On taxation

[unixronin]

cipherpunk points at Greg Mankiw's explanation of the long-term result of what seems a small tax increase.

That's the small-scale personal effect.  But the large-scale effect is just as bad.  Economists have calculated that the optimal long-term tax rate is between 10% and 13%.  Any higher, and while you get a short-term boost in tax revenues, the tax burden slows the economy to the point that long-term tax revenues drop.  So next year, or five or ten years down the road, you realize that you're worse off than you started, to which the government answer is to raise taxes again, because they can never actually manage to cut waste and spending.¹

A 1994 report from the National Center for Policy Analysis on optimal taxation and the optimal size of government, concluded the following:

What is this optimal level of government?  A reliable econometric model developed for this study finds that:

• In order to maximize economic growth, the average rate for federal, state and local taxes combined should be between 21.5 percent and 22.9 percent of gross national product (GNP).
• Taxes as a share of GNP have not been in this range since 1949.

Real GNP increased at a compound growth rate of 3.5 percent per year from 1949 to 1989.  If an average tax rate of 23 percent had been in effect throughout the 40-year period, the growth rate would have been 5.56 percent per year.  As a result:

• Real GNP would have been $13.6 trillion by 1989.
• The average American family would have twice as much real income today as it actually has.

Would Americans have had to sacrifice important government programs in order to keep the overall tax rate down?  Not at all.  At the lower tax rate, higher growth would have produced more government revenue than the amount government actually collected at higher tax rates. Specifically:

• At a tax rate of 23 percent, government at all levels would have collected $11.6 trillion more in taxes.
• This is enough money to have funded all actual spending programs enacted during that period with no public debt.

Any questions?

After the Soviet Union imploded and the Berlin Wall came down, there were a lot of people cheering and patting themselves on the back that we'd won the Cold War by forcing the Soviets to spend themselves into economic collapse.  But when you look around, it sorta looks like we did the same thing ourselves.  It just took us a little longer to get there, is all.

And our government is still ballooning.  We have an advanced case of malignant metastatic government, and it's draining us dry.

[1]  The budgeting process for government agencies actively discourages efficiency, because if you manage to save money this year, it just means you have a smaller budget next year.  So then when you need to spend some money, you can't get it.

Comments

[cipherpunk.livejournal.com]

One of the things Thomas Sowell harps on -- and few other popular economists seem to talk about -- is that a dollar is a unit of information as much as it is anything else. If Product A costs $5 and B costs $2.50, a superficial analysis says one costs twice as much; a better analysis says B takes twice as much resources, with the resource footprint conveyed by the price. This is the fundamental reason why markets are efficient: because every transaction carries with it aggregate information about every other transaction leading up to it. If you think about the amount of state hauled around in a price tag, it's nothing short of breathtaking.

On the market, meeting your obligations while being under price conveys information that you are efficient. You in turn get more money in the future, since people overwhelmingly select for efficiency. This is why the wealthiest business empires have been created by lowering prices, not raising them. Once Henry Ford made automobile production efficient, anyone could buy a car, and overwhelmingly people did, which made Ford tons of cash while producing jobs, industry and tax revenue.

In government, meeting your obligations while being under price conveys information that your budget is too large for your mission. This gives people an incentive to find "make-work" which does not contribute to the government's mission; and when the government needs additional money to fund a new mission, it discovers that no department can spare a dime.

Markets are efficient. Governments are not. Thus endeth my own codicil the excellent remarks made both by you and by Mankiw.

[skellington.livejournal.com]

For what it's worth, Greg's calculations are possibly seriously wrong. You only pay capital gains when you sell. So the factor (1-T3) is, depending on how often you trade, only applied once (or every few years at the most.) His calculation puts it every year. Corporate taxes are actually much lower in practice due to all the BS in the tax code. And this assumes he's at the highest rate...

And the question has to be, if we're going to collect 19% of the GDP as federal taxes, who pays them? How you want to allocate those taxes is a fair question, and not one I hear the Republicans willing to discuss. (And I'll add that lots of Obama's proposed credits that phase out produce absurd maginal tax rates at certain magic points, and that is REALLY counter-productive as well.)

But the growth question isn't really a question of TAXES, it is a question of SPENDING. If the government doesn't tax us a single dollar, but instead borrows the money, it is still extracted from the economy and put to less productive uses. That has an essentially identical impact on the economy as taxing us. (And GDP growth under Bush has been really low, despite the decrease in taxes, probably due to the increase in spending. This article is from before Clinton as well, and government spending as a fraction of GDP went down, and GDP growth was excellent.)

(We might also discuss savings rate, and how the tax structure impacts savings rate, but this has gone on too long.)

At the same time, some government spending is less of a drain (or even potentially a net gain) to the economy. Military spending, while absolutely necessary, is pretty much a net loss to growing the economy. Pork is frequently a net loss as well. Roads and education spending, while perhaps not economically ideally efficient when done by the government, certainly pay significant returns.

The Social Insurance programs are probably not ideally efficient but, again, are mostly a question of transference between people when they are young, to those same people when they are old. If government is less efficient at performing that operation than the private sector, there is some slightly loss. But the total overhead of the social security administration is less than 1%. So even if the private sector could operate the program for free, the improvement in efficiency would only be 1% of the total cost of the program. (Medicare also has dramatically lower overhead costs compared to private insurance companies.)

