Category Archives: Default

Tax policy colloquium, week 4: Gerald Auten’s Income Inequality in the United States, part 1

Yesterday at the colloquium, Treasury economist (at the Office of Tax Analysis) Gerald Auten presented his paper, co-auithored with David Splinter of the Joint Committee on Taxation, entitled Income Inequality in the United States: Using Tax Data to Measure Long-Term Trends.

This paper is an important entry in the ongoing empirical debate among economists regarding the rise of high-end inequality. I think it’s worth offering a bit of the backstory here.

My view, and that of many others, has been that the rise of high-end inequality in the U.S. (and elsewhere) in recent decades is both unmistakable and highly consequential. Let me offer here just a few anecdotal examples off the Internet, illustrating this pervasive (I would argue) phenomenon:

–A 2016 NYT article, entitled “In an age of privilege, not everyone is in the same boat,” describing how consumer businesses increasingly direct their efforts towards extremely high-end consumers, creating sectors that feature a “money-based caste system.”

–A 2015 WaPo article, entitled “In 2016 campaign, lament of the not quite rich enough,” describing how, in the days when Jeb Bush appeared to be riding high, campaign finance had moved in such a way that presidential campaigns had little interest in courting mere multi-millionaires. One needed to be a billionaire to really get all those lap kisses and special access.

–A pair of delightful 2014 blog posts by economists, the first called “Inequality in the Skies” and the second “Fly Air Gini,” describing how the allocation of seat space inside commercial airplanes has become more high-end skewed. (This despite the fact that the real high-flyers, or top 0.1 percent, aren’t to be found in business class or even first class – they are using their own personal or corporate jets. The influience they nonetheless have on commercial flights is related to what my recent High-End Inequality Colloquium teaching colleague, Robert Frank, calls “expenditure cascades,” involving the radiation downward through the wealth distribution of influence from high-end consumption patterns.)

Anyway, it seems to me verging on undeniable that this thing at the top has happened. Widespread agreement about the reality and importance of this phenomenon helped to trigger the extremely high-profile reception of Thomas Piketty’s 2014 tome, Capital in the 21st Century.

The Piketty book, and its underlying research (much of it conducted with Emmanuel Saez, and subsequently also with Gabriel Zucman), had a lot going for it. It took a fresh look at previously under-utilized data, it reached important conclusions that seemed clearly correct, and Piketty even made the book more fun by discussing the novels of Austen and Balzac.

But there were a couple of things to create potential unease about this work. First, there was reason to question Piketty’s causal theory for the rise in high-end inequality, which he based on “r > g” – the excess of the rate of return over the rate of growth in the economy, causing capital-owners to hold an ever-increasing share of the overall pie. Not only were there some soft spots in the underlying theoretical reasoning, but it seemed clear that, in the U.S. at least, the rise of high-end inequality was driven primarily by rising high-end labor income inequality.  (Joe Bankman and I wrote about Piketty’s work, in part critically, here, in connection with an interdisciplinary NYU-UCLA conference on the book that Piketty attended.) Ought the problems with the underlying theory support broader skepticism about the work – or was it simply a causal dispute? It was hard to know.

Second, while I am not myself an empiricist, I began to hear suggestions from various economists – straight-up folks without intellectual axes to grind – that they were uneasy about some of the details in the (at that stage mainly) Piketty-Saez work. Reading the footnotes, in effect, seemed not to inspire universal confidence. And there are people to whom it sometimes seemed that debatable interpretive choices – although inevitable, given the data challenges in the enterprise – seemed to have a tendency to lean towards making the estimates of rising high-end inequality higher, rather than lower.

Yesterday’s colloquium presenter, Gerald Auten, got into the debate as a consequence of his in effect carefully reading the footnotes in connection with IRS tax data. Among the things he noticed was that the Piketty and Saez (“PS”) methodology seemed to show a huge uptick in high-end inequality right around the enactment of the Tax Reform Act of 1986.

Now, as an aside, it is plausible that TRA 86 might have tended over time to boost high-end inequality (it aimed to be distributionally neutral, but only within a 5-year budget window and without looking at the top 1% – it was designed in light of effects on income quintiles). But not quite so immediately. The jump one computed by replicating the PS methodology seemed to rely a lot on (a) the fact that TRA 86 induced a lot of people to shift out of corporate form, so that the same earnings they had previously been generating through C corporations now appeared on their individual returns, and (b) the fact that, under TRA 86 provisions targeting tax avoidance by rich people, more children of rich people now had to file tax returns on which they might have trivial amounts of taxable income. These looked as if they were the tax returns of poor people, but actually weren’t. The growth in seemingly “poor” taxpayers made the income concentration at the top look greater than it would have, had the kids (as previously) not filed.

In short, there were technical reasons unrelated to the true growth of high-end inequality why it seemed to grow sharply, under the PS methodology, right around 1986. And if one took that growth away from the estimates, what was left seemed potentially much smaller than PS had been trumpeting.

