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Tony Quain
Tony Quain is a commentator on free-market economic theory and policy. He has a Ph.D. in economics from George Mason Univ. More >>
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Inequality today
Redistribution today
Taxes today
Jul 23, 2014 4:08pm, by Tony Quain, 682 words

Link: http://www.washingtonpost.com/blogs/wonkblog/wp/2014/07/23/dont-think-obama-has-reduced-inequality-these-numbers-prove-that-he-has

In the critically acclaimed movie Downfall, there is this one scene where Hitler is reviewing the progress of his counter-attacks in the defense of Berlin in April 1945. After several dispiriting reports about Russian advances, Hitler replies, "Steiner's assault will bring it under control." With some reluctance, General Jodl informs him that "Steiner couldn't mobilize enough men, [thus] he wasn't able to carry out his assault." Hitler blows up, ranting and screaming, "That Was an Order!"

The second-hand viewer of such a spectacle is both fascinated and bemused. Fascinated that someone as powerful as Hitler (once was) could expect that wanting or ordering something by consequence necessarily obtains it, regardless of worldly realities. Bemused that, upon realization of this distinction, the expecting person throws a temper tantrum unworthy of even the slightest sympathy.

Now far be it from me to compare Hitler with President Obama, his administration, or his apologists on the left. There are plenty of other instances in history of someone acting in the same way as Hitler did in this movie, it was just one that I remember most. But when the Washington Post publishes pieces like the linked one by Zach Goldfarb, one has a sense of fascination and bemusement that makes one remember such things. The expectation of dictated-command-causing-sheep-effect is not so rare, but never quite so pure.

Goldfarb's article shows the income ratios of various economic strata, first pre-tax, then with the "Bush" tax policy (as applied to 2013 tax rates), then with the "Obama" tax policy (2013). He then claims that, "If you've wondered whether Obama has made any headway at reducing income inequality, here's evidence that he has." Evidence? Oh, because his policy, since become law, says we will tax the rich more! It was so ordered, so it must have happened! Nevermind that policies have behavioral responses, such as less work effort, more tax sheltering, and the like. Or that there are a number of other policies or economic developments that may reduce or increase inequality apart from taxes. Or that there is an entire discipline of economics dedicated to studying and quantifying the intended and non-intended effects of economic policies. According to Goldfarb, we changed a law to reduce inequality, and therefore inequality is less! So it shall be written, and so it shall be done!

Goldfarb then claims that actual inequality (not just inequity in tax law) has gone down under Obama, from 2012 to 2013 (based on a computer model put together by the left-wing Tax Policy Center). But, he admits, "This is still above the ratio in 2009, meaning that after-tax inequality in 2013 was higher than it was 2009." So even though he recognizes that inequality went up under Obama overall, he claims that it went down this past year. The headline for his column is: "Don’t think Obama has reduced inequality? These numbers prove that he has." Like Richard Murphy, he ignores the long-term trend in favor of a single data point. He could have said, "don't think Obama has reduced inequality lately?" which would be somewhat defensible. But he chose not to. The headline he used is totally misleading if not downright false. Don't trust this guy.

Another problem is that income inequality, as measured by the Gini coefficient, has been going up under Obama. The Census bureau number show that: Gini ratios for U.S. households increased from .466 in 2008 (or .468 in 2009) to .477 in 2012, and Gini ratios for U.S. families increased from .438 in 2008 (or .443 in 2009) to .451 in 2012. No numbers yet for 2013.

One last thing. His numbers all show the poor paying about the same taxes and the rich paying a lot more taxes. Who is better off here? No one. But re-distributionists will celebrate the numbers because they hate rich and upper-middle-class people anyway.

I don't doubt that Obama's re-distributionist tax policies will work to reduce income inequality somewhat, for whatever that is worth. But don't try to pretend that the policy's intention is enough to guarantee the policy's result, or that several other factors that result from his bad economic policies may not counteract these, or that Obama's overall record on inequality is positive.


Jul 22, 2014 11:25am, by Tony Quain, 20 words
Categories: Obamacare, Health Care

Link: http://www.forbes.com/sites/michaelcannon/2014/07/21/halbig-v-burwell-would-free-more-than-57-million-americans-from-the-acas-individual-employer-mandates/

Linked is my friend Michael Cannon's analysis of the ruling and how it may be mis-portrayed in the mainstream media.


Jul 22, 2014 11:12am, by Tony Quain, 28 words
Categories: Obamacare, Health Care

Link: http://www.politico.com/story/2014/07/obamacare-subsidies-dc-appeals-court-ruling-109223.html?hp=t1

Looks like this will go to the Supreme Court (and nothing will happen until then), but this is a significant win for Obamacare opponents and defenders of liberty.


