Wednesday, November 28, 2012
Inside the Mind of Mankiw: A Dialogue
Over the weekend Greg Mankiw was moved once again to speak out against increases in the top marginal income tax rate. Rather than threatening a massive withdrawal of human capital, Mankiw took a different approach. Instead he created an imaginary internal dialogue between a "moderate" Obama and a "liberal" Obama. I've always enjoyed this type of dramatic device, so I thought it'd be fun to imagine the dialogue between "libertarian advocate" Greg Mankiw and "rational actor" Greg Mankiw. Here we go!
LIBERTARIAN MANKIW: Oh boy -- it looks like the top tax brackets are about to get jacked up! This is terrible!
RATIONAL ACTOR MANKIW: Just like in 2008 and 2010, when we predicted that the John Galts of the world would deprive the world of their talents? Wake me in another two years.
LIB: But this time it might actually happen! Obama is talking tough, Boehner is showing signs of weakness, and most people actually think it's not a bad idea!
RAT: Sorry, but I can't get too worked up over this. Maybe we can just run that 2010 column again.
LIB: For a third time? I'm not sure it was so persuasive the first two times. I think we need a new strategy.
RAT: The Times doesn't pay us nearly enough for these columns. I don't get out of bed for less than $10,000.
LIB: But this is our chance to shape the minds of America!
RAT: You mean the minds of Times readers. These are folks who advocate for higher taxes while reading about "reasonably priced" Massimo Dutti fashions.
LIB: Yes, precisely! They're torn between an ideological desire for higher tax rates and a personal desire to have more money.
RAT: Everyone wants more money.
LIB: Exactly! So we have to come up with some excuse to get them off this line in the sand about raising the marginal rates for incomes over $250,000. Obama doesn't really want to raise taxes, either -- he wants some sort of Grand Bargain that shows compromise and bipartisanship. How do we do this?
RAT: This sounds too hard. Are you sure we can't three-peat?
LIB: Hmmm. We just need some literary device . . . .
RAT: How about a column set in the future, designed as a warning about the present? Those always have the subtlety of a sledgehammer.
LIB: We did that already.
RAT: I know -- but when has that stopped us?
LIB: Hmmm. . . . If I could only get inside Obama's mind, and know what would be most convincing . . . . That's it!
LIB: I'll write a column as if I'm inside Obama's mind!
RAT: But what do you know about Obama? You were an advisor to Romney.
LIB: It's a dramatic device! I can put words in his mouth, and they'll sound like he's saying them.
RAT: So we're going to have the President parrot our economic policies? Sounds convincing.
LIB: Don't be sarcastic. We'll have a "moderate" Obama who parrots our positions. But then we'll have a "liberal" Obama who represents the left.
RAT: You mean a caricature to which we can attribute extreme positions? Like a desire to raise taxes to 73%? To create a European-style safety net? To push the country into recession? To make the country more like California and . . . France?!?
LIB: You betcha! The "moderate" positions will look positively benign in comparison.
RAT: But the moderate policies will just be a warmed-over version on Romnomics, no?
LIB: Sure. What's your point?
RAT: I'm sure that'll be convincing. I better go make some real money before the tax rates go up. I'm extremely sensitive to those, you know. Oh, one last thing -- are you sure this won't sound like a stilted version of a sixth-grade play?
LIB: Well, these imagined dialogues are tough to pull off. I'll do my best. Let's see --"It’s fun to make the plutocrats squirm." That's great -- liberal Obama would totally say something like that.
RAT: Hey, if this thing actually does take off, make sure we own the rights to these characters. I can see "liberal and moderate Obama" T-shirts, mugs, salt and pepper shakers . . . . Can we start a couple Twitter feeds?
LIB: "Are you nuts? I don’t want to become France." You get 'em, moderate Obama!
Wednesday, May 16, 2012
The Missing Argument on the Tax Anti-Injunction Act
The following is a guest post from Yale 3L, Daniel Hemel.
During the March oral arguments in the health care cases, the Justices seemed skeptical of the claim that the individual mandate was a “tax” for the purposes of the Tax Anti-Injunction Act (TAIA). (If the Justices find that the Tax Anti-Injunction Act applies, they presumably would withhold a ruling on the constitutional questions.) The Tax Anti-Injunction Act states that unless one of the enumerated exceptions applies, “no suit for the purpose of restraining the assessment or collection of any tax shall be maintained in any court by any person.” But as Justice Breyer said of the individual mandate: “Now, here, Congress has nowhere used the word ‘tax.’ What it says is penalty. . . . And so why is this a tax?” His colleagues on the Court were similarly unwilling to countenance the claim that the penalty provision of the Patient Protection and Affordable Care Act (ACA) was a “tax” for the purposes of the TAIA.
Yet while the oral arguments focused on whether the individual mandate is a tax for the purposes of the TAIA, no one seems to have remembered that the lawsuit in question—Florida v. HHS—is not simply a suit to restrain the enforcement of the individual mandate. The complaint in Florida v. HHS “requests that the Court . . . [d]eclare the Patient Protection and Affordable Care Act, as amended, to be unconstitutional.” The plaintiffs explicitly argue that the mandate is not severable from the rest of the Act, and thus that “[t]he Court should hold the ACA invalid in its entirety.”
Rather, the relevant question is whether anything in the Patient Protection and Affordable Care Act meets the TAIA”s definition of a “tax.” If it does, then Florida v. HHS is a “suit for the purposes of restraining the assessment or collection of a tax,” since it is a suit for the purposes of restraining the enforcement of every single provision in the ACA.
So for TAIA purposes, the relevant question is not whether the individual mandate meets the TAIA’s definition of a “tax.”
This latter question is not a terribly difficult one. Section 1402 of the ACA, entitled “Unearned Income Medicare Contribution,” imposes a 3.8% tax on the non-wage income of high-income individuals. It is clearly a tax; indeed, it contains the words “there is hereby imposed . . . a tax.” Section 1405 imposes a 2.3% tax on the sale of certain medical devices (again, using the magic words “[t]here is hereby imposed . . . a tax”). Section 1409 codifies the common-law “economic substance doctrine” and imposes penalties for purely tax-motivated transactions. Congress has unambiguously called these provisions “taxes,” and the plaintiffs in Florida v. HHS have unambiguously sought to restrain their assessment and collection.
Even if the Court rejects the plaintiffs’ claim that the individual mandate is inseverable from the remainder of the Affordable Care Act, that doesn’t save their suit from the TAIA. As the Solicitor General argued, and as at least some of the Justices seemed willing to accept, the TAIA is a jurisdictional statute. When the Court decides whether it has subject matter jurisdiction over a case, it must “take the allegations of the complaint as true.” Warth v. Seldin, 422 U.S. 490, 502 (1975). If, as the plaintiffs allege, the whole Act is unconstitutional, then the challenge to the individual mandate cannot be separated from the challenge to the rest of the ACA (including the sections that clearly impose taxes). In other words, taking the allegations of the complaint as true, a ruling for the plaintiffs in Florida v. HHS would restrain the assessment and collection of several sections that walk like a tax and talk like a tax. According to this logic, the Court should throw the suit out on TAIA grounds regardless of whether it finds that the individual mandate is itself a tax.
It may be too late in the day to revive the argument that the TAIA bars a ruling on the merits of the constitutional challenges. And even if the Court did buy the argument laid out here, a future plaintiff could circumvent the TAIA by styling her suit as a challenge to the individual mandate specifically, rather than the Affordable Care Act as a whole. But given that the plaintiffs in Florida v. HHS decided to shoot for the moon and seek the invalidation of the Affordable Care Act in toto, it is difficult to see how their suit survives the TAIA. The irony is that, because the plaintiffs in Florida v. HHS asked the Court for too much, the TAIA may prevent them from receiving anything at all.
