The Lowest Deep

Cumulative 8 Year Employment Growth

2008-11-20T11:46:00.005-05:00

The worst 8 year period for employment growth (measured as private nonfarm payroll) since the Great Depression was the 8 years ended in October 2008 (a record that will presumably fall next month). Employment increased a meager 2.7% over the last 8 years.

The second worst 8 year period ended in April 1961 (a 3.0% cumulative increase in employment), jumped off the elevated employment level associated with the end of the Korean War, and suffered three recessions (53-54, 57-58, 60-61)!

Obama’s Money Class

2008-07-02T09:04:00.000-05:00

David Brooks enumerates the campaign contributions of moneyed groups--lawyers, doctors and hedge fund managers--and argues that Barack Obama's support relies on these these elite and unusually fervent groups because 73 percent of their contributions have gone to Obama ($58 million out of $79 million total). However, as of May, Obama had raised $287 million to McCain's $120 million, or 71 percent of the total. Judged against this national average, the contribution habits of the "money class" appear to be exactly the same as everyone else's.

More revealing evidence of the breadth of Obama's financial support across classes is in agribusiness, oil and gas, and transportation--those sectors that Brooks describes as typically Republican. In 2004, these industries contributed ten times as much to Bush as to Kerry; today, contributions from these sectors are almost evenly split between Obama and McCain.

The Deadweight Loss of Theft

2007-08-27T13:39:00.001-05:00

Apropos of nothing, was reminded of this story about a priceless Stradivarius cello stolen from a cellist at the LA philharmonic by a kid on a bike in LA and, quite naturally, thought to myself "that's terrible."

But I didn't think it was terrible simply because someone had stolen $3.5 million from someone else. If we were talking about $3.5 million in cash, one person would be out a couple million bucks but someone else would be up the same amount; that's just lump-sum redistribution.

This case struck me as particularly terrible because the kid who stole it couldn't possibly have valued it as much as the virtuoso cellist who owned it. I (and the original owner, I think) would have breathed a sigh of relief if, instead of some random kid on a bike, the cello was stolen by the 1st cellist at the NY philharmonic. At least then it would be taken care of, appreciated, and used well. Since instead it was stolen by someone who didn't value it at its true value, it was as if $3.5 million had been destroyed and the world was that much poorer.

Usually economists (or at least this economist) think that the economic losses from theft arise because of the costs of increased precaution and protection. In other words, theft just moves money around but the economy as a whole is no richer or poorer except for waste due to money spent buying bigger bank vaults and more costly insurance. In this sense, the costs of crime are second order.

However, in the Strativarius-theft case, the loss is due to the re-allocation from individuals who place a high value on the instrument to those with a low value. This is a first order loss. (I guess an analogy is to Glaser and Luttmer's paper on the cost of mis-allocation under rent control.) Accordingly, it made me many orders of magnitude more relieved when the violin was returned.

The Coase Theorem in Action

2006-08-08T20:33:00.000-05:00

In a textbook application of the Coase Theorem, the Nature Conservancy agreed to buy fishing permits and boats from fishermen in return for an agreement to impose three "no-trawl zones" covering nearly 6,000 square miles of ocean between Morro Bay and Monterey Bay California, according to today's NY Times.

The Coase Theorem states that when property rights are well-defined and transaction costs are small then private market transactions will produce efficient outcomes, even in the presence of externalities.

Trawlers damage fish stocks and harm the sea-bed environment, thereby inflicting costs on future fishermen (through depleted stocks) and others who care about the environment. These external costs are not born by today's fishermen and mean that today's fishing intensity is above the socially optimal level. (I.e. there's too much.)

The usual (and divisive) way reductions are implemented include suing on environmental grounds or legislated regulations, but these just tend to anger everyone involved. The Coase Theorem says we shouldn't have to resort to such means; if the fishermen's rights to fish certain grounds are sufficiently well defined then we could just pay them to fish less. (If they weren't well defined, we might worry that other boats would just move into their grounds.) This is exactly what the Nature Conservancy has done. The fishermen get paid, the environment is saved, future fishermen (and consumers) will have something to catch and eat in the future.

This is the type of exchange we could use for similar environmental conundrums. Imagine giving the drilling rights to ANWR to the Nature Conservancy (after all, it's basically owned by the environmental lobby as it is). Assuming that they are the true arbiters of what's best for the environment, might they sell the rights to Exxon Mobil (with enhanced environmental protections) and re-allocate the $10-$20 billion? dollars to higher-value environmental interventions? Buying up Amazon rainforest or more fishing grounds? Paying coal power plants to sequester CO2 or developers to spare wetlands?

