Skip to content

Category: tax policy

Published on Leave a comment on Congestion Pricing in Manhattan

I applaud Mayor Bloomberg for proposing congestion pricing in Manhattan as part of his Earth Day initiatives, patterned after a similar system in London. From The New York Times on Sunday:

The proposal that is sure to attract the most attention, and possibly objections, is one to impose the $8 fee on car drivers, and $21 for truck operators, to drive in Manhattan south of 86th Street.

The mayor said congestion on the city’s streets is the source of many of the city’s health, environmental and economic problems.

“We can’t talk about reducing air pollution without talking about congestion,” he said.

“As our city continues to grow, the cost of congestion to our health, to our economy and to our environment are only going to get worse,” he said. “The question is not whether we want to pay, but how do we want to pay — with an increased asthma rate, with more greenhouse gases, with more wasted time, lost business and higher prices. Or do we charge a modest fee to encourage more people to take mass transit.”

The fee the mayor is proposing would only be imposed during the week, between 6 a.m. and 6 p.m.. And motorists driving the major highways along Manhattan’s east and west sides would not be fined, so it would be possible to go from Brooklyn to Harlem along Franklin D. Roosevelt Drive without entering the zone.

The article contains other information about the implementation that suggest that it has been reasonably well thought out. But this doesn't stop the critics from making a raft of self-serving claims. Let's take a look at a few:

State Assemblyman Richard Brodsky said he opposed the mayor’s proposal for a congestion fee because it is a regressive tax.

“The middle class and the poor will not be able to pay these fees and the rich will,” said Mr. Brodsky, who is chairman of a committee that oversees the Metropolitan Transportation Authority. “There are a lot of courageous things in the mayor’s package, but this one is not very well thought out.”

According to this logic, all prices for services not linked to income are regressive, since the rich can more easily pay them than the poor. It might technically be true, but it isn't particularly helpful. Besides, when I go to Manhattan, I see the middle class and the poor on the subways and buses, not their own cars.

Here's some more, of the more nakedly self-serving variety:

Clayton Boyce, a spokesman for the American Trucking Association, a national industry group, told The Associated Press, “It will be a real problem for operations for trucking companies and shippers, including all the retailers in Manhattan, which is substantial.”

“And all the people who get FedEx and UPS deliveries will have problems and will bear extra expense, so we definitely see problems with it,” he said.

It's time to give Mr. Boyce a refresher course in microeconomics. Start by considering what his answer might have been last week to the question, "What is the biggest problem your industry faces in providing excellent service to lower Manhattan?" Based on what I've seen on those streets, my answer would have been "congestion." So the mayor has proposed to tax the thing that has been encumbering the trucking industry, and its spokesman is complaining because his clients will need to pay the tax in proportion to the congestion they cause.

Think of it by the numbers. How many packages are on the typical FedEx truck in Manhattan? If it were 210, then the extra expense would be a dime per package. That's trivial. How does $21 compare to the total value of each truck's cargo in a given day? It has to be tiny. And look at what the FedEx truck drivers get in return--fewer passenger cars clogging up the city streets where they need to make pickups and deliveries. They waste less time and less gas. It doesn't take much abatement of that wasted time and gas to make back the $21 per truck. The trucking industry should be this proposal's biggest supporters.

Published on Leave a comment on Blinder on Free-ish Trade

Via Greg Mankiw, we find Alan Blinder qualifying his support for free trade. Greg seems to be taking it personally. Rather, we should just take his suggestion (my emphasis below) to its natural conclusion:

Mr. Blinder's answer is not protectionism, a word he utters with the contempt that Cold Warriors reserved for communism. Rather, Mr. Blinder still believes the principle British economist David Ricardo introduced 200 years ago: Nations prosper by focusing on things they do best -- their "comparative advantage" -- and trading with other nations with different strengths. He accepts the economic logic that U.S. trade with large low-wage countries like India and China will make all of them richer -- eventually. He acknowledges that trade can create jobs in the U.S. and bolster productivity growth.

