“The Economist” Lands Out of Bounds

Even the best golfer takes the occasional inexplicably bad swing at a perfectly teed-up ball when his concentration lapses.  Humans being all too fallible, similar lapses mar many other of our ventures, a recent case in point being The Economist‘s enthusiastic citation of the following blog post by Mark Thoma:

We have enough money to pay for military action in Libya, but not for job creation?

Professor Thoma is an accomplished economist, so I presume that he is fully aware of the fact that “we” have plenty of money to “pay for” job creation. Indeed, jobs are created primarily by our general preference for specialization and trade, as exhibited in our activities in what is commonly referred to as the private sector. The notion that the private economy teeters on the abyss of depression if left to its own workings, and therefore requires a free-spending government to prevent us from saving ourselves into penury, left the realm of sophisticated economic thought sometime during the Carter Administration at the latest. (The skeptical and diligent reader needn’t take my word for this. Simply examine the American Economic Association’s list of the 20 best articles ever published in its Review and observe how the Chicago School dominates the field of macroeconomics.)

What the private sector does not do well, as Prof. Thoma surely knows and The Economist most certainly should know, is to finance pure “public goods” such as military operations. Whatever criticisms may be leveled justly at our military operations in Libya, the fact that they are preventing the federal government from “creating jobs” is not among them.

The idea that having the government throw around money it does not have–and has a less than fully realistic prospect of being able to repay–on any sort of boondoggle that catches the fancy of the Vice President, is nothing more than intellectual driftwood left behind by the ebb of the high tide of Keynesianism in the 1960s. But there is much that government can do to impede investment and job creation, from throwing sand in the gears of commerce now to building a tottering tower of debt that raises expectations of vastly higher taxes in the future or the ruin of creditors through accelerating inflation.

The nation’s air strikes against Libya can and should be debated strenuously in terms of their costs and benefits. But the participants in that debate need not concern themselves with foregone job creation.

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Support Your Local Union, Not Your Union Local

Professor N. Gregory Mankiw points his readers to a brief interview with his colleague Richard Freeman on the topic of labor unions, on which subject Prof. Freeman is a recognized authority. The good professor believes that unions accomplish two desirable ends. First, in his words, “The first thing unions do is to raise wages for working people, and that obviously benefits the working people.” At the risk of seeming like a stickler for precision, I feel compelled to add the phrase “among those who retain their jobs” to his statement. Given the general trend of employment among unionized auto workers, for example, over the past several decades, this does not appear to be a minor point:

Professor Freeman is also an enthusiast of labor unions because, “Employers also get more credible information about what workers really want in the workplace, because the union representatives are democratically elected and they really speak for the workers.” In this manner, Prof. Freeman argues persuasively, union representation helps employers to find the mix of wages and benefits most preferred by their workers, thereby increasing the productivity of the establishment by reducing labor turnover. Yet, again, I fear that I–decidedly not an authority on labor unions other than by virtue of having occasionally worked in union shops–must dissent from the conclusion the good professor reaches on the basis of the argument he presents.

What Prof. Freeman has advanced is an argument in favor of employer-specific labor unions. It is at this level where both workers and employers can benefit from the ability of workers to air their grievances about working conditions, from cruel or abusive shop foremen to the desirability of an on-site daycare facility. It should not be necessary for one worker to confront the bosses on her own, Norma-Rae-like, to complain about adverse conditions. But this argument simply does not apply to industry-wide, let alone interindustry, organizations designed to establish and expand labor cartels.

Advocates on the unions’ side marshal evidence that seems persuasive at first blush: It sometimes happens that unionized firms are more productive than their nonunionized rivals. After a moment’s reflection, it isn’t difficult to see why such evidence proves very little. As has been noted elsewhere, if a union succeeds in driving up wages, then firms will employ fewer workers per unit of plant and equipment. This in itself will have the effect of raising the productivity of the remaining workers. Indeed, that is the entire point of the firms’ response.

In light of the recent events in Wisconsin and Ohio, and the prospect of more to come, one naturally wonders what relevance the analysis of private-sectors unions has for their public-sector counterparts. Professor Freeman’s views are again both insightful and noteworthy:

Public sector unions are different in an interesting way. Private sector unions can do very little to raise the demand for their services. But public sector unions can try to convince voters that we need more police and better education. By politicking, they can help public sector employers raise the funds to provide more and better public services. They have that unique attribute.

