The return of the Laffer curve

[bascule]

http://www.cnn.com/2006/POLITICS/07/11/budget.deficit.ap/index.html?section=cnn_topstories

 

...new figures show the deficit for the budget year ending September 30 will be $296 billion -- much better than the $423 billion that Bush predicted in February and a slight improvement over 2005.

 

Bush is now saying tax cuts are responsible for a reduced deficit:

 

"These tax cuts left nearly $1.1 trillion in the hands of American workers and families and small business owners. And they used this money to help fuel an economic resurgence that's now in its 18th quarter," Bush said. "Economic growth fueled by tax relief has sent our tax revenues soaring."

 

This harkens back to the Reagan-era "Laffer curve" argument, that decreasing tax rates boosts the economy and in doing so generates greater tax revenue.

 

http://en.wikipedia.org/wiki/Laffer_curve

 

Is this sort of fiscal policy sound? Here's one argument that it's not:

 

http://finance.yahoo.com/columnist/article/economist/4065?p=1

 

Neither the Reagan nor the George W. Bush tax cuts were "self-financing," as the Laffer disciples like to argue. According to The Economist -- my former employer and no bastion of left-wing thought -- the current Bush Administration's top economist, Gregory Mankiw, estimated that decreasing taxes on labor would generate enough growth to recoup only about 17 cents for each lost dollar; a tax cut on capital is better, paying for more than half of itself. Still, the bottom line from the Bush Administration itself is that tax cuts reduce Uncle Sam's take.

 

So why does Laffer's sketch on Dick Cheney's cocktail napkin rank near the top of my list of bad economic ideas? Because, when applied to the U.S., it's intellectually dishonest. The Laffer Curve offers the false promise that we can cut taxes without making any sacrifice on the spending side, and that's simply not true. It's the economic equivalent of arguing that you can lose weight by eating more.

[john5746]

Is this sort of fiscal policy sound? Here's one argument that it's not:

 

 

I would think it is less and less sound, given more and more of our spending is going overseas. Tax breaks help build China, which gives aid to North Korea, who in turn gives an A-bomb to the terrorists

[bascule]

Hmm, according to CNN:

 

http://money.cnn.com/2006/07/12/markets/markets_newyork/index.htm?section=cnn_topstories

 

Wall Street gets walloped

Major gauges slump in broad-based stock selloff, led by tech-heavy Nasdaq, amid worries about earnings, economy.

[bascule]

I would think it is less and less sound, given more and more of our spending is going overseas. Tax breaks help build China, which gives aid to North Korea, who in turn gives an A-bomb to the terrorists

 

Not to mention how much of the massing national debt is being financed via China

[Severian]

It must be true to some extent, although the curve will be a bit skewed.

 

If you collect 0% taxes then your tax revenue is 0. So the point at the extreme left of the plot is correct.

 

If you collect 100% taxes then no-one will bother going to work and society will collapse, so the point to the right of the plot is correct.

 

In between, the tax revenue will always be positive, so there must be some point between 0% and 100% where the tax revenue is maximal.

 

It is just a case of figuring out where that maximum is. If the decrease in tax rate leads to a decrease in revenue (as the Economist suggests) then we must still be to the left of the maximum.

[Martin]

http://en.wikipedia.org/wiki/Laffer_curve

 

Is this sort of fiscal policy sound? Here's one argument that it's not:

 

http://finance.yahoo.com/columnist/article/economist/4065?p=1

 

I see that in the Economist article you cited that Charles Wheaton sketches the arguments for why the idea MIGHT apply in some different country or situation. But also explains why it holds out false promise when applied to the US.

 

In fairness to Mr. Laffer' date=' there's nothing wrong with this theory. It's almost certainly true at very high rates of taxation. If you consider the extreme,

...[gives numerical example']...

So it's entirely plausible that slashing tax rates from 99 percent to 30 percent could increase government tax revenues. It would...provide a huge new incentive to work and invest.

 

No Big Jolt for the U.S.

 

But here's the problem when we take Laffer's theory and try to apply it in the U.S.:...

 

So cutting the tax rate from 36 percent to 33 percent is not going to give you the same kind of economic jolt as slashing a tax rate from 90 percent to 50 percent. There's no huge black market to be shut down, no big supply of skilled workers to be lured back into the labor market, and so on.

 

Will it generate new economic activity? Probably. And that will generate some incremental tax revenue for the government. But remember, it also means that the government will be taking a smaller cut of all the economic activity that we already have.