The Big Dig is a Great Deal

2006-08-06T20:33:00.000-05:00

Last week, Stephen Moore wrote an editorial calling Boston’s Big Dig project a publicly financed disaster. Shifting his focus for a moment from advocating tax cuts to the spending side of public finances, Moore is taking a shot at an easy target -- pretty much everyone agrees that the Big Dig, with its ever expanding budget and receding deadlines is a turkey of a project.

But Moore, and the public and media generally, has gotten it wrong. Yes, the Big Dig was more expensive and took longer than initially announced. That doesn’t mean the money and time was badly spent.

The story of how the Big Dig became a $15 billion project is a little like the story of the guy sent to buy a used Honda at the dealership who got upsold on this and that and by the time it was over he drove off in a Porsche. Sure, there was hell to pay back at home. But on the other hand, he's driving a Porsche...

The fact is, Boston needed the Big Dig. The existing roads were crummy: highway traffic was basically diverted across side streets and the center of town was sliced in half by a rusting elevated road built in the 1950s without merge lanes at on ramps and turns designed for cars that topped out at 40 MPH. It was a disaster.

So they went out looking for a cheap fix--the $3 billion or whatever number they came up with in 1986--and everyone complained. Cambridge and Charlestown demanded a fancy bridge or they'd stall the project, so they got the a new Charles river crossing and the Zakim bridge ($1.5 billion). Residents along the construction route, including the giant basins where they cast the tunnel segments, demanded compensation for a decade of noise, dust, and disruption. So they all got new sound proof windows and central A/C. The mitigation was something like $5 billion. Environmentalists got HOV lanes and bridges with windows to let light down to the fish. (Not a joke.) Plus real estate in Boston was booming over the entire time of construction, driving up the cost of buying land and compensating property owners. Finally, inflation since 1986 has doubled the price level, so that the simple fact that we're evaluating the Big Dig in 2006 means that we're talking about a $15 billion project instead of a $7.5 billion project!

$15 billion is a lot of money, no question. But compared to other ways in which the government could spend $15 billion -- half a year of farm subsidies, 2.5 months in Iraq or Halliburton’s government contracts in the past few years -- it’s nice that at least we’re getting something great in return. The Big Dig is the Porsche of public works projects. Sure it was expensive, and sure the safety issues must be fixed, but Boston should stand up for its upgrade.

So why do I care about this criticism of the Big Dig? Because maligning the Big Dig makes it harder for other cities to undertake similar, much-needed improvements. Burying the West Side Highway, the FDR Drive, or (ugh!) the BQE in New York would open up huge spaces for much needed housing or parks. New York needs a Big Dig of its own, which will never get accomplished if Boston’s version is seen as a disaster.

How Should Politicians Talk About Gay Marriage?

2006-07-15T20:33:00.000-05:00

In this recent post, Matthew Yglesias argues that if Democratic politicians are going to lie and say that they oppose gay marriage for the sake of political expediency, then they should lie convincingly. I find this extremely annoying for two reasons:

One:

Annoying: I agree with him. Democratic politicians seem to think that they can go out to ‘Red America’ and tell people they oppose gay marriage, while at the same time whispering out of the corner of their mouth to Northeasterners and liberals “pssst, don’t worry, I don’t really oppose gay marriage -- I’m just lying to get the redneck vote.” They might as well just go out and tell the voters that they’re a bunch of stupid bigoted bumpkins. No wonder voters think that Democratic politicians are condescending – the politicians refuse to treat them with honesty and respect.

Politicians seem to think that they can have it both ways – appear liberal for a liberal audience and conservative for a conservative audience. And they simply can’t. They appear instead duplicitous, two-faced and calculating – which is exactly how Dems (eg. Hilary, Kerry to pick on the most obvious examples) appear. This is why labels like ‘flip-flopper’ and statements like ‘I voted for the war before I voted against it’ have such sticking power.

So yeah, Matt’s right: if you’re going to lie about your position on an issue (gay marriage or any other) do it well – otherwise you look like a jerk.

Two:

More annoying: I think that Dems feel the need to engage in this kind of double-speak because they profoundly misunderstand the “values” voter.

When all those voters came out of booths in 2004 and told pollsters that they felt that George Bush shared their “values”, what did they mean? Democratic politicians seem (from their reaction) to think it means that they have a problem with gay marriage, with support for abortion rights and with a lack of overt religiosity amongst Dems. And so Dems have reacted accordingly, by tempering their support for abortion, by rejecting gay marriage and by mentioning God and faith every chance they get.