But he says the harm done when some lose jobs and others get them will be far more painful and disruptive than trade advocates acknowledge. He wants government to do far more for displaced workers than the few months of retraining it offers today. He thinks the U.S. education system must be revamped so it prepares workers for jobs that can't easily go overseas, and is contemplating changes to the tax code that would reward companies that produce jobs that stay in the U.S.

Fantastic. We can be a nation of barbers, gardeners, and custodians, and we can enforce this nirvana by favoring it in the tax code.

Jobs have many characteristics. It is true that for the purposes of talking about jobs in trade policy, economists often collapse these characteristics into a single characteristic, the wage at a point in time. Blinder is correctly pointing out that another characteristic is the risk associated with that wage in the future. That risk could come from a number of sources, of which foreign competition is just one.

When people choose jobs, they have the freedom to trade off among the characteristics embodied in each job. Standard economic analysis would suggest that, for jobs that require the same degree of skills, those that offered more risk would also have to offer higher average wages to compensate. Starting from an equilibrium in which workers have information that is no worse than the government about the terms of this tradeoff, a policy that favored less risky wages would necessarily generate lower expected wages. What's the compelling interest by the government to justify this shift in outcomes?

I can think of two. First, one could assert that the government has better information than the public about relative risks and rewards. Second, one could assert that the social cost of risky jobs is higher than the private cost, i.e. that the government bears a fiscal cost of people being employed in jobs with higher compensation risk. I am skeptical in both cases, but I would be interested in hearing other perspectives.

1

Published on 1 Comment on More Laffer Curve Laughers

Via Greg Mankiw, we find this National Review interview of Senator McCain by Ramesh Ponnuru. Greg refers us to this part of the Q&A (by far the worst on economic issues):

Ponnuru: If you could get the Democrats to agree, or at least to come to the table on entitlements or on tax simplification, are those circumstances under which you’d be willing to accept a tax increase?

Sen. McCain: No; no.

PONNURU: No circumstances?

Sen. McCain: No. None. None. Tax cuts, starting with Kennedy, as we all know, increase revenues. So what’s the argument for increasing taxes? If you get the opposite effect out of tax cuts?

Greg suggests two appropriate follow-up questions for McCain:

1. If you think the 2001 and 2003 tax cuts increased revenue, why did you vote against them?

2. If you think tax cuts increase revenue, why advocate spending restraint? Can't we pay for new spending programs with more tax cuts?

As Greg has announced that he's an economic advisor to Governor Romney, I'll be very curious to hear Romney's response to a direct question about the circumstances under which he would be willing to increase taxes if he's elected President.

The question that I would like to have answered by any policy maker who voted for the tax cuts and believes that they have increased revenues is:

Why did you make them so small?

Published on Leave a comment on How Long Does It Take for the Long Run To Arrive?

Some of the discussion from the last two posts has carried over to Mark Thoma's blog. Krugman responded to Mark as follows:

Aha - I was wondering if anyone would raise that. I was taking it as true to a pretty good approximation that the long-run supply curve for medical services is horizontal. Unless you think that there's permanently limited supply of medical education, or something, why should we think otherwise?

And I would guess that very few people would read Bush's statement to mean that it's bad if other people have extensive insurance, because it drives up doctors' paychecks.

So in a comment, I noted:

Based on Krugman's response (must be nice to have him on speed dial), we're now in the much more comfortable environment in which this is a few economists talking about the magnitude of various key parameters.

One could point out that if he was "wondering whether anyone would raise this point," then he seems to realize that he was going a bit overboard in claiming that "no economic analysis I'm aware of says that when Peter chooses a good health plan, he raises Paul’s premiums."

On the substantive point, one could assert that almost any market has a long-run supply curve that is flat. Exceptions would be made for markets like diamonds--there is a finite quantity available to be mined. At this juncture, it becomes quite relevant how long we think it will be before we are in the long run.