Auten and Splinter therefore started preparing their own estimates of high-end inequality trends from 1960 through the early twenty-first century, and came up with a much more modest growth estimate. Indeed, the current paper draft concludes that its findings support an “alternative narrative … [to that in PS] when consistent and broad measures of pre-tax and after-tax incomes are used: changes in the top one percent income shares over the last half century are likely to have been relatively modest.”

As I see it, this can put one in a strange place, as a consumer of the empirical debate. Much of what Auten and Splinter (AS) do – such as addressing the anomalies that I noted above – seems clearly correct. What’s more, they clearly have no axe to grind, and simply want to get the data analysis right.

On the other hand, it kind of seems like their bottom line conclusion can’t quite be correct. I’m reminded of the old joke: “Who are you gonna believe, honey – me or your lying eyes?” It’s not just bias or media trends – our not so lying eyes surely have seen a real phenomenon unfolding over time. How could it not be happening after all?

This angle is well-captured in a recent Vox blogpost by Dylan Matthews, entitled “A new study says much of the rise in inequality is an illusion. Should you believe it?” This in the end is not ultimately my take on how to think about the significance of the AS paper, but I will admit that I started there.

Now, as I’ll discuss in a follow-up blog entry, there may actually be several good reasons, based purely on data interpretation, for revising the AS “narrative” very substantially towards that in PS. Indeed, the latest version of the latter – PSZ for Piketty-Saez-Zucman – really helps in framing the empirical gap in ways that could well come out sufficiently in their favor to revive their “narrative” relative to that in AS.

Let us suppose, however, that this remains indeterminate. How should one’s prior about the compelling, even if anecdotal, evidence of the contemporary rise in high-end inequality affect one’s response to the empirical analysis in AS?  Here are two possibilities:

–It can function as a Bayesian prior, influencing how one evaluates uncertainties in the data, even though one must always be open-minded,

–It can motivate considering how the AS analysis and what one has seen happening over the last three decades could BOTH be true. For example, if empirical measures of high-end inequality came out exactly the same in 1960 as today – which would go well beyond their finding merely “modest” high-end growth – might the changes we’ve observed nonetheless have been happening? I find it very plausible that cultural and behavioral changes since that time could have this upshot. If people at the top, in 1960, didn’t flaunt and flex their wealth to nearly the same degree then as they do now, either in consumer markets or in politics, then the changes so many of us have observed could reflect that, rather than (just) material changes in distribution.

I’ll develop all this further in the next blog entry (after participating, in a few minutes, in an NYU Law Forum where I and three colleagues will discuss the 2017 tax act with an audience mainly of law students).

But first, a last quick point to sharpen (I hope) interest in the follow-up. High-end inequality is not a single entirely well-defined “thing,” nor does it matter for just one reason. For each reason why it might matter, a different mode of measurement might be appropriate. So there is no unitary answer to the measurement issues that are raised by AS, PS, and PSZ.

Art by our extinct cousins?

Per an article in today’s New York Times, this may have been australopithecine art, depicting a face. (The pebble seems to have been transported to the site where it was found, and the holes gouged into it deliberately.)

And this may have been (technically and conceptually more advanced) Neanderthal art, also depicting a face.

OK, I realize that we don’t know for sure that this is a correct interpretation in either case. But interesting to contemplate.

New article (on the DBCFT) posted on SSRN

I have just posted on SSRN a recently completed article of mine, entitled “Goodbye to All That?: A Requiem for the Destination-Based Cash Flow Tax.” It’s available here.

It’s based on an ever-evolving talk that I gave multiple times in 2017, most recently at the interdisciplinary conference, “International Tax Policy in a Disruptive Environment,” that the Max Planck Institute for Tax Law and Public Finance held in Munich on December 14-15, 2017. A final version of the paper will be appearing in a forthcoming conference volume of the Bulletin for International Taxation, to be published by IBFD.

Its abstract goes something like this:

In the aftermath of the short but spectacular career of the destination-based cash flow tax (DBCFT) as a widely-discussed tax reform option in U.S. tax policy debate, this paper argues that we should generally move on from focusing on the DBCFT as a discrete package.  While its political future (if any) is hard to predict, discussing it as a package tends to impede, rather than advance, clear thinking about the underlying issues.

The DBCFT has three main elements: (1) adopting a broad-based VAT (or increasing the VAT rate, in countries that already have one), (2) reducing the origin-based corporate (or business) income tax rate to zero, and (3) adopting a wage subsidy.  Intellectual clarity would be greatly advanced by evaluating each of these elements separately, rather than the DBCFT as a package.  It also would be advanced by more consistent recognition of the points that (1) countries can (and frequently do) have both VATs and origin-based corporate income taxes – it is not an either/or proposition – and (2) even if a destination-based VAT is more efficient than an origin-based tax, that does not make the case for having onlythe former, especially in a system that otherwise retains income taxation of individuals, and that serves distributional goals as well as that of efficiency (which would be advanced even more by having a lump-sum tax).