Monday, January 02, 2012
Is Being Endorsed an Endorsement?
Some prawfs readers may have heard of this fellow, Newt Gingrich. It seems that in some circles, having your university praised in glowing terms by Mr. Gingrich is seen as a splended promotional opportunity, perhaps surpassing even the efficacy of an enormous inflatable gorilla (warning:audio) or a 30-minute late-night infomercial in commanding the consumer's attention. And evidently this endorsement is especially valuable in a state where that gentleman is currently the star of roughly 65% of the non-programmed television time (Iowa). Since universities such as the one in question are usually 501(c)(3) organizations, and are therefore absolutely prohibited from engaging in "electioneering" activity, you might ask, "Hey, is that legal?" (Or, as one recent report put it, "I hope they have good tax lawyers.")
In realist terms, the answer turns out to be likely "yes" on both fronts (they have good lawyers, and therefore it is effectively legal). Here's the deal. The IRS has issued a ruling setting out examples of activity that would either definitely cross the line or would definitely be ok. For example, it's kosher for a rabbi to invite a candidate to visit a shul, as long as the visit is in the candidate's "individual capacity" (I guess she has to leave her campaign button at the door?) and the rabbi doesn't mention the candidate's candidacy to others during official temple events. So we have existing law that the mere imprimatur of associating candidate with organization, albeit indirectly, is ok.
Were I a lawyer for Liberty, I'd argue that Newt's commercial "on their behalf" is a sort of digital version of the kosher visit: they're not necessarily endorsing him. Of course, there's the remarkable coincidence that this ad runs during the Iowa primary. The IRS guidance does take into account the possibility that innocent-seeming statements can take on different meaning when they're made in the heat of a campaign.
But -- and here's the brilliance, I think, of the lawyering. Given that the ad falls into such a gray area, any enforcement action is going to leave the IRS open to charges of playing politics. If Newt wins the primary, can the IRS really bring this action before Nov. 2012 without a firestorm? And after that, if any of Newt's rivals, red or blue, is sitting in the White House, won't an enforcement action look like payback? The legal arguments in defense of running the ad certainly aren't airtight. But, given that dynamic in the background, they're good enough to make the Service think a long, long time before they open an auduit. And Liberty's lawyers are good enough to know it.
So, if you didn't know anything about the regulation of nonprofit politics, and were wondering, "Hey, is it like one of those cool fractals where it has infinite surface area but zero actual volume?" The answer is yes.
Monday, July 18, 2011
What will Congress do regarding the tax treatment of punitive damages?
For the last couple years, I've been interested in the proper tax treatment of punitive damages as a consequence of my collaboration with my erstwhile colleague, Gregg Polsky, who's now at UNC. There have been some developments on this front that should be of interest to both practitioners and legal academics interested in litigation, tax, and torts. And that's why I'm curious, as the title of the post suggests, what Congress will do. To begin, Gregg and I wrote a piece that came out last fall in which we argued that (1) plaintiffs should be able to introduce evidence to the jury or judge regarding the marginal tax rate associated with business defendants in punitive damages cases so as to allow a tax-informed "gross-up" of punitive damages, and (2) that the tax-informed jury/judge (with an ability to gross-up) was a better solution to "the insufficient sting" concern than the option touted by President Obama, which was simply to remove the ability of businesses to deduct payments of punitive damages as ordinary business expenses. The arguments we made in this piece were largely analytic and prescriptive given the constraints and goals established by the current doctrine as we saw it. Importantly, we think the arguments of our paper should trigger lots more interest by plaintiffs' tort lawyers, since they now have a set of tools that can increase the recovery for their clients in a variety of tort cases involving malicious or reckless misconduct.* In response to these arguments, we were delighted to see that Professor Larry Zelenak from Duke and Paul Mogin (from Williams and Connolly) wrote responses to our piece for Virginia Law Review's online companion, In Brief. Gregg and I now have a working draft of our reply up on SSRN, entitled, Revisiting the Taxation of Punitive Damages. Thus, in an Escheresque-turn, we now invite comments on our comments on their comments on our paper :-)
On a related note, I earlier this year published a companion paper that took a more expressly normative perspective on the optimal design of the tax treatment of punitive damages. That piece -- Overcoming Tradeoffs in the Taxation of Punitive Damages -- is now out, and I've just recently put up a final version on SSRN. In that article, I explained that the tradeoffs created under current law between ostensibly unnecessary plaintiff enrichment and proper tax incentives for business defendants could be overcome by implementing the punitive damages reforms of the sort I have recommended elsewhere. These reforms would disaggregate the purposes of punitive damages more clearly so that the optimal deterrence function and the victim vindication function could be separated cleanly from the function of vindicating the public's interest in meting out a retributive intermediate civil sanction. More specifically, I argued that the proper tax treatment of the punitive damages (with respect to whether the defendant's payments should be deductible or not) will depend on what goals states have for their punitive damages regimes, and what goals the federal government has with respect to subsidizing those regimes. Now, if I were you, I'd be wondering, what's Markel know about tax? That's not an unsound intuition. But I had a lot of help from Gregg and a gaggle of other tax prawfs, and my hope is that this piece will be of interest to anyone intent on understanding the full tax dimensions of punitive damages design specifically (and penalties more generally), especially and insofar as these penalties relate to optimal deterrence, victim-vindication, or public-interested retributive justice.
Last, Gregg and I have just seen one of Congress' Joint Committee on Taxation reports for 2011, and we noticed that the Committee has acknowledged our argument, but hasn't really grappled with its implications fully. So, at this point, we are waiting to see what happens. Our hope is that the Obama Administration and folks in Congress (and the relevant lobbyists too!) read our work and realize that a repeal of the deductibility of punitive damages will interfere with both the appropriate punishment of business defendants and the states' choices to run their tort system in a way that achieves the goals they intend to set out for themselves.
* Here's how a friend of mine described to his partners at a prominent class action firm the gist of the claim Gregg and I advance with respect to settlement dynamics and the benefits of our argument.
Thursday, June 30, 2011
A Few Words About Judge Sutton's Tax Analysis
I'm going to extend my (ahem) mandate by talking a little bit about the health care litigation.
I largely admire Judge Sutton's concurring opinion in the Sixth Circuit's Affordable Care Act decision. He clearly has reservations about the law, but wrestles with them in what looks to be an intellectually honest way. I thought he was wrong, though, to conclude that the statute couldn't be justified under the taxing power. As he notes, "Few doubt that Congress could pass an equally coercive law under its taxing power by imposing a healthcare tax on everyone and freeing them from the tax if they purchased health insurance." (slip op. at 51) But he rejects the taxing-power theory because, he claims, Congress didn't call the enactment a tax. (Id. at 28).
Unusually for courts that have considered this point, Judge Sutton gives evidence of having actually read the statute. He notes that the word "tax" appears a number of other times in the section imposing additional costs on those who fail to buy insurance. (slip op. at 30). From this he infers that Congress must have meant to distinguish between taxes and what it called a "penalty." But most of these other appearances of "tax," as well as other usages such as "taxpayer" and "taxable year," are clearly intended to refer to the penalty. For example, the amount of the "penalty" is determined by taking a percentage of the "taxpayer's household income for the taxable year." Who is the taxpayer here, except the person who must pay the price for failing to buy insurance?
In any event, given the perfect economic equivalence between the ACA and the provision Sutton says would easily be constitutional, one is left to wonder why formalism must prevail. I've argued not only that it shouldn't, but that the Supreme Court has actually held it doesn't. (Edit): Even better, read Akhil Amar on this point.
Monday, April 04, 2011
Arizona Tax Standing Case and the Kagan dissent
This case is within Rick Garnett's baliwick and if he is torn, as his post indicates, far be it from me to offer any wisdom. But I do commend to you Justice Kagan's remarkably coherent, rigorous, and lawlerly dissent. Kennedy v. Kagan . . . "it's on," the wrestling referee might say!