Jul 21, 2014 10:53am, by Tony Quain, 475 words

Link: http://www.wlrh.org/NPR-News/rubio-small-government-can-help-fix-economic-inequality

I still like Marco Rubio, but pieces like this really make it look like he's trying to find a way to get government involved, not the other way around.

And it also seems like he has a warped view of "equality of opportunity":

"The success sequence in America says you get an education, you get a good job, you get married, you have children," Rubio says. "People who do those four things have an incredible level of economic stability.

"But there are millions of people who aren't going to have one or any of those things," he says. "They are not going to have an equal opportunity to succeed unless something happens to equalize the situation.

This is the stroy of two Rubios: Tea Party Rubio and Big Government Rubio. The first paragraph is Tea Party Rubio: he recognizes that people have to do four things to live the American dream. But then for some reason in the second paragraph he morphs into Big Government Rubio. Suddenly its that people don't have these things. And, critically, that this means they do not have equal opportunity.

That is leftist talk. They had equal opportunity and did not do one or more of the four things. Then, because of this failure they struggle. But why do they get a reset? Why are now able to claim that their situation without an eduication, without a job, without a spouse, and without children is their starting point, and they want an equal opportunity now?

This is why equality of opportunity is such a dodgy thing to measure. Is it that we all have the same opportunity at some starting point (grade school? high school? 18?)? Or is it that we all have some level or equality of opportunity at any point in our lives, no matter how many mistakes we make?

And there's another thing. Going without one or more of these four things is not even necessarily a mistake. It is a choice. Many would say a bad choice, but a choice nonetheless. There are many reasons why either way could be a good choice, given one's situation. What Rubio is saying is that economically it is a good choice to do these four things the way he encourages. But economics is not everything (did I just say that?). Each individual has to make these choices considering their total impact, including the effects on their economic opportunities at the time and in the future, and then live with the consequences. When government gets involved, either by cajoling people to make one choice or another, or picking up the (economic only) pieces from that decision years later, then we lose the freedom to make the most important choices in our lives, and ceding them to bureaucrats or politicians who have no knowledge of our situation, at best just artificial sympathy.


Jul 21, 2014 10:08am, by Tony Quain, 66 words
Categories: Politics, Election 2016

Link: http://www.washingtontimes.com/news/2014/jul/18/merry-handicaps-in/

I've always disliked HRC because of her Old Left politics, made less strident in later years as she tried to re-brand herself as a moderate Democrat, but still obvious to those of us who like to feel like we weren't beguiled by such things.

So I read this piece with interest. There is some truth in the theory Merry presents. The question is, is there enough?


Jul 18, 2014 11:40am, by Tony Quain, 1227 words

Link: http://www.pieria.co.uk/articles/the_case_against_inequality

The linked article, originally posted on July 11th but made public on Pieria today (from what I can tell), attempts to de-legitemize libertarian moral arguments for a free society. This is done ostensibly to defuse these arguments as justifications for economic inequalities, but the scope of the arguments are generally more wide-ranging.

The article recognizes three libertarian justifications for inequality:

  1. Just deserts.
  2. Voluntarism.
  3. Grow the pie.

I would say that there are more arguments than these: Adam Smith's recognition that people generally strive for "the betterment of their condition," related to Thomas Jefferson's human right of "the pursuit of happiness," obviously contributes to inequality; the defense of this right is for all purposes a justification of its consequences. But let's defend for now the three identified here, which in Pieria's defense are not a bad characterization of what the typical libertarian intellectual may argue.

The "just deserts" justification may at first glance appear to be the most emotionally charged and least cerebral of the three, grounded in libertarians' (and society's) knee-jerk reaction to thieves, bludgers, and moral irrectitude. But it has been forcefully argued as a perfectly sensible moral principle by Robert Nozick, who laid out his entitlement theory of justice from which such a notion would be defensible. Essentially, if you have acquired or created your property morally, or traded your property morally, the property belongs to you. I can't do justice to Nozick's system here, but those familiar with it would be at pains to disagree that it is a workable system, not just demagoguery.