In addition, the DBCFT, unlike its forebears the flat tax and X-tax, does not involve specifying how individuals are taxed on wage and investment income.  This impedes analyzing how it, as compared to those more comprehensive instruments, would affect the fiscal system as a whole, in any given instance where it was adopted.

Tax policy colloquium, week 3: Andrew Hayashi’s “Countercyclical Tax Bases”

Yesterday at the colloquium, Andrew Hayashi presented an early draft of an interesting project that brings together two recently burgeoning (but still on balance underpopulated) sub-genres in tax policy scholarship. The first is looking at macroeconomic, or more specifically, Keynesian, policy considerations – in particular, the design of fiscal policy instruments to be automatically countercyclical (or at least not procyclical). The second is state and local taxation, which gets less attention in the literature (despite some excellent scholars) than its overall importance deserves, in part because it’s harder to look at all 50 states than simply at the federal level.

Hayashi is interested in examining, from both a theoretical and an empirical perspective, the question of how the choice of tax base by local governments could affect the depth of recessions and speed of recovery within their borders.

In recent years, we have of course learned that serious recessions actually can and do still happen. Plus, they may be inadequately addressed at the federal level, despite the multiple tools of monetary policy, automatic fiscal policy adjustments, and discretionary fiscal policy responses. Plus, recessions may vary significantly in severity as between localities, even if geographical mobility within the United States is not quite so low as, say, that between distinctive parts of the EU.

So, even if one is skeptical of the potential of discretionary fiscal policy at the state and local level – if only due to balanced budget constraints on state and local governments – one might like to ask what automatic fiscal policy can do. Only, when one thinks about this, balanced budget constraints remain relevant.

State and local governments may face balanced budget legal requirements with varying degrees of rigor. But even if the legal constraints aren’t binding, the governments may face market constraints since, their credit ratings can plummet if they don’t take care (reflecting a long history of sub-federal defaults).

If a locality’s balanced budget constraint is sufficiently binding, then a countercyclical reduction in tax revenues may be promptly (or even verging on simultaneously) offset by a procyclical reduction in government outlays. So then the question becomes, from the standpoint of countercyclical fiscal policy, which of these two sets of opposite changes is likely to have a greater business cycle effect.

Joseph Stiglitz and Peter Orszag have apparently argued that marginal changes in state and local government spending, amid a recession, tend to affect consumption levels more than marginal changes in state and local tax levels – reflecting that taxes may tend to be paid by higher-income households that respond to the tax changes via their savings levels.  If and insofar as this is true, one gets a seemingly paradoxical reversal of the standard wisdom regarding automatic fiscal policy.

If the tax side changed by itself, then the Keynesian macro standpoint would counsel the use by state and local governments of tax instruments that are relatively volatile and correlated with the business cycle. State and local income taxes are the classic example. By contrast, real property tax revenues tend to be extremely stable, even if home values are fluctuating. For example, property tax reassessments may be sporadic, may lean in practice against reducing the assessed value, and have enough discretion in the joints to permit keeping revenues steady. (Recent research by John Mikesell confirms that real property tax revenues were extremely stable during the Great Recession.)

So one has the paradigmatic choice between state and local taxes – income taxes, which fluctuate countercyclically but thereby draw procyclical spending changes, and real property taxes, which may fail to boost consumption in a recession, since they remain about the same, but have the virtue of not similarly drawing procyclical spending cuts.

A question of central interest in Hayashi’s paper is whether one can find an empirical correlation between (a) the use of income taxation versus property taxation at the county level and (b) the severity of and speed of recovery from recessions. Then a second question is whether one can draw a causal arrow from (a) to (b), based on the above scenario in which volatile income taxes, but not stable property taxes, draw matching spending cuts. Early work, reflected in the draft discussed yesterday, suggests that there may indeed be some positive correlation between using property taxes and doing better in recessions, but much work remains to be done before any causal interpretation of the data can be confidently advanced.

Now, that’s what I call a bargain

According to the International Business Times, the 2017 tax bill may cause the Koch brothers to clear an extra $1 billion after-tax each year that it remains in force.

Given that point, what a bargain for them to have paid Paul Ryan’s fundraising committee a mere $500,000 shortly after the tax act passed. That’s only about 0.05% of a single year’s yield – although it’s obviously true that they’ve paid off plenty of other people as well.

Ryan of course also benefited, and got paid by, plenty of other very rich people by helping to ram through the tax bill. But still, without needing to compute who paid him how much in exchange for how much (and express, criminally punishable quid pro quos are wholly unnecessary to this), it is an interesting question, which the public choice literature has studied over a period of decades, why he and others like him can’t clear even more from their largesse than they already do.

Gordon Tullock wrote a number of interesting works, including this one, on why the Washington rent-seeking industry, although we think of it as large, is actually so small (and poorly paying for the government actors who provide the payoffs) relative to the benefits they provide. He noted that this suggests the industry is highly “inefficient” – a fact of which we should be glad, since if it were more “efficient” at rent extraction this would probably cause the collapse of the U.S. economy and immiserate (or further immiserate) the hundreds of millions of Americans who are not in a position to reap the fruits of perverting government processes.