There is the entire debate over public-sector unions in a pithy paragraph. All I would add to Freeman’s analysis would be to point out that there are more efficient ways for public-sector employees to increase funding for their jobs other than the demanding and uncertain route of “convinc[ing] voters.” It appears to be far simpler, and more efficacious, to simply donate directly to the campaign funds of political allies (i.e., Democrats). In the interest of retaining Prof. Freeman’s admirable brevity, I would in exchange delete the words “and better” from the phrase “more and better public services.” In support of my proposed deletion I could refer Prof. Freeman to the work of his former colleague, Prof. Caroline Hoxby, whose research has led her to conclude “that teachers’ unions increase school inputs but reduce productivity sufficiently to have a negative overall effect on student performance.” (emphasis added)

Prof. Freeman’s arguments in favor of private unions do not seem to apply in any way to the case of public employees. In the absence of a union, public employees have exactly as much say over their conditions of employment as do their bosses, the taxpayers. All of them have the right to vote on how much to spend on every manner of public service, as well as on the terms of provision of those services. What public employees have obtained through unionization is the upper hand in bargaining. What is at stake in Wisconsin, Ohio, Indiana, and elsewhere is the crucial task of restoring the taxpayers’ say in what government spends and how it spends it. The vehemence of public-employee resistance and the mob mentality manifested by Wisconsin Democrats is sufficient evidence of how great are the stakes in this struggle.

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Washington’s Deficit Attention Disorder: The Real Fiscal Illusion

Tyler Cowen’s latest New York Times column proposes to explain the frightening state of the federal government’s finances as a manifestation of “fiscal illusion,” a term used generally to describe a supposed inability of taxpayers to discern the full extent of their true tax liabilities. I confess that I do not find this explanation as persuasive as does Prof. Cowen, for two reasons: 1) As far as I am able to tell, it does not explain why the federal deficit has recently exploded, as opposed to having always been problematic; and 2) It completely ignores the fact that the rise of the Tea Party movement is in large part due precisely to the fact that taxpayers seem substantively more worried about the federal deficit than either the President or a majority of the members of Congress.

If anyone of prominence in the current budget debate seems under the spell of fiscal illusion, it is those on the left (cf. Michael Moore) who think that the source of our woes can be attributed to the reduction in the top income-tax rate enacted under George W. Bush and recently extended with the concurrence of  Barack Obama. A brief numerical exercise is sufficient to show why this is a mistaken belief, and why a key step in balancing the budget–along with truly massive spending cuts–is to raise tax rates at the lower (but not lowest) end of the scale.

The key point is quite simple: there are many, many times more “middle class” households than there are “rich” ones. According to Internal Revenue statistics, over 70 percent of all returns filed in 2008 (the most recent year for which data are posted) were taxed at a top marginal rate of 15 percent or less (about 10 percent of those payers were paying taxes on capital gains). This tax rate is the top rate for any married couple filing jointly with incomes between about $17,000 and $69,000 per year. Because this tax bracket is where the vast majority of households are found, this is where a large part of all taxable income is to be found. By contrast, only about 1 million filers were taxed at the top marginal rate of 35 percent. While those households have a lot of income, there simply aren’t very many of them compared to us ordinary folk.

I undertook a very simple arithmetic exercise, which was to see how tax revenues would change in response to certain changes in marginal tax rates, leaving the income brackets themselves unchanged, and assuming no behavioral responses whatsoever to changes in the incentives to earn income. This is by no means a formal analysis–this is simply a back-of-the-envelope calculation for purposes of a humble blog.

What I found was surprising to me, so perhaps it will be of interest to my handful of readers. Here are the most salient results:

Raising the 25% marginal rate to 28% and raising the 28% rate to 31%, while leaving all other rates (lower and higher) unchanged, would increase the taxes paid by every household above $69,000 in joint income. Total taxes paid by every household with joint taxable income above $212,000 would increase by the same amount, about $4,300. Taxes paid by households with incomes between $69,000 and $212,000 would rise in accordance with their incomes. Taxes paid by households with joint income below $69,000 would not increase at all. The additional revenue yielded by this change in the tax code would be about $50 billion per year in 2008 dollars, without any reduction in the incentives to earn income at all among those earning more than $212,000.

But our fiscal situation is dire, and an extra $50 billion annually will scarcely make a dent in our $1 trillion+ deficit. What else can we plausibly do?

We can most certainly consider raising taxes on those with the highest incomes. So let’s consider an increase in the top marginal rate from 35% back to its 1999 value of about 40%. If there were no corresponding reduction in income earned (or not sheltered) by those in the top bracket, this would about another $47 billion or so. Of course, the assumption that these taxpayers would not respond to higher rates is false, but the available evidence suggests that revenues nevertheless would rise significantly in this range. In any event, the point is that returning to the Clinton-era top rate would still not get us anywhere close to budget balance.