The insistence by the newest justice that there is an equivalence between an appropriation and a tax credit (captured shrewedly by Harvard's Stanley Surrey in his original conception of tax expenditures) seems accurate. There may well be compelling policy arguments to configure a difference for the purpose of taxpayer standing in Establishment clause jurisprudence, but EK seems sharply persuasive in suggesting that AK hasn't conjured up much in his florid (!) majority opinion.
In any case, there's just a lot of stuff packed into this well-written dissent. There is an interesting exegesis on the purposes behind state tax policymaking; there are some meaningful comments about the survivability of Flast; there are some lucid notes about Madison and the concerns about expropriation in the religious context; and there are hard-hitting, though mannerly, criticisms of the majority's reasoning. One should be cautious about tea leave reading in the middle part of a justice's freshman year I suppose, but this well-composed dissent in (perhaps) an otherwise unremarkable taxpayer standing controversy intrigues nonetheless.
Monday, February 28, 2011
Modern federalism, as it is practiced in U.S. courts, depends heavily on untested empirical propositions. For instance, as everyone knows, the Supreme Court has swung back and forth a few times on whether states need some kind of judicial protection to preserve their policy autonomy, or whether instead the political process is good enough. Similarly, the Court seems to lean more and more towards Justice Thomas' view that courts should not enforce the "dormant" commerce clause, and should leave protection of the national open market to Congress, apparently on the assumption that Congress would do a better job.
These assumptions are testable, but until now no one has tested them. I have. And I find that political self-interest seems to outweigh the influence of states at least in situations when the choice between the two is presented most starkly: when Congress is deciding whether to grant a break from state taxation to a special-interest group.
I started the study intending just to test the Justice Thomas argument (also presented in the academic liteature by folks like Marty Redish, David Super, and Ed Zelinsky): that Congress can be trusted to oversee state taxing power, and so the courts should just get out of the way. This seemed implausible to me for two reasons: 1. granting a *state* tax cut is costless (absent some state lobbying influence) for federal officials, and so we should expect that the feds will not fully internalize the costs of the cuts; and 2. to the extent Congress believes that there is "vertical tax competition" -- that is, if it's harder for the feds to tax if state taxes are already high -- then reducing state taxes actually benefits Congress even if there are no other rents to be earned.
I then realized that in essence what I was looking at was an unfunded mandate. In both "commandeering" and federal control of state taxation, the federal official can obtain political rents from a constituency without incurring any budget costs for herself. (Many forms of preemption also have a similar political-economy dynamic, as rick h. has described). So if I could test the tax theory, I could also test theories about whether the "political safeguards of federalism" work against commandeering and other actions that look like it.
So what I did was find, read, and then (wtih some help from my RA's) code every federal statute Congress has ever enacted affecting state taxing power. This took a while. Like, two years. Then I gathered data for some controls. When I was done, I regressed the changes in state taxing authority on a variety of factors, including a variable indicating whether a concentrated political group stood to benefit, and another one indicating whether the state tax in question fell on an indian tribe or its property.
Both of these, I found, were strongly statistically significant. Conditional on enactment, if a state tax affected a special interest, congress was a lot more likely to restrict that tax. And, if the state tax affected an indian tribe, congress was more likely to *expand* the state's authority. There are a few stories one can tell about that, but I argue this supports my "vertical tax competition" argument: indian tribes are exempt from federal tax (arguably by the terms of the Constitution itself), and so they represent one of the few sources of income over which states and the feds do not compete. And whaddya know? Congress is a lot more generous when states try to tax tribes.
Interpreting these findings is complicated, and there's an extensive discussion of that in the paper. Even if you totally buy my findings, it still doesn't necessarily follow that the "political safeguards" theory is wrong as a general matter -- I look at only a tiny sliver of all federalism-related legislation. And even as it pertains to commandeering, all I show is that the safeguards don't work -- there are certainly arguments that that isn't necessarily a bad thing (arguments with which I largely agree). But I think it's helpful to move on to those arguments, rather than simply slinging dueling empirical assumptions past one another.
Comments, questions, and suggestions are very welcome.
Thursday, February 24, 2011
Lessons for Health Care from the UI Experience
When I started out in my efforts to alleviate sleep-debt across the blog-reading world, I promised that my boring unemployment posts would have an exciting payoff in lessons for the affordable care act. Well, get your lunesta, my friends. Because one lesson from UI is that the ACA is obviously constitutional. When the UI system of taxing employers to twist the arms of their local state officials was challenged in 1937, Cardozo, famously, responded that to condemn conditional taxation as "coercive" would be to plunge law into "endless difficulties."
That was a typically glib Cardozoism, but there was a more substantive analysis, too. Cardozo argued that, left on their own, states could never implement UI because of the threat of competition with neighboring states. So the court ultimately held that, even if there were some limits on what the federal government could do with its conditional taxing power, enacting UI surely fell within them: without federal action, the race to the bottom would cripple state efforts, and ultimately the economy. Swap some letters around -- say, "ACA" for "UI," and you're describing the federal tax on folks who don't buy insurance, as I've argued.
After the jump, lessons for the relationship between the states and the feds in administering the new health care system.
For obscure reasons that probably have something to do with making the legislation look somewhat more centrist, the core of the ACA is a cooperative venture between states and the federal government. States continue to regulate health insurance and insurance providers, and administer "exchanges" where those who do not have other forms of insurance can purchase at a group rate. Folks who can't afford that rate, either, will get subsidies from the federal government.
It's hard to see anywhere in this system where states have incentives to hold down costs. As with UI, states have federal insurance against rising costs associated with their other policy choices. The legislation contains a basket of great experiments to lower costs (as Atul Gawande and more recently Krugman have written about), but it looks for now like we shouldn't expect states to jump on board.
Arguably, that incentive structure is the price to be paid for higher enrollment: if states bore some of the costs of paying for new enrollees, they might be disinclined to push to sign up people who are now uninsured. But that's a false choice, I think. There are ways to get states to internalize insurance costs without deterring enrollment. For example, why not increase the federal subsidy for other state health costs for Medicaid families (the "FMAP") in states that reduce costs per patient in the exchange?
States can be important experimental partners, but the UI story tells us that gains from experimentation can be swamped by other factors if we're not careful.
Monday, February 21, 2011
Did UI Funding Contribute to the Recession?
In response to (cough) overwhelming demand, coverage of the unemployment insurance system will now resume. The Great Recession has staggered state UI funds; projections are that more than 30 will go broke and have to turn to the federal government for aid. As I argued last time, it's not clear that in itself is a bad thing. But it's possible that the system of UI financing needlessly increased the costs to the feds, and maybe even made the recession deeper than it would have been. The new Obama administration proposal arguably worsens the problem.
Below the fold: um, we should fix that.
State incentives both to under-save and also to take too little care with their own economic management derive from the moral hazard created by the federal lending pool. If you've already forgotten, the way UI works is that both states and feds tax state employers a percentage of the salaries they pay. States use these monies to fund benefits paid out to unemployed workers, while the feds use their portion, among other things, to make loans to states whose accumulated balances are insufficient to meet demand. In effect, the state is promised an easy bailout if it fails to save enough to cover unemployment claims. So why not take bigger risks, knowing that the feds will clean up the mess? And, once bad events happen, why undertake costly efforts to mitigate the downside?
Typically, the way insurers curb these kinds of moral hazards costs is with co-pays and deductibles. The UI system has a kind of co-pay system, but it turns out to be incredibly weak. If states fail to repay their federal loans within 2 years, their businesses can get hit with an additional federal tax of $21 per employee per year. That's less than 10% of the average tax each employer pays to the feds annually. And it won't hit until years after the risky behavior -- possibly well after the risk-taking official has left office.
