Asymptosis

I’ve pointed out multiple times that despite Europe’s big, supposedly growth-strangling governments, Europe and the U.S. have grown at the same rate over the last 45 years. Here’s the latest data from the OECD, through 2014 (click for larger):

And here’s the spreadsheet. Have your way with it. More discussion and explanation in a previous post.

You can cherry-pick brief periods along the bottom diagonal to support any argument you like. But between 1970 and 2014, U.S. real GDP per capita grew 117%. The EU15 grew 115%. (Rounding explains the 1% difference shown above.) Statistically, we call that “the same.”

Which brought me back to a question that’s been nagging me for years: why hasn’t Europe caught up? Basic growth theory tells us it should (convergence, Solow, all that). And it did, very impressively, in the thirty years after World War II (interestingly, this during a period when the world lay in tatters, and the U.S. utterly dominated global manufacturing, trade, and commerce).

But then in the mid 70s Europe stopped catching up. U.S. GDP per capita today (2014) is $50,620. For Europe it’s $38,870 — only 77% of the U.S. figure, roughly what it’s been since the 70s. What’s with that?

Small-government advocates will suggest that the big European governments built after World War II are the culprit; they finally started to bite in the 70s. But then, again: why has Europe grown just as fast as the U.S. since the 70s? It’s a conundrum.

I’m thinking the small-government types might be right: it’s about government. But they’ve got the wrong explanation.

Think about how GDP is measured. Private-sector output is estimated by spending on final goods and services in the market. But that doesn’t work for government goods, because they aren’t sold in the market. So they’re estimated based on the cost of producing and delivering them.

Small-government advocates frequently make this point about the measurement of government production. But they then jump immediately to a foregone conclusion: that the value of government goods are services are being overestimated by this method. (You can see Tyler Cowen doing it here.)

That makes no sense to me. What would private output look like if it was measured at the cost of production? Way lower. Is government really so inefficient that its production costs are higher than its output? It’s hard to say, but that seems wildly improbable, strikes me as a pure leap of faith, completely contrary to reasonable Bayesian priors about input versus output in production.

Imagine, rather, that the cost-of-production estimation method is underestimating the value of government goods — just as it would (wildly) underestimate private goods if they were measured that way. Now do the math: EU built out governments encompassing about 40% of GDP. The U.S. is about 25%. Think: America’s insanely expensive health care and higher education, much or most of it measured at market prices for GDP purposes, not cost of production as in Europe. Add in our extraordinary spending on financial services — spending which is far lower in Europe, with its more-comprehensive government pension and retirement programs. Feel free to add to the list.

All those European government services are measured at cost of production, while equivalent U.S. services are measured at (much higher) market cost. Is it any wonder that U.S. GDP looks higher?

I’d be delighted to hear from readers about any measures or studies that have managed to quantify this difficult conundrum. What’s the value or “utility” of government services, designated in dollars (or whatever)?

Update: I can’t believe I failed to mention what’s probably the primary cause of the US/EU differential: Europeans work less. A lot less. Like four or six weeks a year less. They’ve chosen free time with their families, time to do things they love with people they love, over square footage and cubic inches.

Got family values?

I can’t believe I forgot to mention it, because I’ve written about it at least half a dozen times.

If Europeans worked as many hours as Americans, their GDP figures would still be roughly 14% below the U.S. But mis-measurement of government output, plus several other GDP-measurement discrepancies across countries, could easily explain that.

Cross-posted at Angry Bear.

Based on the notions of economic efficiency that I laid out here, if I could do whatever I wanted I would make the following changes over a ten-year period. (Some faster, some slower, some phased in, some implemented instantly on a given date.) The appropriate amounts in each case require a better calculator than I have access to.

Tax All Corporate Profits Like S-Corps, and Eradicate Taxes on Corporations, Dividends, and Capital Gains. Credit for the idea goes to Milton Friedman (Capitalism and Freedom, page 174 in my edition). Shareholders pay taxes on the year’s corporate profits (at normal earned-income rates or higher), whether or not they’re distributed. No more double taxation, but no more preferencing over earned and interest income, or indefinite/eternal deferral.

Eradicate Tax Deductions for Interest Payments — Personal and Corporate. Mortgage- and corporate-interest deductions are terribly distortionary; they encourage borrowing — debt financing — over equity- and self-financing. And they’re regressive.

