When the GOP tax cut was first proposed I argued that the only way to make it realistic was for the Fed to accommodate more borrowing.
I realize that at this stage in the game the GOP leadership is more focused on getting the Congressional Budget Office to score its tax cuts as highly stimulative [on the supply side]. Yet, on some level surely it wants the tax cuts to actually be stimulating [including on the demand side]. That requires a Fed that is willing to at least tentatively accommodate the extra borrowing those tax cuts will produce and wait for inflation to show up before interest rates.
Further, I argued that my fellow economists insistences that higher interest rates would offset any potential growth gains and this stimulus was ill timed were misguided.
We still have infrastructure to do and if need be, be deficit financed. Secular stagnation and the possibility of Japanification remain our top concerns and should be approached through a multi pronged strategy including CIT cuts, infrastructure and running the economy hot
— Karl Smith 🌐 (@karlbykarlsmith) November 20, 2017
This morning Greg Ip writes in the WSJ
With U.S. unemployment at 4.1% and the economy at full capacity, the conventional wisdom is that this is the wrong time for Republicans to cut taxes by $1.4 trillion over the next decade. The fiscal stimulus will overheat the economy and force the Federal Reserve to slow it down by raising interest rates more aggressively.
That conventional wisdom may be wrong. Fed officials, in the projections released yesterday and in Chairwoman Janet Yellen’s remarks, suggest they aren’t standing in the way of any boost that the tax cut delivers. Indeed, it may not be entirely unwelcome.
The reasons are twofold. One is that inflation is still too low, and that completely changes the equation: It suggests overheating is to be welcomed, not resisted. The other is that officials are open to the possibility that the tax cut will raise the economy’s potential growth rate, which means faster growth wouldn’t necessarily lead to more inflation.
Indeed, Ip reports that the Fed is willing to give the tax cuts room to do their thing:
Ms. Yellen said. In other words, it doesn’t matter much what the Fed thinks right now about what the tax cut will accomplish; it will let the data answer that question and adjust interest rates accordingly.
This outlook isn’t an endorsement. Ms. Yellen made it clear she didn’t agree with Mr. Trump and Treasury Secretary Steven Mnuchin that the tax cut would pay for itself, and warned it may be “taking what is already a significant [debt] problem and making it worse.”
I know many folks will focus on Yellen’s dismal of Trump and Mnuchin’s claims as well as her own skepticism on the wisdom of tax cuts, but we should be happy that she is willing to see what works. Analysts must be careful not to poison the well as we consider this tax package. It’s the last refugee of those who care are more about signaling general disapproval than actually determining what it best for the economy and pushing the government in that direction.
The reason to be skeptical about any argument Trump and Mnuchin offer is that they clearly display a limited grasp on policy. Indeed, I doubt they even understand what many of their own arguments mean. Yet, the inanity of the administration has nothing to do with whether or not the tax cuts are an good idea or part of an economic package could result in increased government revenues.
Reasonable people can disagree about what is best for the economy. Though I am defender of Kevin Hassett, I readily admit that his projections are rosy, bordering on the extraordinary. Yet, when facing secular stagnation and persistently low interest rates, we must not adopt a self-induced paralysis. The downside dangers to doing nothing far, far outweigh the upside dangers of having piled on a bit more debt.
My colleague Steve Teles writes, at Democracy Journal, on what he would like to see in tax reform:
A good example of such a reform is the one designed by Columbia Law School’s Michael Graetz, which he calls the “competitive tax.” In brief, the Graetz plan would impose a value-added tax (VAT) of just under 13 percent, cut the corporate tax to 15 percent, and eliminate the income tax entirely for families under $100,000, with rebates for the lowest earners (in part to replace the earned income tax credit and child tax credit, and to compensate for the fact that a VAT would disproportionately hit lower earners)
Graetz’s plan does not broaden the base of the income tax as substantially as most reform plans, but there is plenty of room to do so (especially since Republicans are already mowing down the mortgage and state and local tax deductions), which would increase the progressivity of his plan significantly. It would make sense to add to Graetz’s plan a financial transaction tax, which would also have the benefit of counteracting excessive financialization of the economy.
The combination of stiffened income, financial transaction, and estate taxation could be used to fund even larger rebates to low income taxpayers, which could compensate for a somewhat larger VAT, higher alcohol taxes, and a substantial carbon tax.
As tax plan, there is a lot to like here. Broad based consumption taxes, like a VAT, are a perennial favorite of public finance economists. They raise large amounts of review, with a relatively light footprint. That is, they have little net effect on economic activity. On the other hand, the alcohol and carbon taxes raise less revenue over the long term, but are desirable because they target activity that is socially harmful.
I am less keen on the idea of a financial transaction tax. Unlike Steve, I have yet to be convinced that the financial services industry, as a whole, is too large, or that the economy would be better off with fewer resources devoted to capital allocation. Since the Great Recession, capital investment has been disturbingly low, and there is some evidence that restrictions on the financial industry are partially responsible.
In any case, I think Steve’s analysis of the appeal of the Graetz plan is somewhat misleading:
While it has many economic advantages, from my point of view [this plan’s] greatest attraction is political. By pulling the great bulk of taxpayers out of the income tax entirely, it will create a much sturdier political foundation for even higher income taxes in the future, and eliminate the appeal to most citizens of the politics of income tax backlash. Republican attacks on the income tax would be entirely without attraction for most citizens—including most Republican voters.
The Republican policy position is actually not that different from the one Steve favors.
Last year, 44 percent of households paid no income tax. Yet, both GOP tax reform plans would increase the standard deduction and the child tax credit, meaning that even fewer households would owe income taxes.