For a real revenue harvest, it is necessary to tax the middle class. For example, if the top rate assessed on incomes in the $17,000 to $69,000 range (recall that these are taxable, joint incomes) were hiked from 15 to 20 percent, total tax collections would rise by something on the order of $140 billion. This starts to become serious money, although it is still not enough to come anywhere close to closing the deficit under the rosiest assumptions.

Here is where we stand, then: A vigorous round of tax increases can only raise, at best, less than $240 billion per year. The tsuami of deficits we are looking at over the next several years, which we would be quite fortunate to see fall to as low a figure as $774 billion per year in ten years, requires spending cuts that are eight or nine times as great as the “painful” $61 billion pushed for by the GOP House freshmen and recoiled at in horror by the rest of Washington.

If you want to find “fiscal illusion,” don’t look to us ordinary taxpayers. Instead, listen to those on the inside, like Illinois Senator Dick Durbin, who thinks that $6.5 billion in spending cuts is quite adequate to solve our financial woes. Well, perhaps “thinks” isn’t quite the right word to describe the mental activities of Sen. Durbin or anyone else who’s not a Tea Partier, at least in spirit. To those who understand the situation, however, repealing DemoCare seems like the obvious way to start climbing out of the fiscal abyss.

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Solidarity Forever

Your humble correspondent is utterly shocked to discover that ultra-rich Arianna Huffington has amassed her enormous fortune through the complete exploitation of her labor force, many of whom are paid nothing at all, enabling this malefactrix of great wealth to reap hundreds of millions in surplus value.

This blog hereby goes on record in support of HuffPo’s striking content providers by pledging to boycott that website until–and, indeed, well beyond–the moment when their demands are fully met.

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Blue-State Economics

The City of San Francisco, always at or near the forefront of social engineering, offers its residents cash payments of $125 to $200 for installing “low-flow” toilets (1.28 gallons per flush as opposed to the federal standard of 1.6 gpf) in their homes. Alas, it has come to the attention of San Franciscans’ noses that insufficient flushing capacity has caused parts of their lovely city to smell like a high-school chemistry lab.

Having spent $100 million in sewer-system upgrades in a failed attempt to alleviate the stench, the city has decided to do what any of us does at home to deal with sludge: dump bleach into the gunk. A three-year supply of concentrated sodium hypochlorite will cost the city another $14 million. Needless to say, this direct action does not pass the sniff test of local environmentalists.

What, you may naturally be inclined to wonder, has the city accomplished in reduced water use in exchange for all this cost? The Pubic Utilities Commission boasts that annual water consumption in San Francisco has fallen by “about 20 million gallons.” And what is the value of 20 million gallons of water? Well, as of 2005 an acre-foot of water cost a single-family household in South San Francisco $835. Since there are about 325,851 gallons in an acre-foot, this means that in 2005 the cost of a gallon of water for residential use in the City by the Bay was just a bit over a quarter of a cent. This means that the 20-million-gallon reduction in water use has saved approximately $51, 250 (sic) in annual resource costs (let’s be generous and call the 2011 figure $60,000), all for the paltry expenditure of $100 million in capital costs, $14 million over three years in bleach purchases, who knows how much in plumbing costs to install the crappy new toilets, and whatever the environmental costs will turn out to be from dumping 8.5 million pounds of bleach into the bay every year.

One wonders if it ever occurred to any of the super-smart social engineers in Nancy Pelosi’s home town that they could have achieved the same reduction in water use through the simple expedient of raising prices. Based on the city’s residential water consumption of about 45 million gallons per day, all that’s required is a reduction of about .12 of one percent. Even if the price elasticity of demand were as low as -0.15 (which is a very low estimate), this reduction in water use would require a price increase of less than 1 percent.

Given the way San Franciscans vote and their elected representatives attempt to legislate–betraying no familiarity whatsoever with the most basic economic concepts–my guess is that it did not occur to anyone in authority that raising the price of water would offer a simple alternative to their convoluted and hideously costly scheme. This is the failure of government-mandated “solutions” to problems, or nonproblems, illustrated in miniature as precisely and beautifully as a Fabergé egg, at far greater cost.

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Koch:Krugman :: Moriarty:Holmes

Have you found yourself wondering lately about those mysterious and suddenly much-discussed Koch Brothers? Wonder no more. Your humble correspondent has performed a background check on one of those brothers, David Koch, and found him to be wily indeed.

Trained in the subversive arts of chemical engineering at that noted hatchery of wingnuts, the Massachusetts Institute of Technology, Mr. Koch has sought to disguise his deep, dark mischief by donning the veil of philanthropy. For instance, in 2007 he gave his alma mater $100 million to establish a new cancer-research center. This came on top of the $115 million in gifts he has made to other anti-cancer programs at Johns Hopkins, Sloan-Kettering, and M.D. Anderson, among other institutions.

