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The Socialist Destruction of Venezuela Perfectly Captured By One Story

Tue, 11/13/2018 - 10:56am

It has been a long time since I read a newspaper article that succinctly summarized the total, utter and unmitigated destruction that is socialism, but the November 8 article in the Wall Street Journal (p. A13, print edition) about corporate flight from Venezuela, really did the job.

The article tells the story of how an Irish packaging company, Smurfit Kappa, finally gave up on the Venezuelan economy, packed up and left the country. Chased out by a bullying government, the company left behind former workers, their families, a school that it funded, and an entire community that is now hurled into despair at the brink of existence.

In the wake of the midterm election here in the United States, where openly socialist candidates tried – some successfully – to get a foothold in elected offices, the story out of the crumbling Bolivarian republic is more important than ever. The Wall Street Journal reports of the plight of the people who lost their jobs when Smurfit left, and how they even stand guard at the abandoned work equipment in the desperate hope that someone else will come in and restart the operations.

The Journal quotes a former employee:

“We’re so scared because we now know that all the government does is destroy everything, every business.”

As businesses leave the country in every cardinal direction, the Venezuelan economy has been decimated by half in four short years. Inflation is destined to reach ten million percent in 2019. This still is not at Zimbabwean levels, another socialist experiment that topped out at 89.7 billion billion percent in 2008, but beyond a certain point the zeros don’t matter anymore.

What matters is that Venezuela, once the most prosperous nation in Latin America, suddenly decided that it could afford socialism. The result is an imploding economy, mass starvation, rampant flight from the country and the utter destruction of the futures of generations to come. As the country collapses, all systems that provide people with goods and services in a free-market system grind to a halt.

One major reason for Venezuela’s economic destruction is the relentless harassment, bullying and outright hatred that the socialist government has shown toward the business community. The Wall Street Journal explains the result:

A survey conducted by the Venezuelan Industrial Confederation found more than 200 industrial companies closed shop in the second quarter of 2018 while nearly half of respondents said they were working at around 20% capacity due to the lack of raw materials.

When government starts taxing and regulating the private sector, there comes a point where the tax base – the private sector – can no longer deliver the revenue that government wants. At that point, the Venezuelan government doubled down on its intervention into the private sector, as in the case with the Irish company Smurfit. The Journal again:

Smurfit, which had worked here for six decades, abruptly pulled out in late September after Venezuelan military officers arrested several managers and seized its plans. Authorities accused the company of market speculation and demanded it lower prices of some goods by 80%

It is absurd, of course, to accuse any business of price speculation when monthly inflation is at 800,000 percent. Yet absurdities are lost on a government that thinks it, and only it, can run the economy.

Needless to say, the government assault on Smurfit has had consequences far beyond the loss of jobs. The Journal article mentions that Colgate-Palmolive can no longer ship out personal hygiene products from its own plant because the boxes that came from Smurfit have stopped coming.

Then the article lists the broader consequences for the local community:

  • Smurfit issued interest-free mortgage loans to workers, a benefit that obviously will not be available anymore;
  • The local community can no longer rely on its four ambulances, paid for by the Irish company.

But that is not the worst part:

At the Agricultural Technical School in the nearby town of Acarigua, which was entirely financed by Smurfit, nearly 200 children living in extreme poverty used to receive an education, lodging, as well as hot meals that have become a luxury as public schools collapse. … “This used to be a family. I just don’t have words right now,” [school psychologist Maria] Vielma said. “We have a government that is dedicated to destroying, not constructing.”

Venezuela’s journey from the richest nation in Latin America into destitution, dictatorship and economic torture, began as that journey always begins. Calls to “spread the wealth around” turn into increasingly radical calls for economic redistribution. The growth of the welfare state continues, entitlement programs keep popping out of government, and taxes keep going up until the private sector grinds to a halt.

When government cannot confiscate itself to revenue anymore; when it cannot find anything more to steal; it turns to the monetary printing presses.

What socialism cannot destroy with boots, bullets and dissident labor camps, it obliterates with inflation.

May we never forget President Reagan’s words of wisdom: freedom is never more than one generation away from extinction. Hopefully, the Venezuelan tragedy can help us keep freedom here in America out of the jaws of socialism.

The Harmful Campaign Against Vaping and E-Cigarettes

Mon, 11/12/2018 - 12:42pm

As a fiscal policy wonk, I’ve come across depressing examples of counterproductive tax provisions (health benefits exclusionethanol credits) and spending programs (the entire HUD budgetOECD subsidies).

But the folks who work on regulatory policy may get exposed to the most inane government policies (Fannie-Freddie mandateEEOC rulings).

For example, consider how the government is undermining public health by going after e-cigarettes.

Sally Satel of the American Enterprise Institute offers a good introduction to the issue.

Strikingly, it is members of the public health establishment that have fanned the pessimism surrounding the battery-powered devices that deliver nicotine without the carcinogenic tar. One leading culprit is the Centers for Disease Control which refuses to acknowledge the steep risk reduction for smokers who switch to non-combustible tobacco, overlooks evidence of immediate gains in respiratory health when e-cigarettes are used as an alternative to smoking, and dramatizes as yet unrealized harm to children. …at the heart of this skepticism in the US is the FDA, who has devised an onerous rule that “deems” e-cigarettes to be tobacco products and thus subject to the same regulatory regime as combustible cigarettes. The rule…places undue regulatory burden and cost on vaping manufacturers. …the agency’s mandate for manufacturers to submit data prior to product approval is deeply misguided. Although patterns of youth uptake, flavor preferences, and nicotine level preferences are important data, they do not trump the benefit to adult smokers’ health. …The regulatory politics of non-combustible nicotine products stand as one of the great paradoxes in public health. While our health agencies now strongly champion harm reduction for opiate misuse, they are making it more and more difficult to improve and save the lives of smokers.

The Orange County Register is not a big fan of what’s been happening.

There’s a strange anti-vaping hysteria hitting governments. …The itch to treat vaping like smoking afflicting so many public health activists and government officials may be well-intentioned, but it is also misguided and harmful to the very goal of reducing smoking which these campaigners claim to champion. …Vapor products offer a way to consume nicotine without inhaling the lethal smoke that causes cancer and kills smokers. It has long been known that it is the smoke from burning tobacco, not the nicotine, that kills smokers. …Flavors are a critical ingredient to the success of tobacco harm reduction. According to a 2013 study published in the International Journal of Environmental Research and Public Health, of 4,618 vapers surveyed, more than 91 percent classified themselves as “former” smokers, with the majority saying flavor variety was “very important” to their efforts to quit smoking. The study also found the number of flavors a vaper used was independently associated with quitting smoking. Supporters of flavor bans argue these products appeal to children and will induce them to start smoking cigarettes. But the data fails to bear this out. A 2015 study from the Journal of Nicotine & Tobacco Research found nonsmoking teens’ interest in e-cigarettes was “very low” and didn’t change with the availability of flavors.

Looking at this debate motivated me to write an article on the story behind the story.

In an ideal world, the discussion and debate about how (or if) to tax e-cigarettes, heat-not-burn, and other tobacco harm-reduction products would be guided by science. …In the real world, however, politicians are guided by other factors. There are two things to understand… First, this is a battle over tax revenue. Politicians are concerned that they will lose tax revenue if a substantial number of smokers switch to options such as vaping. …Second, this is a quasi-ideological fight. Not about capitalism versus socialism, or big government versus small government. It’s basically a fight over paternalism, or a battle over goals. For all intents and purposes, the question is whether lawmakers should seek to simultaneously discourage both tobacco use and vaping because both carry some risk (and perhaps because both are considered vices for the lower classes)? Or should they welcome vaping since it leads to harm reduction as smokers shift to a dramatically safer way of consuming nicotine?

I used an analogy from the world of statistics.

…researchers presumably always recognize the dangers of certain types of mistakes, known as Type I errors (also known as a “false positive”) and Type II errors (also known as a “false negative”). …The advocates of high taxes on e-cigarettes and other non-combustible products are fixated on the possibility that vaping will entice some people into the market. Maybe vaping will even act as a gateway to smoking. So, they want high taxes on vaping, akin to high taxes on tobacco, even though the net result is that this leads many smokers to stick with cigarettes instead of making a switch to less harmful products. …At some point in the future, observers may joke that one side is willing to accept more smoking if one teenager forgoes vaping while the other side is willing to have lots of vapers if it means one less smoker.

On the issue of taxes, here’s a 2017 map from the Tax Foundation that shows state excise taxes on vaping.

There has been some pushback against the regulators.

The electronic cigarette industry and its free-market allies are seeing fresh opportunities to ease federal rules on e-cigarettes… More than a dozen conservative groups wrote to congressional leaders…, calling on them to add a pro-vaping provision to a spending measure… A rule issued…by the Obama administration “deems” e-cigarettes to be tobacco products and allows the FDA to retroactively examine all tobacco products on the market in February 2007. …industry advocates say the costly FDA approval process would force most e-cigarette companies to shut down. …The notion of “harm reduction” is the main argument pro-vaping forces use in their push to remove the requirement that tobacco companies retroactively prove their e-cigarettes are safe.

For what it’s worth, the FDA has kicked the can down the road, basically postponing its harsh new regulatory regime until 2022.

In the world of business, that’s just around the corner. Especially since investors and entrepreneurs have relatively long time horizons.

So let’s look at some evidence that hopefully will lead the bureaucrats at the FDA to make rational decisions.

The main argument, as noted in this column in the Wall Street Journal, is that vaping is the most effective way of reducing smoking.

Two major government surveys show that regular e-cigarette use by people who have never smoked is under 1%. Some 4.2% of high-school seniors report smoking conventional cigarettes daily, according to Monitoring the Future, and 9.7% reported smoking at least once in the previous month. These are “the high-risk youth” we need to worry about… Overheated worries about youth vaping are threatening to obscure the massive potential benefits to the nation’s 38 million cigarette smokers. Two million have already quit thanks to e-cigarettes. Vaping products are already the most widely used quit-smoking tool.

And smoking is the real danger to health, as Veronique de Rugy notes in a Reason article.

Tobacco kills 480,000 people a year in the United States. Yet when an innovative alternative that delivers nicotine and eliminates 95 percent of the harm of smoking is available, the wary Food and Drug Administration fails to embrace this revolutionary lifesaving technology. All in the name of the children, of course. Using e-cigarettes, known as vaping, has been around long enough for respected health authorities to conclude after many studies that it is eminently safer than smoking cigarettes. Britain’s Royal College of Physicians called any attempts by public officials to discourage smokers from switching to vaping “unjust, irrational and immoral.” …no one wants teens to vape, but we certainly don’t want them to smoke cigarettes and die an agonizing death later in life. As a parent, I tell my children that they shouldn’t do either. But the truth is that I know, as do they, that if they are going to do something as stupid as committing so much of their money to that sort of activity, vaping is the way to go. The bottom line is that government alarmists should back off. The first step is for the FDA to stick to its plan to postpone regulation until 2022 and create a clear pathway for the permanent approval of these products. It would allow the vaping companies time to establish their products as a safer alternative to cigarettes.

Here’s some scholarly research on the topic.