As evidence against this happening any time soon, I don't think the AMA is going to give up its near-monopoly on certifying medical practitioners. Licensed practitioners will be in short supply for a long time even if wholesale medical prices rise. In order to get more services when prices change over this long run, we have to build a lot of buildings--medical schools and hospitals--and fill them with really expensive equipment. I'm guessing that long run will take a while to get here.

A commenter on Mark's blog noted that we could allow more immigration of medical personnel, a policy to which I don't object. Chiming in, Brad DeLong posts his views:

It's not clear to me that Paul Krugman is wrong. It is also not clear to me that Paul Krugman is right. One of the things patients are buying with more expensive health-care plans is the freedom to choose their own doctors, and that gives the doctors they choose some monopoly power in their bargaining over reimbursement rates with the insurance companies.

I don't have a handle on how big this effect might be, however.

I think that makes four of us. I also think that Krugman's larger point about the key market failure being adverse selection rather than moral hazard is right, and I would like to stop having policy makers focus on the tax code to try to improve the health care market. As for constructive solutions, I hope to have more in future posts.

Published on Leave a comment on Why I Don’t Like 529 Plans: Another Pecuniary Externality

Here's another tax-induced pecuniary externality that concerns me. The list price on college costs has been rising faster than inflation. This prompted politicians to act, and they created 529 plans to allow families to save for college in a tax-advantaged way. Austan Goolsbee has strongly and correctly criticized some of the design issues of these plans, particularly the administrative links to states and the (I think resulting) high management fees. For now, I just want to focus on how the tax advantage is distributed and its impact on future prices.

Contributions are made with after-tax dollars, sometimes with a state income tax deduction, but the returns on the portfolio compound tax-free and withdrawals are tax-free as long as they are used for college expenses. It's like a Roth IRA that way. (You can learn more here.) The benefits of the 529 plan accrue in proportion to a family's tax rate and desired amount of education expenses. Let's leave aside the almost surely positive correlation between (family) income and desired education expenses, which will reinforce the following points, and focus just on the simple fact that the tax rate increases with family income. It is more financially advantageous for a high-income family to invest a dollar in a 529 plan than it is for a low-income family to do so.

But you might say, "Okay, but doesn't the low-income family still get a benefit?" The answer depends on whether you think the supply curve for education is flat or upward sloping. Do you believe that colleges, when faced with dedicated accounts like 529 plans that will pay a penalty if they are not used on college costs, will raise their list prices? About 20 years ago, the conjecture that they would was named the "Bennett Hypothesis," after then-Secretary of Education William J. Bennett, who decried the tendency for colleges to raise tuition prices when the federal government stepped up its financial aid programs. I have little doubt that it is true.

The pecuniary externality comes in when we think about how much the tuition will go up. What drives that? I'd argue that it will be the average size of a 529 plan, as would be the case in any market responding to an increase in consumers' willingness to pay for a good. Since the tax advantage is positively related to income, even if all of the money going into 529 plans were new saving, it would be the higher income families that would have the larger-than-average 529 balances and the lower income families that would have the smaller-than-average 529 balances. (If the higher income families are simply shifting money from other accounts to 529 plans, then this strengthens the argument.)

Putting this all together, we can infer that the list price increases in college costs could outstrip the capacity of low-income families to pay them from their 529 plans. Depending on how much colleges raise their list prices and how the details of financial aid programs work out, lower income families may be worse off by the presence of 529 plans, even if they are saving through them. It is not the low-income families' own 529 plans that make them worse off--it is the high-income families' 529 plans and their greater benefits to using them. The impact of the latter on the price is the tax-induced pecuniary externality.

It's lousy public policy. But as much as I don't like these plans as a policy instrument, I have one for each of my two children. It doesn't make sense financially to leave the money on the table, given what's going to happen to list prices.

Published on Leave a comment on Republicans and Gas Taxes


Daniel Gross writes about the "emerging" consensus of economists in favor of higher gas taxes. I thought the graphic above was quite telling, about the U.S. in relation to other western countries.

