March 2009 Archives

Transition Race - Update

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Despite the remaining hole in his cabinet at HHS, Obama has maintained his slight lead over George W. Bush in my presidential transition race.  On March 25, 2001, Bush had confirmed appointees sitting in 19 of my list 64 top positions.  As of yesterday, Obama had filled 23.  His advantage stems both from his retentions in DOD and that he was two months faster in filling top jobs at the Department of Justice.

Given the economic crisis, however, it is still somewhat worrisome that Geitner remains the only Senate confirmed appointment at Treasury.  While it is true that Bush did not fill the deputy and undersecretary positions until August of his first year, the times seem to call for a little more haste.  Yet, as of yesterday, the nomination of only one the remaining top three positions has even been referred to committee.  

A Response from Josh

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Three quick responses to Nolan's piece:

 

1) If we were really serious about adjusting income tax rates for cost of living expenses, then the best way to do this would be to index the marginal tax rates to cost of living by region.  Politically, though, this is bound to be a non-starter.  But rectifying it through deductions is at best a messy indirect way of addressing the problem: one additional big global form of consumption that Nolan fails to identify is savings for retirement.

 

2) Reducing the rate at which high income earners can write off tax deductions, in my opinion, is there simply as a way to get an extra tax increase on high income earners into the budget without having to vote directly on a higher marginal tax rate, as he gets his current tax increase just by letting the Bush tax cuts expire.  With Nolan's previous post in mind, though, I'd think supply-siders would actually prefer this kind of tax increase (to, for example, simply raising the highest marginal tax rate to 41% instead of 39.6%), as it doesn't reduce the incentive to work.  What it does do is reduce the incentive to participate in activities the bring about tax write offs.  The most popular topic to talk about in this regard in charitable giving, although I think this is kind of red herring.  I've seen reports of studies saying that people reports tax considerations as very low on their priority list when considering charitable giving, but of course this could be subject to all sorts of response bias.  Would be very interested to see if anyone had data/studies on whether changing the marginal tax rates has an effect on charitable giving by the highest wage earners?

 

3) What is potentially more interesting, however, is that it could begin to address one of the more distortive elements of the US tax code, which is the massive subsidy given to home buyers as opposed to renters.  The justification for this subsidy has been that it helps promote an "ownership society" by making it easier for people to move from being renters to home owners, but of course the recent criticism has been that it helped inflate the housing bubble.  Seen this in light, the Obama plan is potentially very clever: it keeps the subsidy for low wage earners, but for higher wage earners it might make them think twice about taking on a larger mortgage.  So ostensibly it shouldn't have much of an effect on most potential home owners entering the market, but might control some of the excess at the upper end of the market in the future.

 

To Think Gordon Brown Lectured Us on Protectionism

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I guess the British circus workers need a little help in the global downturn.  

Another Random Thought about Obama's Tax Plans

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One of the features of the U.S. income tax system is that despite very considerable variation in the cost of living across regions the tax rate schedule is uniform across the country.   Consider my favorite two states:  Texas and New Jersey (how many people can say that?).  Based on state level estimates of cost of living, the same consumption bundle costs 35% more in New Jersey than it does in Texas.   Nevertheless a New Jerseyan and a Texan with the same dollar income will pay the same dollar amount in taxes.  But the Texan will pay 35% less in terms of local consumption.  Consequently, the tax system violates an important principle: two people with the same ability to pay should pay the same taxes.

Of course, there are a lot of factors that offset these differences.  First, unlike politics, not all consumption is local.  Both the New Jerseyan and the Texan pay the same for their EuroDisney vacation.  But enough consumption (especially housing) is local so that large differences remain.

Within the tax code itself, the major offset to these differences has been on the deduction side.  New Jersey housing costs more so that the New Jersayan has a bigger mortgage deduction than a Texan.  It costs more to sustain her local charities so the New Jerseyan may give more to charity.  Her state government costs more for a given set of services so she pays more state taxes and gets a larger deduction.

But with its phase outs of itemized deductions, the Obama tax plan moves in the direction of exacerbating the regional differences in "real" tax liabilities.  One of the ironies (that soon may not be lost on his administration) is that many of the states that are most affected by this inequity are those that strongly support his election.

Tucker Goes Big Time

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My friend and occasional guest blogger Josh Tucker has used my little blog as launching pad to the big time.  He has a a piece this week in TNR discussing the Obama-Medvedev "secret letter."  Granted that I am no expert on Russian politics and U.S. foreign policy, his analysis seems right on the mark.

Obama's Math

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In the vain hope of making sense of the president's budget proposal, I have begun reading it with some care.  I've become stumped, however, by some of the math used to justify his tax plans.  His budget promises, as did his campaign, to only raise taxes on the top 5% of American households or those couples making over $250k ($200k for individuals).  My first problem is that those two cutoffs are not the same.

 

According to the Census Bureau's current population survey, the top 5% of households in 2007 were those with incomes over $177,000.  Thomas Piketty and Emmanuel Saez's data on tax returns (the Gold Standard for measuring the income distribution) show that the cutoff for the top 5% was $148,000 in 2006 (I believe their number is lower because they exclude government transfer payments.)  So my puzzlement is whether ultimately Obama's commitment is to not raise taxes on those families below $250k or is to not raise taxes on those below $177k or ($148k).   