One of the key factors Tullock identifies is that both legal constraints and informal norms, by making it harder to pay really large amounts and have explicit quid pro quo deals without courting jail time, help to make the industry so “inefficient.” But the rise of partisan norms, decline of democratic accountability, and decline of prosecutorial independence from the presidency (if sustained) could certainly move towards making the rent-seeking / corruption market increasingly “efficient.”

Forget draining the swamp; the question now is to what extent the swamp will start draining us.

Tax policy colloquium, week 2: Peter Dietsch’s “Tax Competition and Global Background Justice”

Yesterday at the Tax Policy Colloquium, Peter Dietsch of the University of Montreal’s Philosophy Department presented “Tax Competition and Global Background Justice,” coauthored by Thomas Rixen.

Given our interdisciplinary interests at the Colloquium, it was great to have a paper by a philosopher, especially one who understands both economics and legal institutions at a sufficient level to be able to make a serious and grounded inquiry. 

The paper’s underlying concern is that global tax competition may undermine countries’ fiscal systems in two ways: by reducing (1) their tax capacity (how much revenue they can raise, and thus what sorts of spending policies they can afford, and (2) their ability to achieve distributional aims, in particular at the high end of the wealth or income distribution. (Obviously, some readers may view these limitations as good rather than bad – noted in the interest of completeness, although I am not in that camp myself.) One might reasonably posit that problem #1 is more likely to be binding for small and developing countries, while problem #2 is more likely to affect larger, wealthier, and more developed countries.

The normative framework that the paper applies to these issues is consequentialist, but not welfarist. The aim is to maximize aggregate fiscal self-determination, a country-level analogue to thinking about individuals’ autonomy.  This is founded on accepting pluralism and countries’ having distinctive sets of policy preferences, and the concern is about effective de facto, not just formal de jure, powers of fiscal self-determination.

A simple example that’s drawn from the paper may help to illustrate this. Suppose Sweden has a preference for high taxes and a big welfare state; the UK for low taxes and only a small welfare state.  Fiscal self-determination is advanced if both countries can do what they prefer. 

With global capital mobility, capital will tend to flow out of Sweden and into the UK if each country simply implements its preferences (which one might think of them as having wholly without regard to global capital mobility – although, in fact, one might ask if there’s a kind of not-behind-the-veil issue going on here. So what the UK does potentially undermines Sweden’s ability to do what it likes. But suppose a global tax authority therefore told the UK: You need to have higher taxes, so that you don’t undermine Sweden’s ability to fund a large welfare state. This would aid Swedish fiscal self-determination, but at the cost of denying fiscal self-determination to the UK. So there is an inherent tension that makes it harder to decide how fiscal self-determination is best maximized.

Before turning to the paper’s proposed response to the dilemma or tradeoff, it’s useful to mention 3 well-chosen scenarios that it emphasizes:

CASE 1: An individual hides income from the national tax authorities by earning it through (and stashing it in) a bank in a tax haven jurisdiction that (still) offers banks secrecy.  This is fraud by the taxpayer under domestic law. The haven jurisdiction, or people in it, might conceivably be thought of as enablers or even accessories to this fraud, but rather than use all those issues the paper refers to this as “poaching” by that jurisdiction at the expense of the residence jurisdiction.

CASE 2: A company uses transfer pricing and other tricks of the trade to divert taxable income from the places where it actually arose (perhaps an ambiguous concept, of course) to a tax haven jurisdiction. This is profit-shifting by the taxpayer, and the paper likewise calls it poaching by the tax haven jurisdiction. The key difference between Cases 1 and 2, other than individual vs. corporation, is that 1 involves straight-up fraud, while here the profit-shifting may be at least arguably, or even unambiguously, legally permissible under the tax rules of the “true” source jurisdiction (and perhaps also the residence jurisdiction).

CASE 3: A multinational firm places a factory wherever the effective tax rate on the production will be lowest. We can call this production-shifting, rather than profit-shifting, because here the “true” source changes – this is “real” rather than formal tax competition. The paper’s term for jurisdictions that seek to attract factories and other real investment via lower effective tax rates is “luring.”

An example of the paper’s shrewdness is its recognizing that cutting back on poaching may increase luring. Real tax competition may become fiercer if higher-tax countries can’t mitigate their headline rates via the availability of profit-shifting. But let’s go back to the central line of argument.

If we think of tax competition as a race to the bottom, poaching inevitably leads there, to the extent that it is feasible, since profits can in principle be placed wherever one likes. Luring also pushes in that direction, although it is more constrained since one has to place the factory somewhere where real production activity is not just feasible but cost-competitive with the alternatives on an all-in, after-tax basis.