The word "emerging" is in quotes, referencing a theme of the article, which is that it is much easier for people who have worked inside a Presidential administration to advocate for politically unpopular ideas when they are on the outside. That's true but only to a point. It's not that Greg Mankiw ever said anything other than what he now says about the gas tax while on the inside. It's that the President sets the framework for all policy outcomes--not the CEA--even on economic issues. CEA, like every other part of the administration, works to generate the best outcomes within that framework. And if the President is not interested in a gas tax, then it becomes a very short conversation.

Gross quotes me, from a telephonoe conversation last week, as follows:

What gives? Clearly, there is an emerging consensus among economists — right and left — that the nation would be better off, geopolitically and economically, if Americans used less gasoline. “Given the role that imported oil plays today, you can’t continue to be a responsible economist and not talk about ways to reduce that dependence,” Mr. Samwick said. “If you are concerned about the external consequences of imported oil, then you should raise the cost of it.” And free-market economists view a higher gas tax as a more elegant solution than, for example, raising auto efficiency standards.

So it's not that the consensus is emerging because it is new--it is emerging because there is more of an audience for it.

Another issue that is relevant here is that I would propose that the additional gas tax be done in a revenue-neutral way: returning the proceeds in aggregate in the form of progressive cuts to the income tax. Then fix the long-term deficit by raising the whole schedule (again, progressively) of income tax rates. One problem that the President would have if he advocated higher gas taxes without fixing the long-term deficit problem is that he would be accused of paying for his income tax cuts with higher gas taxes. Not a place he wants to be.

Published on Leave a comment on Why Not Both the Minimum Wage and the EITC?

In my earlier post on the minimum wage, I stated:

Basically, I won't support an increase in the minimum wage until I hear the explanation of why we need a minimum wage if we have an EITC.

Some have suggested that we should not view the two policies as substitutes but as complements. Megan McArdle, guest blogging at Instapundit, hits this one head on:

Indeed, proponents of a higher minimum wage are also in favour of raising the EITC. They argue that we need both for two reasons, both of them unconvincing: first, because "a programme for the poor is a poor programme" (in other words, we need a huge middle class subsidy to give the programme a constituency), and second, because we should be targeting income in multiple ways.

The first is silly, because the EITC has proved politically more popular than the minimum wage; it has been raised in every major tax package in recent history. The second is foolish because when you talk about putting together a package of support programmes, you are generally trying to offset the strengths and weaknesses of the various individual components. But there is no weakness of the EITC that the minimum wage addresses; the EITC is superior on pretty much every count. Why on earth would you tack an economic inefficient, poorly targeted programme which may cause all sorts of adverse effects on poor workers, onto a structure that already works beautifully on its own?

A comment over at Angry Bear points to the counterargument, presented here (along with an interesting numerical example):

But it [a wage subsidy like the EITC] unquestionably does lead to downward pressure on wages as some people accept jobs at levels they would not have without those wage subsidies. And this inevitably gives those low-wage employers an advantage compared to higher-wage employers whose employess are unsubsidized by the government.

This is bad not just because it hurts those higher wage employees and employers, but is bad because it systematically encourages production systems with lower productivity and less skilled workers.

The comment cites a more extensive study of wage insurance here:

What makes the two fit together so well is that the existence of a higher minimum wage actually reduces the negative productivity, fiscal impact, and moral hazard effects of the EITC, while the EITC makes up for the weak target efficiency and income adequacy of the minimum wage.

In a nutshell, some of the benefit of the EITC may be appropriated by the employer of the low-wage worker or come at the expense of higher wage workers. Those shifts can be ameliorated by limiting the downward pressure that the EITC can put on the wages offered to the workers, for example, by establishing a higher minimum wage.

Those are reasonable arguments to make, so the decision comes down to whether the "negative productivity, fiscal impact, and moral hazard effects of the EITC" outweigh the employment effect of the minimum wage. The Eissa and Hoynes study suggests the fiscal impact and moral hazard are not problematic. I'll need to think more about the negative productivity effect. On the other side, I have been persuaded that the negative employment effects of the minimum wage are important. So while I naturally would say that if I have to accept that the minimum wage will go up, then the EITC should rise to offset some of the likely effects, I do not (yet?) sign on for the converse.

