Subscribe to the Ledger
About the author
What’s New on AEI
View related content: Pethokoukis
There are number of good reasons to abolish the corporate income tax, and John Steele Gordon hits most if not all of them today in the Wall Street Journal. Killing the tax would pro-growth, pro-worker, and anti-cronyism. Let me focus on that third thing, for a moment:
… that engine of tax complexity disappears. And with it disappears an army of lobbyists in Washington working to get favorable tax treatment for corporations. … eliminating the corporate income tax would deal a blow to crony capitalism. Most U.S. government favors to industry are in the form of favorable tax treatment. Most subsidies for politically fashionable but otherwise unprofitable technologies, such as wind and solar power, are also part of the ever-expanding corporate tax code. No corporate tax code, no favorable tax treatment and no subsidies, except direct ones, which would be much easier to hold to political account.
As I write in “Room to Grow,” “American workers deserve a safety net that protects them from the worst effects of the economy’s inevitable ups and downs. But business deserves no such firewall. Corporations shouldn’t get a state-supplied edge—whether a regulation, spending program, or tax subsidy—over a competitor.” Now as it happens, I am currently reading “Stabilizing an Unstable Economy” by Hyman Minsky, much cited — particularly on the left — since the Financial Crisis. Turns out, he was no fan the corporate income tax, either:
A corporate income tax, which allows interest to be deducted prior to the determination of taxable income, induces debt-financing and is therefore undesirable. A corporate income tax also allows nonproduction expenses such as advertising, marketing, and the pleasures of the executive suites to be charged against revenues in determining the taxable income. As advertising and marketing are techniques for building market power and as “executive style” is a breeder of inefficiency, the corporate income tax abets market power and inefficiency just as the corporate income tax abets the use of debt-financing. Elimination of the corporate income tax should be on the agenda.
Of course, you would have to make up the lost revenue through higher personal income taxes or a carbon tax or VAT or some such — though I am guessing that faster growth would ease that task to some extent. A less radical — and less costly — option would be to let immediately and fully deduct investment costs rather than depreciating them over a period of years. That would be pro-investment since because a dollar today is worth more than a dollar tomorrow, meaning bigger tax relief for new investment.
Update: I somehow forgot about this from Alan Viard:
During 2015, I will work with Eric Toder of the Urban Institute on a project, funded by the Laura and John Arnold Foundation, to comprehensively address the implementation issues posed by our April 2014 corporate tax reform plan. Our plan would eliminate the corporate income tax and would instead tax American shareholders of publicly traded companies at ordinary income rates on their capital gains and dividends, with capital gains taxed, and capital losses deducted, as they accrue. The plan would eliminate numerous perverse incentives created by the current tax system, including the incentive to move corporate investment outside the United States, to book corporate profits abroad, and to charter corporations in foreign countries rather than in the United States.
View related content: Pethokoukis
No one is ready to call this era the Roaring Teens (also, by the way, a great name for a rock band), but the economy has improved. GDP growth is up, job growth is up, the federal budget deficit is down. Real wage growth may be flat-ish, but economist Brian Wesbury notes that when combined with an increase in total hours, total cash earnings were up 1% in November, the most for any month since 2006. And Citi calculates the benefit from cheaper oil could provide an annual real net income boost to consumers of $1,150 per household. In his Slate column, Reihan Salam writes about when the “Obama Boom” — such as it is — might mean for American politics:
Throughout the Obama years, Republicans have failed to offer a compelling economic agenda, choosing instead to point to the fact that the economy was not so hot, that unemployment levels were high, and that the federal deficit was eye-poppingly huge. … In the next two years, this strategy is unlikely to work quite so well. It will get harder to deny that the economy is picking up a head of steam, that unemployment levels have gone from high to halfway decent, and that the federal budget deficit is getting smaller. Should Republicans congratulate President Obama on a job well done and leave it at that? Well, no. They need to do what they’ve failed to do for the past half-decade and explain why they can do a better job than the Democrats of steering the American economy.
