Asymptosis

According to the Congressional Budget Office, non-interest federal spending was 18.8 percent of GDP in 1980. In 2020 it is projected to be 18.6 percent of GDP.

David Brooks is Upset that the Politicians Are Listening to Voters | Beat the Press.

Just another reminder:

Where Did Our Debt Come From? – James Fallows – Politics – The Atlantic.

Hat tip to my sis.

(For blog non-cognoscenti: that’s a combination of blog and beg.)

I’ve pointed out with tiresome regularity that since Europe got back on its feet after World War II,  even with its higher taxes, larger social support systems, etc., it’s grown just as fast as the U.S.

But the champions of our smaller-government system have a very good reply: the U.S. is still way ahead. Europe caught up fast in the thirty years after the war. But then they stopped, and have been hovering at about 73% of U.S. GDP per capita for thirty-five years. (OECD data.*)

One of the best-evidenced effects in international growth economics is the catch-up effect (a.k.a. “conditional convergence”). Countries with lesser economic development that have trade ties to more-developed countries benefit from transfers of technology, management systems, capital, etc. So in general they grow faster. (How did the Huns defeat the Romans? They learned from them.)

Small-government advocates keep prattling on with their economic growth argument (which has no legs; the U.S. and Europe have been growing at the same rate for decades), and don’t seem to realize that this is their killer rhetorical question:

Why hasn’t Europe caught up? Why hasn’t it grown faster than we have? It should have.

It has, actually, in some senses (see next graph), but it’s still behind. The “obvious” explanations for small-government advocates, of course, are 1. deadweight loss from higher taxes and 2. the burden of government (they’re not the same thing). But (see Manzi on “causal density”) there are many other plausible explanations.

The first and truly most obvious answer: Europeans work less — averaged over 15 years, about 1,646 hours a year, to Americans’ 1,820 (10%, or 4-1/2 weeks per year, less). They’ve chosen leisure over lucre. This explains a chunk of the difference:

You can see that catch-up effect at work here in spades — at least until the early 2000s. (And yes, that “productivity” catch-up has been going on for decades, as predicted by conditional convergence theory.)

But still. They haven’t caught up. (Maybe they will, but they haven’t yet.)

So here’s the bleg: which of the following explanations make sense? Which make more sense? Most importantly, which ones have I missed?

A whole new continent. We only starting building it out a couple of hundred years ago, and really to any great extent since World War I or II. From natural resources to just sheer space, to what extent are we still benefiting from that? To me, this seems huge. Try finding a location for a big box store in Europe, then hop a plane from New York to L.A. and check out the wide-open spaces. (It’s actually kind of amazing that they’ve managed to create rights of way for their high-speed rail, given the difficulties we run into, and the interests — entrenched over millennia — that are their legacy.)

Regulation. It’s crucial to distinguish this from redistribution in the “big government” discussion. Europe has more of both. Labor and trade/commerce, in particular, have real — and occasionally ridiculous — regulatory rigidities compared to the U.S. If you read The Economist, you’ll hear them constantly pointing to regulatory (a.k.a. “structural”) issues, not redistribution, as the constraints on European growth. Europe’s higher level of redistribution — its stronger social support system and resultant greater economic security for individuals — should give them the freedom to enact more efficient but arguably more draconian labor and trade policies without screwing over tens of millions of people who are just working and living their lives. (They’ll still have health care, for instance.) To some extent that has happened over the decades, and it continues. But major rigidities remain compared to the U.S.

National character. I spent time with two French women in the U.S. recently, and both cited what I’ll call “freedom of mind” as the main reason they wanted to be here. They weren’t talking about regulation; they were talking about a culture that embraces and encourages out-of-the-box thinking and the mental freedom to try new things. There are other ways to characterize the American character difference, of course: “Americans are shallow money-grubbers.”  “Americans have a stronger work ethic.” Etc. Thoughts? How significant a factor is this cultural, character difference in keeping America ahead?

Demographics and immigration. I’m very poorly versed on these issues, and not inclined to dig up statistics for this post. But there are certainly huge differences here between the U.S. and Europe, and one would expect those differences to have huge effects.

It seems to me that these issues — and undoubtedly others that I haven’t listed here or perhaps even thought of — would massively overwhelm the hot-button issues of small-government advocates: the fairly narrow theoretical and empirically somewhat iffy notion of deadweight loss from taxation, and the incentive effects of redistribution. (Especially since the incentive from our largest cash-transfer program — the Earned Income Tax Credit — is for people, in aggregate, to work more.)

What say ye? What have I missed?