 

...[gives numerical example]...

 

That's basically what happened with the large Reagan and George W. Bush tax cuts, both of which were followed by large budget deficits...

 

Can't Lose Weight by Eating More

 

Neither the Reagan nor the George W. Bush tax cuts were "self-financing," as the Laffer disciples like to argue. According to The Economist -- my former employer and no bastion of left-wing thought -- the current Bush Administration's top economist, Gregory Mankiw, estimated that decreasing taxes on labor would generate enough growth to recoup only about 17 cents for each lost dollar; a tax cut on capital is better, paying for more than half of itself. Still, the bottom line from the Bush Administration itself is that tax cuts reduce Uncle Sam's take.

 

So why does Laffer's sketch on Dick Cheney's cocktail napkin rank near the top of my list of bad economic ideas? Because, when applied to the U.S., it's intellectually dishonest. The Laffer Curve offers the false promise ... It's the economic equivalent of arguing that you can lose weight by eating more.

 

Let me be perfectly clear: I'm not arguing that tax cuts are bad. I'm simply pointing out that we can't pretend that tax cuts won't require reductions on the spending side to balance the budget...

 

Whether it's tax policy or dieting, you can't have your cake and lose weight, too, which is why America currently has huge deficits and a lot of fat people.

 

interesting article. I didn't know the Bush-people were reviving the Laffer curve------after the Reagan experience wasnt it referred to as "voodoo economics" ------but I guess it was only to be expected.

[bascule]

If you collect 0% taxes then your tax revenue is 0. So the point at the extreme left of the plot is correct.

 

If you collect 100% taxes then no-one will bother going to work and society will collapse' date=' so the point to the right of the plot is correct.

 

In between, the tax revenue will always be positive, so there must be some point between 0% and 100% where the tax revenue is maximal.[/quote']

 

The real problem with the Laffer curve is that it grossly simplifies some complex nonlinearities and outside factors between taxation rate and revenue collected.

 

Thus, perhaps the neo-Laffer curve is a more accurate depiction:

 

[Pangloss]

I think we're going to have to call that one the Bascule-Laugher Curve.

[SmallIsPower]

Economics is based on supply equaling demand, technology has always increased production (supply), so supply side economics is bogus... Low demand equals guilded ages or Depressions.

[bascule]

I think we're going to have to call that one the Bascule-Laugher Curve.

 

I'm curious though Pangloss, what's your take?

 

Have the Bush tax cuts helped the economy?

 

Is it worth it to be financed through China to the degree that we are?

[Pangloss]

What do I think about it as a political issue, or from a scientific perspective? In the case of the former, I agree with your assessment. Ironically, I don't think it "plays in Peoria" -- they're preaching to a choir that's not really interested in learning any new hymns.

 

It's just too complicated for Joe Sixpack, which is part of why Dems still have inroads on economic issues in spite of a booming (or at least surging) economy. Joe makes a little more money these days, but he spends 70% more than he was 5 years ago, and only makes 8% more (or something like that), because he's just too darn stupid to stop using his credit cards to buy that new X-Box 360 and a dozen games for it, etc etc etc.

 

As far as the economics are concerned, I think you and Severian have covered the issue adequately and eloquently, and I would not presume to add anything major to that discussion.

 

I suppose would point out that even Alan Greenspan agrees that the tax cuts helped the economy (past tense). They had an impact on pulling us out of the recession we were in.

 

But that's ancient history now. We're in a major war (actually three separate conflicts: Terrorism, Iraq and Afghanistan), the number of conflicts is actually rising rather than falling, and we've got to do something about the personal debt situation and the growing need for jobs. These issues are simply more important than cutting taxes.

 

But I digress. Getting back to the subject, I know they're saying that cutting taxes increases revenue, but an hypothetical curve doesn't prove this -- I would have to see actual numbers from the administration. Numbers that INCLUDE other sources of revenue, such as the tax money they're getting from the increased consumption of oil (I think the rate is fixed, but consumption is way up this year). What other sources of revenue might be up as well? I don't know. The Laffer curve doesn't tell me.

 

I do agree with the general principle represented by the curve. The idea that if you increase the tax rate beyond a certain point, more people will try to find ways to avoid paying. Seems reasonable enough, in a theoretical sense. I just don't think it's always reflected in the real world. It's no more accurate than, say, Asimov's "future history".