Sure things are better, but I don’t think Americans are in “happy days are here again” mode or will be anytime soon. The impact of globalization and technology on labor markets continues to pressure the middle class. American seem likely to keep worrying whether their kids will be worse off. So how should GOPers respond beyond the usual calls for reforming taxes, regulation, and entitlements? Salam:
They could do worse than to build on the work of Utah Sen. Mike Lee, Florida Sen. Marco Rubio, and Wisconsin Rep. Paul Ryan, all of whom have been thinking hard about the barriers to upward mobility in modern America. Good economic news today won’t change the fact that one in six American adults lacks the basic skills of literacy and numeracy, or that high-quality educational opportunities are beyond the reach of most American kids raised in low- and middle-income families. Nor will it change the fact that while Obamacare has expanded access to subsidized medical care, our health system remains a dysfunctional mess that limits our economic potential. Even though the worst of the housing bust is behind us, rigid regulations have made some of our most productive cities unaffordable, which in turn has driven millions of Americans to regions with cheap homes but also low wages.
I would also recommend this essay by Salam, which expands upon some of the above ideas and adds a few more. And even on the issues of tax, regulatory, and entitlement reform, Republican need fresh thinking with an emphasis on increasing the economy’s competitive intensity while also modernizing the safety net. Several good pieces on these challenges:
A new vision for Social Security by Andrew Biggs
A jobs agenda for the right by Michael Strain
View related content: Pethokoukis
As mentioned in a previous blog post, WSJ reporter Josh Zumbrun today looks at why a stronger job market isn’t “luring back many of the millions who dropped out of the labor market during the down times. … Over the past three months, an average of 6.8% of those outside the labor force either found a job or began looking for one. That means people are entering the labor force at the lowest pace in records kept since 1990, down from more than 8% in 2010.” And the labor force participation rate in November was exactly where it was at the end of 2013.
While there is a demographic piece to the story — all those baby boomers retiring — that is not the whole story. Zumbrun;
Another big explanation could be that people who drop out amid a bad economy can’t easily be enticed back. Economists call this labor-market scarring. People find other ways to get through life, even precariously, by relying on friends and family, going on disability or retiring early. “You can leave for economic reasons, but it doesn’t mean you’re going to come back for economic reasons,” Mr. Feroli said.
And a bit more on long-term joblessness and “labor-market scarring” from a 2012 WSJ piece:
Workers who lose their jobs because of cyclical factors—a factory that lays off workers, a restaurant that closes, an office that decides to go without a front-desk receptionist—might stay out of work so long that they become effectively unemployable. Their skills erode, they fall behind on the latest technologies and industry trends, or they become stigmatized by employers who assume there must be something wrong with anyone who’s been unemployed so long.
And I wonder if job polarization — job growth at the skill and wage extreme, but not in the middle — is also not playing a role. This from a recent New York Times piece on nonemployment:
Many men, in particular, have decided that low-wage work will not improve their lives, in part because deep changes in American society have made it easier for them to live without working. These changes include the availability of federal disability benefits; the decline of marriage, which means fewer men provide for children; and the rise of the Internet, which has reduced the isolation of unemployment. At the same time, it has become harder for men to find higher-paying jobs. Foreign competition and technological advances have eliminated many of the jobs in which high school graduates … could earn $40 an hour, or more.
To illustrate the trend, reporter Binyamin Appelbaum tells the story of Frank Walsh, a union electrician out of work for four years, who is married with two kids. The family lives on his wife’s part-time income and an almost-evaporated inheritance from Walsh’s mother. He’s not quite ready to work fast food or retail:
Sitting in the food court at a mall near his Maryland home, he sees that some of the restaurants are hiring. He says he can’t wait much longer to find a job. But he’s not ready yet. “I’d work for them, but they’re only willing to pay $10 an hour,” he said, pointing at a Chick-fil-A that probably pays most of its workers less than that. “I’m 49 with two kids — $10 just isn’t going to cut it.”
And here are few policy ideas on dealing with nonemployment. Also, check out this piece from The Economist on the less-than-satisfying nature of clerical, sales, and other service work (particularly at low wages):
The issue is not that jobs used to have meaning and now they don’t; most jobs in most periods have undoubtedly been staffed by people who would prefer to be doing something else. The issue is that too little of the recent gains from technological advance and economic growth have gone toward giving people the time and resources to enjoy their lives outside work. Early in the industrial era real wages soared and hours worked declined. In the past generation, by contrast, real wages have grown slowly and workweeks haven’t grown shorter.