 US tobacco control policies to reduce cigarette use have been effective, but their impact has been relatively slow. This study considers a strategy of switching cigarette smokers to e-cigarette use (‘vaping’) in the USA to accelerate tobacco control progress. …Compared with the Status Quo, replacement of cigarette by e-cigarette use over a 10-year period yields 6.6 million fewer premature deaths with 86.7 million fewer life years lost in the Optimistic Scenario. Under the Pessimistic Scenario, 1.6 million premature deaths are averted with 20.8 million fewer life years lost. The largest gains are among younger cohorts, with a 0.5 gain in average life expectancy projected for the age 15 years cohort in 2016. …Our projections show that a strategy of replacing cigarette smoking with vaping would yield substantial life year gains, even under pessimistic assumptions regarding cessation, initiation and relative harm.

And the Wall Street Journal opines on the issue.

E-cigarettes do not contain tobacco. They contain nicotine, a chemical derived from tobacco and other plants. Plain English was never a deterrent, though, to regulators on an empire-expanding mission. The Food and Drug Administration this week rolled out new regulations on e-cigarettes based on a 2009 law giving the agency power over products that “contain tobacco.” …Plain English also does not authorize inclusion of e-cigarettes under the 1998 Master Settlement Agreement, the deal struck between the cigarette industry and 46 states that settled a bunch of lawsuits by imposing a government-run cartel to jack up the price of cigarettes (in the name of curbing consumption, naturally) and distribute the excess profits to the states and a handful of now-plutocrat trial lawyers. …Lovers of freedom and enemies of regulatory overkill do not exaggerate when they say FDA rules are designed to murder numerous small manufacturers and thousands of “vape” shops that account for about half the electronic-cigarette business.

You won’t be surprised to learn that the bureaucrats at the World Health Organization, who already are pushing for harmonized tobacco taxes, also want to go after vaping.

…who gets a say in what the WHO does is a hotly contest matter. Only thirty members of the public and selected members of the media are treated to limited, stage managed press conferences. Nations like China, with state-owned tobacco monopolies, are warmly welcomed, but anyone with the slightest connection to a private tobacco industry is shown the exit. Large pharmaceutical companies generously fund conference attendees, while their anti-tobacco products like Nicorette gum compete with products that the WHO views unfavorably, like electronic cigarettes. The secretive nature of the conference didn’t go over well with India’s tobacco farmers. After a few minutes of protest outside the convention, 500 farmers were corralled by police and detained inside this local police station. …it’s hard to understand why a $4 billion organization like the WHO feels threatened by the average Indian farmer who lives on $3 a day… Expanding its authority beyond tobacco control, e-cigarettes and vape products now find themselves potentially subject to a worldwide ban. Delegates to the convention have expressed support for “a complete ban on the sale, manufacture, import and export of Electronic Nicotine Delivery Systems”.

WHO bureaucrats are not the only ones to misbehave. Here’s a column from the Wall Street Journal exposing misbehavior in the United States.

There are many reasons to criticize the FDA’s action, but its most fundamental flaw—and the one that our legal foundation raises in three lawsuits on behalf of Ms. Manor and nine others—is that the rule was finalized by someone without authority to do so. The rule was not issued or signed by either the secretary of health and human services or the FDA commissioner, both Senate-confirmed officials. Instead, it was issued and signed by Leslie Kux, a career bureaucrat at FDA. …The attempted delegation of rule-making authority to someone not appointed as an “Officer of the United States” violates one of the most important separation-of-powers clauses in the Constitution. …Political accountability matters; that’s why the Framers included the Appointments Clause in Article II of the U.S. Constitution.

Last but not least, here’s a must-watch video on this issue from Prager University.

I’m not a big fan of the Food and Drug Administration, mostly because it delays the adoption of life-saving drugs and denies options for critically ill people.

Now that it’s going after e-cigarettes and other products that help smokers kick the habit, the FDA bureaucracy deserves ever-greater scorn.

The Venezuelan Tragedy Shows Why Workers and Capitalists Should Be Allies in the Fight against Statism

Sun, 11/11/2018 - 12:14pm

I periodically explain that labor and capital are the two factors of production and that our prosperity depends on how efficiently they are allocated.

But I probably don’t spend enough time highlighting how they are complementary, meaning that workers and capitalists both benefit when the two factors are combined. Simply stated, workers become more productive and earn more when investors buy machines and improve technology.

In other words, the Marxists and socialists are wrong when they argue that workers and capitalists are enemies. Heck, look around the world and compare the prosperity of workers in market-oriented nations with the deprivation of workers in statist economies.

This becomes painfully clear when you read this Wall Street Journal story on the statist hellhole of Venezuela.

Irish packaging giant Smurfit Kappa recently joined other multinational companies abandoning Venezuela…President Nicolás Maduro’s socialist government. But this case comes with a twist. Hundreds of employees, who counted on the Irish company for transport, education, housing and food, continue to show up at work. They take turns protecting idled heavy machinery from looting that has become rampant as Venezuela plunges into hyperinflation and economic chaos. …“Help, we need a boss here. We’re desperate,” said Ramón Mendoza, a Smurfit forestry division worker for 17 years. “We’re so scared because we now know that all the government does is destroy everything, every business.” Their plight underscores the devastation that rural Venezuelan communities face as private companies pull out of a country that was once Latin America’s richest. The economy has shrunk by half over the past four years.

Wow, Mr. Mendoza hit the nail on the head when he explained that “all the government does is destroy everything.”

Maybe he can replace Obama as Libertarian Man of the year. Except he would get the award on merit rather than satire.

But let’s not digress. Here’s more bad news from the article.

Workers who live in the surrounding area had received interest-free loans from Smurfit for their houses. Residents said they no longer can count on the four ambulances that the company paid for to serve communities of tin-roofed shacks. At the Agricultural Technical School in the nearby town of Acarigua, which was entirely financed by Smurfit, nearly 200 children living in extreme poverty used to receive an education, lodging, as well as hot meals that have become a luxury as public schools collapse. Over two decades, many of its graduates had gone on to work for Smurfit. The academic year was supposed to start on Oct. 1. But with no money to feed and transport students, there’s silence in the halls… “It’s like poof,” Ms. Sequera said, snapping her fingers. “Our whole future was taken away.”

Needless to say, the thuggish government of Venezuela has no idea how to fix the mess it has caused.

In recent days, the cash-strapped Maduro administration said it had come up with a solution for the Smurfit plant: That the workers would run it themselves. The government said it wouldn’t nationalize it but named a temporary board to help restart operations. The Labor Ministry offered no details over how it would replace Smurfit’s distribution network through which the company supplied its own subsidiaries abroad. But the workers say they can’t run the plant on their own and insist they want bosses—just not from the government. “We know how to move the lumber from here to the plants. What do we know about finances and marketing?” said Mr. Mendoza.

My heart goes out to the former Smurfit workers.

They simply want to do honest work in exchange for honest pay. But the wretched policies of the Venezuelan socialists have made that impossible.

By the way, I’m not implying that employers are motivated by love for workers. Nor am I implying that workers are motivated to create profits for companies. The two sides are in a constant tug of war over how to slice the pie.

But the key thing to understand is that the pie grows when markets are allowed to function.

Which is why this old British political cartoon is a powerfully accurate depiction of real-world economics.

Indeed, I’ll have to add it to my collection of images that teach economics.

The Economics of Trade Balances

Sat, 11/10/2018 - 12:38pm

Last month, I explained why trade deficits don’t matter.

I make the same point in this short video from Freedom Partners.

Near the end of the video, I pointed out that unfettered trade is good, whether with your neighbors or with people in other nations.

And I also mentioned trade with people in other states, which gives us a great opportunity to look at how free trade between American states developed and what it has meant for U.S. prosperity.

Writing for the Wall Street Journal, John Steele Gordon gives us a valuable history lesson on free trade inside America’s borders.

The Constitution requires free trade, the U.S. Supreme Court held in 1824. …The court ruled unanimously…that the power to regulate interstate commerce lay exclusively with the federal government and that states couldn’t impose impediments to that commerce in their parochial self-interest. The economic effect of the ruling was immediate. …Charles Warren, the great historian of the Supreme Court, called Gibbons v. Ogden “the emancipation proclamation of the American economy.” The case made the U.S. the world’s largest free market by flattening state-imposed barriers to “commerce,” a word the court had defined broadly to include trade and navigation. Within a half-century, the American economy rose to become the mightiest in the world, due in no small part to the precedent created by that decision. Free trade allows maximal use of “comparative advantage” to minimize the price of goods for everyone. The lower the prices, the higher the demand and thus the larger the economy.

Sadly, we have not always applied the lessons we learned to trade across our borders.

The Great Depression was a very painful example of what happens when protectionists are in charge.

With its own example of the power of free trade to produce wealth for everyone, one would think that the U.S. would have promoted it world-wide. But for most of the country’s history, Americans have been anything but free traders beyond their own borders. …In 1930, hoping to safeguard the American domestic market for U.S. producers in the looming Depression, Congress passed the Smoot-Hawley tariff, the highest in American history. Despite the pleas of more than 1,000 economists, President Herbert Hoover signed it into law. The results were catastrophic. With the U.S. erecting higher tariff walls to protect its internal market, other countries naturally did the same in a game of beggar-thy-neighbor. American exports fell from $5.241 billion in 1929 to $1.161 billion in 1932, a 78% decline. World trade in that period declined from $36 billion to $12 billion—less, adjusted for inflation, than it had been in 1896.

Fortunately, policy has moved in the right direction ever since World War II, with spectacularly positive results.

After World War II, …The U.S., having learned its lesson, moved to lower tariffs world-wide. In 1947, 23 nations signed the General Agreement on Tariffs and Trade and began negotiations to lower tariffs, which then averaged 22%, as well as other barriers to trade. In a series of seven negotiations, …the average tariff had been lowered to only 5% by 1999. …The results of this long and often arduous process have been spectacular. World trade has increased exponentially. Merchandise trade amounted to about $58 billion in 1950. By the end of the century it was $5.4 trillion. Only 17 years later, merchandise trade had increased to $17 trillion. Trade in agricultural products and services has increased similarly. Even taking inflation into account, world trade since World War II has increased by a factor of about 30, making the whole world vastly more prosperous.

Last but not least, Gordon closes by pointing out that trade deficits are not a bad thing.

…there is the persistent though discredited belief that countries should strive to maintain a positive balance of trade, with more exports than imports. It is, of course, no more possible for all countries to have a positive balance of trade than it is for all people to be above average in height. Rapidly growing and maturing economies usually run foreign trade deficits, as the U.S. did throughout the 19th century while it grew into an economic superpower. The U.S. is again running large trade deficits, but those deficits are balanced by large capital inflows from foreign investors.

Amen. That’s the point of my video.

Especially the point about a trade deficit simply being the flip side of a capital surplus (now technically known as a financial surplus, but I’m sticking for now with the old terminology).

Let’s close by looking at the historical data on U.S. trade. Notice we had a trade deficit during much of the 1800s when we enjoyed very strong growth.

And also notice the miserable results during the 1930s.

P.S. While I generally don’t worry about the trade deficit/capital surplus, it can be a negative sign if foreigners are using the dollars they earn to buy government debt and prop up D.C.’s fiscal profligacy. But that’s the fault of Washington spending, not trade.