* Comparison in US dollars corrected for purchasing power parity, in “current dollars” (not adjusted for inflation). EU14= Western European countries excluding the UK and Ireland (because of their Anglo models), Norway (oil), Luxembourg (banking and size), and Iceland (size). Adding Luxembourg and Norway makes Europe look somewhat more prosperous overall.

We know that prosperous countries with bigger governments (mostly as a result of larger social support systems) don’t grow any more slowly than those with small governments.

How can that be? The deadweight loss from those additional taxes should hurt national GDP growth, right?

Answer: there are many economic effects that are exogenous to the price/supply/demand/quantity model by which deadweight loss is calculated. It’s a simplified, toy model/thought experiment that ignores a whole plethora of economic effects. It’s useful, even necessary, but far from sufficient in assessing a policy’s full economic effects.

But still: deadweight loss is very real and can be quite large. How do big-government countries avoid its ill effects?

Here’s the best explanation I’ve found. (It echoes another paper I read years ago, but haven’t been able to find.)

Imagine two countries. One taxes 10% of GDP, one taxes 40%.

Now imagine a proposed policy that increases the budget by 10% and has a deadweight loss of 40%.

In the first country, the policy costs .04% of GDP. In the second country, it costs .16% of GDP — four times as much. The policy is going to get a heck of a lot more (political) pushback in the high-taxing country.

This suggests that:

1. Government budgets are to some extent (over long periods) self-correcting via the democratic process. When deadweight losses overwhelm the exogenous benefits (of fruitful government spending, for instance), spending is curtailed or policies are improved.

2. Larger government budgets provide the political incentive to create more efficient policies and kill inefficient ones.

In the author’s words:

The higher the budget, the higher the marginal cost of making the wrong policy choice, both economically and politically.

He suggests that America’s inefficient taxation policies (like double-taxation of corporate profits) have remained in place because our tax levels are so low. Other countries have been forced to implement more efficient policies because the costs of inefficient policies were so great. See the paper for many examples.

Further, from the abstract:

SSRN-Why the Welfare State Looks Like a Free Lunch by Peter Lindert.

Ungated PDF here.

Our country’s 40-year experiment in trickle-down Reaganomics has shown us one thing: left to its own devices, a free market pumps the money to the top. It’s the nature of the beast, an inherent property of the system.

Despite wild-eyed assertions to the contrary, trickle-down doesn’t happen unless we make it happen.

Here’s further demonstration of that from the redoubtable Lane Kenworthy. He uses long-term cross-country comparisons — the closest thing we can get to a controlled experiment in a field where you can’t do anything like randomized, double-blind studies. Data from the Luxembourg Income Study — the best data set available.

Over twenty-five years what has made the poor better off?

In the countries where bottom-decile households have gotten better off, it’s happened via government transfers. In the countries where they haven’t (like the U.S.) … they haven’t. Or not much (and that only in the late 90s).

Here’s one comparison highlighting the differences.

Full paper with lots more graphs here.

Their proposed deficit/debt reduction plan is here. They’re chairs of the Bipartisan Policy Center’s Deficit Reduction Task Force.

Here are the notes I jotted down this morning for a planned “If I Were Dictator” post. I was planning on adding, explaining, changing, organizing, etc., but I’m simply pasting them here, unedited and unsorted.

Eliminate the mortgage interest deduction.

Eliminate payroll taxes and combine the trust funds into the general government balance sheet.

Eliminate the business health-care deduction.

Tax all types of income (earned and unearned) at equal levels, with the following rate structure.

Institute a consumption tax with a high-floor exclusion (no tax on consumption below, say, $40,000 for a married couple filing jointly), and a progressive increase above that.

Tax all corporate profits as if they were S-Corps — each shareholder pays their share.

Convert state and local property taxes to land-value taxes. Stop taxing improvements.

Greatly expand the Earned Income Tax Credit (both eligibility and amount), but move it to the expense side of the accounting ledger and expand use of the option to have it delivered with regular paychecks.

Definitely not identical — especially on timing — but huge overlaps. I would call this uncanny if so much of it wasn’t obvious to everyone (who’s not self-deluded).

I’m witholding full judgment until I see it scored — especially as to its overall effects on progressivity. And I really don’t know what to think about their Medicare proposals yet, which are obviously a huge part of the pie. But still, it’s the first really encouraging and comprehensive proposal I’ve seen. Is it even vaguely possible that the American political system could do something this broad and well-coordinated without chewing it up and spitting it out again as half-masticated sausage?

Shakowsky’s plan, by contrast, is both politically impossible and — this coming from me, a wild-eyed liberal — profoundly wrong-headed in several respects.

Based on very cursory reads, I can say that Domenici-Rivlin makes Simpson-Bowles look like exactly what it is: a grab for the rich rooted in the decades-long conservative reality denial.