[SmallIsPower]

It's just too complicated for Joe Sixpack' date=' ... Joe makes a little more money these days, but he spends 70% more than he was 5 years ago, and only makes 8% more (or something like that), because he's just too darn stupid to stop using his credit cards to buy that new X-Box 360 and a dozen games for it, etc etc etc.

 

[/quote']

 

70% in 5 years? That's alot of Xboxes. To spend 70% more, people would have to take 5 more vacations, including maybe a trip to New Zealand,

or maybe everyone is trading in their Toyotas for Hummers.

 

Here's another possibility: Maybe the people who lied about WMDs in Iraq, cooked the books on Florida's 2000 election and Ohio's 2004 election, are lying about inflation?

 

Remember 2003? America invaded Iraq, gas prices jumped up (about 20%) here and the dollar started a 35% fall over 20 months. All that, and the consumer price index only rose 181.7 to 184.0

 

These are used to compute cost of living adjustments(COLAs).

 

 

How convienent. The price of gas adds to the cost of everything, because of transport costs, and as the value of the dollar falls, the cost of everything imported increases.

 

I guess Mark Twain was right, "There are lies, damn lies, and statistics.

[Pangloss]

I didn't say anything about inflation. The increase in spending was due to low interest rates producing huge numbers of new mortgages, and consumer spending rising as we came out of the recession. Inflation had nothing to do with it, because it wasn't a factor yet (and as you say, arguably still isn't).

[john5746]

I think spending does help the economy in the short term. That is what we did. Bush cut taxes, but increased spending, so you have infusion from government and the consumer. If I max out my credit cards, things will look and feel good for awhile, but eventually the time to pay will come. I think it is more important than the war in Iraq. Without our economic might, we can't afford to fight.

[SmallIsPower]

There is an interesting phenomena going on here, technology is producing more and more, yet wagearners are getting less and less. While there was teporaaliy more being spent, as Pangloss stated, there is less over the long-term. This is the opposite of what happened to create hyperinflation in places like the Weimar Republic, where productivity was fairly stable, but the money supply was increasing quickly.

 

The amount that median Americans have to spend is shinking disasterously:

 

In 1955 (The baby boom)

A husband would earn enough for himself, his wife and 4 kids.

6:1

 

In 1975 (Before women's lib became big)

A husband would earn enough for a wife and 2 kids.

4:1

 

Now

A couple can barely earn enough to raise 2 kids.

4:2

 

Where has all this extra production gone?

 

Following the flow of dollars, Pangloss, does not tell the whole story.

[Pangloss]

Source, please?

 

Whatever the source, those stats don't tell the "whole story" either. At the very least, they ignore obvious changes like the shift to a service economy (which began two years after your baby-boom stat) and more subtle changes like the tremendous growth of the entertainment and sports industries.

 

The reason both parents work isn't because they can't put food on the table, it's because they can't manage a BMW, and X-Box 360, *and* a wide-screen HDTV. Pretending like they're "struggling" just by redefining the concept of "struggle" does a disservice to objective debate.

[Saryctos]

Question(sort of pertaining to the current discussion...I hope(alchohol is an excellent backseat poster =P))

 

With the leaps and bounds of new technology, should the modern worker be paid more for working less?

 

 

Tax cuts, giving people who are known for investing in the economy and creating jobs, more money to expand with, sounds like a solid policy to me. Unfortunately, there is another factor here, rising labor prices will probably force the extra money to jump ship and leave this 'not so fertile' land when it comes to the mindless worker drone. If technology is making your job so easy, why should Companies be paying for both =P

[SmallIsPower]

Oh, so you think the investor class sitting by the pool should reap the rewards?

 

Many of these people got their money by winning the womb lottery, popping out of a woman who happened to had money, or married into it.

[bascule]

With the leaps and bounds of new technology, should the modern worker be paid more for working less?

 

That's been the long-term trend: an growing and increasingly more affluent middle class with a rising standard of living.

[Saryctos]

Oh' date=' so you think the investor class sitting by the pool should reap the rewards?

 

Many of these people got their money by winning the womb lottery, popping out of a woman who happened to had money, or married into it.[/quote']

 

You actually believe that? Their parents obviously must have just won the actual lottery to get all that money. It couldn't possibly be due to smart investing, or hard work and smart saving, or even just plain old hard work starting up a business.

 

The curve diagram looks a good deal like the current economic status. The poor pay almost no taxes, and the overtaxxed are just having their business leave the country.

[Pangloss]

SmallIsPower, where is your source for the data you posted above, please? Did you just make that stuff up, or what? You posted it; cough up a source or retract it.