The House tax reform bill didn’t lower the top income tax rate at all, and the Senate bill lowered it by a symbolic 1 percentage point. The rates and brackets proposed in the House’s bill end up being conceptually similar, though less generous than Graetz’s. For example, Graetz would tax income between 200K and 600k at 27 percent. The House proposal, after the standard deduction, taxes income between 114K and 280K at 25 percent.
Indeed, the current reforms offered by the GOP would actually slightly increase the amount raised through individual income tax, in line with Steve’s long term goals. And, the original corporate tax reform push included the DBCFT, a complex proposal that would have amounted to creating a VAT and using part of the proceeds to reduce the payroll tax.
All of these measures point towards a considerable convergence in views over tax policy.
The Peterson Center on Healthcare and the Kaiser Family Foundation have released an updated version of their interactive Health Spending Explorer. It is a fascinating place to spend a little time. It does not take long to uncover both alarming and reassuring trends.
The headline graphic that pops up when you visit the site’s interactive home page falls in the alarmist category, with its depiction of rocket-like growth of healthcare expenditures:
However, the same trends, served up differently, actually look reassuring. Consider the following version, which shows the same data in inflation-adjusted per capita terms, with the vertical axis changed to a logarithmic scale, so that equal slopes show equal percentage rates of change. It suggests that although healthcare spending continues to grow, its rate of growth has actually slowed a bit in recent years:
You can break total expenditures down in different ways, if you like. Here is a chart that focuses on the share of healthcare expenditures that are paid out of pocket:
Note that the trend of out-of-pocket costs has been largely flat since the early 2000’s, even as total expenditures have continued to rise. For a better idea of what is going on, we can zoom in on recent years and change the vertical scale from inflation-adjusted dollars to annual rates of change:
Cyclical effects presumably played a major role in producing the zero or negative growth in out-of-pocket healthcare spending from 2008 to 2014. Enrollment in Medicaid, which has modest out-of-pocket requirements, soared as unemployment rose early in the recession. At the same time, economic pressures undoubtedly induced some people to postpone or forgo needed treatments. After 2014, out-of-pocket expenditures began to rise again. Even without policy changes, some increase would have been expected as the economy recovered. However, part of the increase is presumably due to the effects of the ACA, which came fully into force in 2014. The ACA increased the total number of people covered by health insurance, increasing total expenditures, but it left many those new enrollees with substantial out-of-pocket costs.
My colleague Stefan Shover has a new post up on our site explaining why the Trump administration lacks the leverage it would need to convince North Korea to denuclearize. Stefan discusses why economic sanctions, information warfare, and the use of military force would all be either insufficient to the task or suggest intolerable risks. The use of military force is particularly important here as recent statements by H.R. McMaster, President Trump’s national security advisor, suggest the administration is considering a preventive strike on the Kim regime’s burgeoning nuclear arsenal.
Stefan hints at some of the risks of a military strike given Pyongyang’s ability to retaliate against South Korea’s civilian population centers with conventional or chemical weapons. Political scientist Barry Posen, one of the leading academic experts on military affairs, goes into further details. In a New York Times op-ed yesterday, Posen explained how the operational requirements of a preventive strike on North Korea’s nuclear weapons necessarily increase the risk of large numbers of South Korean casualties, as well as the deaths of American military personnel and the families of service members stationed on the Korean Peninsula. He writes:
And even if an American first strike knocked out North Korea’s nuclear capacity, millions of South Korean civilians, and American and South Korean soldiers, would be vulnerable to retaliation with conventional or chemical weapons. Pyongyang could devastate Seoul and kill tens of thousands of people.
North Korea may have as many as 250 mobile missile launchers, some of which could fire nuclear-tipped missiles. If some of these mobile units were dispersed at the time of an American attack, it’s unlikely that the United States could destroy all of them before one fires a missile. America has not had much success in finding and destroying mobile missile launchers in recent wars.
An American attack that truly caught North Korea by surprise could minimize the effectiveness of a North Korean counterattack — but not eliminate the possibility. And surprise would be difficult, if not impossible, to achieve.
Read the entire piece here.
Anyone who argues that the United States can effectively execute a preventive strike on North Korea’s nuclear program without incurring unacceptable costs in terms of the lives of South Koreans and Americans is not being honest. As Stefan argues in his post, it is time to accept the reality of the North Korean nuclear program.
Two items published last week bear on the ongoing debate over the advisability of more vigorous efforts to restrain the high prices of prescription drugs.
The first is Making Medicines Affordable, a detailed report from the National Academies of Science, Engineering and Medicine. The report makes several specific policy recommendations, of which I find these particularly noteworthy:
However, the National Academies report stops short of advocating strict price controls. As it cautiously notes,
There may be trade-offs between current drug affordability and new drug availability. Controlling drug costs too rigidly, for example, could potentially reduce the expected profits of drug companies, which could alter their decisions regarding major investments to develop new drugs.
The second item bears directly on this trade-off between affordability and availability. In Pharmaceutical Profits and Research and Development from the Brookings Institution, Richard Frank and Paul B. Ginsberg address the argument that steps to reduce drug prices will lead to less innovation in the future. They examine features of pharmaceutical markets that encourage production of “new” drugs that offer little if any therapeutic advantage and conclude that investments on research and development may already have pushed beyond the point of diminishing returns. As they put it,
The result of this type of “arms race” is “overinvestment” in certain clinical areas and lower rates of return on investment than hoped for. This state of affairs can continue indefinitely, eluding normal market self-correction mechanisms, due to prescription drug insurance that has become more common and more generous and to public-sector drug programs that are often passive purchasers.
If Frank and Ginsberg are right, then even the aggressive recommendations of the National Academies may be too cautious.