Also in the comments at Angry Bear, Bruce Webb asks:

Why should the burden of income security for workers fall entirely on the middle class and be no responsibility of the employer? Prove to me that there is no pricing power involved in setting wages and then we can talk about where the social responsibility lies.

If you thought that the labor market was characterized by monopoly power in hiring (whether from collusion among employers or just a natural monopoly, as in a company town or the like), then you could undo some of the equity effects of that monopoly power by specifying a wage floor. So this is a reasonable point as well, though focused not as much in my mind on alleviating poverty per se as in undoing another market imperfection that may already exist. I'll have to think more about whether in the markets that have come into play as of late--like big box retailers or even low-skilled jobs in the food industry--monopoly power is a large concern.

Published on Leave a comment on Eissa and Hoynes on the EITC

Over the past decade or so, the EITC has been the subject of a considerable amount of research. In a recent working paper (for the NBER's Tax Policy and the Economy volume), Nada Eissa and Hilary Hoynes conclude:

Perhaps the main lesson learned from the evidence is the confirmation that real responses to taxes are important; labor supply does respond to the EITC. The second major lesson is related to the nature of the labor supply response. A consistent finding is that labor supply responses are concentrated along the extensive (entry) margin, rather than the intensive (hours worked) margin.

There is also a short summary of the article in the NBER digest for this month. Here are two interesting excerpts:

The cost of the EITC is offset in part, they note, by a reduction in the number of single mothers receiving welfare. Moreover, the EITC now lifts more children out of poverty than any other government program. In 2002, it removed 4.9 million people, including 2.7 million children from poverty. Advocates see it as promoting the values of both family and work. Traditional welfare programs, according to their critics, do the opposite.

[...]

The largest group of EITC recipients is single mothers, typically in their early thirties with a high-school diploma, and with fewer than two children. Among this group, the EITC is expected to lead to higher rates of employment though fewer hours worked by those already working (through the cash transfer and the lower returns to work in the phase-out range). The expansions in the credit have led to dramatic declines in average tax rates, from 14.5 percent in 1985 to a negative 4.1 percent in 2000; that is, the IRS provided a subsidy equivalent to 4.1 percent of income. The evidence consistently suggests that such EITC expansions raise employment rates. One study finds that 60 percent of the 8.7 percentage point increase in annual employment of single mothers between 1984 and 1996 is attributable to the EITC with its expansion. There is no evidence, however, that the credit leads to reduced hours worked for those already in the labor market. Eissa and Hoynes survey the various explanations for the different responses on participation and hours, including measurement error, the inability of workers to choose continuous hours of work, and the lack of knowledge of the structure of the EITC schedule.

In the case of married mothers, the EITC has indeed led to a small reduction in labor market participation - about 1 percentage point, according to another study by Eissa and Hoynes. This occurs because the credit is based on family earnings and income. If, for example, the husband is the primary earner, and these earnings place the family in the phase-out range of the EITC, then the family gets the credit even if the wife remains out of the labor force. And, if she goes to work, her earnings will decrease the credit. The real boost in family income may be much smaller than the nominal extra earnings and therefore may provide an incentive for the second earner to move out of the labor force. At $10 an hour, for example, the tax rate for married women could be 41 percent of her earnings. These are extremely large marginal tax rates for low- to moderate-income families.

I think that the generally positive impact of the credit, and particularly its positive impact on the group most in need (single mothers), is what accounts for the popularity of the EITC with policy analysts across the political spectrum.

Published on Leave a comment on You Pay Your Money, You Take Your Chances

I finally decided to go in for TimesSelect. I am greeted by Tom Friedman's column, "Let's (Third) Party," where I read this gem about gasoline prices:

Like someone who will tell the truth: The only way Americans are ever going to enjoy relatively cheap gasoline again is if we raise the price now with a gasoline tax— and fix it at that higher level for several years — so investors know that it is not coming down, and therefore it makes economic sense for them to make the long-term investments in alternative, renewable sources of energy. That is the only way to break our oil addiction and ultimately bring down the price.