EU Looks to Extinguish Tax Competition

Fri, 11/09/2018 - 11:32am

I recently explained that the so-called tax scandal of the century really was nothing more than the expectable consequences of bad government regulations and unbearable taxes. While media keeps their spotlight on this non-event, a real European tax scandal is unfolding right before our very eyes.

In an October 23 document, the EU Commission – the executive branch of the European Union – published a document that, explains EUObserver, calls for unionwide tax powers and further crackdown on so-called “tax avoidance”:

The commission, earlier this year, pointed the finger at Belgium, Cyprus, Hungary, Ireland, Luxembourg, Malta, and the Netherlands, where it said sweetheart deals may have enabled multinational companies to cut their tax bills aggressively. The finance and taxation commissioner, Pierre Moscovici, said, at the time, that tax rules in those seven countries “have the potential to undermine fairness and the level playing field in our internal market, and they increase the burden on EU taxpayers”. Some multinational companies have made extensive use of Ireland and other EU countries to shift profits and avoid taxes. With this initiative, the commission aims for faster adoption of proposals.

To facilitate changes to EU tax law, the Commission wants to take away the veto power of individual member states. In its Work Program 2019, the Commission explains that it intends to increase “the use of qualified majority voting and allow more efficient decision-making in key fields of taxation and social policies.”

There is no doubt what this means in the real world: a tax cartel stretching across the European Union, aimed at removing the possibility of tax competition between EU member states. It is only the latest in a long campaign by the EU against low-tax jurisdictions. In 2015, Dan Mitchell exposed a black list, produced by the EU, of what it considered to be “the world’s 30 worst-offending tax havens”.

In January 2018 I followed up on that analysis, reporting in the January 2018 issue of the Cayman Financial Review:

The European Union has created a new kind of blacklist of 17 jurisdictions, and a “watch list” of another 47, branded as “tax havens” or “noncooperative” countries and territories. This list, which has been long in the making, vilifies countries and territories for no other reason than providing residents and investors with low taxes and financial privacy.

I also noted that EU member states were clearly in the EU Commission’s target zone:

Not only is there a substantial difference between Europe’s highest and lowest taxed countries, but the difference is growing. In 2002, taxes as share of GDP were 31 percent higher in the highest-taxed countries than in the lowest-taxed one; in 2017 they were 48 percent higher.

Several countries aspire for the title as Europe’s highest-taxed nation. Norway, Finland and Belgium are trying to prove that when it comes to taxes, the sky is the limit. Ireland and Romania are pulling in the opposite direction, establishing themselves as Europe’s own low-tax jurisdictions. In Romania, a 2005 tax reform substantially reduced income taxes from a progressive tax with a 40-percent top rate to a 16-percent flat rate. Corporate “profit taxes” were cut from 25 percent to 19.

At the time, the Romanians were planning another tax cut.

With its new initiative, the EU is seeking to force feed its high taxes to every country under its boot. The British may not be getting the best deal for their exit from the club, but they are clearly planning to leave in the nick of time. There will be plenty of room for the Brits to thrive from tax competition with the EU. According to Eurostat, in 2016

  • Total taxes claimed 38.5 percent of British GDP;
  • The average rate for the EU was 44.6 percent.

But their opportunities do not stop there. Once the EU can majority-rule Europe’s tax policy, its goal will be high tax rates and maximized government revenue (regardless of the damage that will inflict on the economy). A total of eleven EU states had a heavier tax burden than the EU average, with Finland, Denmark, France, Sweden and Belgium taxing away more than 50 percent of GDP.

At the other end of the scale, Irish taxes take 27 percent of GDP. In Romania the ratio is 31.9 percent, with 34.4 percent in Lithuania, 35.3 in Bulgaria and 37 in Latvia. The EU Commission’s new strategy, using majority rule to break down national resistance to high taxes, is going to do major damage to the economies of these countries.

With its new, aggressive push against tax competition, the European Union is showing, once again, that centralized government power and unmitigated welfare statism makes for a dangerous combination. The only silver lining is their early declaration of intent. As the EU Commission details its plans to implement this new power grab in 2019, investors who are concerned about the harm of high taxes and economic stagnation, will have time to rearrange their portfolios.

Unfortunately, Europe’s middle class does not have that option. They will be the big losers as the Eurocrats in Brussels get ready for yet another tax attack on the forces of economic freedom and prosperity.

What’s Required to Finance Roads, Schools, and Healthcare?

Thu, 11/08/2018 - 12:04pm

When I argue with my statist friends about the proper size and scope of government, they accuse me of not wanting public services.

My typical response is to explain that I am a strong supporter of markets as the method to get high-quality roadsschools, and healthcare.

But I’m wondering whether this answer pays too much attention to the trees and doesn’t focus on the forest.

After all, the debate isn’t whether we should be Liberland or Venezuela. It’s whether government should be bigger or smaller compared to what we have now.

So the next time I tussle with my left-leaning buddies, I’m going to share this chart (based on data from the IMF’s World Economic Outlook database) and ask them why we can’t be like the fast-growing, small-government nations of Asia.

To elaborate, not only do jurisdictions such as Hong Kong and Singapore enjoy impressive growth, they also get very high scores for infrastructureeducation, and health outcomes.

In other words, these nations are role models for “public sector efficiency.”

What they don’t have, by contrast, are expensive welfare states that seem to be correlated with poor outcome for basic public services.

For all intents and purposes, I want to focus the debate on how much government is necessary to get the things people want, sort of like I did in Paris back in 2013.

I asked the audience whether they thought that their government, which consumes 57 percent of GDP, gives them better services than Germany’s government, which consumes 45 percent of GDP. They said no. I then asked if they got better government than citizens of Canada, where government consumes 41 percent of GDP. They said no. And I concluded by asking them whether they got better government than the people of Switzerland, where government is only 34 percent of economic output… Once again, they said no.

I assume (hope) Americans also would say no given these choices. And hopefully they would say yes when asked if we should be like Hong Kong and Singapore.

P.S. If I rotated the above chart clockwise by 90 degrees we’d have a pretty good approximation of the downward-sloping portion of the Rahn Curve.

Five Takeaways from the 2018 Elections…and Implications for Liberty

Wed, 11/07/2018 - 12:26pm

We had an election yesterday in the United States (or, as Mencken sagely observed, an advance auction of stolen goods). Here are five things to keep in mind about the results.

First, the GOP did better than most people (including me) expected.

This tweet captures the zeitgeist of last night.

A lot of painful losses for Republicans tonight, but man would I be unhappy if I was a Democrat tonight with these results in this climate.

— Dan McLaughlin (@baseballcrank) November 7, 2018

The Senate results were especially disappointing for the Democrats. It does appear the Kavanaugh fight worked out very well for Republicans. Second, better-than-expected election news for the GOP does not imply better-than-expected news for public policy. Given Trump’s semi-big-government populism, I fear this tweet is right about the increased risk of a counterproductive infrastructure package and a job-destroying increase in the minimum wage.

Santorum says on CNN that he expects Trump to take advantage of Dem house to pass infrastructure and raise the minwage. — David Freddoso (@freddoso) November 7, 2018

For what it’s worth, I think we’ll also get even more pork-filled appropriations spending. In other words, busting the spending caps after already busting the spending caps.

The only thing that might save taxpayers is that Democrats in the House may be so fixated on investigating and persecuting Trump that it poisons the well in terms of cooperating on legislation.

Fingers crossed for gridlock!

Third, there was mixed news when looking at the nation’s most important ballot initiatives.

On the plus side, Colorado voters rejected an effort to replace the flat tax with a discriminatory system (in order to waste even more money on government schools), California voters sensibly stopped the spread of rent control, Washington voters rejected a carbon tax, Florida voters expanded supermajority requirements for tax increases, and voters in several states legalized marijuana.

On the minus side, voters in four states opted to expand the bankrupt Medicaid program, Arizona voters sided with teacher unions over children and said no to expanded school choice, and voters in two states increased the minimum wage.

Fourth, Illinois is about to accelerate in the wrong direction. Based on what happened last night, it’s quite likely that the state’s flat tax will be replaced by a class-warfare-based system. In other words, the one bright spot in a dark fiscal climate will be extinguished.

This will accelerate the out-migration of investors, entrepreneurs, and businesses, which is not good news for a state that is perceived to be most likely to suffer a fiscal collapse. It’s just a matter of time before the Land of Lincoln becomes the land of bankruptcy.

Interesting, deep-blue Connecticut voters elected a Republican governor. Given the state’s horrific status, I suspect this won’t make a difference.

Fifth, Obama was a non-factor. Democrats lost almost every race where he campaigned.

Obama took norm-breaking step of campaigning in midterm against his successor. Visited Indiana, Georgia, Florida in recent days. Didn’t go well. Indiana and Florida flipped Senate seats from Dem to GOP. Democrat Abrams lost governor race in GA.

— Mollie (@MZHemingway) November 7, 2018

Though I should point out that he deserves credit for trying to have an impact in close races. Many top-level politicians, looking to have a good “batting average,” only offer help to campaigns that are likely to prevail.

That being said, this adds to my hypothesis that Obama was basically an inconsequential president.

With Good Policy, Poor Nations Can Converge with Rich Nations

Tue, 11/06/2018 - 12:11pm

The theory of “economic convergence” is based on the notion that poor nations should grow faster than rich nations and eventually achieve the same level of development.

This theory is quite reasonable, but I’ve pointed out that decent public policy (i.e., free markets and small government) is a necessary condition for convergence to occur.

The link between good policy and convergence explains why Hong Kong and Singapore, for instance, have caught up to the United States.

And the adverse effect of bad policy is a big reason why Europe continues to lag.

Moreover, it also explains why some nations with awful policy are de-converging.

Today, let’s look at convergence between Western Europe and Eastern Europe.

Here are some excerpts from a new study published by the European Central Bank.

This paper analyses real income convergence in central, eastern and south-eastern Europe (CESEE) to the most advanced EU economies between 2000 and 2016. …The paper establishes stylised facts of convergence, analyses the drivers of economic growth and identifies factors that might explain the differences between fast- and slow-converging economies in the region. The results show that the most successful CESEE economies in terms of the pace of convergence share common characteristics such as, inter alia, a strong improvement in institutional quality and human capital, more outward-oriented economic policies, favourable demographic developments and the quick reallocation of labour from agriculture into other sectors. Looking ahead, accelerating and sustaining convergence in the region will require further efforts to enhance institutional quality and innovation, reinvigorate investment, and address the adverse impact of population ageing.

The study is filled with fascinating data (at least if you’re a policy wonk).

This chart, for example, shows how many nations are converging (the dots above the diagonal line) and how many nations are falling behind (the dots below the diagonal line).

The yellow dots are Eastern European nations, so it’s good news that all of them are experiencing some degree of convergence.

But the above graphic doesn’t provide any details.

So let’s look at another chart from the study. The blue bar shows per-capita GDP in selected Eastern European nations as a share of the EU average. The yellow dot shows where the countries were in 2008 and the orange dot shows where they were in 2000.

The good news, at least relatively speaking, is that all nations are catching up to Western Europe.

But the report notes that some are catching up faster than others.