The paper offers two main principles in addressing the challenges to fiscal self-determination that these three scenarios raise. The first is a “membership principle,” holding that one should be liable to pay tax wherever one is a “member” of the given society. This works in familiar fashion for individuals, who in the simplest cases are unambiguously residents of one country but not others. But the paper also argues that corporations – perhaps a better concept would be “businesses” – are members wherever they make significant use of local resources. Thus, if I (at least through a corporation) sat around in NYC writing books in Hindi that I then had printed in Singapore and sold in India, I’d have some membership in the US, in Singapore, and in India. As I’ll address shortly, it might seem a bit odd to say my corporation is a “member” of these three societies, but it would be unexceptional to say that all three have legal nexus permitting them to tax my activity of writing, printing, and selling books.

Second, the paper offers what it calls a “fiscal policy constraint” on how countries should decide on their tax rules. To simplify slightly, the idea is no poaching and no luring. In other words – but, to be fair, putting it in my words, not exactly those of the paper – they should set their tax rules (such as the corporate rate) under the counterfactual assumption that capital is geographically inelastic.

Back to the UK, with its lower tax rate than Sweden. It’s fine, and a basic exercise of their fiscal sovereignty, if they set a low corporate tax rate in part because they believe UK residents will save and invest more if this rate is low, rather than high. But if the elasticity on which they rely is cross-border, rather than internal – if they are setting their tax rate at least in part to “lure” capital away from other places such as high-tax Sweden – then they are acting improperly. 

As an aspirational aim for the distant future, the paper envisions the creation someday of an “International Tax Organization” or ITO, by analogy to the World Trade Organization (WTO), or more distantly, say, the International Court of Justice. In a world where all this was in place, if the UK cut its tax rate (to keep things simpler, let’s leave aside preexisting low rates), Sweden could contest this in the ITO, which would rule against the UK if the Swedes sufficiently demonstrated that luring was afoot and that it had an adverse impact on Sweden.

I don’t consider the fact that (as the authors recognize) this is not very short-term practical or likely to happen as an insuperable objection to evaluating it normatively. Our underlying principles (and what they should be) are of interest even with relevant political, etc., constraints. But several main comments occur to me, even leaving aside the broader issue of whether one might view at least some aspects of tax competition as good rather than bad.

1) To what extent is multilateral cooperation necessary to preserve countries’ tax capacity and ability to achieve their distributional aims? A big part of the problem is that so much business income is taxed at the entity level, via corporate income taxes, thus causing corporate residence electivity plus source manipulability (through both real tax competition and profit-shifting) to have large effects. But, so long as Problem 1 (fraud) is being addressed – and I note that FATCA et al suggest that it is increasingly being addressed – countries might have other ways of getting to where they might want. A key aspect may be shifting effective taxation to be more at the owner level and less at the entity level. Some recent US academic tax reform plans that would have done this are (a) Toder-Viard (mark to market taxation at the SH level, tax rate is reduced to 15%), (b) Grubert-Altshuler (deferral charge for the receipt of dividends, plus realization at death for shareholders, with the corporate rate likewise being reduced to 15%), and (c) Kleinbard’s BEIT proposal, shifting taxation of normal returns to the owner level (among other changes). Adopting progressive consumption taxation (which I would want to supplement with something such as inheritance taxation) might also decouple achievement of the fiscal sovereignty aims from the issues around tax competition.

2) To say not just no poaching but also no luring is a rather demanding standard. In effect, nations are being urged to make tax policy around a counterfactual, and to overlook key empirical consequences of their choices that may be quite difficult to disregard. Note of course that, in well-governed countries, the legislators recognize fiduciary duties towards the wellbeing of their constituents, and that one may especially uneasy about disregarding important empirical issues if one is not convinced that legislators in other countries are doing this as well.

3) This may be as much a semantic as a substantive objection, but it seems inapt to me to say that my hypothetical Hindi book publishing and writing business makes me a “member” of Singapore’s and India’s polities under the above hypothetical facts. The paper invokes the notion of benefit. But the normative force of the concept is unclear to me, especially where the benefits that I’m getting impose no net cost (and perhaps even convey a net benefit) to the jurisdictions that provide them. Singapore is presumably better-off (rather than, say, predominantly more “congested”) by reason of my doing some basic manufacturing there, likewise India by reason of my hypothetical eloquence in Hindi. So the idea is really nexus with an associated notion of proportionality. (The paper anticipates, say, 3-factor formulary apportionment’s being used, so that Singapore & India merely get a share – they can’t over-grab merely because my company has nexus &/or is deemed a “member” of their polities.)

Nexus is a familiar legal concept, but hard to ground directly in clear normative terms. I think of it in this context in terms of what I like to call the “Monty Python tax principle.”

A silly Pythoneer in a bowler hat comments, in one of the old episodes, “To aid the British economy, we should tax foreigners living abroad.” Hence, under the Monty Python tax principle, every country in the world might like to tax my activity of writing books in the US that are printed in Singapore and sold in India. But this would lead in a rather chaotic direction, to say the least (even apart from the question of how all those countries could actually collect these taxes).