That's a fascinating "truth." Note that he is not writing here about the externalities associated with our dependence on oil--he is writing about the direct consumption of it through gasoline. So in order to have cheap gasoline later, we should insist on having expensive gasoline today, even if the price of gasoline would fall in the interim. That is beyond silly.

I understand that post-9/11, Friedman has been frustrated by the failure of the President to launch a national initiative about anything, but particularly about our energy consumption. I share much of that frustration. I even advocate for a higher gasoline tax (because of the externalities associated with its consumption and instead of idiotic CAFE standards). I also wish more people understood Brad DeLong's very cogent point that the correct side of this debate to be on is to have people face the market price of gasoline and certainly to do nothing to shield them from it (again because of the externalities). But Friedman is doing the same sort of pandering as the politicians he is criticizing when he holds out the promise of a future with cheaper gas as the rationale for his proposal.

It doesn't have to be complicated. Estimate the monetary cost of the negative externalities associated with gasoline use, set the appropriate tax, and then do nothing else. The market price then sends the correct signal to investors about how to take advantage of new opportunities in alternative energy.

Published on Leave a comment on Gas Tax Redux

A few months ago, I posted a couple of times on my preference for a gas tax compared to the CAFE standards. Today, I happened across two papers by Professor Jayanta Sen that are, at the very least, quite provocative. They focus on ways that the U.S. could make itself better off by (in the first paper) taxing an imported good that has a relatively inelastic supply and by (in the second paper) forming an international cartel of importing countries, to offset the market power of OPEC. Here are the abstracts, with links to the full papers at SSRN:

A Tax to Save the US $100 billion a Year and Solve Global Warming?

The position of the current US administration is that moves to reduce consumption of gas (like the Kyoto Treaty), will harm the US economy. On the contrary I show that a tax on crude would transfer wealth of $100+ billion a year from foreign governments to the US consumers, thus providing a major economic stimulus to the economy while at the same time reducing consumption of gas. Over the past decade crude oil prices have increased from $12 (1998) to over $65 a barrel. The amount of net oil exported to [by] importing countries is about 28 million barrels a day. With 1998 prices as a reference, this translates to an additional wealth transfer of $1.32 billion a day, or $480 billion a year. If the supply of oil is inelastic, then an increase in tax by the governments of importing countries would push up oil prices and decrease the wealth transfer. For a range of demand and supply elasticities that I study, the wealth transfer savings for the United States (which has about one-third of global oil imports) should be in the range of $108 to $152 billion a year. The new tax revenues to the US government from tax on imported oil should be $160 billion to $250 billion a year. This money can be returned to the US consumers as a lump sum, thus providing the economic stimulus. The reduction in crude oil consumption ranges from 7.13% to 10.30% while providing a stimulus (defined as additional purchasing power to consumers) to the economy of $95 billion to $133 billion a year.

Oil at $10 a Barrel and $200 Billion Savings a Year for the U.S.: Benefits to the U.S. from a Buyer's Cartel

In the international oil market, the producers are cartelized, whereas the buyers are fragmented. As standard economic analysis suggests, this results in a greater share of the surplus for the producers. The cost of production for a barrel of oil to the producers is approximately $8, whereas the recent price is $65. A buyer's cartel could be formed by the governments of the major oil importing countries like the U.S., Japan, Germany, China, India etc. All oil sold in these countries would have to pass through the buyer's cartel. The buyer's cartel could negotiate a price with the oil exporting countries, say $10 a barrel (which should be a sufficient markup over production costs). After purchasing oil from the producing countries, the buyer's cartel would release the oil in the market and let demand determine the price. If current demand conditions remain unchanged then the price would still remain at $65. However, this would reduce the effective price to the citizens of the importing countries to $10 a barrel as their governments would earn a profit of $55, which could be used to reduce taxes or pay for programs like Social Security. For the U.S. (which imports 10 million barrels a day) the savings would be $55 x 10 million x 365 = $200.75 billion a year.

Blogsearch Technorati