The developments were…heterogeneous within CESEE countries that are EU Member States. Some of them (the Baltic States, Bulgaria, Poland, Romania and Slovakia) experienced particularly fast convergence in the period analysed. At the same time, other CESEE EU Member States found it hard to converge… In fact, GDP per capita in Croatia and Slovenia diverged from the EU average after 2008… Given these heterogeneous developments, it appears that while in some CESEE countries the middle-income trap hypothesis could be dismissed (at least given their experience so far), in others the signs of a slowdown in convergence after reaching a certain level of economic development are visible.

My one gripe with the ECB study is that there’s a missing piece of analysis.

The report does a great job of documenting relative levels of prosperity over time. And it also has a thorough discussion of the characteristics that are found in fast-converging countries.

But there’s not nearly enough attention paid to the policies that promote and enable convergence. Why, for instance, has there been so much convergence in Estonia and so little convergence in Slovenia?

So I’ve tinkered with the above chart by adding each nation’s ranking for Economic Freedom of the World.

Lo and behold, a quick glance shows that higher-ranked nations (blue numbers indicate a nation is in the “most free” category) have enjoyed the greatest degree of convergence.

Here are some specific observations.

  • The Baltic nations are the biggest success stories of the post-communist world. Thanks to pro-market reforms, they have enjoyed the most convergence.
  • Romania and Slovakia also experienced big income gains. Romania is in the “most free” group of nations and Slovakia was in the “most free” group until a few years ago.
  • Poland has enjoyed the most convergence since 2008. Not coincidentally, that’s a period during which Poland’s economic freedom score climbed from 7.00 to 7.27.
  • Bulgaria also merits a positive mention for a big improvement, doubtlessly driven by a huge improvement (from 5.55 to 7.41) in economic freedom since 2000,.
  • Sadly, Slovenia and Croatia have not experienced much convergence, which presumably is caused in part by their comparatively low rankings for economic liberty.

To be sure, there’s not an ironclad relationship between a nation’s annual score and yearly growth rates.

But, over time, poor nations that want convergence almost certainly won’t get the necessary levels of sustained strong growth without high scores for economic liberty.

P.S. Here’s some related research on this topic from 2017. And here’s a column on the evolution of economic liberty (or lack thereof) in Europe.

Can Brazil’s New President Copy the Chilean Miracle?

Mon, 11/05/2018 - 12:34pm

Brazil appears to be a tragic example of what happens when societal capital erodes (or never gets established in the first place) and too many people in the country see government as a vehicle for redistribution.

That environment leads to statist policies.

Which presumably helps to explain why Brazil is ranked #144 in Economic Freedom of the World. That’s not as low as some of its neighbors, such as last-place Venezuela (#162) or close-to-last Argentina (#160), but it’s still miserable. The country definitely deserves to be in the “Least Free” group.

Today’s question is whether Brazil also belongs in the “give up hope” group. In other words, has the country passed a “tipping point” of big government?

I’ve previously speculated whether the United States eventually may reach that point, and I definitely think it’s a relevant issue for states like Illinois and nations such as Greece.

A few weeks ago, I would have put Brazil in the same category. But the nation just elected Jair Bolsonaro, a right-populist who promises to shake things up when he takes power.

Mauricio Bento of Brazil’s Instituto Mercado Popular explains that Bolsonaro won in part because of a weak economy.

Most of the coverage from international media has been simplistic and is mostly repeating cliches, such as calling him the “Brazilian Trump”…you might have read about how “terrible” Bolsonaro is, and you might be wondering how he managed to win by such a wide margin. …In the last four years, Brazil has been in a deep economic crisis, suffering from double-digit unemployment rates and a lack of confidence that a recovery is coming.

And in part because his opponent, Fernando Haddad, wanted to undo a handful of recent pro-growth reforms and make Brazil more like Venezuela.

Michel Temer…passed some important reforms, such as the spending cap amendment and the labor law reform… Haddad sought to repeal Temer’s reforms and increase government spending and taxes. This made many business owners and investors support Bolsonaro.

Since I am a big fan of the spending cap that was approved in late 2016, I’m glad that Haddad didn’t win.

But should anybody be happy that Bolsonaro won? I don’t know the answer to that question, but it looks like Brazil is about to have a very good Finance Minister.

The UK-based Financial Times has an encouraging report.

For Brazil’s new finance minister Paulo Guedes, the government of far-right president-elect Jair Bolsonaro could represent a “Pinochet” moment for Latin America’s largest economy.  Mr Bolsonaro, who won elections last Sunday, ending almost 15 years of leftwing rule, will take over a moribund economy burdened by a bloated public sector when he assumes office on January 1. …The Chilean dictator’s solution was a dose of Milton Friedman-style free market economics from University of Chicago-trained academics. Mr Bolsonaro is considering the same medicine in the form of Mr Guedes, who has a doctorate from Chicago… For supporters of Mr Bolsonaro, the 69-year-old Mr Guedes’ uncompromisingly free market view of the world is the only answer. “Liberals know how to do it,” Mr Guedes once said.

Since pro-market reforms turned Chile into the “Latin Tiger,” let’s hope Guedes is serious.

He definitely has a pro-growth agenda.

Mr Guedes — who first considered joining Mr Bolsonaro’s campaign only last year — has repeatedly said his priority is to end Brazil’s 7 per cent fiscal deficit through privatisations of the country’s 147 state-owned enterprises. ..Mr Guedes’ other plans include a radical simplification of Brazil’s tax system, one of the world’s most convoluted, and reforming the country’s costly pension system, which is threatening to overwhelm the budget.

Sounds like Guedes has the right ideas. Assuming Bolsonaro does what is right for his country (such as much-needed pension reform), Guedes could be the Jose Pinera of Brazil.

Here’s a chart from Economic Freedom of the World. It shows how economic liberalization produced a dramatic increase in freedom between 1975 and 1995. Chile is now ranked #15 for economic liberty. Brazil, by contrast, has slowly lost ground since a period of pro-market reform between 1985 and 2000.

I’ll close with a video that was released before the recent Brazilian election.

It’s directed to mushy-headed young people in America, but it neatly summarizes how Brazil go in trouble.

A great video. I especially appreciate the indirect endorsement of my Golden Rule. The criticisms of former President Lula also are spot on, though I once expressed perverse admiration for him.

In any event, let’s hope President-Elect Bolsonaro give Mr. Guedes free rein to bring economic liberty to Brazil.

P.S. Bolsonaro is good on gun rights, so that’s a positive sign.

An Under-Appreciated Benefit of Lower Tax Rates

Sun, 11/04/2018 - 12:23pm

There are three reasons why the right kind of tax reform can help the economy grow faster.

  1. Lower tax rates give people more incentive to earn income.
  2. Less double taxation boosts incentives to save and invest.
  3. Fewer loopholes improves incentives for economic efficiency.

Let’s focus on the third item. I don’t like special preferences in the tax code because it’s bad for growth when the tax code lures people into misallocating their labor and capital. Ethanol, for instance, shows how irrational decisions are subsidized by the IRS.

Moreover, I’d rather have smart and capable people in the private sector focusing how to create wealth instead of spending their time figuring out how to manipulate the internal revenue code.

That’s why, in my semi-dream world, I’d like to see a flat tax.* Not only would there be a low rate and no double taxation, but there also would be no distortions.

But in the real world, I’m happy to make partial progress.

That’s why I was happy that last year’s tax bill produced a $10,000 cap for the state and local tax deduction and reduced the value of other write-offs by increasing the standard deduction. Yes, I’d like to wipe out the deductions for home mortgage interestcharitable giving, and state and local taxes, but a limit is better than nothing.

And I’m also happy that lower tax rates are an indirect way of reducing the value of loopholes and other preferences.

To understand the indirect benefits of low tax rates, consider this new report from the Washington Post. Unsurprisingly, we’re discovering that a less onerous death tax means less demand for clever tax lawyers.

A single aging rich person would often hire more than a dozen people — accountants, estate administrators, insurance agents, bank attorneys, financial planners, stockbrokers — to make sure they paid as little as possible in taxes when they died. But David W. Klasing, an estate tax attorney in Orange County, Calif., said he’s seen a sharp drop in these kinds of cases. The steady erosion of the federal estate tax, shrunk again by the Republican tax law last fall, has dramatically reduced the number of Americans who have to worry about the estate tax — as well as work for those who get paid to worry about it for them, Klasing said. In 2002, about 100,000 Americans filed estate tax returns to the Internal Revenue Service, according to the IRS. In 2018, only 5,000 taxpayers are expected to file these returns… “You had almost every single tax professional trying to grab as much of that pot as they could,” Klasing said. “Now almost everybody has had to find other work.”

Needless to say, I’m delighted that these people are having to “find other work.”

By the way, I’m not against these people. They were working to protect families from an odious form of double taxation, which was a noble endeavor.

I’m simply stating that I’m glad there’s less need for their services.

Charles “Skip” Fox, president of the American College of Trust and Estate Counsel, said he frequently hears of lawyers shifting their focus away from navigating the estate tax, and adds that there has been a downturn in the number of young attorneys going into the estate tax field. Jennifer Bird-Pollan, who teaches the estate tax to law students at the University of Kentucky, said that nearly a decade ago her classes were packed with dozens of students. Now, only a handful of students every so often may be interested in the subject or pursuing it as a career. “There’s about as much interest in [the class] law and literature,” Pollan said. “The very, very wealthy are still hiring estate tax lawyers, but basically people are no longer paying $1,000 an hour for advice about this stuff. They don’t need it.”

Though I am glad one lawyer is losing business.

Stacey Schlitz, a tax attorney in Nashville, said when she got out of law school about a decade ago roughly 80 percent of her clients were seeking help with their estate taxes. Now, less than 1 percent are, she said, adding that Tennessee’s state inheritance tax was eliminated by 2016. “It is disappointing that this area of my business dried up so that such a small segment of society could get even richer,” Schlitz said in an email.

I hope every rich person in Nashville sees this story and steers clear of Ms. Schlitz, who apparently wants her clients to be victimized by government.

Now let’s shift to the business side of the tax code and consider another example showing why lower tax rates produce more sensible behavior.

Now that the corporate tax rate has been reduced, American companies no longer have as much desire to invest in Ireland.

US investment in Ireland declined by €45bn ($51bn) in 2017, in another sign that sweeping tax reforms introduced by US president Donald Trump have impacted the decisions of American multinational companies. …Economists have been warning that…Trump’s overhaul of the US tax code, which aimed to reduce the use of foreign low-tax jurisdictions by US companies, would dent inward investment in Ireland. …In November 2017, Trump went so far as to single out Ireland, saying it was one of several countries that corporations used to offshore profits. “For too long our tax code has incentivised companies to leave our country in search of lower tax rates. It happens—many, many companies. They’re going to Ireland. They’re going all over,” he said.

Incidentally, I’m a qualified fan of Ireland’s low corporate rate. Indeed, I hope Irish lawmakers lower the rate in response to the change in American law.

And I’d like to see the US rate fall even further since it’s still too high compared to other nations.

Heck, it would be wonderful to see tax competition produce a virtuous cycle of rate reductions all over the world.

But that’s a topic I’ve addressed before.