Nexus is  clearly an important practical idea, but I myself wouldn’t ground it semantically in terms of “membership.” I also might not ground it normatively in terms of “benefit,” although admittedly I haven’t focused on nexus issues, more or less taking it for granted that, in the above scenario, the only 3 relecant players are likely to be the US, Singapore, and India. But it’s a topic that certainly merits attention.

Despite quibbling with some aspects of the paper’s analysis, I found it very helpful and interesting, and thought that it prompted a great discussion at both our AM and PM sessions.

Dietsch’s recently published book, Catching Capital: The Ethics of Tax Competition, discusses his views more broadly. Recommended & worth a look by all with related interests.  Its multidisciplinary strengths are not often found in the biz.

Lost in translation

I spoke briefly by phone in December to a reporter from Japan who was asking me how the 2017 Republican tax bill compared to 1986 tax reform. Today he kindly sent me the text of his article, with highlighting for the portion where my comments are mentioned.

Unfortunately for my comprehension, the article is in Japanese, but he suggested that I use Google Translate for the highlighted portion. I did so, and here is what I got:

“Mr. Trump often cites tax reductions of the Reagan administration about 30 years ago. However, Daniel Shaviro, who worked as a lawyer in planning a tax cut on Reagan, said, ‘At that time, the principle that equitable taxation should be imposed on whatever income it was in was at the bottom of the line: the current tax system to distinguish by how earned, It is not similar even though they are similar.'”

Hmm, not sure Google Translate absolutely nailed it here.

But perhaps I was noting that the passthrough rules cause the same earnings to be taxed differentially based on whether or not one is formally classified as an employee.

New tax policy articles

Although largely not reflected until now in my public profile, I’ve been busy writing tax articles over the last month, and it looks like I’ll be continuing to do so for a bit. I have more or less completed two short articles (each about 10,000 words long) and just started a new piece today.

The two that I’ve largely completed are as follows:
1) “The Disgraceful U.S. Passthrough Rules,” drawing on analysis that will be familiar to people who have been reading this blog over the last few months. Yes, this piece has a definite point of view. I plan to post it on SSRN fairly soon.
2) “Goodbye to All That? A Requiem for the Destination-Based Cash Flow Tax.” Here the content will likewise be familiar to people who have looked at slides that I’ve posted in various incarnations here (and in one of them on SSRN).  This one will also probably be on SSRN soon.
Then there’s the new one. I’ve just started it, but am hoping it will go fast as I can use portions of an early draft of an article that I wrote (but never posted) in the last quarter of 2017, before U.S. legislative developments made portions of it obsolete.
Its current working title is “Does the United States Now Have a Territorial Tax System?” The answer, in a word, is No.
I don’t make readers wait for this conclusion – it actually comes on the bottom of page 1. And I note, of course, that this isn’t my novel conclusion – sophisticated observers were saying it publicly before the bill had even been signed. What makes it seem useful to me as the article’s title is that it helps to show the thorough unhelpfulness of the terms “worldwide” and “territorial” – not just as descriptions of actual real world tax systems, but even as basic analytical tools.
I’m planning to go on from there to point at what I think are better tools for analyzing international tax systems. Design issues of interest include (1) whether or not there is deferral, (2) what is the domestic tax rate for different kinds of foreign source income, (3) what is the effective marginal reimbursement rate for foreign taxes paid, and (4) how does one address profit-shifting, both in general and when it’s done by resident as opposed to nonresident multinational firms (as classified by domestic law).
One point I will make is that the new U.S. international tax rules (along with various international tax rules in other countries) show the influence of considerations that I have argued are important with respect to the above questions.
It will also be clear to readers of the article that I by no means lump the 2017 act’s international tax rules with its abysmal (or, per my article title, ‘disgraceful”) passthrough rules. There are clearly some serious problems with the new international tax rules. But even if they’re not better than prior law right now – on which I don’t have a definite conclusion at this point – they certainly could be tweaked to be significantly better.
This is partly a “compared to what”” point. The U.S. international tax rules were bad beforehand, and getting rid of deferral is an immediate plus, although the next question has always been what replaces it. (Both pure worldwide and pure territorial advocates, who have long existed in academia despite what I’d call the underlying weakness and analytical sloppiness of both positions, alike hated deferral.)
But it also reflects that the legislative effort with respect to international tax law changes appears to have been fundamentally different in character than that with respect to the passthrough rules and the corporate rate cut.
I argue in “Disgraceful” that the passthrough rules, along with the lack of any serious effort to cabin heightened incentives to use corporations as tax shelters for labor income, raise serious concerns about the competency and even the good faith character of the legislative effort. But the new international rules, despite having some sloppy and rushed elements, are in a different category, as some serious thought by serious people does seem to have gone into designing them.

It’s a relief to be able to take a far less negative tone in my second piece addressing aspects of the 2017 act than in my first.

2018 NYU Tax Policy Colloquium: Greg Leiserson on dynamic scoring, part 3

The central conclusion I reached in my prior two posts (here and here) was not that dynamic scoring – i.e., attempting to measure macroeconomic responses to proposed tax law changes and to incorporate them in revenue estimates – is inherently wrong (it’s not), but rather that its prominence within the information package that Congress considers can lead to worsened short-termism and biased decision-making.