There is some rough qualititative evidence to suggest that this $21 figure is way too low, and is encouraging growth of the moral hazard problem. The penalty has been $21 since 1983. Over time, as the real value of the penalty has declined, state fund balances have declined, while incidents of state borrowing and states triggering federal penalties have increased. As I say, this is just qualitative evidence, since obviously to make this point more rigorously we'd want to control for economic conditions and so on. (Watch this space next year for reports on how that turns out...) But I think what we have is pretty suggestive.
So, step one to reforming UI insurance is to raise the penalty, and to index it. The administration's proposal (accidentally?) increases the penalty amount, by increasing the federal "taxable amount" that all federal taxes, including the penalty, are based on. But it doesn't index that amount, which based on what I've just said seems like a mistake.
Another problem is that the proposal on the table would extend the period for state repayments without penalty, which again is a form of bailout. If we're going to do things that increase the likelihood of moral hazard, we should also put in place reforms that would tend to counteract it.
Monday, January 31, 2011
Quick Reax to the FL Dist. Ct. Health Care Ruling
Unsurprisingly to those who read its earlier opinion, the federal district court in Florida has held that portions of the Affordable Care Act are unconstitutional. Also unsurprisingly to those who may recall my blogging last year on this subject, I think the court's all wet.
To begin with, the court asserts again (at p. 39) the fallacy that the additional tax on those who do not purchase health insurance is "unprecedented." As I explain in a new draft (page 8, at the top of Part III), that just isn't remotely true; there are literally hundreds of other statutes that do exactly what the ACA does, which is to impose a higher tax on someone who elects not to do what Congress wants. In fact, there is already more than one statute that imposes higher taxes on folks who don't buy insurance. While the Court claims this point isn't determinative, it is the first thing the court says in its analysis, and certainly flavors the discussion.
Things get slippery, and start to smell like over-cooked broccoli, after the jump.
As for the rest of the court's argument, basically, the whole thing is just a slippery-slope: if Congress can do this, what can't it do, etc. (p.43-56). The Court says the link between requiring an insurance purchase and other provisions of the act is just as attenuated as the link between buying broccoli and health care, and says it is "piling inference on inference." It waives aside (50-51) the government's argument that must-carry provisions collapse into death spirals with no real explanation, except to say that five things have to happen before that occurs. (But, um, those five things happen millions of times every year...) And it repeats its bizarre claim that the necessary & proper clause cannot allow Congress to enact provisions that would extend beyond what is enumerated (p.62), even though that of course makes the entire clause redundant.
To keep this short, the one point I'll make is that the ACA and its accompanying incentives to buy insurance overcome a collective action problem among states (see pp. 3-4). Thus, the ACA is easily distinguished from the court's parade of broccoli horribles; even if one thought that the federal government should deal only with uniquely national problems, the ACA easily meets that standard.
Friday, December 17, 2010
Nation Braces for Productivity Boom from Randian Economists
Since the election of President Obama, Americans have lived with the fear that libertarian economists across the country would no longer have the same incentives to write, consult, or otherwise contribute to the economy. The president's promise to end the Bush-era tax cuts for the wealthy, along with the expiration of restrictions on the estate tax, had raised concerns that these uber-productive members of society would take their talents and withdraw from society. However, with both Houses passing the $850 billion "stimulating taxes" bill and President Obama expected to sign it into law, economists are now looking forward to a boom in their own productivity.
"Certainly, we can now expect more movies, novels, concerts, and even orthodontia," predicted one Randian economist, who asked not to be named because he was embarrassed not to be working that very moment. "But we can expect the highest productivity jump from economists. We are the most sensitive to the slightest change in incentives, so from now on it's Katy bar the door!"
It was unclear what immediate effects the change in productivity will have on such economic markers as GDP, the trade deficit, or the unemployment rate. But the nation's mood is expected to brighten as this talented group of thinkers begins to participate in the labor market to their fullest economic ability.
"The possibilities are endless," said the economist. "It could be giving a talk, writing an article, editing a journal, and so on. These contributions will have a huge impact on the economy. We may even write original op-ed pieces."
One group, however, had mixed feelings about the passage of the tax compromise. Although children of Randian economists can now look forward to a larger inheritance, they no longer expect to spend more time playing with their parents. "My father said he was going to build a tree fort with us after Obama was elected," said one child who asked for anonymity, in fear of getting a time-out if named. "But just yesterday, he said his incentives had changed. At least the taxes he takes out of my allowance won't go up, either."
Tuesday, December 14, 2010
Taxes and Marginal Utility
In fact, the desire for higher taxes often seems to justify itself solely by the motive to level down. . . . . For all the talk about "fairness," Mr. Obama, Mr. Sanders and their fellow Democrats never really tell us what the magic number for fairness is. Is it 35% of income? 50%? 75%? Though they never commit themselves to an actual number, in each and every case we get the same answer: Taxes should be higher than they are now, for their own sake.
... [T]he politics of higher taxes now rests almost purely on stoking resentment. If Republicans hope to regain the moral high ground, they need to remind citizens that the argument for lower taxes and government that lives within its means is not an argument about numbers or federal revenues. It's an argument about the ability of all our citizens to realize their dreams and opportunities.
Why is anyone who suggests higher taxes on income over $250,000 "stoking class warfare"? Isn't it a matter of simple economics?One of the basic principles of economics is diminishing marginal utility. Marginal utility represents the change in utility from the increase in consumption of a particular good or service. As you get more and more of a good, your marginal utility with each increment generally decreases. Eventually, you can have so much that an additional increment adds nothing to your overall utility. Money is not a good or service, but it represents the ability to obtain goods and services. And thus one would expect money to have diminishing marginal utility as well. The more money you have, the less utility you get from each addition dollar.
So if you're constructing a tax code, it makes sense to keep this in mind. The lower the income, the higher the utility each dollar represents to that individual. Since the government is indifferent as to which dollar it takes, it makes sense to take more money that has a lower utility to the taxpayer. Doesn't $100 mean something different to someone who makes $30,000, as opposed to someone who make $30,000,000? Isn't that what the parable of the widow's mite is all about?
There are reasons not to have higher taxes on higher income -- they may hurt productivity or investment. But to claim that their only justification is class warfare ignores some basic economics.
UPDATE: Sarah Lawsky has a paper that challenges the assumption of diminishing marginal utility. Here's an abstract, which claims: "while some evidence does support declining marginal utility, other evidence suggests that a significant number of people actually experience increasing marginal utility, at least over some range of wealth." I'm curious about this evidence. The paper is apparently forthcoming in Minn. L. Rev., but I could not find a copy on the Interwebs. If anyone has any evidence contra diminishing marginal utility, please chime in.
Thursday, December 09, 2010
Why Allowing States to Go Bankrupt is a Horrible Idea
At the end of November, an article by David Skeel in the Weekly Standard got many conservative folks a-chattering about letting states go into bankruptcy. The new meme apparently has already had policy ramifications, as James Pethokoukis reports:
Congressional Republicans appear to be quietly but methodically executing a plan that would a) avoid a federal bailout of spendthrift states and b) cripple public employee unions by pushing cash-strapped states such as California and Illinois to declare bankruptcy. This may be the biggest political battle in Washington, my Capitol Hill sources tell me, of 2011.
That’s why the most intriguing aspect of President Barack Obama’s tax deal with Republicans is what the compromise fails to include — a provision to continue the Build America Bonds program. BABs now account for more than 20 percent of new debt sold by states and local governments thanks to a federal rebate equal to 35 percent of interest costs on the bonds. The subsidy program ends on Dec. 31. And my Reuters colleagues report that a GOP congressional aide said Republicans “have a very firm line on BABS — we are not going to allow them to be included.”