 

The question has both important political as well as economic ramifications.  The Republicans will obviously fare much better in their quest to defeat Obama's tax plan if they can portray Obama as ultimately willing to extend his tax increases to much lower income levels. 

 

The economic ramification is one that exacerbates the political one.  To pay for the spending increases that the budget calls for and to keep deficits within reason, taxes will almost certainly have to go up on families making more than $150k (if not less). 

 

A little of my math helps explain why I believe this.  Assume that tax increases are limited to those families making above $250k.  From eyeballing Picketty and Saez's data, 33% is a reasonable estimate of the share of national income received by this group of families.   This implies that to increase revenue by 1% of national income the average tax rate on those above $250k will have to rise by 3 percentage points (because they control a third of national income their taxes must go up three time the total increase).   Obama's budget projects deficits at 4% of GDP from 2013-2019 (even after an initial round of high-income tax increases).   So if these future tax liabilities are to be borne only by the $250k-and-up club, their taxes would have to go up 12 percentage points.  How large a tax increase would this be?    Currently, the average federal tax rate on families over $250k is about 30% (this includes all federal taxes).   Obama's proposed increases are likely to push that number to around 34%. To cover all future liabilities only through taxes on this group, their average tax rates will have to rise to 46%, a 50% increase in federal taxes.  By contrast, the rate on the top 1% was 38% in the last year of the Carter administration before Reagan's tax cuts.  Even if Obama were willing to raise taxes on the top 5 percent (i.e. those with incomes greater than $150K), the average tax increase for that group would still be around 10 percentage points.  While I often believe that supply-siders overstate their case against taxes, this clearly represents a level at which perverse incentive effects including non-compliance and reduced labor supply (especially among second earners) could materialize.  So even tax hikes of the magnitude I've described may not produce the desired level of revenue.

 

So it seems very clear that enactment of Obama's ambitious spending plans (many of which I support) will require taxes to go up (now or later) much more broadly than either his $250k or top 5% pledge would seem to allow.  An administration that prides itself on its openness and transparency would do well to acknowledge that inconvenient fact sooner rather than later.

In a recent post, I suggested that Republicans might want to be careful about following a strategy in which attempts to influence policy (e.g., working with Obama to shape legislation) are abandoned as part of a political strategy that essentially bets the house on continued economic deterioration.  Let me now follow this up with two other disturbing trends for the Republican party, which together present a valuable long-term opportunity for Democrats:

 

1) In a compilation of CBS/NY Times polls released today, the current gap in 18-29 year olds identifying with either the Democrats or Republicans has reached 14% points (http://www.nytimes.com/imagepages/2009/03/01/weekinreview/20090301_CONNELLY_GRFK.html) in favor of the Democrats; by contrast, this age group favored Republicans through most of Reagan's second term and Bush 41's first term.  One thing political scientists have learned about partisan identification in the United States is that while it tends to bounce around a bit while people are in their 20s, identifications held by people in their 30s tend to stick.  While we don't know if the current 18-29 year old generation will necessarily hold the same preferences when they pass through their 30s, if they do it could spell big problems for the Republican party for decades. 

 

2) My understanding of the reason why Democrats have so many "superdelegates" involved in the selection of their presidential nominee was to counter a concern that arose in the late 1970s and early 1980s that the primary process encouraged presidential candidates to run so far to the left during the primaries that they would be unable to win enough of the center to be competitive in the general election.  Watching the current festivities unfold at CPAC (http://www.politico.com/news/stories/0209/19449.html), I wonder if the 24 hour news media / new media / blogosphere world hasn't put us in a state of perpetual primaries.  After all, it really seems like many of the speakers CPAC are behaving as if they are already fighting for the 2012 nomination.  If this is the case, then I'd suspect the same problems will be in play for the Republicans over the next 3-4 years that the Democrats worried about previously: more and more attention paid to wooing primary voters (e.g., the conservative wing of the party).  With this process apparently starting so early now, though, this means the main message coming from most of the potential "leaders" of the Republican party is going to be targeted at this narrow audience.  If such a message is all that voters hear associate with the Republican party between now and 2012, then one is left to wonder how any eventual nominee could ever be able to credibly come back to the center enough for the  general election.  Put another way, imagine a thought experiment where you are the campaign manager for the Republican candidate in 2012.  Would you prefer that for the previous 4 years the Republican Party had built up an image that appealed to the median voter in the country, or the median primary voter in the Republican party?  Of course you'd want the former option, but it looks like we're headed for the latter.  It should be noted that unlike the trends in party identification this is not a Republican problem by definition, since it is being driven by technological innovation.  Nevertheless, it is likely to be a particular problem for opposition parties in the first term of a presidency, as sitting incumbents do not (generally) have to worry about a primary process.  So for now, it is a Republican problem.

 

And it is an especially troublesome Republican problem in view of my first point about party identification.  Combining these two trends suggests a not unrealistic prediction is that as the Republican party increasingly trumpets a message designed to appeal to a far-right portion of the electorate over the next 3-4 years, 18-29 year olds that already prefer the Democratic party by a wide margin will find no reason to abandon that position as they move into a more politically stable period of their lives. This strikes me as a very dangerous scenario for the Republican Party, and one which I would suggest the Democratic party would benefit from trying to bring to fruition.