True conservatives — and most progressives — should like most of the ideas they find in this plan. They’re their ideas.

I cut the 2030 deficit by $2 trillion!

Or by $1.4 trillion — balancing the budget — without resorting to death panels or touching the Medicare budget that Republicans are fighting so hard to preserve.

http://www.nytimes.com/interactive/2010/11/13/weekinreview/deficits-graphic.html?choices=d3b306qv

Your turn.

So you’re going to tell janitors to work until they’re 70 because lawyers are living longer than ever.

Here. He’s got the numbers here:

since 1977, the life expectancy of male workers retiring at age 65 has risen 6 years in the top half of the income distribution, but only 1.3 years in the bottom half.

Janitors don’t get to live as long, and they have to work until they die. That’s obviously the reasonable, efficient, and fair solution to our budget problems.

The Social Security trust fund is one key rhetorical crux of our budget debates. (I’m punting on Medicare here for the moment; it’s obviously the elephant in the room.)

Liberals think of the trust fund as a big national savings account. They point to the trust fund’s promises to future retirees, their multi-decade contributions to the trust fund, its solvency (it’s been banking >$150 billion in surplus revenues every year [except — for obvious reasons — 2009]), and its projected longevity, to assert that Social Security is in great shape. Just some slight tweaks needed.

Conservatives say the trust fund is a sham, because it contains nothing but promises from the government. Social Security is just a(n unaffordable) transfer program — from younger working people to retirees, the disabled, and widow(er)s and orphans.

Who’s right?

Liberals are totally correct that minor tweaks in revenues and/or spending are all that’s needed. (75-year projected deficits are about 2% of future payrolls, .6% of GDP. Since our country currently taxes about 30% less than most other prosperous countries — 28% of GDP compared to 40% — filling that .6% gap would not be onerous.)

Conservatives are right that the trust fund is basically a chimera. Social Security is for all purposes (you can argue intents amongst yourselves) a pay-as-you-go transfer program.

If we eradicated the trust fund today (along with the debts that government owes to that trust fund), arithmetically it would change exactly nothing. We’d still have revenues and outlays for Social Security. Subtract outlays from revenues, and you’ve got the SS surplus or deficit. It just doesn’t matter whether those revenues and outlays pass through the trust fund, shifting its balances up and down. It’s the same thing as shifting overall government debt up or down.

All of a sudden you’d see $1xx billion dollars a year in additional government revenue (the current annual Social Security surplus). But the government would spend all that instantly, right? We’d owe it to future generations, because we have promised it to them. But that’s exactly what’s happening today. The government is spending those revenues and issuing bonds a.k.a. promises to the trust fund. That’s already a fact, as embodied in the unified budget (combining “on-budget” revenues and spending with the trust funds for Social Security, Medicare, etc.)

But here’s what really bothers me: by insisting on the reality of the trust fund, liberals are putting themselves in a rhetorical trap.

Want to make the Social Security trust fund sustainable long-term without cutting benefits? The obvious solution is to increase its funding source: payroll taxes. The only alternative is for general government to pay for future shortfalls, which would mean admitting that … it’s a transfer program.

But this is an illiberal proposal because payroll taxes are horribly regressive. 1) They only tax earned income — which people presumably actually worked to acquire, and 2) You don’t pay payroll taxes on earned income above $106,800/year (much less on income from your virtuous, meritorious ownership of things).

There is one progressive solution even within this rhetorical box: Remove the $106,800 cap. But once again the liberal rhetorical position precludes it: that cap is only justifiable if you buy into the trust-fund/savings account concept. “People shouldn’t have to put in more than they take out.” If you acknowledge that Social Security’s a transfer program — and that people’s inputs don’t necessarily match their eventual receipts (they don’t, even now, especially if you compare generations), there’s no a priori reason to retain the cap.

Simply removing the earnings cap on payroll taxes would fill the .6% Social Security gap beyond the predictable future. To 2083, to be (falsely) precise. See the CBO’s July 2010 Social Security Policy Options (PDF), pages xi and 18. (Thanks, Bruce.)

It sounds reasonable given that our tax system (state, local, federal combined) is currently not progressive at all above about $60,000 a year in income.

But still: you’re only taxing earned income. And — conservatives will be happy to point this out, correctly — taxing earned income discourages people from working and building overall prosperity. Acknowledging that Social Security is a transfer program lets us fund it with more economically efficient and more equitable taxes like carbon taxes or even — gasp — increased taxes on unearned investment income, or wealth.

71% of ‘pubs don’t want to raise taxes to pay for those ebil entitlements, and 59% don’t want to cut the benefits that those ebil entitlements provide.

And they think Democrats are fluffy-headed utopians?

Americans Disagree on How to Fix Entitlement Programs.