In short, the lack of a BAB program would make it harder for states to borrow to cover a $140 billion budgetary shortfall next year, as estimated by the Center for Budget and Policy Priorities. The long-term numbers are even scarier. Estimates of states’ unfunded liabilities to pay for retiree benefits range from $750 billion to more than $3 trillion.
It's clear that states like California and Illinois are much closer to financial default than anytime in the recent past. But allowing states to go bankrupt -- i.e., creating a mechanism which would allow a court to restructure a state's future financial commitments -- is a bad idea with terrible consequences.Why is bankruptcy necessary? As Skeel makes clear throughout the article, the main culprits are overpaid public employees:
California—recently dubbed the “Lindsay Lohan of states” in the Wall Street Journal—has a deficit that could reach $25.4 billion next year, and Illinois’s deficit for the 2011 fiscal year may be in the neighborhood of $15 billion. There is little evidence that either state has a recipe for bringing down its runaway expenses, a large portion of which are wages and benefits owed to public employees. . . .
With liquidation off the table, the effectiveness of state bankruptcy would depend a great deal on the state’s willingness to play hardball with its creditors. The principal candidates for restructuring in states like California or Illinois are the state’s bonds and its contracts with public employees. . . .
California’s most important creditors are its bondholders and its unionized public employees. . . .
Are public employees overpaid? Well, it depends what you mean. If you mean that they are paid more than the states can afford, given the current tax revenue, the answer seems to be "yes" in many states. But are they paid more than they negotiated? No. Are they paid more than comparable private employees? The evidence is mixed. For example, look at this article in the Oregonian about public employee pay:
Yet one fundamental question underlying the debate is whether Oregon's public employees are overpaid.
The objective answer is generally no. Not yet anyway.
It's true that on average, state employees make more than private-sector workers. But the average says more about the professional-type jobs dominating the public work force, and the vast number of unskilled, low-paying jobs in the private sector, than it does about state pay practices.
When the analysis focuses on comparable jobs and education levels, the total compensation of state employees is slightly less than their private-sector counterparts and slightly more than public employees at other levels of government and in neighboring states. That conclusion is consistent whether the data comes from the state's compensation surveys, academic and private-sector analyses, or federal data.
Moreover, look at this graph from the Oregonian:
The highest point on the graph -- the 2004 pay and benefits to the average employee -- is $61,301. That's the highest point on the graph. Average 2009 salary is $41,200. The average California public employee salary is $57, 536. By the way, click on that link and you'll see that the five highest paid public employees are two head coaches (each making over $2 million) and three med school professors.
So yeah, let's allow states to go bankrupt. The bondholders would likely get killed -- and who knows what the interest rates on state bonds would go up to. Skeel is sanguine: "The bond market wouldn’t be happy with a California bankruptcy, but it is already beginning to take account of the possibility of a default." Um -- I think the possibility of bondholders losing money is MUCH greater once Congress allows states to go bankrupt, and I think the bond market would "take account" of that much differently. Oh -- "And bondholders can’t pull their funding the way a bank’s short-term lenders or derivatives creditors can." So that's nice -- they're trapped like rats, so what they do about it doesn't really matter. And state bondholders are usually older folks who need "safer" holdings, but I guess that only means they won't be around so long to complain about it!
What about that other group of creditors?
As for California’s public employees, there is little reason to suspect they will be running anywhere.
Do I hear a little chuckling after that?
If the public thinks it's overpaying its public employees, there's an easy remedy -- elect representatives who won't pay as much. Of course, this is when the same folks who defend Citizens United will bemoan the awesome political power of public unions -- like this, perhaps:
During his recent campaign, Governor-elect Jerry Brown promised to take a hard look at California’s out-of-control pension costs. But it is difficult to imagine Brown taking a tough stance with the unions. Even in his reincarnation as a sensible politician who has left his Governor Moonbeam days behind, Brown depends heavily on labor support. He doesn’t seem likely to bring the gravy train to an end, or even to slow it down much.
So the only answer is to cut off federal assistance. And rather than raising taxes or slashing expenses, the current leadership of states like California and Illinois can take the state into bankruptcy and tell its bondholders and employees to go jump off a pier.
I'll give Skeel one point for consistency -- he was against the AIG and Bear Stearns bailouts; he thought they should have gone bankrupt, too. But they didn't. To me, the case for a federal bailout of a state is much stronger than a bailout of a financial institution. The state isn't going anywhere. The feds can get their money back in a variety of ways. And whereas a bankrupt business cannot get more money out of non-existent customers, a state can always raise taxes or even sell off public holdings. It may not be pretty, but the money is there.
One final note -- a point that shows the absurdity of where we are. If this federal government bails out AIG so that Goldman can get a $1 for every $1, but then lets states restructure their debts so that a 65-year-old ex-cop get $0.25 on the dollar, there may in fact be rioting in the streets. And that would be bad for the economy, no?
UPDATE: Felix Salmon also thinks the bond market would freak out.
Tuesday, December 07, 2010
Obama's Harriet Miers Moment
The modern legal blogosphere was born in 2005 when President Bush nominated Harriet Miers for the Supreme Court. (In fact, I composed a ditty about it.) The outrage from bloggers -- including prominent voices in the legal blogosphere -- drove her nomination from a sure thing to a footnote in history. It's hard to remember now, but at the time the nomination seemed destined for success with the support of both moderates and conservatives. And those conservatives who initially spoke out against it were harshly criticized for turning on the President.
One of the most prominent conservative law bloggers who opposed Miers' nomination was Stephen Bainbridge. The good professor recently had occasion to reflect on the episode:
In addition to being a highlight of my blogging career, it was the straw that broke this particular camel's back when it came to George Bush. It was the moment I shifted from reluctant and disgruntled supporter to hater. . . .
It wasn't the wolves of Washington that stopped Miers. The GOP establishment would have gone along if it hadn't been for a grass roots rebellion. It was the base that bucked first. Only after the base blew up did the establishment turn on Miers. Indeed, establishment figures like Hewitt kept their lips firmly attached to Bush's butt on this issue (as with so much else) to the very end.
I think this proposed tax compromise might be President Obama's Harriet Miers moment.
Here's my narrative: a presidency has gone from fairly broad popularity to a much narrower base of support -- primarily the base. The president has had legislative successes, but he's suffered through various difficulties and his approval ratings, especially with independents, are down. He proposes something that seems like a move to the middle -- a conciliatory step designed to get a wide swath of support. But instead of acting as a compromise to assuage independents and the other party, it instead comes across as a crass move, a cynical play that sells out core principles. The elites assume that the base will grumble but go along -- what else can they do? But the base supporters become so disenchanted that they revolt. The president is no longer loved by anyone. He's politically irrelevant, because he no longer has popular support from any quarter.
Are there differences between this compromise and the Miers nomination? Of course. I think President Obama has been significantly more successful than President Bush to this point, and he has a deeper well of good feelings to draw from. But of course, I'm an Obama supporter -- Bush supporters might have said the same thing about him in 2005. Again, it's hard to remember in retrospect, but Bush's approval ratings didn't really sink into the 30s until 2006.
In addition, it's unclear what will happen next. President Bush ended up withdrawing Miers' nomination once she had lost all support. Perhaps the same will happen with this compromise. Certainly, Congressional Democrats have the power to defeat this. But regardless, the damage has to a large extent already been done, just like it was with Miers. Progressives will no longer trust that President Obama has their principles at heart.
If the tax cuts cuts go through, unemployment gets down to 5-6%, and the President holds the line on other progressive issues, perhaps this will all be water under the bridge by the next election. But if unemployment stays at 8-10% through mid-2012 despite the tax cuts, I think the President's political fortunes will be largely sunk. As the Miers' nomination demonstrates, you can only push your base so far before you lose it.