Today’s lesson is simply that lower tax rates reduce incentives to engage in tax planning. I’ll close with simple thought experiment showing the difference between a punitive tax system and reasonable tax system.

  • 60 percent tax rate – If you do nothing, you only get to keep 40 cents of every additional dollar you earn. But if you find some sort of deduction, exemption, or exclusion, you increase your take-home pay by an additional 60 cents. That’s a good deal even if the tax preference loses 30 cents of economic value.
  • 20 percent tax rate – If you do nothing, you get to keep 80 cents of every dollar you earn. With that reasonable rate, you may not even care about seeking out deductions, exemptions, and exclusions. And if you do look for a tax preference, you certainly won’t pick one where you lose anything close to 20 cents of economic value.

The bottom line is that lower tax rates are a “two-fer.” They directly help economic growth by increasing incentives to earn income and they indirectly help economic growth by reducing incentives to engage in inefficient tax planning.

*My semi-dream world is a flat tax. My dream world is when the federal government is so small (as America’s Founders envisioned) that there’s no need for any broad-based tax.

P.S. It’s not the focus of today’s column, but since I talked about loopholes, it’s worth pointing out that they should be properly defined. Sadly, that simple task is too challenging for the Joint Committee on Taxationthe Government Accountability Office, and the Congressional Budget Office (or even the Republican party).

The Most Important Ballot Initiatives of 2018

Sat, 11/03/2018 - 12:03pm

The mid-term elections take place on Tuesday and the crowd in DC is focused on who will control the House and Senate. I’ll make my (sometimes dubioussometimes accurate) congressional predictions next week.

The goal today is to call attention to the key initiatives and referendums that also will occur next week.

As a matter of logic, I can’t really argue with the notion that voting is a waste of time. Nonetheless, I hope the right people in certain states will be illogical.

As far as I’m concerned, the most important contest is in Colorado, where voters are being asked to replace the state’s flat tax with a discriminatory system of graduated rates. Here’s how CNBC describes the awful proposal.

Amendment 73 would break up its current flat tax of 4.63 percent, adding four new individual income tax brackets. Taxpayers earningless than $150,000 would see no change; at $150,001, a new rate of 5 percent would kick in, with a new top rate of 8.25 percent on taxable income over $500,000. The measure also includes a boost in the corporate income rate (from 4.63 percent to 6 percent).

Since I’m a fan of the flat tax (combined with TABOR, it helps to explain the state’s prosperity), I obviously hope voters reject this self-destructive scheme to turn Colorado into California.

The second-most important referendum is probably the battle over school choice in Arizona. Here’s how Reason characterizes that battle.

…since we’ve grown accustomed to the idea that governments should mug us in order to fund an army of loyal employees and their fumbling attempts to hammer knowledge into our kids’ heads, attempts to provide widely accessible alternatives to government schooling inevitably involve diverting some of those stolen funds. And diverting those funds requires political battles against entrenched allies of the state monopoly—such as that playing out in Arizona over an effort to expand a school voucher program. …Last year, lawmakers voted to expand eligibility for the empowerment scholarship accounts program to all students, with participation capped at around 30,000 kids. But opponents of school choice won a battle to put the program’s expansion on the ballot as Proposition 305. …As of last week, polling on Proposition 305 conducted by Suffolk University and the Arizona Republic shows a plurality of Arizona voters (41 percent) supporting expansion of the program, with 32 percent opposed and 27 percent undecided.

The third-most important referendum is actually four different measures. There are proposals to expand Medicaid in IdahoMontanaNebraska, and Utah.

The Wall Street Journal editorializes about these dangerous initiatives.

One of the worst deals in state spending is coming to a red state near you, and that’s expanding Medicaid to adult men above the poverty line. …Expansion extends the benefit to prime-age adults without children up to 138% of the poverty line. The feds pay more than 90% of the cost for the new beneficiaries… Every state that has expanded Medicaid has blown the budget by spending more money on more people. The cost overruns are more than double on average. …Medicaid is already the fastest growing line item in nearly every state in the country. …The idea that the feds will continue to pick up 90% of the tab forever is fantasy. The GOP has vowed to equalize the funding formula and make states pay closer to 30% to 50% like they do for traditional Medicaid. States shouldn’t assume that Democrats will be more merciful when they want to pay for something else and stick more of the Medicaid bill on states.

The fourth-most important measure to watch is a referendum for a big carbon tax in the state of Washington. The Wall Street Journal opined about this revenue grab.

Two years ago nearly 60% of Washington voters rejected a ballot initiative to impose a “revenue neutral” carbon tax. Green groups opposed the referendum because it wouldn’t generate money for environmental largess. …Liberals have now fixed what they thought was the fatal flaw of the first referendum—namely, revenue neutrality. This year’s initiative would impose a $15 per ton carbon “fee” that would increase by $2 per year. …the $2.3 billion in revenue it is projected to generate over the next five years would mostly be earmarked for “clean air and energy” programs… But revenues are fungible, and the carbon tax proceeds would invariably finance government spending in other areas. …The tax would raise gas prices by 13 cents a gallon in 2020 and 59 cents a gallon by 2035. Washington currently has the third highest gas prices in the country after Hawaii and California… National Economic Research Associates estimates that the tax would cost Washington households on average $440 in 2020 and would reduce state economic growth by 0.4% over the next two years. …liberals care more about increasing tax revenue to spend than they do about reducing emissions.

This is exactly why I warn against a national carbon tax. No matter what proponents say, it will wind up being an excuse to finance even more wasteful spending.

Last but not least, our fifth-most important ballot initiative is from California, which has a very misguided referendum that would allow more rent control in the state. Michael Tanner has an appropriate description of this scheme in National Review.

But the prize for perhaps the worst ballot idea goes — naturally — to California, which will vote on whether to allow local communities to impose rent control. Approval can be guaranteed to benefit the wealthy and middle class while reducing the availability of rental housing for the poor. It’s almost as if the measure’s supporters had never glimpsed an economics textbook.

For what it’s worth, one of the state’s Senators, Kamala Harris, has a national plan to wreck housing markets.

Here are some additional initiatives on taxes which merit a brief mention, particularly since they may have an impact on competitiveness.

  • Arizona has an initiative to prevent politicians from imposing any new sales taxes on services.
  • There’s a measure to increase tobacco taxes in South Dakota.
  • In California, there’s a referendum to repeal a recent hike in the gas tax and to require future increases to be approved by voters.
  • There’s also an initiative in the Golden State to boost the sales tax to finance more transportation spending.
  • In Florida, where there’s an initiative to require a two-thirds vote of the legislature to increase revenue.
  • Oregon voters will choose whether to impose a requirement that three-fifths of the legislature vote for indirect revenue increases.
  • North Carolina voters will decide whether to lower the maximum-allowable tax rate from 10 percent to 7 percent.

From a libertarian perspective, I’ll also be paying attention to a measure to restrict gun rights in the state of Washington, as well as an initiative to legalize marijuana in Michigan.

There are initiatives to increase the minimum wage in Arkansas (to $11.00 per hour) and Missouri (to $12.00 per hour). If they are approved, the consequences will be both negative and predictable.

Saving America’s Retirement System and Providing Real Middle-Class Tax Relief

Fri, 11/02/2018 - 12:52pm

President Trump thinks he can boost Republicans next Tuesday by promising a new round of tax relief for the middle class.

I’m skeptical of his sincerity, as noted in this segment from a recent interview, but I also warn that his proposed tax cut is impractical because Republicans have done a lousy job on spending. And I also point out that it is ironic that Trump is urging lower taxes for the middle class when his protectionist tariffs (trade taxes) are hurting the same people.

At first, I wasn’t going to bother writing about this topic for the simple reason that Trump isn’t serious (if he was, he wouldn’t have meekly allowed the big spenders to bust the spending caps).

But then I saw that Tom Giovanetti of the Institute for Policy Innovation wrote a column for the Wall Street Journal explaining how reforming Social Security would be great news for lower- and middle-income taxpayers.

…44% of Americans no longer pay any federal income tax at all, and many more pay very little. …On the other hand, low- and middle-income workers do send the government a large share of their earnings in the form of payroll taxes. That same family of four pays $12,240 at the 15.3% combined rate for Social Security and Medicare. If you want to cut taxes for middle-class and low-income workers, that’s where you have to do it. …instead of…a payroll-tax cut of 4% of income, why not redirect that same 4% into personal retirement accounts for every worker? …With no decline in disposable income, American workers would suddenly be investing for retirement at market rates in accounts they own and control, instead of relying on Congress to keep Social Security solvent.

Not only would personal retirement accounts be good for workers, they also would help deal with the looming entitlement crisis.

America’s entitlements are on a path to collapse, and few politicians—including Mr. Trump—have an appetite to do anything about it. When the crisis comes, no tax increase will be big enough to solve the problem. Knowing the U.S. government is eventually going to fudge its commitment to retirees, policy makers should at least give workers a fair chance to amass the savings they will need to support themselves. The back-door solution to the entitlement crisis is to make workers wealthy. Will you worry about Social Security’s solvency or a Medicare collapse if you have more than enough money in a real retirement account to buy a generous annuity and cover your health insurance?

At the risk of stating the obvious, this is the right approach. Both for workers and the country.

To be sure, I don’t think it’s likely since Trump opposes sensible entitlement reform. But Tom’s column at least provides a teaching moment.

I’m not sure when we’ll have a chance to address this simmering crisis. But if you’re wondering whether changes are necessary, check out this chart I put together earlier this year showing Social Security’s annual shortfall (adjusted for inflation, so we’re comparing apples-to-apples).

P.S. This video has more details on the benefits of personal retirement accounts.

P.P.S. And this video shows why the left’s plan to “fix” Social Security would be so destructive.

Keynesian Spending Undermines Economic Expansion

Thu, 11/01/2018 - 12:13pm

wrote in 2010 that Keynesian economics is like the Freddy Krueger movies. It refuses to die despite powerful evidence that you don’t help an economy by increasing the burden of government. In 2014, I wrote the theory was based on “fairy dust.” And in 2015, I said Keynesianism was akin to a perpetual motion machine.

What’s my proof? Well, during the period when Obama’s “stimulus” was in effect, unemployment got worse. And the best growth period under Obama was after the sequester, which Obama and others said was going to hurt the economy.

When I discuss these issues with Keynesians, they reflexively claim that Obama would have gotten good results if only he had increased spending even faster (which is also their knee-jerk response when you point out that Keynesianism didn’t work for Hooverdidn’t work for FDRdidn’t work for Japan, etc).

This is the Wizard-of-Oz part of Keynesianism. No matter how bad it works in the real world, they always claim that it theoretically could have worked if governments simply spent more.

But how do they explain away the fact that nations that adopt the right kind of austerity get better results?

Professor Edmund Phelps of Columbia University won the Nobel Prize in economics in 2006. Here’s some of what he wrote today for the Wall Street Journal, starting with a description of the debate.