View related content: Pethokoukis
There are plenty of reality-based criticisms of US economic performance under President Obama. This sort of click-bait distortion, via the Washington Examiner, is unnecessary and unhelpful:
Don’t believe the happy talk coming out of the White House, Federal Reserve and Treasury Department when it comes to the real unemployment rate and the true “Misery Index.” Because, according to an influential Wall Street advisor, the figures are a fraud. In a memo to clients provided to Secrets, David John Marotta calculates the actual unemployment rate of those not working at a sky-high 37.2 percent, not the 6.7 percent advertised by the Fed, and the Misery Index at over 14, not the 8 claimed by the government. Marotta, who recently advised those worried about an imploding economy to get a gun, said that the government isn’t being honest in how it calculates those out of the workforce or inflation, the two numbers used to get the Misery Index figure. … “Unemployment in its truest definition, meaning the portion of people who do not have any job, is 37.2 percent” [Marotta explains].
David John Marotta didn’t calculate much of anything. He just went to the Bureau of Labor Statistics web site and looked up the current labor force participation rate, which 62.8%. (See above chart.) He then subtracted that number from 100 to get 37.2%. Math counts! Now, the participation rate measures what share of adults are working or looking for work. But just because you don’t fall into either of those categories doesn’t mean you are “unemployed.” Maybe you are choosing to go to college or stay at home with the kids or retire. Or maybe you are discouraged and have simply stopped looking for work.
Explaining the sharp drop in the participation rate since 2007 — particularly how much is demographic vs. structural vs. cyclical — is the subject of much academic research and debate. As it turns out, the Wall Street Journal has a piece today on the participation rate, and why the strengthening economy isn’t drawing people back into the labor market;
In December 2007, the month the recession started, 66% of the working-age population either had a job or was looking for one. That share fell during the recession and has continued dropping ever since. In September, participation dropped to 62.7%, the lowest since 1978, and remains near that level.
Some decline in the labor force was expected as the massive baby-boom generation born after World War II began turning 60 and retiring by the millions, in the mid-2000s. Few retirees return to jobs. Around 18% of those over age 65 are in the workforce. The decline in boomer participation isn’t the sole reason behind the decline. Another big explanation could be that people who drop out amid a bad economy can’t easily be enticed back. Economists call this labor-market scarring. People find other ways to get through life, even precariously, by relying on friends and family, going on disability or retiring early. “You can leave for economic reasons, but it doesn’t mean you’re going to come back for economic reasons,” Mr. Feroli said. Determining the cause and finding solutions for depressed participation has important implications.
Marotta’s simplistic, misleading analysis may create a neat talking point or get a Drudge hit, but it lowers the quality of public debate about America’s job market woes. (It also feeds a certain conspiratorial impulse.) Here is an actually useful take on what’s happening with US workers from this month’s big Washington Post series.
Update: A good point from WSJ reporter Josh Zumbrun, in response to this post:
View related content: Pethokoukis
First, a few key stats on startups from an excellent new piece by Robert Litan in Foreign Affairs (based on his research with Ian Hathaway):
1.) The ratio of new firms to all firms has been steadily decreasing, from 15% in 1978 to 8% by 2011.
2.) It’s not just big box retailers reducing the number of mom and pops. For instance: In 1990, there were 2,600 new life-sciences startups vs. 3,000 in 1997 and 1,995 in 2011.
3.) Fewer startups means fewer high-growth firms. The share of firms with three consecutive years of at least a 20% increase in employment has dropped by half since 1997.
4.) With fewer new firms as a share of all firms, the proportion of older companies — at least 16 years old — has risen from 23% of all firms in 1992 to 34% in 2011.
Of course, of course one can quibble with these numbers and what they mean. I have a written a number of posts on this phenomenon, looking it at from various angles:
But here is the thing: Pretty much all the policy steps you might take to respond to this startup wind-down — and the decline in innovation and good jobs it implies — are pretty smart ideas in their own right. Among Litan’s suggestions: Attract more immigrant entrepreneurs and keep more foreign students who earn graduate degrees in the STEM fields. Make it easier to attract investment capital through crowdfunding platforms. Constantly evaluate regulations to see if they raise entry barriers to new firms or give an edge to incumbents. Don’t let future changes to Obamacare create a disincentive for workers to leave their firms. Reform k-12 education to better teach technological literacy — but also don’t skip humanities and the arts. As Litan reminds, “Had Steven Jobs not taken a calligraphy class at Reed College, for example, he might not have insisted on including a wide array of fonts in Apple computers—an innovation that gave his company an early edge over its competitors.”