Say No to the Bush Tax Cuts
I think this is a line of demarcation. If Democrats in the House, Senate, and White House go along with any "compromise" that includes extending the Bush tax cuts to all income classes, including those over $250K, then they've sacrificed too much. It's a baseline question -- what do you believe in? If you combine this compromise with the President's willingness to unilaterally freeze the pay of federal workers -- out of the blue, with no context -- then progressive folks have to question why they care about who is in the White House.
Of course, some will point to sentiments like this as evidence that the president is doing the right thing -- he's triangulating! he's working the middle! he's compromising to help the unemployed! But the fact remains that middle class tax cuts have passed both houses; there's just not enough in the Senate to break a filibuster. Middle-class tax cuts -- cuts limited to the middle class -- have been the backbone of every Democratic platform for the past two decades. For a Democrat-controlled House and Senate to pass the entire Bush tax cuts as essentially their last acts while in control -- well, it boggles the mind.
If this compromise passes, I fear we'll look back on this as a point at which our future changed, and not for the better. This is an opportunity to call for shared sacrifice on a number of different important goals: reducing government debt, putting entitlement programs on stronger footing, saving our planet from global warming. This compromise reeks of political expediency and short-term thinking. I'd like to hear a counterargument -- maybe I'm wrong on this. But I feel pretty strongly that this is a change for the worse.
Friday, October 22, 2010
Things You Oughta Know If You Teach Tax
As a new tax professor, you have joined an active and friendly community. Tax law professors are a diverse bunch, but because we are bound together by a love incomprehensible to many others--love of the tax code, of course--we are, I think, an unusually cohesive and supportive group.
You will find many resources for tax professors on the internet.
The most important set of tax prof internet resources is maintained by Paul Caron, of the University of Cincinnati. Because of Paul, you can:
- Read TaxProf Blog. In addition to providing constant updates on the most current tax news and tax scholarship, TaxProf Blog offers many useful links, including a list of the blogs of various tax professors and of tax colloquia around the country.
- Join the active (and almost always on point) TaxProf mailing list.
- Draw on the resources of the TaxProf exam bank.
- Examine other tax professors' syllabi in the TaxProf syllabi bank.
More generally, as you probably already know, the weekly publication Tax Notes, and its daily counterpart, Tax Notes Today, are incredible resources for tax news. The website is by subscription only, but I believe you can also access Tax Notes through Lexis (or perhaps you can ask your library to subscribe to the Tax Notes website). Tax Notes also keeps an amazing and free tax history archive, which includes many presidential tax returns. I find these to be not only fascinating browsing, but also useful for teaching.
In the real world:
You might want to check out the ABA Section of Taxation's Committee on Teaching Taxation. This active committee has nearly 300 members and sponsors various programs at ABA meetings throughout the year.
Try to sign up for the Junior Tax Scholars' Workshop, which is held every summer. The number of participants is limited, but people get tenure every year, so there are always slots opening up. You get to talk tax nonstop for two days, plus it's a great way to get to know your fellow junior tax scholars. (Here is the call for papers for the most recent workshop, and here are the two days' schedules.)
Finally, you should take every opportunity to talk to other tax professors, especially local tax profs. You might find out, for example, that tax folks in your area meet for informal lunches every now and then, or that a regional tax prof conference meets a few times a year. Or maybe there's a local coffee shop that has a special tax professor discount (or maybe not).
Anyhow, welcome to the tax professor community. As our numbers grow, we come ever closer to world domination which, is, of course, our ultimate goal. So we're happy you're on board!
(I look forward to corrections and additions in the comments.)
Tuesday, October 12, 2010
Greg Mankiw is threatening to stop working (again)
Two years ago, Greg Mankiw threatened to stop working if Obama was elected, basically on the theory that his tax rates would go up and his incentives would thereby go down. It was one of those "Going Galt" threats that looks ridiculous in retrospect. Mankiw, of course, is still a professor at Harvard. But he has stopped working in one respect -- he's recycled that old blog post into an op-ed for the New York Times. A few thoughts:
- First, if you're looking for reasons why the print media continues to lose importance and market share, compare this and this. The New York Times essentially ran a two-year-old blog post in its Sunday edition. I can't even really blame Mankiw for this -- where are the editors? In fact, I think Mankiw's op-ed is an elaborate inside joke on his part. "Two years ago, I threatened to stop working. And I made good on that threat! Of course, if people want to pay me for not working, I'm happy to accept it, even with higher taxes. I just won't do any new work."
- I'm willing to offer the Times this two-year-old blog post, which was my response to Mankiw's original post. I could summarize it here, but I'm not getting paid for it, so what's the point? You can read DeLong, Ezra Klein, etc., etc. Frankly, they take his argument far too seriously. I still think Mankiw's blog should have the banner headline, "I'M BLOGGING AWAY MY CHILDREN'S INHERITANCE."
- The man still needs a course in basic taxation. Can I recommend this one next spring, with Louis Kaplow? You can learn about tax goodies.
- Todd Henderson got a ton of grief for a blog post that was far more open and personal about the effect of the tax cuts than Mankiw's op-ed. I disagree with Todd's perspective, but at least he was being honest about his personal concerns. Mankiw should get a lot more grief for this pseudo-threat to stop making the world a better place because he will lose some small percentage of any additional income he brings in. Mankiw admits: "Paying an extra few percent in taxes wouldn’t create a lot of hardship." And yet he claims that percentage will dictate whether he gives a guest lecture, takes on consulting work, or writes an article. That, my friends, is someone with a strange set of utility curves.
Thursday, July 01, 2010
Oped on Taxing Punitive Damages
Happy Canada Day!
Well, I guess now that summer's indisputably here, it's the season for prawfs to start writing more opeds.
As you saw the last few days, Ethan and Eduardo recently penned something for a broader audience. And Ethan also deserves a shout-out for a SCOTUS citation to his criminal juries piece. See McDonald v. Chicago, slip op. 34 n. 28.
By GREGG POLSKY and DAN MARKEL
WHEN corporations like Exxon, State Farm and Phillip Morris lose tort cases, juries occasionally award, in addition to compensation for the plaintiff’s injuries, extensive punitive damages.
But jurors are often unaware that companies are able to deduct those punitive damages in calculating their federal income taxes, saving them millions of dollars and undermining the original goal of the damages: to punish reprehensible corporate behavior.
BP might soon be added to the list of payers of punitive damages for its role in the Gulf oil spill. Perhaps with that in mind, the Senate recently approved a measure to repeal deductibility for punitive damages.
The measure is well intentioned. But because most cases are settled before they reach a jury, it won’t work. Fortunately, there’s a better approach.
When plaintiffs and defendants reach a settlement before a trial, which happens in most cases, they aren’t required to specify which parts of the settlement are punitive and which are compensatory; there is typically just one number. That allows defendants to disguise the amounts that they would have paid as punitive damages as additional compensatory damages.
And because the measure maintains the deductible status of compensatory damages, nearly all punitive damages will remain, as a practical matter, deductible. This easy circumvention surely explains the meager revenue projections from the measure: $315 million over 10 years.
While the Internal Revenue Service might try to dissect settlements and classify portions of them as punitive damages, to do so it needs help from both parties to the negotiation. The problem here is that plaintiffs have no incentive to characterize the settlement correctly. Indeed, in cases involving personal physical injury, plaintiffs are better off tax-wise by characterizing the settlement as entirely non-punitive because, while the punitive damages they receive are subject to tax, the compensatory damages are not.
Put a different way, the root of the problem is that jurors tend to believe that punitive damages are not deductible, even though they are. So why not have plaintiffs’ lawyers make jurors aware of the tax deductibility of punitive damages, and teach them how to adjust their awards to offset the deduction’s effect? While plaintiffs’ lawyers don’t do this now, there is no precedent or persuasive legal argument that prevents them from doing so.