Eradicate Business Deductions for Employee Health Care/Insurance. Destroy the distortionary historical artifact of employer-based health care coverage. Stop discouraging self-employment and personal choice of health-insurance options. (Having been self-employed for decades, I take this very personally. It’s cost me many tens of thousands of dollars.)

Scrap the Cap on Social Security Taxes. Include all earned income. This only makes a terribly regressive tax somewhat less regressive, and it expands the tax slice from that still-regressive tax — a tax that discourages working for a living because it only taxes earned income. But it makes Social Security cash-flow solvent beyond the foreseeable horizon (revenues support outlays). Other propositions here should be scaled to compensate for its regressiveness and work disincentive.

Change All Local Property Taxes to Land-Value-Only Taxes. Land value taxes are the least distortionary taxes around. This would remove the disincentive to improve land. Since it’s non-distortionary, it would also be good to increase its total share of the tax take.

Greatly Expand and Simplify the Earned Income Tax Credit, and Deliver it on Weekly Paychecks. Beyond its manifest benefits to tens of millions, and turbocharger effect on the economy, it could allow for some reduction or eradication of other (economically inefficient) means-tested payments.

Tax Carbon. Since people/businesses aren’t paying for their negative externalities, it’s distortionary not to tax carbon. All hail Arthur Pigou. This is a non-progressive tax, so other taxes would need adjustment to compensate.

Reduce Income Taxes and Make Them More Progressive. As possible and needed, given the other changes, to achieve:

Overall Results:

1. Make the whole tax system — local, state, and federal combined — actually progressive. All the way from the bottom to the top.

2. Increase the total tax take by a few percentage points of GDP. Because Americans (notably, Tea Partiers) want the amount of government we’ve got. So they need to cover the costs. True conservatives pay their bills.

Cross-posted at Angry Bear.

Obama went after the elephant in the room, at huge political cost. Say what you will about his political savvy, the way he went about it, or the reform’s likely (as opposed to hoped-for) effects, but it makes pretty clear who’s the adult in the room.

Via: Medical Billing And Coding

Is actually from thirty years ago. Speaking of Social Security:

“It’s not the third rail,” cautioned Ken Khachigian, a speechwriter for Reagan, “until you touch it.”

30 years of deficit talk, but little to show for it | Deseret News/New York Times News Service

I really love it when somebody points out that I’m wrong. (At least, when they’re right that I’m wrong.)

Jazzbumpah in an email pointed out a whopper of an error in a previous post, in this graphic:

The blue slice is State and Local. The red slice is Federal.

Here’s the real picture:

(Expenditures: NIPA table 3.9.5, lines 12, 17, and 22; GDP: NIPA GDPA. Grants in aid: http://research.stlouisfed.org/fred2/series/AFGSL/downloaddata?cid=107)

Reminder: government consumption expenditures is government expenditures minus outlays for social-insurance programs like Social Security, Medicare, etc. (they’re insurance programs that happen to funnel the money through the government), and minus government investment in fixed assets. As Tyler Cowen points out, it’s the best measure of what government is actually “spending” — what it delivers in government services.

We’re so used to believing the “massive federal government” meme that even while staring directly at the data I misinterpreted and misrepresented it.

This also prompted me to add an important slice that I’d thought of before, but hadn’t included: federal transfers, or “grants in aid” to state and local governments. This is money that is taxed at the federal level, but transferred to state and local governments for spending — usually with strings attached. (Largely based on the “locals know their needs better” meme — which may be true.)

Since (as Jazzbumpah again pointed out) stacked area charts can be hard to read, here are a few slices broken out for you:

Notice that grants in aid tend to compensate for the business cycle/state of the economy. When times are bad and state and local budgets (most of which are required to be balanced) are strapped, grants in aid smooth things out and provide for those who are hurt by the down economy. In other words, they’re “countercyclical” — which is a good thing both for the economy as a whole and for individuals.

Long story short, government consumption spending has been basically flat since the 70s. The notion of massive runups is delusional. (Yes, we need to control health-care costs that are overwhelming our economy and our government budgets [Medicare and Medicaid]. That’s a different issue. Also pension plans. Social security really isn’t an issue at all.)