The Litan piece appears in the new Foreign Affairs issue focusing on innovation and technological disruption. I would also recommend “The Anti-Innovators: How Special Interests Undermine Entrepreneurship” by James Bessen. The piece mention a number of way in which government discourages startups and innovation including defense spending (“Instead of awarding contracts to start-ups and spinoffs, the Pentagon has favored traditional defense contractors.”), overly strict patent and copyright law, occupational licensing laws, and employee noncompete agreements. About that last one:
Historically, technical workers such as mechanics and engineers moved freely from job to job, spreading new technologies across the industry. Today, however, a variety of regulations limit that mobility. Some states—Florida and Massachusetts, for instance—have made it easy for employers to enforce noncompete agreements, which prohibit employees from leaving one company to join or start another in the same industry. According to research conducted by the law firm Beck Reed Riden, the number of published U.S. court decisions involving noncompete agreements rose 61 percent from 2002 to 2012, to 760 cases. This is bad news for innovation, since such agreements make it difficult for start-ups to recruit employees away from established companies.
Consider the difference between California, whose courts generally do not enforce these agreements, and Massachusetts, whose do. Silicon Valley has become a breeding ground for new technology firms and new technologies, whereas Massachusetts’ Route 128 has fallen behind. It is telling that the Facebook co-founder Mark Zuckerberg moved his company from Cambridge to Palo Alto as it took off. This past summer, state lawmakers in Massachusetts considered a ban on noncompete agreements, but powerful business lobbying groups fought hard against it, arguing that the agreements keep employees from stealing trade secrets and proprietary information.
View related content: Pethokoukis
What next? Maybe that 5% GDP report did nothing for you. Hey, if you really want to worry about the US economy in 2015, there sure is plenty out there to make your stomach churn:
1.) What about Russia, its economy roiled by sanctions and falling oil prices? Sure, as Paul Ashworth and Paul Dale of Capital Economics note this morning, America sends just 0.7% of its exports there, and US bank loans to Russian entities is just 0.2% of GDP. But you never know. Ashworth and Dale:
We can’t completely rule out the possibility that there is some significant spill over into America’s financial system in a similar way to how the Russian debt default in 1998 eventually led to the collapse of the hedge fund Long-Term Capital Management.
2.) Or what about Europe? The euro crisis may be reigniting. AEI’s Desmond Lachman:
Judging by the pace at which Greece’s politics is unraveling, European policymakers could soon be faced with a fundamental policy choice. Do they again make Herculean efforts to keep Greece within the euro? Or do they allow Greece to be cut loose from the euro? How European policymakers decide to answer this basic question will be critical not only for Greece’s economic future but also for that of the eurozone as a whole.
3.) And what about secular stagnation? Plenty of economists think the American economy is suffering from deep structural flaws — ranging from too much inequality to too little competitive intensity — that it could be near-impossible to break out of the New Normal stagnation.
So maybe next is another year of 2%-ish growth, But maybe not. Again, Ashworth and Dale:
It’s also possible to think of a couple of events that would mean economic growth over the next couple of years would be even stronger than we expect. Given the latest comments by Ali al-Naimi, the oil minister of Saudi Arabia, oil prices could fall even further and remain very low for a long time. The 45% plunge in prices, from $110 per barrel in June to $60 per barrel now, is already large enough to add around 0.8 percentage points to annual US GDP growth. As a rough rule of thumb, every $10 decline in oil prices boosts US GDP growth by 0.2 percentage points. A decline to $40 a barrel would therefore result in GDP growth of closer to 3.5% next year than 3.0%, while a drop to $20 would raise growth towards 4.0%.
Even without a positive external shock such as a further fall in the oil price, GDP growth could still be higher than we expect if we have underestimated how much conditions have improved. It’s possible that the economy is entering a sweet spot where the drags from overseas, the domestic fiscal consolidation and the tightening in credit criteria are all behind it while the support from monetary policy stays unusually strong. If so, not much may need to change for GDP to grow by 3.5-4.0% for the next year or two.
