What About the New Tax Law?

New Event from the Susquehanna Progressives. Drop by if you're around the area. Info below.

"As activists we need to understand the history of US tax policies, how they have changed since the 50's and why, the affect on our social fabric and what the new tax bill will mean for the health of our nation (Presentation followed by Q&A)."

Presenter: Matías Vernengo, Professor of Economics, Bucknell University

Thursday, February 22 | 7:00 - 8:30 PM
Community Zone, Market Street in Lewisburg 7-8:30

Tariffs or sales tax and corporate tax reduction?

The announcement, and backtracking, on a 20% tax on Mexican imports caused a lot of confusion yesterday. I assumed like most that this was a proposal for a tariff, which would both ditch NAFTA rules and run afoul of the WTO rules. The wall and the tariff led to a cancellation of the Mexican president's trip, and a souring of the diplomatic relations. But in all fairness, it seems that this had little to do with Mexico.

The Republican Tax Plan basically is to eliminate the corporate income tax, and to substitute if with a destination based cash flow tax (DBCFT, is the clumsy acronym of the beast; on this see Jared Bernstein). The idea is that this would reduce the incentive of US corporations to relocate abroad to scape the income tax, and to basically introduce a national sales tax. The tax is border adjusted, so to speak, since imports sold in the US would pay taxes, but exports wouldn't.

So it seems to me that Trump was trying to use the GOP tax plan, that already existed, and is still in place, as far as I understand, and use it to claim that as Mexican imports will be taxed, they will be paying for the wall, that it seems he really plans to build. They seem to at least temporarily backtracked on the proposal, mainly I think to avoid jeopardizing the tax plan, which seems to me to be regressive, sales taxes after all hit everybody, and solving the problem of corporate tax evasion, by making the US a tax haven, and shifting the burden to consumers (just a hunch, I'll wait for tax exports to do the hard work of calculating the effects).

The impact of such a policy, by the way, is less clear than one would think. Josh Mason wrote something about it here. Like him I'm skeptical that a sales tax on imports would bring a lot of manufacturing jobs back. But even if this reduces the trade deficit, with Mexico and other countries (China?), which again I doubt, the problem of the quality of jobs here (and manufacturing matters among other things because of the quality of jobs) in the US does not depend fundamentally on the trade deficit per se. On that front, what will be done with labor regulations, the minimum wage, and the overall macroeconomic picture seems to be more relevant, and there are reasons to be concerned.

Undocumented Immigrants pay a lot of taxes

I have discussed this before. I explicitly argued that this was one the GOP myths about taxes, and I lumped it together with the notion that poor people don't pay taxes (Myth #3: 50% don't pay taxes, including immigrants).  Now a report from the Institute on Taxation and Economic Policy (ITEP) seems to confirm this view.

The report claims that undocumented immigrants living in the United States collectively pay an estimated $11.6 billion dollars each year in state and local taxes. And if their situation was regularized, they would pay even more. Add that to the fact that it does not seem that immigrants reduce wages, and the whole anti-immigration position seems more like what it really is. Xenophobia exploited by a demagogues preying on people that have had a hard time and are willing to find someone to blame. A dangerous mix.

Five Republican Myths About Taxes

The last Republican debate exposed some of the GOP myths about taxes. Okay, so not all were discussed in the debate per se, but a few were, and the others are pretty much part of the implicit assumptions in the Republican mainstream. A short list must include these ideas:

1. Corporate taxes are high in the US
2.  Lower taxes boost investment
3. 50% don't pay taxes, including immigrants
4. A flat tax would simplify the tax code
5. Reducing taxes could still finance big government

But it is well-known that reality has a liberal bias, so facts do not bode well for these GOP talking points. The common strategy in these positions is to purposely misrepresent the truth with statistics (Disraeli’s third kind of lie, as per his dictum that there are three kinds of lies, lies, damned lies and statistics).

The corporate tax rate is indeed high in the US, but as noted by the Center on Budget and Policy Priorities (CBPP): “The U.S. corporate tax code includes a host of special provisions that significantly reduce the taxes that most corporations owe… Largely because of these preferences, the corporate tax base is very narrow.” So the tax rate is high, but corporations don’t pay much.

Number two is the Holy Grail of supply-side economics. But at this point it should really be relegated to the annals of crazy science. There is no shred of evidence, as noted by Mark Thoma. By the way, all the evidence on investment is that it responds to the level of activity, the so-called accelerator.

While the correct number, again according to the CBPP, would be more like 40% of people don’t pay taxes in normal times, it is still the case that the vast majority does pay taxes. Not income taxes, but payroll and sales taxes, which are, by the way, regressive. And they pay state and local taxes too. For the vast majority of the labor force payroll taxes, not income, is the biggest burden on their paycheck. And immigrants do pay sales taxes, and often payroll taxes too.

