.

I found that that conclusion is not correct. It is possible to cut taxes as Gov. Romney indicates and to finance it with base broadening for taxpayers with AGI over $100,000. Governor Romney has not specified the base broadening that he would propose. My calculations presented here and in the WSJ are not estimates of the Romney plan but an indication that such a plan is feasible.

For the WSJ article I analyzed the most recent published IRS data (for 2009).  The cost of the Romney proposed tax cuts would be $219 billion in that year with no behavioral response (the “static estimate”) or $186 after a $33 billion reduction in cost caused by the behavioral response to lower marginal rates (with an elasticity of the tax base with respect to the net-of-tax share of 0.5.)   Those IRS data also implied that eliminating all deductions for taxpayers with AGI above $100,000 would increase the tax base by $636 billion.  I multiplied the $636 billion by a 30 percent marginal tax rate for the high-income taxpayers, implying $191 billion of extra revenue. That would be enough to finance the $186 billion revenue loss.  All taxpayers with AGI below $100,000 would have tax cuts and no tax increase. I concluded that even without further base broadening the plan is feasible and would not involve either a middle class tax increase or a rise in the budget deficit.

The critics of my WSJ piece raised 4 objections: (1) The 30 percent marginal tax rate is too high for these taxpayers because of the 20% Romney rate reduction. (2) The behavioral response (reducing the cost of rate reduction by $33 billion) is too large because the elasticity of the tax base would be lower than the 0.5 I assumed. (3) Applying the base broadening to those with incomes above $100,000 would create a “notch” with a jump in tax liabilities near that level. (4) The Tax Policy Center defined the middle class as all taxpayers with incomes under $200,000 while I used $100,000.

While I still believe the assumptions that I used in my analysis, I can modify them as suggested by the critics and still support my original conclusion by broadening the tax base in ways suggested but not developed in my WSJ piece. Eliminating a few of the “tax expenditure” exclusions and credits that are important for high-income taxpayers would raise more than enough revenue to compensate for assuming a smaller marginal tax rate, cutting the behavioral response effect in half, and phasing in the base broadening for individuals with incomes over $100,000 to avoid the notch.

More specifically, using a 25% marginal tax rate instead of 30% would reduce the revenue from eliminating deductions by 5% of $636 billion or $32 billion.  Cutting the behavioral response in half (i.e., using a taxable income elasticity of just 0.25) would raise the cost of the tax cut by $17 billion.  The cost of the “phase in” would depend on just how it was done but say another $15 billion of reduced revenue.  So instead of my conclusion that the revenue from eliminating deductions would exceed the cost of the tax cuts by $5 billion, these assumptions would imply a shortfall to be made up by other base broadening of $64 billion.

One part of that broadening could be eliminating the exclusion of employer payments for health insurance for those with AGI over $100,000. That  would increase income tax revenue by about $40 billion (out of the total revenue loss from the health insurance exclusion for all taxpayers of  $168 billion) plus an additional $10 billion of additional payroll tax revenue. (My estimate of this $40 billion is based on an imputation method developed by John Gruber based on data collected in the Medical Expenditure Panel Study.)

Eliminating the exclusion of municipal bond interest for taxpayers with AGI over $100,000 would increase tax revenue by an additional $15 billion.

Eliminating the child credit for those with incomes over $100,000 would increase revenue by an additional $10 billion.

So just those three changes to the list of base broadening measures would raise $75 billion or more than enough to exceed the $64 billion of potential shortfall with the very conservative assumptions noted above.

Additional tax revenue could be raised without reducing incentives to save or to invest efficiently by eliminating the exclusion for high-income taxpayers of such things as capital gains on home sales, the “cafeteria plan” benefits, and the capital gains at death.

One further point on the appropriate marginal tax rate (objection 1 above): although the top statutory rate is 35 percent, the effective top marginal tax rate is higher because of various phase-out provisions that affect high-income taxpayers (PEP, Pease, etc.) so my original assumption of a 30 percent marginal tax rate could be appropriate even with the Romney rate reductions.

The final objection is to my use of the $100,000 level to show that the middle class (i.e., those below $100,000 AGI) would experience no tax increases. The $100,000 level corresponds to 21 percent of all taxable returns and a significantly smaller fraction of all households.  I think it is very reasonable to say that people in that high-income group are not the “middle class.” The TPC focus on those with AGI over $200,000 limits that group to the top 4 million taxpayers who are three percent of all returns and five percent of all taxable returns.

So I think my conclusion stands: it is feasible to combine tax cuts and base broadening as Governor Romney suggests without raising the budget deficit or imposing any middle class tax increase. Critics might not like the Romney plan but they cannot call it “mathematically impossible.”

The Entitlement Society

From today's WSJ.