View related content: Pethokoukis
Modern Democrats, including President Obama, have much economic nostalgia for the immediate postwar decades. In the 1950s and 1960s, taxes were high, unions strong, incomes more equal. Workers made stuff. Here is the president back in 2011:
My grandparents served during World War II. He was a soldier in Patton’s Army; she was a worker on a bomber assembly line. And together, they shared the optimism of a nation that triumphed over the Great Depression and over fascism. They believed in an America where hard work paid off, and responsibility was rewarded, and anyone could make it if they tried — no matter who you were, no matter where you came from, no matter how you started out. And these values gave rise to the largest middle class and the strongest economy that the world has ever known. It was here in America that the most productive workers, the most innovative companies turned out the best products on Earth. And you know what? Every American shared in that pride and in that success — from those in the executive suites to those in middle management to those on the factory floor.
But then — to hear Obama tell it — came the Republican resurgence and tax cuts and deregulation. Goodbye to the Golden Age and hello to the Age of Inequality. But rather than dispute Obama’s take on the past 30 years (which I do here), I want to point to a new Minneapolis Fed study which offers a different view of the Golden Age:
The decline of the heavy manufacturing industry in the American “Rust Belt” is often thought to have begun in the late 1970s, when the United States suffered a significant recession. But theory suggests, and data support, that the Rust Belt’s decline started in the 1950s when the region’s dominant industries faced virtually no product or labor competition and therefore had little incentive to innovate or become more productive. As foreign imports increased and manufacturing shifted to the American South, the Rust Belt’s share of manufacturing jobs and total jobs declined dramatically. Eventually the region’s manufacturers began to innovate, resulting in a stabilization of employment share at a significantly lower level. Our model suggests that this factor—lack of competitive pressure—accounts for about two-thirds of the Rust Belt’s decline in employment share. These results imply that vigorous competitive pressure in both product and labor markets is important for creating the incentives for firms to continuously innovate, create and grow, and that government policy should encourage such competition.
This very much syncs with what Ashwin Parameswaran has written:
The first half from 1945 till the 70s was a period when the pace of both product and process innovation was slow. As Alexander Field has shown, much of the productivity growth in the aftermath of the war came from exploiting product innovation that had already taken place during the 1930s. The damage done to the industrial base of the rest of the developed world meant that there was very little competition for American goods from foreign manufacturers. Most large American firms were also largely insulated from strong shareholder pressure to improve profitability. This combination of low import competition, low rate of entry by new firms and weak shareholder pressure meant that there was very little process innovation or cost control. It is not a coincidence that many view the 1950s and 1960s as a golden age of economic growth and stability. It was essentially a period when neither firm owners, managers or workers felt the threat of failure or even had the incentive to improve efficiency or control costs. It was a period of stability for all, masses and classes alike.
So it’s worth asking: When Team Obama looks at the US economy and thinks about dealing with its long-run challenges, does it really have a forward-looking model? And is the Obama administration adequately informing the American public that globalization and technology mean we’re not going back to the supposed Golden Age?
View related content: Pethokoukis
The US economy grew at a sizzling 5% annual pace in the third quarter, according to today’s revised Commerce Department report. The news helped send the Dow industrials over 18,000 for the first time. Europe must be so jealous.
Now the last time we had growth above 5% was summer 2003. Fun fact (or perhaps a depressing fact): From 1981 through 2000, there were 21 individual quarters where the economy grew by 5 percent or faster — but just two quarters of such fast growth since, including this most recent one. So it’s about time. Anyway, I dig into the data in my new The Week column.
Look, this is good news, and we should probably expect some more good news thanks to the economy’s existing momentum and the big drop in oil prices boosting consumer spending. But let’s go big picture for a moment. From my column:
Good news, to be sure, but that’s really still just catch-up growth after the Not-So-Great Recovery, not mention that nasty storm last winter that sent the economy into the freezer. Most economists think America’s long-term potential growth rate will fall prey to slowing population growth and less innovation, outside of smartphone apps. And even higher GDP growth isn’t a cure-all if most of the benefits go only to a few. Policymakers need to build on this recent economic upturn with policies to reform K-12 education, improve college access and completion, repair our infrastructure, and lower barriers to business startups.