Further evidence of Koch’s clever tactics are the $100 million he has given toward the renovation of New York City’s Lincoln Center, the cynosure of high culture in the heart of blue-stateness, as well as $20 million to that city’s Museum of Natural History and $15 million to the Smithsonian Institution.

Clearly, these gifts are just a clever ruse to divert the public’s attention away from what Mr. Koch really cares about, which is to be able to obtain discounted prices on old power plants from the State of Wisconsin. Absurd, you say? Just ask that authority on all things, Paul Krugman. You see, being a Nobel Prize-winning economist, he knows how to interpret evidence:

Indeed, there are enough suspicious minds out there that Koch Industries, owned by the billionaire brothers who are playing such a large role in Mr. Walker’s anti-union push, felt compelled to issue a denial that it’s interested in purchasing any of those power plants.

You see, denying their interest in old power plants is exactly what the Kochs would do if they were interested! This Krugman fellow–a Sherlock for our times–is too clever to be deceived by such transparent trickery. He knows when a modern Moriarty moves his pieces on the Great Chessboard. He knows when the game is afoot.

Consider yourselves warned.

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Who Pays for Public Employees’ Benefits?

Forbes, shamelessly chumming the waters of the internet with link bait, currently hosts a blog post working another variation on the eternal “lying Republicans” theme. The claim this time is that Wisconsin Governor Scott Walker is either a liar or a fool for claiming that his state’s public-school teachers are not already paying 100% of the cost of their pension and health-care benefits by having accepted lower salaries in exchange for higher benefit levels. The blog author and the “Pulitzer Prize winning tax reporter” upon whose analysis the post is based are themselves either liars or fools sorely in need of either remedial education or a good scolding. I am happy to provide both.

In a privately negotiated contract, what matters to the employer is total compensation paid, either in the form of salary or benefits. This much the Forbes writer and his prize-winning source are able to comprehend. But of course, any contract that extends over a reasonable amount of time is based on forecasts of industry-wide salaries and benefits. When the industry is in decline, or when the cost of benefits skyrockets, firms routinely seek concessions from their workers. Forbes’s blogger may even have come to understand this point, thanks to his commenters, but he persists in claiming that it is Gov. Walker who misrepresents the facts.

It does not seem to have gone unnoticed generally that health-insurance costs have been rising steeply for some time, and they appear to have received a further bump from Obamacare. Clearly, Wisconsin’s public employees have, in recent years, received a large increase in the their full compensation. They don’t feel this way, because there is no change in the amount of health insurance that they’re receiving in compensation. But the cost of their benefits to the taxpayers of Wisconsin has indeed risen. This much is clear, and is common to both the private and public sectors.

There is another point of contention in Wisconsin that is unique to public employees and is fully ignored at Forbes: the structural dysfunction of public-sector bargaining over deferred compensation. In the private sector the owners of a firm are indifferent between salary costs and benefit costs of equal present value. The difference between the two is in the pattern of cash flows, not the net worth of the firm. But this is not true–it is not even remotely close to being true–in the public sector.

Because salaries represent immediate cash liabilities while defined-benefit pension plans are deferred liabilities, the planning horizons of those negotiating with public employees are critically important. Elected public officials have time horizons that are truncated considerably by the nature of a political career. If they fail, they’re not around when the bills come due. And if they succeed, they’re likely to move up to a higher level of government that is not directly liable for the contracts they negotiated. So the bargaining is decidedly one-sided in favor of the employees’ unions. But what about the voters? Surely they care. The answer to this question is, yes–but.

In normal times, ordinary voters are concerned primarily with their own day-to-day lives. After all, the idea behind representative (as opposed to direct) democracy is for the general electorate to delegate direct oversight to its representatives. This situation allows the canny incumbent to buy the favor of public employees without incurring the immediate wrath of taxpayers through the simple tactic of boosting public-sector retirement benefits without reducing salaries. This political free lunch is possible because the cash liabilities of the state resulting from higher pension benefits rise only slowly over time. Some years down the road, when taxpayers start to notice that they are paying more and more in taxes with no corresponding increase in state services, the free lunch comes to an end. That is what is happening in state after state in the US.

The band-aid approach favored by the Wisconsin public-employee unions and, apparently, by Forbes, calls for a reduction in current payments sufficient to balance this year’s state budget. But once the crisis has passed, things will return to normal. Which is to say that the structural budget problems of the state will not have been solved. Wisconsin’s Republicans understand this, which is why they are pushing for truly structural reform of the negotiation process. Given the enormous resistance by Wisconsin’s Democrats, unions, and leftists, it seems clear that they understand this as well.

Apparently it’s asking too much of contributors to Forbes to understand as much.

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