Tuesday, June 13, 2006

That Which We Call a Rose

In a TCS Daily article, Jeff Miron proposes a set of budget cuts that “every economist should endorse, regardless of party affiliation…Democratic economists, and all other economists, should use their blogs, and their op-eds to highlight the enormous scope for welfare-enhancing cuts in government expenditure.” As a Democratic economist (albeit not an influential one), I hereby do use my blog to endorse Jeff Miron’s proposals. (I’m not so sure about some of the stuff he identifies as “pork”, but I’d go along with those cuts if his proposed farm subsidy cuts were also part of the package.) I make this endorsement specifically as an economist with the “Democratic” tendency to be skeptical about the importance of the disincentive effects associated with high marginal tax rates.

What puzzles me, though, is why Republican economists – who typically argue against high marginal tax rates – would support Miron’s proposals (except perhaps because they are sensible deficit hawks and would support any reasonable proposal to reduce the deficit). The heavy lifting in his list of cuts is done through means testing of government benefit programs – Social Security, Medicare, and higher education subsidies. Economically, this is precisely equivalent to increasing marginal tax rates. Think about it: if richer people were to get the same benefits as they get now but pay those benefits back to the government in the form of higher taxes, wouldn’t that be just like not getting the benefits in the first place? If higher marginal taxes discourage people from saving and investing, won’t they also be discouraged by the prospect that their future income will reduce their Social Security benefits?

Politically, “getting the rich off welfare” may be an easier sell with both parties than “raising taxes.” And there may be some substantive sense in which decreasing the amount of money that passes through government programs constitutes “reducing the size of government.” But as far as economics goes, this proposal looks like a tax increase, walks like a tax increase, and quacks like a tax increase. As I said, I support it.

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13 Comments:

Anonymous mvpy said...

"Economically, this is precisely equivalent to increasing marginal tax rates. Think about it: if richer people were to get the same benefits as they get now but pay those benefits back to the government in the form of higher taxes, wouldn’t that be just like not getting the benefits in the first place?"

Im tired knzn and Im not 100% sure what you mean here, but social security benefits are lump sum. Marginal tax rate changes are a different gain altogether; in that work/investment decisions are made at the margin. Also, these rate changes, Id say, result in income changes that pale in comparison to social security benefits. Also, Republicans dont like the idea of social security benefits, since they make one dependent on the state; enslaved, as it were (giving disutility).

ps nice to see you're giving more details about yourself.... At this rate, therell be a photo up soon, who knows?

Fri Jun 16, 12:35:00 AM EDT  
Blogger knzn said...

mvpy, If they become means-tested, SS payments will no longer be truly lump-sum. Think about it when you’re less tired. For example, if benefits phase out between an income of $30,000 and an income of $60,000, what will this do to the relationship between (non-SS) income and disposable income for SS recipients in that range? It’s exactly as if the marginal tax rate for recipients in that range had increased. For people who anticipate a retirement income in that range, the marginal incentive to save (and produce additional retirement income) will be reduced.

It doesn’t make sense to say “these rate changes … result in income changes that pale in comparison to social security benefits.” We’re talking about alternative ways of reducing the deficit. To reduce the deficit by the same amount, the amount of the changes would be exactly the same. (You can talk about Laffer curve effects, but these are in principle irrelevant to the comparison. You could design a set of tax changes that exactly replicates the means-testing of SS benefits – although it might require marginal rates greater than 100% in some ranges. You can talk about one set of tax changes being less efficient than another, but it makes no sense to say that tax increases are in general are less efficient than means-testing benefits.)

Fri Jun 16, 08:10:00 AM EDT  
Anonymous battlepanda said...

The problem with means testing is, Americans conceptualize the Social Security system not as welfare, but as a universal pension. Economically, it might be equivalent to have means testing combined with a lower marginal tax rate, but psychologically, it will turn Social Security into a handout, and thus vulnerable politically.

Apart from providing the right with an opportunity to demogogue the Social Security issue, I think that no means testing+higher marginal tax rate is the more transparent and sensible way of arriving at the same conclusion. Means testing means taking a very straightforward payment system and creating one more variable with brackets to be determined.

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