Pieria's attack on "just deserts" is by way of a fictional deserted island tale, where Steve takes Geoff's product (tomatoes) to provide for Steve's son, and the reader is asked to question whether "Geoff is justified in forcibly preventing Steve from taking one of his extra tomatoes to feed his otherwise starving child?" It is hard to imagine that most (if not all) readers would not see the sleight-of-hand here: we are implicitly supposed to ignore the fact that Steve has taken tomatoes picked by Geoff, and focus instead on Geoff's efforts to get them back. There is no question that Steve robbed Geoff and did so despite other options he had available: picking more tomatoes himself, asking Geoff for a tomato, trading services to Geoff for the tomato, etc. Take away the bedrock moral principle of property, and the desert island turns into an ugly Hobbesian war among the three rather than cooperation, trade, and charity, which would be communally beneficial.

The argument then continues as follows: "My guess is that most people, if they were cast as Geoff, would probably give Steve one of their extra tomatoes. Most would regard Steve or his child starving while Geoff sat on his pile of tomatoes - all the while preventing either of the former from accessing them - as intrinsically wrong." So if most people would give up a tomato to Steve, Steve would not have to steal in the first place, somewhat nullifying the example. Sure, people may think it is wrong for Geoff to keep his tomatoes, but they would also say that it is definitely wrong, more wrong, to steal tomatoes, and in any case Geoff should be given the opportunity, and the kudos or blame, for deciding whether to share his tomatoes or not, based on his sympathy for Steve's situation. Otherwise, Steve could take tomatoes even if he had no child, was just lazy, or was greedy himself.

On voluntarism, the crux of Pieria's argument is this:

The voluntarist ethic is simple and compelling, but it is also incredibly limited. Exchanges are only 'voluntary' to the people taking part in them. For everyone else, each exchange results in restrictions on pieces of the world to which they have not consented. The compulsion is done by those who impose these restrictions in the first place: a compulsion-less world is one where people can freely choose to take whatever they want.

First, third parties who are directly affected by voluntary exchange are victims of externalities, and libertarians make room for those. But here the author also talks about indirect effects, i.e. "each exchange results in restrictions on pieces of the world." Only in occupations where natural resources are involved is this true, and even here the effects of one person making use of resources ("mixing their labor with it," as Locke would say) are generally far more beneficial than restrictive to third parties. They can now trade what they have produced (from other resources, or from secondary goods or services) with something else which is available to them, whether it be raw materials or fully developed products. Finally, to say that a compulsion-less world is one where people can freely choose to take whatever they want is quite obviously false, since it implies taking things from other people. Try stealing a car and asking the owner if that is not compulsion.

An attempt is made here to equate natural liberty with other "social realities," ones where there is no private property or a coercive state actor, and claim that one is no more justified than the other. But private property is natural, due to cause and effect, and premised by moral principles, none of which are true for a social reality that starts with coercive actions by an individual, a group of individuals, a majority of individuals, or their state proxy. Starting with the idea that what one creates is one's own is quite different from starting with the idea that a mob gets to decide what to do with it. We use collective action to avoid (or redress) aggressions between people, not to start them.

On the third point (growing the pie), Pieria starts off with this assertion: "'growing the pie', ... argues that granting some superior legal status will result in more wealth and opportunities for everyone." Again, this is false, since libertarians argue against granting superior legal status to anyone. Libertarians believe in legal equality, which in many ways is quite the opposite of equality of result. In fact, equality of result necessarily demands legal inequality, allowing some people to have lower tax rates, higher state benefits, and preferences in liberties such as employment or consumption.

Then it is claimed that greater equality results in more growth, citing a study that supposedly indicates that "lower inequality is generally associated with higher growth. In particular, large degrees of inequality result in lower growth of incomes for the poor." Other studies of this kind have just the opposite conclusion. But in any case, the study cited only claims correlation, not causation: "lower net inequality is robustly correlated with faster and more durable growth, for a given level of redistribution." In this study (as in others), the conclusion could just as easily be that faster growth creates lower inequality, not the other way around. Importantly, libertarian societies have no predisposition to establishing a pattern of greater inequality. Since the most free societies are the most productive, it is not inequality itself that determines libertarian cultures. Rather, the more unequal societies may very well be the most redistributive and the least libertarian, either because they obviously have a greater desire for redistribution or because redistributive or other statist policies create greater inequality. In fact, one of the main conclusions of the study cited is "more unequal societies tend to redistribute more."


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Featured Article
May 31, 2014 3:54pm, by Tony Quain, 1930 words

The success of Thomas Piketty's book Capital in the Twenty-first Century is largely predicated on the French professor's claim that capitalism is prone to a centralization of wealth tendency, and after some twentieth century aberrations, capitalism is resuming its inevitable march towards greater and greater wealth inequality. Piketty's economic theory of why this will happen (or is happening) is summarized in the following economic inequality (so to speak): r > g where r is the returns to capital (i.e., the interest rate) and g is the economic growth rate. If it helps, one can think of these both on annual basis, i.e. the interest rate per year and the annual economic growth rate. The idea is that the wealth owners in society can sit on their riches and let compound interest increase their stacks at a rate that would outstrip the possibility of the economy growing commensurately (and thus making the gains absolute, but not relative).