Such “tax-aware” juries would probably award higher punitive damages to offset the fact that punitive damages were tax-deductible. But more important, the prospect of tax-aware jurors would also raise the amounts of settlements before trial — when, again, most cases are actually resolved. This is because the amount of a settlement depends on the amount that a jury is expected to award after a trial. If tax-aware juries became the norm, plaintiffs would push for higher settlements, and thus both settling and non-settling defendants would bear the correct amount of punishment. Under the Senate’s approach, in contrast, only the very few non-settling defendants would bear that punishment.
The tax-awareness approach is by no means perfect. It requires juries to determine yet another fact during punitive-damages proceedings, namely the defendant’s marginal tax rate. It also increases the sizes of recoveries to punitive-damage plaintiffs and their lawyers, which is either a good or a bad thing, depending on your perspective. Nevertheless, given the practical futility of the Senate measure, tax-awareness is a far better approach to solving the problem of under-punishment.
There is a good chance that the Senate measure will become law, if only because the public is exasperated by the BP fiasco and Congress desperately needs revenue, even a relatively small amount. But if it does, it will be yet another example of expedient politics trumping sound policy.
Thursday, June 17, 2010
The Senate has mucked things up--hopefully the House won't follow suit
(This post is by Prof. Gregg Polsky and me.)
Yesterday, the Senate passed an amendment that would make punitive damages paid by businesses nondeductible for tax purposes. The nondeductible rule is intended to pay for a 90 day extension of the home buyer's tax credit. On the face of it, this seems like a great idea--after all, why should defendants get tax breaks for malicious or reckless wrongdoing?
But as we've recently argued in our forthcoming paper, Taxing Punitive Damages, a rule of nondeductibility is the wrong approach. It would be easily circumvented by defendants through settlements that disguise punitive damages as additional compensatory damages. Indeed, easy circumvention is fully consistent with the measly revenue projections from the rule: a mere $315 million over 10 years. It would be far, far more effective, in our opinion, to allow plaintiffs to introduce tax evidence against the defendant in the punitive damages phase and encourage juries to "gross up" damage awards to offset the effect of deductibility. As we explain, a number of other factors (including concerns for federalism and regulatory diversity) also push in favor of our proposed solution over a rule of nondeductibility.
To be sure, a nondeductibility rule looks good superficially (especially at a time when people are foaming at the mouth for Obama and the feds to do *something*). And no question, the need for immediate projected revenue (no matter how pitifully small) is great. So while we think there's a decent chance the Senate's proposal will go through, despite its significant real-world flaws, we will be trying to explain along the way why the better strategy in this case is to do nothing and let the states work this out on their own. If it passes, we'll be joining the Office of the Repealer for these limited purposes!
P.S. The new draft on SSRN contains a response to Professor Geistfeld's interesting critique of our paper.
Monday, February 22, 2010
States in Fiscal Crisis: How Did We Get Here?
Ok, state budgets suck right now. We know this. For instance, the New York Times reports (again) this week on the vicious cycle of state budgets and the economy. As fiscally-strapped states cut jobs and other spending, their economies weaken, pushing their own revenues and those of their neighbors lower yet. And then the states call for federal assistance. This is a familiar story, although one that the size of the current recession makes more dramatic. Why don't states ever learn? Are we doomed to replay this gloomy story over and over, like a recording of Gotterdamerung stuck on repeat? Will the plus-sized lady ever, finally, sing?
Although there is no magic ring or other neat solution to crises as big as the one we have now, there are solid policies the federal government and states could pursue together that would help a good bit. That's the argument of a new paper by me and my erstwhile FSU colleague Jon Klick. And, thanks to Jon, we've got the data to support our noodling. You're at least mildly intrigued, no? Read more...
So, the basic problem is that state revenures are "pro-cyclical": when the economy is good, revenues go up, spending goes up, the economy improves (although there's a danger of inflation). When it stinks, then eh, not so much. Rational actors should want to insure themselves against the risk of being out of work during one of these economic slowdowns, but because of imperfections in the insurance market, they often can't. So we have alternatives, like social insurance. But these are exactly the kinds of things that states cut during downturns.
Zoinks! Why do they do that? Well, what they ought to do is borrow. That's what an individual would do: she would move money from when she's richer (the future) to when she really, really needs the cash (now). (Aside to people who remember their econ 101: Keynesian economists would also say that there are macroeconomic reasons for borrowing during downturns, but since there is debate about that, we rest our argument purely on the microeconomic income-smoothing rationale.) But states can't really borrow effectively. Since public officials have limited times in office, there's a significant danger that unlimited borrowing authority could lead to excess indebtedness, as officials discount the costs to the public of future debt obligations. So states tie their own hands through legal rules that make it hard for their officials to borrow, as with so-called "balanced budget" requirements. (These turn out to be not especially effective at limiting borrowing, but pretty good at raising the cost of borrowing.)
On the flip side, states could also get out of this mess by saving. But none of them have ever done that to nearly the degree they'd need to mitigate later recessions. Really, ever. And that's not so surprising, because again the benefits of savings are later, while the officials have to win elections and collect other goodies of being in office now.
All of this is bad news for people who live in a state hit by a fiscal crisis. But, worse, it's also bad news for that state's neighbors and trading partners. When the crisis state cuts its spending and lays off workers, that reduces spending in other states, too. So another, predictable reason that states under-protect themselves against downturns is because a large part of the social harm that results is an externality.
So, yes, there's a case for federal intervention. But we don't think it should necessarily be just a jobs bill. Tune in next time for the solution and the data on whether it would work.
Friday, December 18, 2009
Estate Taxes and Natural ExperimentsAs the NYT reports this morning, the controversial estate tax is going to enjoy a one year repeal before it arises again in 2011. Empiricists: now's your chance to start looking at the tax effects on death. As the Congressman says, "If you are at the checkout counter, you might want to expedite things."
Tuesday, December 15, 2009
More on Tax and Good Cards
You...give someone a gift card, which they can then use to donate to the charity of their choosing. It's not quite like a universal gift card -- it has to be used for a charitable donation. This could be a little easier than making a donation in someone's name, especially if you don't know which charities that person supports....Who gets the deduction?....[T]he gift card buyer gets the deduction, which I think is the best incentive policy, if you want people to buy the gift card. The gift card recipient either uses or looses the earmarked funds, so they need no further incentives.
From a tax law perspective, here's why (I think) the gift card buyer gets the deduction. (This is based on information from Network for Good's website; I have no particular knowledge of this organization.)
When you buy a Good Card, you are making a donation to what's known as a "donor-advised fund." (Network for Good's 2007 tax return tells us that over $54 million of their roughly $58 million in revenue in 2007 consisted of contributions to donor-advised funds.) A donor-advised fund is an account that is owned by a tax-exempt organization (in particular, the sort of tax-exempt organization where, if you contribute to it, your contributions are deductible), if the donor, or someone designated by the donor, is allowed to advise where the funds will be distributed or invested.
Network for Good's tax-exempt purpose is supporting other tax-exempt organizations (or, as they put it on their 2007 tax return, to "increase charitable giving...and decrease the cost of fundraising for nonprofits"). Although this might not seem like the usual definition of a charity, the IRS has ruled that this is in fact a good tax-exempt purpose. Donations to Network for Good are in general deductible, and Network for Good can own and administer donor-advised funds.
Making a donation to a donor-advised fund is tax deductible, and "buying" a Good Card is really just making a donation to a donor-advised fund controlled by Network for Good. So "buying" a Good Card is tax deductible. The person who uses the gift card is simply advising the fund--that is, directing Network for Good to which public charity the funds in the donor-advised fund are to be transferred. That is not, obviously, deductible.