Maybe I’m wrong, maybe this is the skewed hope of a northeast liberal, but I think this is the wrong interpretation of what the ‘values’ vote means: Bush accomplished an amazing feat during his first term and through the 2004 election (until his more recent meltdown in polls). His personal approval rating floated well above the approval rating for any of his policies. On his management of the war on terror, homeland security, Social Security, Medicare reform, etc. his approval ratings were generally mediocre to dismal. Even on ‘values’ issues like abortion, more people oppose his stance (favoring a ban) than support it. So how does his personal approval rating float so far above the approval levels of any of his policies? Voters (rightly or wrongly) believed him to be honest and principled, a ‘straight-shooter’, a guy who ‘you would like to have a beer with’, a guy who was too straight forward, simple and direct to be calculating and Machiavellian. He was perceived as a guy who would do what he thought was right, rather than what was politically expedient, and would say what he thought, rather than what his pollsters told him to say.

Dems, on the other hand, were seem as dishonest ‘flip-floppers’ who willing to do anything to win an election. Kerry played right into this (as did Gore in 2000) -- both were seen (somewhat correctly) as career politicians who had been running for President since their mid-twenties and who, with the prize within reach, would do anything to grasp it – Gore stopped making passionate speeches about the environment, cut off Bill Clinton because he was seen as a political liability and adopted his canned, robotic poll-tested speech mode (think ‘lock-box’). Kerry voted in favor of a war which he appeared (regardless of the truth) to only ambiguously support and made an obvious political calculation in choosing a VP. Repeatedly, Democratic politicians gave voters the impression that politics trumped principle – and they continue to do so, whenever they shade their position on abortion or straddle the fence on gay marriage.

And I think this is what all those voters who said Bush shared their values were really expressing -- George Bush appeared to be honest and straightforward, while Kerry and Gore both appeared to adopt whatever policy would get them elected, regardless of their principlesor true beliefs.

So what’s the point?

The way to win back the ‘values’ vote isn’t to adopt a new set of policies on gay marriage and abortion, or sprinkle speeches with religious references. It’s about articulating a clear set of principles and sticking with them, regardless of the short-run political calculus. It’s about demonstrating a commitment to principle over pragmatism, and about demonstrating that politicians have a little integrity and backbone, which is the opposite of what they do when they straddle the fence and try to have it both ways on issues like gay marriage.

A third bonus reason why Matt’s post annoys me:

Given what I’ve said above, why can’t a politician come out and say “I support gay marriage” and turn this into a political advantage -- a sign of backbone and adherence to principles over political expediency? Sure, a belief that marriage is the union of a man and a woman demonstrates respect for a principle. But it’s not the only principled position on this issue.

Protection of individual freedom is a principled position, a belief that government shouldn’t be snooping in our bedrooms is a principle, a belief that government shouldn’t be interfering in the personal choices of consenting adults is a conservative principle.

So while the policy of supporting gay marriage might be a typically liberal one, it’s likely that there exists a lot of disenchanted small-government Republicans who would find principled support of less intrusive government and respect individual choice attractive. And I’ll also bet there are a lot of moderate voters ready to support a politician who sticks to a policy stance because he or she thinks it’s the right thing to do, even if it doesn’t poll well in Iowa and New Hampshire.

Who Pays What in Taxes?

2005-04-26T07:58:00.000-05:00

The WSJ today announced "Even the most ardent class warriors have no choice but to concede that the U.S. income tax code is steeply progressive -- that is, that it soaks the rich."

The richest 1% of all Americans pay 33.7% of all federal income taxes, even after the Bush tax cuts, while the bottom 50% of earners pay a mere 3.6% share.

But...what about the payroll tax?...An IRS study shows that, even after including Social Security taxes, the overall tax burden grew more progressive from 1979 to 1999. The [study finds] that over the course of 20 years the richest 0.1% of all taxpayers saw their overall tax share double -- to 11.05%, from 5.06%. The top 20% of all earners also saw their tax share increase sharply to more than two-thirds of all taxes paid. Meanwhile, the bottom 20% of earners paid only a tiny share in 1979 but saw even that share cut in half 20 years later -- including payroll taxes.

[The original IRS paper is here.]

The rich pay more in taxes today than they did in 1979. But that isn't because the tax system is more progressive (in fact, the opposite is true) it's because the rich now make more money than they did in 1979: In 1979, the top 1% earned 9.58 percent of all income while in 2000 they earned 21.55 percent. [The top .1% saw their income share rise from 3.28 to 10.49.] [To give you some perspective,to make the top .1% you needed $1,278,479 in 2002.]