In the particular context of the 2017 act, suppose all that one changed was to base the centrally reported dynamic score numbers on gross national product (GNP), rather than gross domestic product (GDP). That would focus attention on the change in Americans’ wealth, rather than on growth in the U.S. economy without regard to how much of the value being produced was owned by foreigners. That would be no less “dynamic” a score. What is more, neither GNP or GDP is inherently a better measure. – it depends entirely on what one wants to know. But in context this would likely have been less misleading, as consumers of the dynamic score, and the growth effects it suggested, probably implicitly assumed that it was all to the benefit of U.S. individuals.

This brings me back to the point that dynamic scoring was pushed by people on the right as a weaponized tool to favor their side in the tax cut debate. This point is not contradicted by dynamic scoring’s having arguments in its favor, and indeed potentially improving information with regard to the particular narrow questions that it addresses.

This in turn calls less for rejecting it than recalibrating its use and seeking other tools to give greater prominence instead. These should both aim to supply useful information and to counter pervasive short-termism in the political budget process (possibly through different and complementary measures).

But a further question of interest is the following. Great, the right has had a shot at weaponizing the instruments used in budget debate in order to tilt the budgetary battlefield in its favor. Suppose people on the left wanted to do the same thing, only in their favor. Then what sorts of measures might they urge Congress, along with other information providers, to emphasize?

Here are three ideas that emerged from discussions that I had in relation to the colloquium. (I am putting it this way to minimize taking undue personal credit for ideas I got from other people, while also not directly reporting on the colloquium discussion, which was off the record.) None is anywhere close to fully formed or ready for primetime. They are rather possible directions for further thinking.

Idea #1 – dynamic scoring for growth-promoting public spending – For example, educational and infrastructure investment could have budget estimates that reduce the net cost by taking account of expected productivity gains and (perhaps separately) the tax revenue consequences of productivity gains.

Idea #2 – a measure that focuses on how tax changes affect inequality. This might be focused on high-end inequality (and separately on low-end inequality), and could take a number of different forms.

I don’t think that a Gini-style composite measure is at all useful here. It both conflates two quite distinct issues – high-end and low-end inequality – and is too bloodless and technocratic-looking.

Instead, some sort of measure that looks at gains to the top 1% and the top 0.1%. This could be put in a number of different ways, but the point is to have something that combines good optics with being intellectually defensible to focus attention on plutocrats’ gains from 2017-style tax changes.

Idea #3 – middle-class tax impact: Suppose one were to assume that unfunded tax cuts (or, say, income tax cuts) will be offset at some point by income tax increases, and that the latter will be proportionate to the different income percentiles’ shares of overall federal tax (or income tax) liability after adoption of the tax cuts. Hence, anything that cut taxes disproportionately for people at the top, a la the 2017 tax act, would be shown as increasing middle class taxes once the tax cut was funded in the specified manner.

In each of these cases, accurate information would actually have been provided. (In case 3, this pertains to the particular set of questions being asked, whether or not it’s true that the funding for the tax cut would definitely take that form.) So, no less than dynamic scoring, both may expand the information that policymakers have, only with a rather different focus on what questions are being asked.

Given that these ideas are still so preliminary and unformed, let me close here by making a more general point. This is not a matter of right or wrong – political players have every reason to try to tilt the process in their own favor – but I believe Republicans have, for decades, been much more active than Democrats in trying to shift the rules of various ongoing poltical games in their favor – whether we’re talking about districting, campaign finance, voting restrictions, budget rules, or budgetary information. This has led to asymmetric warfare that one could blame, if one is so inclined, more on the Democrats than on the Republicans.

Democrats ought as a matter of self-interest to address this. In the budgetary realm in particular, one thing they ought to do, if they take control of Congress in 2018 or later, is change the budgetary and information reporting rules, and much else as well, in their favor. It’s how the game is played these days. Dynamic scoring, other ways of doing dynamic scoring, and budgetary and information-providing rules more generally (in tax and elsewhere) are areas that they would be poring over carefully, if they were smart, in search of places to take advantage.

If the so-called wave emerges later this year, we will see if any of this actually happens.

2018 NYU Tax Policy Colloquium: Greg Leiserson on dynamic scoring, part 2

Greg Leiserson’s colloquium paper on dynamic scoring powerfully argues that dynamic scoring, as currently practiced, is a flawed and asymmetric approach that leans unduly in favoring tax cuts – almost, but not quite 100%, the bigger the better – without properly addressing the relevant tradeoffs, such as the fact that there will be losers in the future from reductions in net revenue.

But let’s start here with why one might want to do dynamic scoring. By saying that “one” might want to do it, I am abstracting for a moment from the political process, in which dynamic scoring is a weaponized tool pushed by those on the political right to advance their own subjective policy preferences, to ask only why it might be of interest to good faith players who wanted more and better information, even absent that entire side of things.