Generations of Keynesian economists have claimed that when a loss of “demand” causes output to fall and unemployment to rise, the economy does not revive by itself. Instead a “stimulus” to demand is necessary and sufficient to pull the economy back to an equilibrium level of activity. …it is widely thought that fiscal stimulus—increased public spending as well as tax cuts—helped pull employment from its depths in 2010 or so back to normal in 2017. …But is there evidence that stimulus was behind America’s recovery—or, for that matter, the recoveries in Germany, Switzerland, Sweden, Britain and Ireland? And is there evidence that the absence of stimulus—a tight rein on public spending known as “fiscal austerity”—is to blame for the lack of a full recovery in Portugal, Italy, France and Spain?

So he looked at the real-world evidence and discovered that Keynesian policy is correlated with worse outcomes.

The stimulus story suggests that, in the years after they hit bottom, the countries that adopted relatively large fiscal deficits—measured by the average increase in public debt from 2011-17 as a percentage of gross domestic product—would have a relatively speedy recovery to show for it. Did they? As the accompanying chart shows, the evidence does not support the stimulus story. Big deficits did not speed up recoveries. In fact, the relationship is negative, suggesting fiscal profligacy led to contraction and fiscal responsibility would have been better. …what about monetary stimulus—increasing the supply of money or reducing the cost of money in relation to the return on capital? We can perform a similar test: Did countries where monetary stimulus in the years after they hit bottom was relatively strong—measured by the average quantity of monetary assets purchased by the central bank from 2011-17—have relatively speedy recoveries? This is a complicated question, but preliminary explorations do not give strong support to that thesis either. …the Keynesian tool kit of fiscal and monetary stimulus is more or less ineffective.

Here’s the chart showing how so-called fiscal stimulus is not associated with economic recovery.

He also reminds us that Keynesian predictions of post-World War II disaster were completely wrong.

Don’t history and theory overwhelmingly support stimulus? Well, no. First, the history: Soldiers returning from World War II expanded the civilian labor force from 53.9 million in 1945 to 60.2 million in 1947, leading many economists to fear an unemployment crisis. Keynesians—Leon Keyserling for one—said running a peacetime fiscal deficit was needed to keep unemployment from rising. Yet as the government under President Harry S. Truman ran fiscal surpluses, the unemployment rate went down (from 3.9% in 1946 to 3.1% in 1952) and the labor-force participation rate went up (from 57.2% to 58.9%).

It’s also worth remembering that something similar happened after World War I.

The economy boomed after the burden of government was reduced.

Let’s close by adding to our collection of Keynesian humor.

This is amusing, but somewhat unfair to Bernanke.

Yes, he was a Keynesian. But he wasn’t nearly as crazy as Krugman.

P.S. Here’s my video on Keynesian economics.

P.P.S. Here’s the famous video showing the Keynes v. Hayek rap contest, followed by the equally entertaining sequel, which features a boxing match between Keynes and Hayek. And even though it’s not the right time of year, here’s the satirical commercial for Keynesian Christmas carols.

P.P.P.S. I also like what Professor Phelps said about the benefits of tax competition and jurisdictional rivalry.

Government Gambling vs Poor People

Wed, 10/31/2018 - 12:39pm

Like any sensible person, I want victimless crimes to be legalized. In part because I believe in freedom, but also for utilitarian reasons.

  • I don’t approve of drugs and I’ve never used drugs, but I think the social harm of prohibition is greater than the social harm of legalization.
  • I don’t particularly like alcohol and I am almost a teetotaler, but I’m glad there’s now a consensus that the social harm of prohibition was greater than the social harm of legalization.
  • I don’t approve of prostitution and I’ve never consorted with a prostitute (other than the political ones in DC), but I think the social harm of prohibition is greater than the social harm of legalization.

So it won’t surprise you to learn that I want gambling to be legal because the social harm of prohibition is greater than the social harm of legalization.

But that definitely doesn’t mean I want government to be in charge, which is why I’m not a fan of state-sponsored lotteries.

Joe Setyon, in a column for Reason, points out that politicians are the only group that actually benefits from these schemes.

At some point in the near future, the record-high Mega Millions jackpot is going to make someone very, very rich. But as is usually the case when it comes to the lottery, the biggest winner will be the government. …there are a few things us suckers need to keep in mind about the lotto. First, the majority of lottery revenue goes back to the government. In 2015, The Atlantic estimated that 40 percent of all lottery ticket sales are allocated to state governments. …Meanwhile, some states that allow lotteries crush their competition with strict gambling regulations. In Texas, for instance, most forms of gambling are illegal. This means the government has a near-monopoly. The double standard for public and private gambling operations is obvious. Ultimately, the lottery system is a kind of regressive tax on low-income earners. “If the promised return is by far illusory—and it is—it would be hard to argue that those purchases do not constitute a tax on those who believe the state’s hype,” Fiscal Policy Institute research associate Brent Kramer wrote in 2010.

And here’s an article from CNBC that reveals the unpalatable tax consequences for the “lucky” people who happen to win a big prize.

…there’s at least one guaranteed recipient of a chunk of the loot — the IRS. …If you happen to beat the astronomical odds and hit all winning numbers in either game, be aware that the taxation of your prize starts before even reaching you. Whether you take your haul as a lump sum or as an annuity spread out over three decades, your win is reduced by a 24 percent federal tax withholding… The immediate cash option for Mega Millions is $904 million. The federal withholding would reduce that by $217 million. For the $354.3 million Powerball lump sum, it would mean $85 million getting shaved off the top. …However, that’s just the start of what you’d owe. The top income tax rate for individuals is 37 percent… That rate applies to adjusted gross income of $500,000 or more. In other words, hitting either jackpot would mean facing that top rate. …On top of the federal withholding, you’ll owe state taxes on the money unless you live where lottery wins are untaxed. …Translation: You might pay north of 45 percent altogether in taxes, depending on where you purchased the ticket and where you live.

In other words, the government pillages people when they buy tickets.

And then the government pillages the tiny fraction of people who actually win something.

As I wrote above, the only real winners are politicians.

The biggest losers, by the way, are poor people.

Arthur Brooks of the American Enterprise Institute summed up this sad state of affairs in a column for the Wall Street Journal.

Powerball—the lottery shared by 44 states, the District of Columbia and two territories—is just one of the sweepstakes run by 47 jurisdictions in the U.S. These games produce nearly $70 billion a year in government revenue and enjoy profits of about 33%—much higher than margins in the private gambling industry. Who are these lotteries’ most loyal customers? Poor people. …the poorest third of Americans buy more than half of all lotto tickets… Scholars have dug up evidence that states intentionally direct such ads at vulnerable citizens. A marketing plan for Ohio’s lottery some years back recommended scheduling campaigns to coincide with the distribution of “government benefits, payroll and Social Security payments.” …the average return from $1 spent on lottery tickets is 52 cents… After a state introduces the lotto, the bottom third of households shift about 3% of their food expenditures and 7% of their mortgage payments, rent and other bills. Effectively, the lottery works like a regressive tax. …Is there any set of policies more contradictory than pushing lotto tickets on poor people, and then signing them up for welfare programs that make them financially dependent on the government?

Here’s some additional analysis from the Wall Street Journal, this time from Holman Jenkins.

Gambling is what economists call an “inferior good”—demand is higher among those at the lower end of the income scale. As economist Sam Papenfuss argued in a 1998 paper, state-sponsored gambling became popular as a way for high-income taxpayers to recoup some of the money spent on programs for the poor. State-sponsored gambling in the form of lotteries (now in 44 states) arrived on the same antitax wave that gave us property-tax caps and other antitax measures in the 1970s and ’80s. It should not surprise anyone that Democrats, as big supporters of the welfare state, have been the biggest supporters (though by no means exclusively so) of gambling as a way to finance it.

Last but not least, here are excerpts from a column I wrote for the Washington Times more than 20 years ago.

…government-run lotteries represent bad public policy. The No. 1 objection is that they lead to more government spending. …Perhaps even more disturbing, government lotteries victimize the poor. More than any other group, lower-income residents are the ones who play the lottery, often shelling out hundreds of dollars each year in the hope of striking it rich. Yet these are precisely the people who should avoid lotteries. As an investment, lotteries are lousy, paying out only about half of what they take in. …why should state governments be running lotteries? If nothing else, lotteries show how much better consumers are treated by the free market system. Private gambling operations pay out about 90 cents for every dollar wagered (even higher for games such as blackjack), a far better deal than the miserly return provided by government-run lotteries. …This analysis applies to illegal gambling as well. Bookies traditionally allow customers to bet against the point spread for sporting events, and they make their money by applying a 10 percent charge on the money wagered by those who make losing bets.

Two decades later and I wouldn’t change a single thing I wrote.

I don’t like when politicians mistreat rich people, but I get far more upset when they do things that impose disproportionate costs on poor people. This is one of the reasons I don’t like government flood insuranceSocial Security, the Export-Import Bank, the mortgage interest deduction, or the National Endowment for the Arts.

And lotteries definitely belong on that list as well.

I’m not a paternalist. I support legal gambling and I don’t want to prohibit poor people from making (what I think) are misguided decisions.

But at least leave the gambling to the private sector so poor people will get back, on average, 90 cents of every dollar they bet.

Greece and the Grim Consequences of Democratic Socialism

Tue, 10/30/2018 - 12:23pm

My left-leaning friends periodically tell me that there’s a big difference between their benign policies of democratic socialism and the wretched track records of Marxist socialism, national socialism, and other forms of totalitarianism.

I agree. Living in a European welfare state, after all, is much better than living in a hellhole like CubaNorth KoreaZimbabwe, or Venezuela.

Not only do you enjoy the rule of law (no Khmer Rouge-style concentration camps!), but you also enjoy considerable prosperity compared to the rest of the world.

But there are two things to understand about that prosperity.

Let’s consider the case of Greece. I’ve written many times about the debilitating impact of high tax rates and wasteful spending in that nation. It has the least economic freedom of all nations in Western Europe, so it’s no surprise that it is falling further behind.

But sometimes a compelling example is the best way of helping people understand the harmful impact of big government.

We were on Filis Street — a warren of alleyways and dingy two-story houses — which has been home to Athenian brothels for most of the past century. The trade is more desperate now because of Greece’s lost decade since the 2008 financial crisis, which has left no profession unscathed. The collapsed economy and the arrival of tens of thousands of migrants have pushed even more women into prostitution — even as prices have fallen through the floor. …“I had a flower shop for 18 years — and now I’m here out of necessity, not out of joy,” said Dimitra, a middle-aged woman who lost her shop in the crisis and now works as a madam…the number of prostitutes in the city had increased by 7 percent since 2012, yet prices have dropped drastically, both for women working on the streets and in brothels. “In 2012, it would require an average of 39 euros” for a client to hire a prostitute in a brothel, Mr. Lazos said, “while in 2017 just €17 — a 56 percent decrease.”

The saddest part of the story is the commentary of the prostitutes.

“I hate sex,” Elena said. “I like the money, not the job.” Anastasia…has worked as a prostitute since she was 14. She’s now 33, and says the work is harder than ever. “People don’t have money anymore,” she said… Monica, a 30-year-old Albanian prostitute…spends six to eight hours a day trying to entice clients, but most do not stay. “They don’t have money,” she said. “They haven’t had money for the past seven years.” …Many Greek men are simply too poor to pay anymore.

support legal prostitution, in part because the alternative of pushing these unfortunate women even further into the underground economy would be worse.