As always, I’m happy to share my work. Drop a line if you want the spreadsheet.

I’m quite taken with the central notion of Tyler’s new mini-book — that America has been picking the economic low-hanging fruit for decades or centuries, and that there’s a lot less of it around over the last three to six decades.

Before I get to the parts I like, I have to instantly respond to his section on government, because it has some flaws and falsehoods that I’m really stunned to hear from him — because I know for a fact that he knows they’re not true.

He uses the marginal utility argument (you only need so many apples, so additional — marginal — apples yield progressively less benefit per apple) to argue that as government grows, the marginal additions yield progressively less value:

Even if you think everything our government does is awesome, successive units of government are on still on average less valuable than the core functions.

He’s basically applying his low-hanging fruit contention (which is different from the single-good marginal-value argument) to government: all the high-value services (i.e. the low-hanging fruit) have already been delivered. That contention may be true; more below. But first we need to look at the basic facts he presents.

Full credit: though he waits a bit to do it, he acknowledges that government expansions of medicare, social security, etc. are not necessarily subject to the marginal-value rule, or at least that they shouldn’t be considered in evaluating it.

The relevant number for government here is not “government as a percentage of the economy,” because that includes a lot of transfer and welfare and social security payments, which simply shuffle money from one person to another. A better measure is “government consumption” –– what government itself is doing

In addition to the money-shuffle argument (which is correct): medicare etc. are not so much additional services as existing services for which the money is funneled through government instead of through private enterprises. (Far more efficiently than the private enterprises, it so happens, so the value returned from those additional government revenues/expenditures is higher, not lower, than if the money flowed through private enterprises.*)

Here’s where it gets really dicey.

that figure [government consumption] commonly falls in the range of 15 to 20 percent of U.S. GDP. As long as the absolute size of government consumption is rising — as it generally does — we are getting less value than our measurements indicate.

What in the heck???!!! He cites consumption relative to GDP, states that it’s been pretty steady, then talks about the “absolute size” of government consumption, and says that it generally rises. He really seems to be talking out of both sides of his mouth.

1. Yes, the absolute size of government consumption does tend to rise — no duh. The population is getting larger and the economy is getting larger even faster.

2. The relative size, on the other hand — which really is the most useful measure, which is presumably why he cites it — does not generally rise (which he acknowledges) — making his “it generally does” a patently false statement.

Update! See corrected graphs here. The Federal and State/Local labels should be reversed.

(Expenditures: NIPA table 3.9.5, lines 12, 17, and 22; GDP: NIPA GDPA.)

I don’t even have to comment on this graph; the import is clear on its face. Tyler’s doing the typical righty thing here: making assertions based on facts from the sixties and seventies — facts that have not been facts since that time.

And I know Tyler knows this.

But to return to his basic assertion, which is not and really can’t be based on quality data: has government already picked all the low-hanging fruit? We can’t really answer that for the reason that he states (accurately): in measuring GDP, government services are measured by what they cost, not what people payed for them. They could be worth more than they cost, and they could be worth less. Since we don’t have the pricing information by which to judge their value, we have to use other methods that are probably far less accurate, and are certainly more subject to disagreement.

Are additional government services inevitably less productive than existing ones? Let’s think about the government consumption expenditures that were thrown into enforcing civil rights and fair employment starting in the sixties. Were those less productive than consumption expenditures that preceded them? I would argue “no,” and suggest that just because some government public service has not been offered in the past, it is not necessarily less productive than existing services (though it may well be). It’s an assumption, not anything like a fact or a given.

And in fact, it’s not even asking or answering the right question, which is: is money taken from circulation in the private economy and spent by government on service X more or less productive than if the money was left circulating in the private economy? With $55 trillion of purely financial assets in this country — most of which is chasing its own tail and producing nothing — and desperate, gaping shortages of clearly productive government spending, I would say “yes.”

The basic truth, though — by Tyler’s own assertion — is that we just don’t know. Which means that Tyler could have deleted this whole government section from the book without removing any of the book’s value. He just interjects some ideological axe-grinding here — promulgating a belief that is at best faith-based, and at worst completely false — even though it has little or nothing to do with his central thesis. This government section is a digression — an unhealthy pseudopod that could be lopped off with great benefit to the creature as a whole.