(If the Good Card is not "redeemed" within a certain time period--usually six months--the funds go into Network for Good's general account, where they are used for Network for Good's general charitable purpose of assisting other charities. This doesn't affect their tax treatment, because donations to Network for Good are in general deductible, and the rules for donor-advised funds are actually stricter, not more permissive, than the rules governing donations to charities in general.)
That's my take on it--any thoughts or amendments from other tax or non-tax folks?
(H/T: Paul Caron.)
Monday, December 07, 2009
Why Declining Marginal Utility Matters
Before any more about declining marginal utility, let me explain why the assumption of declining marginal utility matters so much to tax policy. (This post will, I hope, begin to reply to some of the comments on an earlier post, which asked me to explain why I was talking about individual utilities at all.)
One popular approach to distributive justice within the tax legal academy is welfarism. (Sometimes this commitment is explicit, sometimes not.) In a welfarist approach, redistribution is desirable only if it increases overall social welfare.
Thus there are two steps to the welfarist analysis: a welfarist first determines individuals’ utilities, and, second, to arrive at overall social welfare, the welfarist aggregates those individual utilities in some way. (My earlier post described a sort of step zero: before all this utility determining and aggregating, a welfarist has to figure out what she means by "utility.")
Step 1 (determining individual utility) and Step 2 (aggregating those utilities) are very different. Utility is a fact about the world. Once utility is defined, people have a certain level of utility, whether that level can be measured or not. So Step 1 is descriptive.
But while individual utilities are a fact about the world, how the welfarist chooses to aggregate these utilities--his "social welfare function"--is a judgment. Thus Step 2 is normative. For example, a utilitarian approach weights each individual’s utility equally and adds up individual utilities to arrive at overall social welfare. A completely egalitarian social welfare function requires complete equality of welfare. A moderately egalitarian social welfare function weights the utility of the less-well-off more than the utility of the more-well-off. Tax legal scholarship sometimes explicitly adopts or assumes a utilitarian social welfare function, but more often does not specify a social welfare function.
If we assume that all individuals have the same utility curve (yes, I know that is a huge assumption--but it's also a very common one in the literature, so bear with me!), declining marginal utility means that even a welfarist who gives no explicit weight to equality will support redistributive taxation that transfers money from the rich to the poor (or the more-well-off to the less-well-off). The reasoning is simple: ignoring transaction costs, the dollar will “do more good” in the hands of the poor person than in the hands of the rich person. If Rich (who is rich) and Penny (who has only pennies) have the same utility curve, and that curve has declining marginal utility, taking $100,000 from Rich and giving it to Penny increases overall utility, because getting $100,000 increases Penny’s utility more than losing $100,000 reduces Rich’s. In other words, declining marginal utility can, assuming that all individuals have the same utility function, justify redistributive taxation.
Friday, December 04, 2009
Declining Marginal What?
Yesterday I described some intuitive support for declining marginal utility. But commenter freight train demands that I back up: "What is the definition of marginal utility?" he asks.
Is...[utility] measured across the desire or across the fulfillment of the desire? What's the measure of that "worth?" ....Is [it] measured by what someone wants - ie, thinks will result from an additional dollar - or what they actually get from that additional dollar?
I agree: I cheated. We can't figure out whether the marginal utility of income declines until we know what utility is. After the jump, I expand upon and ultimately avoid the question.
fundamental assumptions, or I will RUN YOU THE HELL OVER."
Some people take the position laid out by GJELBlogger in the comments to my previous post and say that utility (or well-being) is equivalent to happiness (also sometimes referred to as "subjective well-being"). This is an older view that has recently been revived in the legal academy and elsewhere.
Most economists and many law professors equate well-being with preference satisfaction, whether actual preferences or “laundered” preferences (that is, preferences for things that informed, rational individuals acting only out of self-interest would prefer).
Still others believe welfare to consist in the satisfaction of certain “capacities,” or objective goods.
I'm not going to take a position on the definition of utility, at least for this series of posts, but freight train is right that this matters tremendously for lots of reasons. Some of the supposedly relevant studies that I'll discuss in a subsequent post are of only limited importance if you take the view that, say, utility is equivalent to preference-satisfaction.
And then freight train takes it to the next level:
[S]hould tax policy be based on what individuals want most? A poor person may feel the lack of a loaf of bread, while a rich person may feel the lack of a private jet, but does that mean that redistributive tax policy needs to respect both desires equally?
So freight train is challenging this whole way of thinking about tax policy: why focus on maximizing utility, he asks, instead of on, say, fairness? There is a lot to say on this topic, but for this series of posts I will just say that much current tax legal scholarship focuses on maximizing utility. Thus, whether you agree with that approach or not, you (by which I mean, of course, me) might want to grapple with the key assumptions that often accompany it. And one of those assumptions is that income has declining marginal utility.Image credit: Hunter-Desportes, Freight train (1975) (Flickr.com); used under a Creative Commons Attribution-Noncommercial-Share Alike 2.0 Generic License.
Thursday, December 03, 2009
My Most Awesomest PrawfsBlawg Post Ever
“Why can’t we end a successful video game series at its peak? Here’s the problem: It’s hard to keep a property fresh and exciting over a long period of time. Memorable gameplay elements are joyful the first time they happen, but their allure wanes each time they are implemented…. Economists call it declining marginal utility.”
The idea that the more you have of something, the less the next bit of it is worth, that the next dollar is always worth less to a wealthier person than to a less wealthy person--that is, the idea of declining marginal utility--seems intuitively right, even obvious. And declining marginal utility is a key assumption in tax policy and scholarship, because (as is probably obvious, and as I will discuss in a future post) it provides an easy justification for redistributive taxation.
But is it true that everyone experiences declining marginal utility of income? As I explain after the jump, intuitive support for declining marginal utility is not actually as strong as it might initially seem. (This is not to deny, however, that while Lego Indiana Jones for the Wii is awesome, it is not as awesome as Lego Star Wars.)
We might begin by noticing that many commodities have declining marginal utility: the first chocolate chip cookie tastes wonderful, the tenth not as good, and the hundredth downright unpleasant.
But not all commodities are like chocolate chip cookies. Some commodities might even have increasing marginal utility. You might crave heroin, for example, more and more over time. And your desire for chocolate chip cookies would change if you could not only eat them, but also trade them for almost anything else.
A third common defense of declining marginal utility is that some rich people buy very expensive, frivolous, strange things. Malcolm Forbes, for example, threw himself an extravagant 70th birthday party in Morocco that cost about $2 million (in 1989 dollars). Forbes chartered jets to fly 800 friends to Morocco where he presented them with, among other attractions, a firework display, 600 belly-dancers, a staged Moroccan cavalry charge, and Beverly Sills singing “Happy Birthday.”
Surely a dollar that buys a poor person bread does more good than a dollar buys one two-millionth of Malcolm Forbes’ birthday party. But even if comparing the tastes of a few very wealthy people to the needs of the very poor shows that the wealthy (at least, certain very wealthy people) have lower marginal utility than the poor, this doesn't give us a way to compare the marginal utility of the vast majority of income levels, which fall between the extremes of impoverished and blindingly wealthy.
So, if intuition doesn't provide a knock-down argument for declining marginal utility, what do actual studies and research say? Tune in next time, for what will be, if declining marginal utility always holds, a somewhat less enjoyable post.Image credits: Cookies: modified and original versions of cobalt123, Epic Cafe Chocolate Chip Cookies (Flickr.com); used under a Creative Commons Attribution-Noncommercial 2.0 Generic license; Bakugan balls: Neeta Lind, IMG-8943 (Flickr.com); used under a Creative Commons Attribution 2.0 Generic License; Pokemon cards: Kichigai Mentat, Pokemon Trading cards; used under a Creative Commons Attribution-Share Alike 2.0 Generic License.