But that doesn’t change the fact that these women don’t have good lives. And the misery of democratic socialism in Greece is making their lives even sadder.

The bottom line is that I now have three awful anecdotes from Greece to help illustrate the wretched impact of big government. In addition to the price-cutting prostitutes we discussed today, let’s not forget that Greece subsidizes pedophiles and requires stool samples to set up online companies.

Needless to say, I hope we never go that far in the wrong direction.

The moral of the story is that socialism (however defined) has never worked in any form at any time in history.

The Case For Statutory Spending Control

Mon, 10/29/2018 - 4:54pm

We certainly have reasons to celebrate the success of the U.S. economy in 2018. In September, the unemployment rate was at the lowest it has been since 1969, and GDP growth is bound for its highest annual rate in more than ten years.

These are times when government should be running a budget surplus. Yet despite an abundance of tax revenue, Congress is fast-tracking its budget back to trillion-dollar deficits.

Record growth, record employment and record tax revenue, and Congress still cannot pay for its own spending. As the federal budget speeds past $4 trillion, the cause of the deficit problem should be obvious: out-of-control spending.

It is high time for Congress to return to some sort of statutory spending control. The Swiss debt brake comes to mind.

Before we get to that idea, let us take a quick look at some numbers that put the spending problem on painful display. Figure 1 compares average GDP growth per presidential term with the federal budget deficit as percent of total federal spending:

Figure 1

 

Sources: Bureau of Economic Analysis (GDP Growth); Office of Management and Budget (Federal budget)

The almost perfect negative correlation between deficits as share of spending, and GDP growth, shows that the deficit is a matter of too much spending. When GDP growth slows down, so does growth in tax revenue. The more closely the deficit varies (inversely) with GDP growth, the more it indicates that spending does not vary with GDP growth.

In other words: when tax revenue slows down, Congress just keeps spending.

As Figure 1 suggests, the Office of Management and Budget predicts that over the next few years the federal government will pay for 17-22 percent of its spending with deficits. This is not fiscally irresponsible. It is fiscally reckless, and it is precisely what hurled countries like Greece, Spain and Portugal into a deep debt crisis during the Great Recession ten years ago. We are heading in the very same direction, and Congress is running out of time to stop it.

I have warned many times about the dangers of spending on credit. I am not alone. Dan Mitchell, for example, has explained eloquently and repeatedly that spending restraint is the key to ending deficits.

To rein in spending, Congress needs to act now. Ideally, that would mean structural reforms to major spending programs. Such reforms would change the very nature of our entitlement programs: spending would no longer increase automatically every year.

In Social Security, for example, this means introducing private accounts that individualize contributions and give people actual control over their own retirement security. In welfare and Medicaid, structural reforms would return the role of government to a last-resort provider of a basic safety net. Today, a relative definition of poverty defines the entire U.S. welfare state as a machine for economic redistribution; an absolute definition of poverty would end the practice of re-engineering economic outcomes. The effect would be a substantial shift in government spending, from steady increases driven by ideological preferences to steady levels that taxpayers can afford, even in hard times.

Unfortunately, structural spending reforms are unrealistic in today’s political climate. A more palatable solution might be the return of some form of statutory spending restraint. However, instead of useless mechanisms (the debt ceiling) and pointless compromises (the sequester) Congress might consider a more intelligent approach: the Swiss debt brake.

Dan Mitchell, a big champion of this mechanism, explained it in a 2012 Forbes Magazine article. In 2016, I analyzed the debt brake in a U.S. context, concluding:

As structural deficits have come to replace cyclical deficits as the dominant kind of fiscal shortfall, credit has de facto become a permanent funding source for government funding. Given that borrowed money is an unsustainable funding source, the question is what measures are needed to end budget deficits. While the European Union has failed in applying a constitutional budget-balancing measure, Switzerland has had some success using a regulatory measure focused on the debt instead of the deficit. While the experience is not unequivocally positive, it is promising enough to be a good example for what type of budget-balancing regulation the United States could have use for.

I also pointed to GDP growth numbers showing that Switzerland had seen a nice bump in economic growth after the debt brake went into effect.

From a macroeconomic viewpoint, Swiss debt brake with some moderate modifications is a good idea. It is also a good idea from a legislative viewpoint, as it does not require a constitutional amendment and does not come with the ridiculous political compromises of the sequester.

The road to a fiscal crisis is littered with ignored good ideas. Hopefully, Congress will not ignore this one.

The IRS Commits Unsportsmanlike Conduct against the NFL

Sun, 10/28/2018 - 12:07pm

I’ve written about how taxes have a big impact on soccer (a quaint game with little or no scoring that Europeans play with their feet).

Taxes affect both the decisions of players and the success of teams.

Grasping and greedy governments also have an impact on football. Especially if teams play in Europe.

…the Los Angeles Chargers and Tennessee Titans traveled across the Atlantic to play a game in London’s Wembley Stadium. …Players spoke of the burdens of traveling so far to play a game, especially the team from California that had to cross eight time zones. Players also spoke out about the tax nightmare they faced when they got to the UK. …players talked ahead of time to their CPAs to determine the tax hit they’d take for the privilege of such a long road trip… Great Britain…levies high taxes on athletes who visit for an athletic match. Teams from California — the Raiders, Chargers, and Rams — already face the highest state income tax in the nation with a top rate of 13.3 percent. Of course, players also have to pay federal income tax. …To top it all off, those players who receive one of their 16 paychecks in London pay a 45 percent tax on a prorated amount based on the number of days they spend in the country. Bottom line: Players on California teams could end up paying 60 percent or more in income taxes for that game check. …For non-resident foreign athletes, HM Revenue and Customs (HMRC) reserves the right to tax not only the income they earn from competing in the match but a portion of any endorsement money they earn worldwide.

No wonder some of the world’s top athletes don’t want to compete in the United Kingdom.

And what about the NFL players who got hit with a 60 percent tax rate for one game?

Those players are lucky they’re not Cam Newton, who paid a 198.8 percent tax for playing in the 2016 Super Bowl.

Last year’s tax bill also impacts professional football in a negative way. The IRS has decided that sports teams don’t count as “pass-through” businesses, as noted by Accounting Today.

Two major sports franchises might soon be on the auction block following Microsoft Corp. co-founder Paul Allen’s death last week. But a recent Internal Revenue Service rule could cut the teams’ sales prices. Allen died with no heirs and a $26 billion estate, including the National Football League’s Seattle Seahawks… The teams together are worth more than $3 billion, according to the Bloomberg Billionaires Index. …the IRS said in August that team owners would be barred from the write-off — one of the biggest benefits in the law — that allows owners of pass-through entities such as partnerships and limited liability companies to deduct as much as 20 percent of their taxable income. …Arthur Hazlitt, a tax partner at O’Melveny & Myers LLP in New York who provided the tax structure and planning advice for hedge fund manager David Tepper’s acquisition of the Carolina Panthers, estimates the IRS rules could spur potential bidders to offer at least tens of millions of dollars less.

Gee, what a surprise. Higher tax burdens lower the value of income-producing assets.

Something to keep in mind next them there’s a debate on whether we should be double-taxing dividends and capital gains.

Or the death tax.

Let’s close with a report from Bloomberg about some new research about the impact of taxes on team performance.

The 2017 law could put teams in states with high personal income tax rates at a disadvantage when negotiating with free agents thanks to new limits on deductions, including for state and local taxes, according to tax economist Matthias Petutschnig of the Vienna University of Economics and Business. Petutschnig’s research into team performance over more than two decades shows that National Football League franchises based in high-tax states lost more games on average during the regular season compared to teams in low or no-tax states. That’s because of the NFL’s salary cap for teams, according to Petutschnig; if they have to give certain players more money to compensate for higher taxes, it reduces how much they pay other players and lowers the team’s overall talent level. “The new tax law exacerbates my findings and makes it harder for high-tax teams to put together a high-quality roster,” Petutschnig said.

Here’s a chart from the article.

And here are more details.

A player for the Miami Dolphins or Houston Texans, where no state income taxes are levied, “was always going to come out a whole lot better than somebody playing in New York,” said Jerome Glickman, a director at accounting firm Friedman LLP who works with professional athletes. “Now, it’s worse.” …a free agent considering a California team compared to a team in Texas or Florida would need to make 10 percent to 12 percent more to compensate for his state tax bill, said NFL agent Joe Linta… the Raiders — who will eventually move to Las Vegas in no-tax Nevada — have often made the case that unequal tax rates create an uneven playing field. Quarterback Jimmy Garoppolo’s five-year $137.5 million contract with the San Francisco 49ers will mean an additional $3 million tax bill under the new tax law… Garoppolo would have saved $2 million in taxes under the new code had he instead signed with the Denver Broncos in lower-tax Colorado.

By the way, other scholars have reached similar conclusions, so Professor Petutschnig’s research should be viewed as yet another addition to the powerful body of evidence about the harmful effect of punitive tax policy.

P.S. I think nations have the right to tax income earned inside their borders, so I’m not theoretically opposed to the U.K. taxing athletes who earn income on British soil. But I don’t favor punitive rates. And I don’t think the IRS should add injury to injury by then taxing the same income. That lesson even applies to royalty.

Trade Deficits (Mostly) Don’t Matter

Sat, 10/27/2018 - 12:09pm

In doing some research about how to present the best case for free trade and against protectionism, I found some excellent commentary on why trade deficits don’t matter.

Here are some excerpts from a column by Don Boudreaux, a professor at George Mason University.

…the president’s trade policies are dreadful; they’ll reduce U.S. economic growth and diminish Americans’ spending power. …No myth about trade is more widespread than is the belief that imports reduce domestic employment. …trade is a two-way street. Non-Americans sell stuff to Americans only to acquire the dollars needed buy American exports and to invest in the U.S. — and each of these activities creates other particular jobs in America to offset those that are destroyed. …The reason trade deficits don’t reduce overall employment is that, in fact, trade deficits are not really deficits at all. Every cent that does not return to the U.S. as demand for American exports returns instead as investment in America. In economists’ lingo: the trade deficit (or, to be precise, the current-account deficit) is matched by a capital-account surplus of equal size. …Why should we be upset if foreigners continue to think highly enough of our economy to want to invest here?

And here’s some of what Greg Mankiw of Harvard wrote for the New York Times.

…the president’s overall approach to international trade is so confused. …When Mr. Trump discusses our trade relations with another nation, he often points to the bilateral trade balance — the difference between the value of our exports to that nation and the value of our imports from it. If imports exceed exports, we are running a bilateral trade deficit, which Mr. Trump interprets as a sign that we are the relationship’s losers. …consider some of the many bilateral trade deficits that I run. Whenever my family goes out to dinner, the restaurateur gets some money, and we get a meal. In economics parlance, the Mankiw family runs a trade deficit with that restaurant. But that doesn’t make us losers. …I can run persistent trade deficits with restaurants because I run trade surpluses elsewhere. Take The New York Times, for instance. It pays me more for my columns than I pay it for my subscription. That’s a bilateral trade surplus for me and a bilateral trade deficit for The Times. But nonetheless, we both gain.

I tried to incorporate these insights into my presentation, which has more than 30 slides.

Here are the ones that deal with the trade deficit, starting with some elementary observations.