View related content: Pethokoukis
MKM Partners Chief Economist Mike Darda notes the strong reading from Chicago Fed’s National Activity Index for November — consistent with above-trend growth — and makes this point:
Indeed, both the USA and UK business cycles appear strong enough to warrant some gradual tightening of monetary conditions later next year. By sharp contrast, the perpetually too tight ECB looks to be in an indefinite zero rate trap, the result of repeated monetary blunders.
As we have pointed out before, euro area NGDP growth has run at a pitiful 1.7% per annum rate over the last four years (less than 45% of the pre-crisis average) where as it has been running at about 4% in the USA and UK (more than 70% of the pre-crisis average). Fiscal headwinds have been stiffer in the USA and UK; the divergence is a monetary story. If NGDP growth is running at a 4-5% rate in 2015, there is a case for tightening policy at some point in 2015 in the USA (and UK). In any event, steady NGDP growth and low inflation/interest rate environments will tend to be associated with elevated stock market valuations.
Of course, this ups the ire of the financial stability hawks who want the Fed to tighten to knock stock valuations down. However, the only way for the Fed to actually do this is to either 1) undermine the business cycle, causing recession or deflation; or 2) target a much higher rate of inflation/NGDP, which would result in much higher interest rates (and thus lower stock market valuations).
In 1928-1929, the Fed chose option 1 in the pursuit of financial stability. The results were not pretty. During the 1970s, the Fed and political system ending up precipitating option 2 in the pursuit of unrealistically low levels of unemployment. Better for central bankers to focus on slow, steady NGDP growth, which will mitigate the risks of both scenarios and provide a backdrop of stability.
View related content: Pethokoukis
In a recent National Review story, economist Tino Sanandaji takes issue with inequality researcher Thomas Piketty, author of this year’s surprising best-seller, “Capital in the Twenty-First Century,” over how America’s superrich got that way. Sanandaji:
Piketty believes that most top wealth is inherited and that the rich tend to pass on their growing wealth to the next generation. It goes like this: Assume that the wealthy receive a return of 6 percent of their capital, spend half and reinvest the remaining 3 percent perpetually while the growth rate of the economy is 2 percent; the fortunes of the rich will outgrow the economy by 1 percent per year and eventually take over the economy.
But Piketty is aware that the force driving his r > g theory — rentiers with ever-growing inherited fortunes — is ill-suited for the United States. The book therefore introduces a second force behind inequality to better account for trends here. Piketty believes that most top earning Americans are senior managers of large firms, a group that he labels “supermanagers.”
But there is a problem with Piketty’s analysis: Where are the entrepreneurs? Again, Sanandaji:
Wealthy rentiers and salaried corporate executives may be vaguely unsympathetic groups, but they do not constitute the bulk of rich Americans. In particular, Piketty underestimates the importance of entrepreneurs and business owners. It’s not a minor oversight: Self-employed business owners who actively manage their firms own around 70 percent of the wealth of the top 0.1 percent. With top earnings, too, business owners are far more important than salaried executives. This doesn’t change the fact that inequality is high and rising, but it undermines Piketty’s explanation for why inequality is increasing in the United States.
Indeed, if you dig deep into Forbes magazine’s annual surveys of the superrich in the US and abroad — a key data source for Sanandaji — you find a couple of interesting data points. First, the US creates billionaire entrepreneurs at a faster clip than any other large advanced economy. One might argue this a healthy sign soon for US innovation and growth.
Second, self-made billionaires increasingly populate the ranks of the richest people in the country. In its latest Forbes 400 issue, the magazine gave each member a 1-to-10 score with “1 indicating the fortune was completely inherited, while a 10 was for a Horatio Alger-esque journey.” Forbes then applied that analysis all the way back to 1984. Here is what Forbes found: “Looking at the numbers over time, the data lead us to an interesting insight: in 1984, less than half of people on The Forbes 400 were self-made; today, 69% of the 400 created their own fortunes.”
The chart below helps illustrates that point by comparing the 1s vs. the 10s over time, Forbes finds that for “the first time in our data set, we see the number of self-made billionaires who rose from nothing, and overcame various tough obstacles, outpacing those that just sat on their fortunes.”