To the degree that people are compelled to participate when they might more efficiently structure their lifetime spending (i.e. save for a house when young; save for retirement when they are older), it does slightly reduce the overall growth in the economy. But we're still talking about a very small number. (And a similar impact on growth would be experienced by forcing people to save in a private retirement plan. i.e. as pointed out in the article, government regulation and mandates can produce just as severe of distortions as taxes and government spending.)

But the upshot of all of that rambling is that some arbitrary model of "ideal" government spending has to take lots of details into account, and this model does not do so.

Further, total government spending (at all levels) has managed to be in roughly the same range since around the 1970's. See:

http://www.usgovernmentspending.com/downchart_gs.php?year=1902_2013&view=1&expand=&units=p&fy=fy09&chart=F0-total&stack=1&size=m&title=&state=US

But it is a shame we didn't continue the trend during the Clinton years (with a split of power between the republicans and democrats, I might add):

http://www.usgovernmentspending.com/downchart_gs.php?year=1992_2000&view=1&expand=&units=p&fy=fy09&chart=F0-total&stack=1&size=m&title=&state=US

And instead had Bush and the Delay Republicans in charge:

http://www.usgovernmentspending.com/downchart_gs.php?year=2000_2008&view=1&expand=&units=p&fy=fy09&chart=F0-total&stack=1&size=m&title=&state=US

[unixronin.livejournal.com]

But the growth question isn't really a question of TAXES, it is a question of SPENDING. If the government doesn't tax us a single dollar, but instead borrows the money, it is still extracted from the economy and put to less productive uses. That has an essentially identical impact on the economy as taxing us.

Spending is exactly the problem. Or, more specifically, the government spending beyond its means. The government looks and sees that it can afford to do either A or B, but really wants to do both this year (perhaps in an effort to buy voter approval, perhaps for empire-building, perhaps plain pork). So instead of putting off one until it can afford it within its means, it borrows to do the second. Then next year it has to pay the interest on the money it borrowed, and keep doing both A and B now that it's started them, and still somehow make its budget meet. Congress being Congress, spending on anything rarely if ever goes down, so taxes go up.

At the same time, some government spending is less of a drain (or even potentially a net gain) to the economy. Military spending, while absolutely necessary, is pretty much a net loss to growing the economy. Pork is frequently a net loss as well. Roads and education spending, while perhaps not economically ideally efficient when done by the government, certainly pay significant returns.

I don't wholly agree here. Military spending does result in development that benefits the economy. Modern commercial airline travel would not be nearly as ubiquitous, for example, without the rapid development of aeronautics during the Second World War and the Cold War. Radar was a wartime development. So were the first instrument-landing systems and the first electronic computers. Boeing, Lockheed Martin, Northrop Grumman all grew into industrial giants on military spending. The military looks at first glance like an economic burden, but the feedback of military spending into the economy over the years has been enormous.

As for education, the main thing our government seems able to do with the educational system is screw it up.

[skellington.livejournal.com]

Spending is exactly the problem. Or, more specifically, the government spending beyond its means.

Spending beyond means is part of the problem, but misses the point slightly. If the government employees 10% of the population to do something (not productive), it doesn't matter how they get paid for. 10% of the population is not contributing to future GDP growth.

And it doesn't, much, matter if you tax the money or buy it on credit from the big picture. If there's a billion dollars, and the government taxes half of it to run their operations, there's only $500M to invest in companies. But if the government issues bonds at great interest rates so $500M are bought, there's still only $500M to invest in companies. There are differences, but from a current year spending perspective and from an economic growth perspective, it is more or less irrelevant.

Military spending does result in development that benefits the economy.

True, but investing the same R&D money in purely commercial applications would have produced better returns according to the economists. (For example, we might have 500mph trains across the country, rather than airplanes, which might be much more fuel efficient but are completely inappropriate for military use.) And any actual operational military expenses (i.e. soldiers, their equipment, vehicles, fuel, ammo, etc.) are pure overhead from a GDP growth perspective.

As for education, the main thing our government seems able to do with the educational system is screw it up.

While I don't disagree, and I haven't done much research on the matter yet, I haven't heard of any repeatable approach for teaching students, with similar costs, that produces significantly better results. i.e. I haven't heard of a chain of private schools that boasts measurably better educational results that costs under $10k a year / student.

[unixronin.livejournal.com]

Spending beyond means is part of the problem, but misses the point slightly. If the government employees 10% of the population to do something (not productive), it doesn't matter how they get paid for. 10% of the population is not contributing to future GDP growth.

Exactly.

True, but investing the same R&D money in purely commercial applications would have produced better returns according to the economists. (For example, we might have 500mph trains across the country, rather than airplanes, which might be much more fuel efficient but are completely inappropriate for military use.)

A good point.

While I don't disagree, and I haven't done much research on the matter yet, I haven't heard of any repeatable approach for teaching students, with similar costs, that produces significantly better results. i.e. I haven't heard of a chain of private schools that boasts measurably better educational results that costs under $10k a year / student.

How much, all told, do we spend on public schools?

[skellington.livejournal.com]

$526B.

US Census says the national average per student in 2006 was $9,138. It ranged from $5400 in Utah to $14,884 in NY.

According to the website I'm using to research schools for our next possible move, one county I'm looking at spends around $9,000 per student.

http://www.census.gov/Press-Release/www/releases/archives/education/011747.html

So for 200 elementary school kids, you've got a $2M budget including rent, support services, any overhead, and profit... (In practice, $1M-$3M depending on location, cost of living and real estate costs. )

[ithildae.livejournal.com]

This sounds like the economic version of the Drake Equation. "If we change this one thing, and hold all other activity constant, this is the result." Problem is, when you change things, the system responds.