Alan Blinder has noted (subscription required; or read Jared Bernstein here) that the complexities of the tax code do not come from multiple tax brackets and that a flat tax rate would not simplify the tax system, besides being regressive. Complexities derive from what is defined to be taxable income instead.

Finally, you might think 5 it’s a typo, since Republicans are not for Big Government. So they would NOT suggest that lower taxes can finance big government. In fact, as shown by Jeffrey Frankel here (scroll down for his talk, and go here for more recent data) every Republican president since Ford has increased spending and deficits while every Democratic president has done the opposite, and that includes Obama after the fiscal package passed in 2009. So they are for big government (for corporations and war), and the idea is that cutting taxes would still allow to fund for that. It would certainly lead to higher deficits and debt, which of course they would only favor during a Republican presidency. But arguably that’s their point, to increase debt so that they can claim that government spending must be restrained, and privatize Social Security.

PS: Mike Isaacson of the great blog Vulgar Economics reminded of the death tax. And I'm sure I missed other myths too.

Where revenue comes from

Not sure if I posted something similar before. At any rate, no surprises. Before the New Deal excise and other indirect taxes were the vast majority of the administration's revenue. Since then the individual income tax become the central source of revenue. Since the 1970s corporate income taxes fell, and were essentially compensated by higher payroll taxes. In other words, first more progressive, then more regressive. Updated data here.

Mark Blyth and Eric Lonergan on Why Central Banks Should Give Money Directly to the People

By Mark Blyth and Eric Lonergan

In theory, governments can boost spending in two ways: through fiscal policies (such as lowering taxes or increasing government spending) or through monetary policies (such as reducing interest rates or increasing the money supply). But over the past few decades, policymakers in many countries have come to rely almost exclusively on the latter. The shift has occurred for a number of reasons. Particularly in the United States, partisan divides over fiscal policy have grown too wide to bridge, as the left and the right have waged bitter fights over whether to increase government spending or cut tax rates. More generally, tax rebates and stimulus packages tend to face greater political hurdles than monetary policy shifts. Presidents and prime ministers need approval from their legislatures to pass a budget; that takes time, and the resulting tax breaks and government investments often benefit powerful constituencies rather than the economy as a whole. Many central banks, by contrast, are politically independent and can cut interest rates with a single conference call. Moreover, there is simply no real consensus about how to use taxes or spending to efficiently stimulate the economy.

Read rest here.

Tim Dickinson on The Biggest Tax Scam Ever

Today, Tim Dickinson was on Democracy Now talking about the ways in which US Corporations have engineered a global scam to avoid tax obligations.  His article in Rolling Stone provides extensive details.

By Tim Dickinson

In July, the American pharmaceutical giant AbbVie, maker of the world's top-selling drug – the arthritis treatment Humira – reached a blockbuster deal to acquire European rival Shire, best known for the attention-deficit medication Adderall. The merger was cheered by Wall Street, not for what the deal will do to advance pharmaceutical science, but because it will empower the bigger firm, AbbVie, to renounce its U.S. citizenship. At $55 billion, the AbbVie deal is the largest in a cavalcade of corporate "inversions." A loophole in American tax law permits companies with just 20 percent foreign ownership to reincorporate abroad, which means that if a big U.S. firm acquires a smaller company located in a tax haven, it can then "invert" – that is, become a subsidiary of its foreign-based affiliate – and kiss a huge share of its IRS obligations goodbye. AbbVie shareholders will continue to control 75 percent of the company, which will still be managed by executives outside Chicago. But the merged company will now file its tax returns on the island of Jersey – a speck of land in the English Channel, where Shire is incorporated. AbbVie, which racked up more than $10 billion in Humira sales last year, will slash its effective corporate tax rate from 22 percent to 13. The cost to the U.S. Treasury? Possibly as much as $1.3 billion by the year 2020.

Read rest here, and for an article by David Cay Johnston on the issue, see here.

Tax wars (Episode I, the Payroll Menace)

A long time ago in a galaxy far, far away... Oh well, in the US in the last 80 years or so the structure of taxes changed quite a bit. The figure below shows the share of individual and corporate income taxes, excise and payroll taxes since 1934 to 2013 (last year is an estimate; source here).

Excise taxes fall from high levels to relatively low levels, making the whole tax structure more progressive. On the other hand, corporate income tax revenues fell from the 40% peak of the WW-II period, to around 10% [but remained above 20% until the 1970s, one should note] making it less progressive. Also, changes in the marginal tax rates in the individual income tax, particularly after the 1980s, made the system more regressive.

Note, however, that the largest increase as a source of revenue is the payroll tax. This suggests that increasingly the social safety net is paid by workers. That, of course, will not stop the conservative political forces to continue to try to privatize social security and eliminate other programs associated with the safety net.

Who pays the taxes?