* 25% of health-care dollars disappear on the way through the private-insurance funnel. Only 3% of the dollars disappear on the way through Medicare. Health care: 17% of GDP. 22% of that is 3.8% of GDP that we could use for other things if everyone was on Medicare instead of private insurance. That’s half a trillion dollars a year, which would pay for almost all our governments’ nondefense consumption expenditures combined.

…rather than increase the retirement age for Social Security.

Somebody just asked them. See Question 11:

Would you rather have people pay social security taxes on salaries above $106,800, or would you rather see benefits cut and the retirement age increased to age 69?

Self-identified tea party members:*

67%: Raise taxes
20%: Cut benefits, raise retirement age

Every other demographic slice agrees with them. But more so.

Which raises the question: why have we had leaders for three decades who are ideologically incompatible with the wishes of the American people, as the people have expressed those wishes, resoundingly, over the last three-quarters of a century?

* “Q13: Do you consider yourself to be a member of the Tea Party?”

These posts by Arnold Kling and Will Wilkinson prompt me to write up a post I’ve had in mind for a long time.

I don’t want to write a history paper here, so I’ll just share a few facts, and some quotes from Wikipedia to highlight the differences between Eisenhower’s prudence and responsibility,  and the past thirty years’ radical disciples of Reaganism.

The top marginal tax rate when Eisenhower came to office was 91% on incomes above $400K (about $3 million in today’s dollars). He didn’t change it. The tax rate for the lowest bracket did decline — from 22 to 20%. The effect: you basically couldn’t make more than $3 million a year during Eisenhower’s presidency. Anything above that went to the public good. We’ve seen the disastrous effect that had on GDP…

Eisenhower didn’t feel the need to radically dismember the New Deal that America had agreed on, or kowtow to right-wing wack-jobs:

Instead of adhering to the party’s right-wing orthodoxy, Eisenhower instead looked to moderation and cooperation as a means of governance.[74] This was evidenced in his goal of slowing the growth of New Deal/Fair Deal-era government programs, but not weakening them or rolling them back entirely.[74]

Eisenhower did not end New Deal policies, and in fact enlarged the scope of Social Security, and signed the Federal-Aid Highway Act of 1956.

A la Lincoln, he invested huge government sums in public infrastructure — perhaps the most important single contributor to ensuing decades’ prosperity boom:

His subsequent experience with German autobahns during World War II convinced him of the benefits of an Interstate Highway System. Noticing the improved ability to move logistics throughout the country, he thought an Interstate Highway System in the U.S. would not only be beneficial for military operations, but be the building block for continued economic growth.^[48]

He didn’t use his pulpit as he should have to denounce the despicable “you’re a traitor” tactics of McCarthyism (think: Tea Party), but he had the sense to know that they were despicable.

Eisenhower was criticized for failing to defend George Marshall from attacks by Joseph McCarthy, though he privately deplored McCarthy’s tactics and claims.[73]

He coined the term for, and deplored and warned against, the “military-industrial complex” that has dominated the American economy ever since:

“Every gun that is made, every warship launched, every rocket fired signifies, in the final sense, a theft from those who hunger and are not fed, those who are cold and not clothed. This world in arms is not spending money alone. It is spending the sweat of its laborers, the genius of its scientists, the hopes of its children. This is not a way of life at all in any true sense. Under the cloud of threatening war, it is humanity hanging from a cross of iron.” ^[78]

The very model of a modern major general, and of a true American conservative?

Get this straight:

If health-care costs were rising at the same rate as inflation — even with our aging population — we wouldn’t have a budget problem.

Congressional Budget Office:

The red line is what Medicare plus Medicaid would look like in that scenario.

So, for all you Democrats whining about how Obama should have tackled the short-term economy (or something else) first (forget the Republicans; they’re not interested in reason), STFU!

He did the responsible, prudent, thing: right out of the starting gate, he tackled the long-term elephant in the room — the beast that presidents have been failing to grapple with at least since Nixon (he tried, somewhat halfheartedly, failed).

It remains to be seen whether it will work (and — how will we know?). But he did the brave thing, at great political cost.

Here’s hoping your children and grandchildren will have reason to give thanks even if you haven’t.

Health Care Budget Deficit Calculator. (Click the “Show CBO Data” button.)