Besides being intuitive, easily understandable, and encompassing, Piketty provides the data to prove that this is happening, that interest rates have been moving ahead of growth rates, especially as of late, and will do so increasingly in the twenty-first century.

But it is a flawed theory.

Consider the following graph:

Data source: Federal Reserve: Financial Accounts of the United States (Z.1) Table L.100, 1945-2013
(Percentages are of total household financial assets, but not all financial asset classes are graphed; most of the leftovers are illiquid vehicles such as pension entitlements and non-corporate business equity).

If higher interest rates could allow capital to crowd out other determinants of national income, why wouldn't high-yield investments crowd out low-yield investments, in the long run? If people put $1,000 into corporate equities, and $1,000 into Treasury bonds, and the former returns 10% per year and the latter 5%, how long before this 50/50 split turns into 90/10? (Answer: 48 years). The reason this doesn't happen is not that some companies eventually go belly-up: the higher return rate compensates mostly for market risk, not just default risk, and in any case is inclusive of losses. The reason is that most people end up cashing out of their investment, and investment withdrawals after the returns are realized are not the same for both. The withdrawal of funds will include both principal and interest (and capital gains), and withdrawals in higher yielding investments will necessarily be larger. So the amount of funds that remain in each type of investment may remain equal, despite differences in yield.

What the graph shows is that despite the superior returns of stocks (10.9% avg. per year since 1945) over Treasury bonds (5.4%) and deposits (at most, the T-bill rate of 4.2%), stocks have not garnered an increasingly larger share of household assets. The most notable changes in investments since 1945 are treasuries' loss of favor, the emergence of mutual funds, and the rise of municipal and corporate bonds; all of these developments being partially due to a search for higher after-tax returns, to be sure, but within the context of variable risk aversion.

By Piketty's logic, people invest their assets and forget them; there are no withdrawals. What would happen if they did this in the post-war era? If the household holdings of equities at the end of 1945 ($109.7 billion) were left in the stock market, with no additional investments and no withdrawals, using the S&P 500 returns for each year since then, that original investment would have been worth $124 trillion at the end of 2013. The other household liquid investments (worth $499 billion in 1945) would have also increased, but due to lower rates of return, not nearly as spectacularly, to about $3.6 trillion. Piketty's logic would be vindicated, as equities go from comprising 37% of liquid financial assets in 1945, to 97% in 2013! Presto, the miracle of compound interest would allow equities to crowd out the weaker financial instruments.

But that's not what happened. In reality, households held $13.9 trillion in equities at the end of 2013. Where did the other $110 trillion go (not to mention all the new money people have invested in the stock market since 1945)? Companies distributed it in dividends, investors withdrew their gains, and these moneys were not reinvested; they were spent. And what about the other liquid investments? Instead of being worth $3.6 trillion, people held $21.5 trillion in these other instruments in 2013. With these, people spent some, but they additionally invested a whole lot more. Like a grand exercise in dollar-cost averaging, people on balance put more in to the lower-yielding investments and took more out of the higher-yielding investments.

Saving in investment vehicles is not driven solely or even principally by a desire to accumulate as much wealth as possible; this goal is balanced by investors' risk tolerance and desire for liquidity. And these may cause people to invest in instruments in inverse proportion to their yields.

Not only does this disprove the idea that high-yield instruments will crowd out low-yield ones, but it also shows that the re-investment rate on household savings is quite low, in the case of equities around 11% (and if we accounted for additional investments in the stock market since 1945, certainly less than that). This may not seem intuitive. Most investors probably think they re-invest their gains a majority of the time. Until, that is, they consider that when they cash out to buy a house, or pay children's tuition, or live a comfortable retirement, that consumption eliminates all the re-investments of dividends and capital gains along the way. And whether they do this after a year, a decade, or a lifetime, that is money that is no longer accumulated wealth.

What Piketty stumbled across is the difference between gross investment and net investment. There are three variables involved in the calculation of the change in the capital stock: (1) capital inflows; (2) capital gains/losses; and (3) capital outflows. Piketty only considers (2) (which he takes to be equivalent to a summary interest rate, undifferentiated by risk or duration), perhaps expecting that (1) and (3) cancel each other out. But precisely because investments have capital gains, the outflows may be quite a bit larger than the inflows.