I then pointed out that all of us have trade deficits in our daily lives.

Yet we understand this doesn’t hurt us.

Using trade with China as an example, I explain that money we send overseas only has value because foreigners can use it to purchase things in America.

Including investments.

And I recycled this chart from a column back in March.

For what it’s worth, understanding that a trade deficit is merely the flip side of a financial surplus is the key to recognizing that trade deficits (generally) don’t matter.

I’ll close with an important caveat.

I’m a big fan of foreign investment in the U.S. economy. Indeed, it’s one of the reasons why I’m happy America is a tax haven for citizens of other countries.

That being said, not all inbound investment is created equal. I’m delighted when foreigners buy stock and bond. I’m very happy when they make direct investments (one of the reasons I like the EB-5 visa program).

It’s not good news for our economy, though, when foreigners buy government bonds. But that’s the fault of our ever-expanding welfare state, not trade.

A Helpful Solution to Italy’s Budget Standoff with the European Commission

Fri, 10/26/2018 - 12:04pm

I’ve warned many times that Italy is the next Greece.

Simply stated, there’s a perfect storm of bad news. Government is far too big, debt is too high, and the economy is too sclerotic.

I’ve always assumed that the country would suffer a full-blown fiscal crisis when the next recession occurs. At that point, tax receipts will fall because of the weak economy and investors will realize that the nation no longer is able to pay its bills.

But it may happen even sooner thanks to a spat between Italy’s left-populist government and the apparatchiks at the European Commission.

Here’s what you need to know. There are (poorly designed) European budget rules, known as the Maastricht Criteria, that supposedly require that nations limit deficits to 3 percent of GDP and debt to 60 percent of GDP.

With cumulative red ink totaling more than 130 percent of GDP, Italy obviously fails the latter requirement. And this means the bureaucrats at the European Commission can veto a budget that doesn’t strive to lower debt levels.

At least that’s the theory.

In reality, the European Commission doesn’t have much direct enforcement power. So if the Italian government tells the bureaucrats in Brussels to go jump in a lake, you wind up with a standoff. As the New York Times reports, that’s exactly what’s happened.

In what is becoming a dangerous game of chicken for the global economy, Italy’s populist government refused to budge on Tuesday after the European Union for the first time sent back a member state’s proposed budget because it violated the bloc’s fiscal laws and posed unacceptable risks. …the commission rejected the plan, saying that it included irresponsible deficit levels that would “suffocate” Italy, the third-largest economy in the eurozone. Investors fear that the collapse of the Italian economy under its enormous debt could sink the entire eurozone and hasten a global economic crisis unseen since 2008, or worse. But Italy’s populists are not scared. They have repeatedly compared their budget, fat with unemployment welfare, pension increases and other benefits, to the New Deal measures of Franklin D. Roosevelt.

Repeating the failures of the New Deal?!? That doesn’t sound like a smart plan.

That seems well understood, at least outside of Italy.

The question for Italy, and all of Europe, is how far Italy’s government is willing to go. Will it be forced into submission by the gravity of economic reality? Or will Italian leaders convince their voters that the country’s financial health is worth risking in order to blow up a political and economic establishment that they say is stripping Italians of their sovereignty? And Brussels must decide how strict it will be. …the major pressure on Italy’s budget has come from outside Italy. Fitch Ratings issued a negative evaluation of the budget, and Moody’s dropped its rating for Italian bonds to one level above “junk” last week.

So now that Brussels has rejected the Italian budget plan, where do things go from here?

According to CNBC, the European Commission will launch an “Excessive Deficit Procedure” against Italy.

…a three-week negotiation period follows in which a potential agreement could be found on how to lower the deficit (essentially, Italy would have to re-submit an amended draft budget). If that’s not reached, punitive action could be taken against Italy. Lorenzo Codogno, founder and chief economist at LC Macro Advisors, told CNBC…“it’s very likely that the Commission will, without making a big fuss, will move towards making an ‘Excessive Deficit Procedure’…to put additional pressure on Italy…” Although it has the power to sanction governments whose budgets don’t comply with the EU’s fiscal rules (and has threatened to do so in the past), it has stopped short of issuing fines to other member states before. …launching one could increase the already significant antipathy between Brussels and a vociferously euroskeptic government in Italy. Against a backdrop of Brexit and rising populism, the Commission could be wary of antagonizing Italy, the third largest euro zone economy. It could also be wary of financial market nerves surrounding Italy from spreading to its neighbors… Financial markets continue to be rattled over Italy’s political plans. …This essentially means that investors grew more cautious over lending money to the Italian government.

For those who read carefully, you probably noticed that the European Commission doesn’t have any real power. As such, there’s no reason to think this standoff will end.

The populists in Rome almost certainly will move forward with their profligate budget. Bureaucrats in Brussels will complain, but to no avail.

Since I’m a nice guy, I’m going to give the bureaucrats in Brussels a much better approach. Here’s the three-sentence announcement they should make.

  1. The European Commission recognizes that it was a mistake to centralize power in Brussels and henceforth will play no role is overseeing fiscal policy in member nations.
  2. The European Commission (and, more importantly, the European Central Bank) henceforth will have a no-bailout policy for national governments, or for those who lend to national governments.
  3. The European Commission henceforth advises investors to be appropriately prudent when deciding whether to lend money to any government, including the Italian government.

From an economic perspective, this is a far superior approach, mostly because it begins to unwind the “moral hazard“that undermines sound financial decision making in Europe.

To elaborate, investors can be tempted to make unwise choices if they think potential losses can be shifted to taxpayers. They see what happened with the various bailouts in Greece and that tells them it’s probably okay to continue lending money to Italy. To be sure, investors aren’t totally blind. They know there’s some risk, so the Italian government has to promise higher interest payments

But it’s highly likely that the Italian government would have to pay even higher rates if investors were convinced there would be no bailouts. Incidentally that would be a very good outcome since it would make it more costly for Italy’s politicians to continue over-spending.

In other words, a win-win situation, with less debt and more prudence (and maybe even a smaller burden of government!).

My advice seems so sensible that you’re probably wondering if there’s a catch.

There is, sort of.

When I talk to policy makers, they generally agree with everything I say, but then say my advice is impractical because Italy’s debt is so massive. They fret that a default would wipe out Italy’s banks (which imprudently have bought lots of government debt), and might even cause massive problems for banks in other nations (which, as was the case with Greece, also have foolishly purchased lots of Italian government debt).

And if banks are collapsing, that could produce major macroeconomic damage and even lead/force some nations to abandon the euro and go back to their old national currencies.

For all intents and purposes, the Greek bailout was a bank bailout. And the same would be true for an Italian bailout.

In any event, Europeans fear that bursting the “debt bubble” would be potentially catastrophic. Better to somehow browbeat the Italian government in hopes that somehow the air can slowly be released from the bubble.

With this in mind, it’s easy to understand why the bureaucrats in Brussels are pursuing their current approach.

So where do we stand?

  • In an ideal world, the problem will be solved because the Italian government decides to abandon its big-spending agenda and instead caps the growth of spending (as I recommended when speaking in Milan way back in 2011).
  • In an imperfect world, the problem is mitigated (or at least postponed) because the European Commission successfully pressures the Italian government to curtail its profligacy.
  • In the real world, though, I have zero faith in the first option and very little hope for the second option. Consider, for instance, the mess in Greece. For all intents and purposes, the European Commission took control of that nation’s fiscal policy almost 10 years ago. The results have not been pretty.

So this brings me back to my three-sentence prescription. Yes, it almost certainly would be messy. But it’s better to let the air out of bubbles sooner rather than later.

P.S. The so-called Basel Rules contribute to the mess in Europe by directing banks to invest in supposedly safe government debt.

P.P.S. If the European Union is going to impose fiscal rules on member nations, the Maastricht criteria should be jettisoned and replaced with a Swiss-style spending cap.

P.P.P.S. Some of the people in Sardinia have the right approach. They want to secede from Italy and become part of Switzerland. The Sicilians, by contrast, have the wrong mentality.

Helping the Left and the Right Understand the Laffer Curve

Thu, 10/25/2018 - 12:03pm

As illustrated by this video tutorial, I’m a big advocate of the Laffer Curve.

I very much want to help policy makers understand (especially at the Joint Committee on Taxation) that there’s not a linear relationship between tax rates and tax revenue. In other words, you don’t double tax revenue by doubling tax rates.

Having worked on this issue for decades, I can state with great confidence that there are two groups that make my job difficult.

  • The folks who don’t like pro-growth tax policy and thus claim that changes in tax policy have no impact on the economy.
  • The folks who do like pro-growth tax policy and thus claim that every tax cut will “pay for itself” because of faster growth.

Which was my message in this clip from a recent interview.

For all intents and purposes, I’m Goldilocks in the debate over the Laffer Curve. Except instead of stating that the porridge is too hot or too cold, my message is that it is that changes in tax policy generally lead to more taxable income, but the growth in income is usually not enough to offset the impact of lower tax rates.

In other words, some revenue feedback but not 100 percent revenue feedback.

Yes, some tax cuts do pay for themselves. But they tend to be tax cuts on people (such as investors and entrepreneurs) who have a lot of control over the timing, level, and composition of their income.

And, as I said in the interview, I think the lower corporate tax rate will have substantial supply-side effects (see here and here for evidence). This is because a business can make big changes in response to a new tax law, whereas people like you and me don’t have the same flexibility.

But I don’t want this column to be nothing but theory, so here’s a news report from Estonia on the Laffer Curve in action.

After Estonia raised its alcohol excise tax rates considerably in 2017, Estonian daily Postimees has estimated that the target of the money the alcohol excise tax would bring into state coffers could have been missed by at least EUR 40 million. …Initially, in the state budget of 2017, the ministry had been planned that proceeds from the alcohol excise tax would bring EUR 276.4 million, but last summer, it cut the forecast to EUR 237.5 million.

I guess I’ll make this story Part VII in my collection of examples designed to educate my friends on the left (here’s Part IPart IIPart IIIPart IVPart V, and Part VI).

But there’s a much more important point I want to make.

The fact that most tax increases produce more revenue is definitely not an argument in favor of higher tax rates.

That argument is wrong in part because government already is far too large. But it’s also wrong because we should consider the health and vitality of the private sector. Here’s some of what I wrote about some academic research in 2012.

…this study implies that the government would reduce private-sector taxable income by about $20 for every $1 of new tax revenue. Does that seem like good public policy? Ask yourself what sort of politicians are willing to destroy so much private sector output to get their greedy paws on a bit more revenue. What about capital taxation? According to the second chart, the government could increase the tax rate from about 40 percent to 70 percent before getting to the revenue-maximizing point. But that 75 percent increase in the tax rate wouldn’t generate much tax revenue, not even a 10 percent increase. So the question then becomes whether it’s good public policy to destroy a large amount of private output in exchange for a small increase in tax revenue. Once again, the loss of taxable income to the private sector would dwarf the new revenue for the political class.

The bottom line is that I don’t think it’s a good trade to reduce the private sector by any amount simply to generate more money for politicians.

P.S. I’m also Goldilocks when considering the Rahn Curve.

P.P.S. For what it’s worth, Paul Krugman (sort of) agrees with me about the Laffer Curve.

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