Not corporations that's for sure (for more go here). Corporate taxes are less than a third of what they used to be in the early 1950s, when that Socialist, Eisenhower, was the president.

Note also, that Payroll taxes, that are regressive, have also increased over time. The poor and the middle class actually pay for their own retirement. No 'handouts' there. And the decrease in corporate taxes is more or less matched by the increase in Payroll taxes. Tax the poor, not corporations, that has been the rule.

Death and taxes

Well really about taxes (which are apparently less certain than death, Ben Franklin notwithstanding). The Atlantic has a nice post, with a link to a KPMG report on taxes around the globe. Figure below shows the effective tax rates (income and payroll taxes) for an income of US$ 100,000 (similar for the 300,000 level).

Note that at the top, besides Western European countries (with greece in 2nd place),  there are some developing countries like India and Brazil. All three big Latin American countries, Argentina, Brazil and Mexico, are way above the United States. KPMG says that "effective rates are derived by taking total taxes over gross income prior to any deductions." The US is in the middle of the pack.

The political economy of flat taxes

The GOP has revived this season the ghost of the flat tax. Cain is for the 999 plan (whatever that is) and Perry for a 20% flat income tax (see here, for example). I haven't seen any particular analysis of the Perry plan so far, but it won't be much different from the Cain breakup. For example, the Tax Policy Center (here) shows that Cain's plan would increase the federal taxes of the lowest quintile by 18.3% while reducing that of the top 0.1% by 17.9%.  And that's not class warfare! You don't need to be a rocket scientist to know that when you hear flat tax it's all about reducing the taxes of the rich.

Taxation was, by the way, always a key concern of classical political economy (it's there in the title of Mr. Ricardo's Principles). One of the most famous tax proposals of the 19th century, Henry George's single land tax, was in fact based on the 'Ricardian' theory of the rent. That is, the idea that landowners derive their income (rent) from ownership, and that their income (for a given level of output) detracts from profits and the possibilities of accumulation, required a tax to transfer income against wealthy landowners.

The interesting thing is that since the old classical surplus approach makes it clear that class conflict is essential for understanding the functioning of the economy, it does not try to disguise the issue of taxation as not having distributive consequences.

Alan Krueger to lead the CEA

The NYTimes reports that Alan Krueger will be the next chairman of the Council of Economic Advisors. A well respected, serious professor from Princeton, that almost everybody from Mankiw to Krugman will approve of. He is a labor economist, and yes that is a problem. My concern with labor economists, is that they tend to think in microeconomic terms when it comes to employment creation, and that is definitely not a solution for the current situation.

For example, the Times tells us that:

"Dr. Krueger was also one of the administration’s chief spokesmen for a payroll tax cut designed to encourage employers to hire, a policy that was in effect under the HIRE Act during 2010. The tax incentive, which was designed by Senators Chuck Schumer and Orrin Hatch after a raft of competing proposals floated through Washington, was criticized by some economists as being too small and ill-targeted to make much of a difference in hiring."

Don't get me wrong a reduction of payroll taxes, a regressive tax that burdens low income groups more heavily, is a good idea. But the reason is that it would stimulate consumption, not that it would reduce costs and lead to additional hiring. Why would a firm hire workers, because costs are lower, if they don't have demand for their products? Employment creation is NOT about incentives to the supply side, but about creating more demand!

Milton Friedman was wrong on Bush's tax cuts

Zain Siddiqui sent a link to a radio debate between Paul Samuelson and Daniel McFadden (against) versus Milton Friedman (for) on Bush's tax cuts back in 2003. In the minute 24:20 of the interview, the host asks Friedman:

"Milton Friedman, let me turn to you, are you suggesting, on the contrary, that these tax cuts will lead to capital formation, investment, and therefore, economic growth?"

His response, after noting that he is a libertarian, was:

"Yes I am, indeed and well."

This was eight years ago. Time to take stock and see what happened.  Average rate of real GDP growth from 2001 to 2010 was 1.68 percent.  Below the historical average, even if you eliminated the crisis, in which case it would be 2.08 percent.  And let's not forget that the tax cuts are to a great extent, besides the crisis and the two wars, the cause of higher deficits and debt. Was he wrong? Yes, indeed and well.

Top marginal rates and income distribution

A little aside prompted by the top marginal rate graph I posted yesterday. If you graph it together with the share of income of the top 10% of the population (data available in Emmanuel Saez’s webpage), you see that as the top marginal rate goes up in the 1930s the income share of the wealthiest individuals falls, and vice versa in the 1980s. Not rocket science. And clearly there are several other factors that explain the down and up change in the income share of the wealthiest, from the strength of unions after the Wagner Act and their current struggles (e.g. in Wisconsin), to the education boost of the GI Bill and the current increases in the cost of public education, to the political changes in the Republican Party after the rise of the conservative movement.

PS: I excluded the earlier years of the 20th century, because of the sharp increases in top rates during World War I.