Piketty appears to be somewhat aware of this flaw in his theory. He says on page 361 of his book:

The fact that the return on capital is distinctly and persistently greater than the growth rate is a powerful force for a more unequal distribution of wealth. For example, if g = 1 percent and r = 5 percent, wealthy individuals have to reinvest only one-fifth of their annual capital income to ensure that their capital will grow faster than average income.

So essentially his theory is really this: If the portion of r that is reinvested exceeds the growth rate, capital will grow faster than income. In light of the household assets statistics referenced above, this modified reading is crucial. From what I could tell, only one other place in his book does he ackowledge this (p. 351). Everywhere else, he writes as if the mere imbalance of r over g will cause wealth inequality to increase. Either he thinks that the reinvestment rate approximates 100%, or he conveniently ignores the possibility that people will spend their investment gains (and in many cases the principal too).

And isn't the converse also true? That is, if the re-invested portion of interest is less than the growth rate, won't inequality contract? If the interest rate is 3.9% (as Piketty stipulates for the period 2012-2050 in Figure 10-10 of his book), and the re-investment rate is in fact 11%, it seems that by Piketty's theory we will be continuing a period of diminishing inequality, if we can muster a growth rate of 0.43%. Piketty himself estimates (worldwide) growth to be 3.3% (in Figure 10-10). So if it is to be believed, Piketty's formulation r > g indicates precisely the opposite of what he predicts: wealth inequality is destined to decrease.

I for one don't think that will happen either, at least not by virtue of Piketty's theory. That's because Piketty's theory doesn't make sense anyways; it has causation backwards. Savings do not accumulate because of low growth rates; growth occurs because of savings and capital investment (and many other things besides).

If there was no economic growth, industry itself (in the aggregate) would also not grow, from the simple fact that no one is more productive than the previous year nor do people have the money to buy anything more than the current output level supports. As Keynesians have been claiming for decades, supply can't create its own demand. And if it could, then you would have positive economic growth. The fact that you don't means that the current aggregate level of capital is not increasing. That doesn't mean that there are no returns to investment. People still invest in companies, and companies still make profits. But in the aggregate, these companies do not grow, because by definition they are producing the same level of output. Widget Maker operates fifty-seven stores, just like it did last year, makes some level of profit, replaces capital equipment that is worn out, and returns the rest as dividends to its shareholders.

In other words, in a no-growth economy there are no economy-wide net retained earnings that are invested in new capital stock. In some industries there would be new capital stock, while in others capital stock would be liquidated. But the aggregate capital stock would be unchanged, despite savings and financial investment. If you did have aggregate net retained earnings, then you'd have capital gains equivalent to the amount of additional capital stock that could be created by these earnings, and that additional stock would mean commensurate additional growth. The increase in the net capital stock, what Piketty claims r is, creates new productive capacity that adds to economic output, i.e. it creates economic growth.

Without stating the above, but perhaps anticipating it, Piketty looks for a way out. With zero growth, aggregate capital will not increase unless industry invests in (non-maintenance) capital anyways, despite its inability to be more productive. That is, as Piketty tells it, unless the capital-to-income ratio (his "Second Fundamental Law of Capitalism"), a ratio of the savings rate over the output growth rate, increases over time. This formulation has been debunked elsewhere, notably by a paper, Is Piketty's \Second Law of Capitalism" Fundamental? published by Per Krusell and Tony Smith of the NBER. It shows conclusively in theory and empirics what makes sense to all students of economics: the interest rate is not a given, but rather determined by supply and demand factors known to savers and investors, and savings and investment will thus respond to a lack of increased demand (due to stunted population growth, so forth) by not contributing increased supply. To think that an average corporation in a no-growth economy will pay 5% interest on capital they can't even invest is ludicrous.

Just as the balance of investment holdings is not determined solely by their yield, the balance of labor and capital in an economy is not determined solely by their return rates. The interest rate is as much a function of people's need for capital accumulation as capital accumulation is a function of the interest rate.

The real value of Piketty's formulation is to remind us that investment in capital is intimately tied to economic growth. Economic growth demands investment in new capital, and while taxes on capital may make economists feel like they are solving problems, they will surely impede economic growth. And the real danger of Piketty's policy prescriptions is that taxes on capital reduce economic growth, causing adherents of his theory to call for even greater taxes on capital. The result of such a vicious cycle may increase inequality or it may decrease inequality. But it will surely hurt economies and leave everyone worse off.


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