To set things straight from the start, conventional revenue estimates, no less than “dynamic” ones, are completely dynamic in a microeconomic sense. They build in, for example, the point that, if one doubled tax preferences for solar panels on people’s roofs, there would likely be a supply side response (more $$ spent by more people on such panels). What conventional revenue estimates treat as fixed is the macroeconomic side of things – aggregate labor supply, savings, available capital, etc.

Now, those things are not in fact fixed. They can change in response to a tax change, at least if it’s big enough and has some direct impact on them. So in principle one ought to take those things into account.

Suppose, for example, that the 2017 tax act actually would have paid in full for itself. That would have been worth knowing. And even if it, say, one-third pays for itself, that, too, is worth knowing.

Suppose further that members of Congress ask the staff: At what level do you project 2020 GDP, (a) without vs. (b) with a particular tax bill’s being enacted? It’s a reasonable question to ask, and one that merits a fully informed answer.  But this brings us to the various “buts” regarding dynamic scoring, especially as practiced.

An iniital point is sharp dissensus among macroeconomic models. But that of course doesn’t mean we should have no such estimates, it just means they should be handled with care and that there should probably be multiple forecasts presented. (But JCT was instead told to provide a single operative estimate this time around.)

A second, more telling point, is that estimators are being asked to forecast incompletely specified policies. A budget forecast should be forward-looking for two reasons. One is that we should care about the future. The second is that actual economic actors may be forward-looking, so what they do may reflect their expectations about the future.

When there’s a preexisting fiscal gap, and a giant tax cut would make it even worse (even building in today’s actors’ expectations), the actual full set of policies, including the consequences of the set of pay-fors, remains unspecified. Now, this does not entirely defeat one’s making estimates about what will happen over the next ten years if the announced policies remain in force. But it creates a set of discontinuities – inside vs. outside the budget window, and announced vs. as yet unannounced policies – that can be misleading to policymakers and the public even if the 10-year forecast is accurate.

If there’s one fundamental political economy problem in budget policymaking, other than power imbalances and disregard for the interests of the less powerful, it’s short-termism. Politicians and voters want good stuff now without due regard for the nation’s future. (This is the subject, for example, of James Buchanan and Robert Wagner’s famous book, Democracy in Deficit.)

Dynamic scoring, when added to a budget window, accentuates short-termism. (One could reasonably argue, however, that the underlying problem is more about the budget window than dynamic scoring as such.) It gets back to the question that, as I noted in my prior post, policymakers might reasonably want to ask their staff: What would a given tax bill do, say, to GDP in 2 or 3 years? Revenue-losing tax bills such as the 2017 act have a tendency to increase short-term GDP growth in exchange for lowering it in the long run, due to fiscal crowdout. So while one ought to supply the information, one makes the political process worse if the result is to increase focus on the short term at the expense of the long term.

To put it another way, budget rules aren’t just about the quantum of information, they’re also about relative emphasis (as well as imposing specific constraints in particular cases, although the dynamic score was not used that way in 2017). Dynamic scoring as used – not necessarily, as an inherent conceptual thing – accentuates short-termism, when arguably the single most important thing that budget rules and scoring methodologies should do, apart from just supplying information, is to counter short-termism.

What happens if one puts dynamic scoring at the center of the process, and cares only about net revenue cost and GDP growth within the 10-year window? It’s possible that this would lead to one’s deriving the result that GDP would be the highest if federal revenue went all the way to zero – i.e., no taxes whatsoever.

To put it more precisely, the only way that wouldn’t be true is if crowd-out within the ten year period from having no tax revenues whatsoever, hence skyrocketing public debt and annual interest charges, sufficiently suppressed growth within the 10-year period by reason of crowd-out. Now this might happen in the forecast, even if estimators didn’t decide that they needed to consider modeling a full-blown fiscal crisis inside the budget window.

But there’s still a sense in which the wrong question (at least as a matter of emphasis) is being asked. If one centrally relies on dynamic scoring PLUS exclusive focus on the 10-year budget window, the optimal level of taxation appears to be that which would be optimal if (a) one had to pay interest charges and deal with crowd-out within the 10-year period, but also (b) at the end of 10 years, one got to cancel the public debt run-up – settle it for zero -without this having been anticipated or having adverse effects afterwards.

That is obviously not a sensible way to approach actual budget policy. As the Leiserson paper convincingly shows, dynamic scoring – again, conditioned on how it is being used, not necessarily in the abstract as one tool among dozens – creates bias in favor of ever larger tax cuts without offering any clue as to the fact that diminishing government revenues adversely affects people who therefore either get less from the federal government, now or in the future, or else end up paying more taxes later due to new enactments.

One last perspective that I want to offer with regard to dynamic scoring is its having been used as a “weaponized” tool in the federal budget and tax policy wars, and its not being the only possible weaponized tool, in support of the only existing interests, that one could imagine. But I will leave that point for a separate post that is to follow shortly.