 

As for your wild flight of fancy about inheritance, the fact is that the vast, overwhelming majority of wealthy Americans are "first generation rich". Fewer than 20% of them actually inherited their wealth.

 

And hey, look at me, I got a source!

[john5746]

Education Deficit

 

The sad truth. We can't all provide services to one another. I think one thing that is obviously true is that people need more and more education/training to earn a decent salary.

[SmallIsPower]

Pangloss, I didn't think I needed to document the baby boom, but here it is! http://www.umsl.edu/services/govdocs/erp/1997/chart3-1.gif If you want a link on how women's lib increased the number of 2 family incomes, I'll be glad to find that, too.

 

One the first day of my first statistics class my professor quoted Mark Twain:

There are lies, damn lies and then there are statistics.

 

One of them is the Cost Of Living Increase, which is what the poverty level is based on. http://www.bls.gov/cpi/ Go down the pape hit "inflation Calculatorhttp://commonsblog.org/archives/gasoline1.jpg Here's a graph of gas prices, from 1998 to 2006 , it's gone from $1 to $3. A barrel of oil was $25 in 2002, http://www.ab3energy.com/CrudeOilPrice.jpg now it's about over $70. http://www.msnbc.msn.com/id/5612507/ Everything incurs transportation costs, not just driving cars and plane flight.

 

Between 2000 and 2004 the dollar fell 50% relative to the Euro. http://www.csmonitor.com/2004/1122/p01s01-usec.html this automatically escalates the cost of imports. Such a dramatic change is likely as much an indicator of the dollar's weekness as the euro's strength, especially since the major events that impacted the currencies happened in America: 9/11, and the invasion and occupation of Iraq, and therefore it reflects the dollars' weakness relative to the world, more than the euros' strength. Let's look at the nifty inflation calculator when all this was going on: $100 in 2000 is worth $109.70 in 2004; $117.83 in 2006. Someone is cooking the books.

 

Even with these cooked statistics the poverty rate has gone up since 1973: http://en.wikipedia.org/wiki/Poverty_in_the_United_States , especially since Bush took office.

 

To say that the only people who deserve money are the investor class is to forget who is really esential for technological innovation : Engineers and educators. I guess you think the NYFD undeserving because they mearly had 300 dead on 9/11 resucing your "wealth producers". Back in the 1950's the school food program was started so the poor could be fit soldiers, this had been a problem in WWII, and with today's "volunteer [poor] army", it also is a national security issue. Finally, there was at least one time when corporations became so powerful the nation's leader called his form of government "Corporatism". The leader's name was Mussolini. http://en.wikipedia.org/wiki/Corporatism

[Pangloss]

Pangloss' date=' I didn't think I needed to document the baby boom, but here it is!

...

One the first day of my first statistics class my professor quoted Mark Twain:

[/quote']

 

Perhaps you just meant that as humor, but I would appreciate it if you wouldn't do that. We are trying to cultivate an atmosphere of egalitarian debate here, and I will not have one member ostracize another for being asked to back up their words with evidence. I would appreciate your cooperation here.

 

As for the Mark Twain quote, it's just a wee bit hypocritical to use a slurry of confusing and highly spun statistics to say that all statistics are "damned lies", don't you think?

 

 

At any rate, none of the links and quotes you listed answered my question. I've asked you to back up your statement, and you've gone off on a wild goose chase of distraction instead. Here is what I asked you to provide references for:

 

In 1955 (The baby boom)

A husband would earn enough for himself, his wife and 4 kids.

6:1

 

In 1975 (Before women's lib became big)

A husband would earn enough for a wife and 2 kids.

4:1

 

Now

A couple can barely earn enough to raise 2 kids.

4:2

 

I didn't say it was incorrect, I merely counter-pointed it. What I would like, however, is to know where you got this information.

 

 

You also haven't addressed my counter-point. Are you unable to do so?

 

Whatever the source' date=' those stats don't tell the "whole story" either. At the very least, they ignore obvious changes like the shift to a service economy (which began two years after your baby-boom stat) and more subtle changes like the tremendous growth of the entertainment and sports industries.

 

The reason both parents work isn't because they can't put food on the table, it's because they can't manage a BMW, and X-Box 360, *and* a wide-screen HDTV. Pretending like they're "struggling" just by redefining the concept of "struggle" does a disservice to objective debate.

[/quote']

[Saryctos]

But were there Soviet spies in the State Department?