While the share of taxes paid by the very rich grew 118 percent between 1979 and 1999, their share of income grew by 320 percent. This means their average tax rates fell! If you read the paper (and not just cherry-pick the numbers that suit your cause) you see this is in fact the case:

Average tax rates (the proper and most commonly used measure of progressivity) among the richest .1% (including SS and income taxes) fell from 31.92 percent in 1979 to 22.57 percent in 1999 (under JGTRRA law).

Even more astounding to me is that the tax system became regressive at higher levels of income because of the Bush tax cuts: In 1979 the top .1% paid 31.92 of their income in taxes while the 5% between the 90th and 95th percentiles paid 22.59 percent. In 1999 (after JGTRRA) the top .1% faced an average tax rate of 22.57 percent while those between the 90th and 95th percentiles paid 25.48 percent. Ouch!

See Figure F in the paper, it says it all:

Figure F

Do Half of Marriages End in Divorce? (Yes.)

2005-04-20T07:33:00.000-05:00

An article in yesterday's NY Times, "Divorce Rate: It's Not as High as You Think", asks "How many American marriages end in divorce?"

One in two, if you believe the statistic endlessly repeated in news media reports, academic papers and campaign speeches.

The figure is based on a simple - and flawed - calculation: the annual marriage rate per 1,000 people compared with the annual divorce rate. In 2003, for example, the most recent year for which data is available, there were 7.5 marriages per 1,000 people and 3.8 divorces, according to the National Center for Health Statistics.

Unless they changed the rules of algebra on me, I thought that if there are 7.5 marriages and 3.8 divorces each year on average then one marriage in two must end in divorce. So something is wrong; Either the average is changing, for example maybe there were 15 marriages per 1,000 people 20 years ago so there are really 3.8 divorces per 15 marriages (something I don't believe to be true) or the author isn't actually interested in answering the question that he asks at the beginning of his article.

My impression is that it's the latter, but I find the results to be more disturbing when examined this way. The article seems to be interested in the (different) question: "How many people who marry will ever get divorced?" This question nets out the Liz Taylors of the world who get married and divorced many times. If the average divorce rate is 50 percent then for each of Liz Taylor's seven marriages and divorces there are seven other couples whose marriages don't end in divorce. So it's possible that most people who marry have a very low probability of getting divorced.

However, the article reports this alternative rate to be as high as 41 percent, which seems surprisingly high to me. If the divorce rate per marriage is 50 percent and the divorce rate per person ever married is 40 percent then that means that there aren't many Liz Taylors churning through husbands and "artificially" driving up the divorce statistics. Instead, the so-called "flawed" one-in-two statistic is a pretty good indicator that divorce affects a lot of people.

Does Competition Among Economists Benefit Junior Faculty?

2005-04-18T00:37:00.000-05:00

There is a ridiculous battle in ivory tower economics: Jesse Rothstein, assistant professor at Princeton, wrote two comments over the last couple years criticising Caroline Hoxby's well-known and influential paper "Does Competition Among Public Schools Benefit Students and Taxpayers?" (AER, 2000; NBER WP Version), suggesting that her results are overstated, and generating (intentionally or otherwise) rumors that the overstatement was deliberate or later covered-up. Hoxby finally had enough and posted a vitriolic and bruising response on the NBER website. (Rothstein's comment and Hoxby's reply.)

Hoxby found that students in cities with many competing school districts perform better on standardized tests than those where there were fewer school districts to choose from; competition improves outcomes. Rothstein, as part of a grad student assignment, attempted to replicate the results but couldn't and asked Hoxby for help. What happened next is fuzzy; Rothstein implied that Hoxby refused to provide her data and documentation, an assertion Hoxby adamantly denied. She insisted instead that she spent months working with the data supplier to produce a comprehensive CD with full documentation. Using the CD and his own alternative data sources, Rothstein embarked on a multi-year mission to disprove Hoxby's results.

The details of the academic debate are actually quite dull. Rothstein's criticisms are lengthy, technical, and enumerated in excruciating detail. He suggests errors in programming, in data collection, in empirical specification, in statistical methods, and in judgment that when "corrected" reverse Hoxby's results.

My personal opinion is that 90 percent of Rothstein's points are technically correct but irrelevant in practice; they just don't affect the results much. [Who cares if Hoxby is using the "cluster" command instead of Moulton's standard errors?] On the more substantive points the results are startling but hinge on judgment calls where I think Hoxby has it right (e.g. the 1st stage should be run at the MSA level not the individual level). After reading both, it's hard for me not to conclude that Rothstein's "preferred" estimates are "preferred" largely because they differ from Hoxby's and to wonder why the editors of the AER thought it fit to crowd their scarce pages with their back-and-forth.

[Frankly, I have a hard time making up my mind after reading their technical and opaque comments. Hoxby's responses seem to address most of Rothstein's points and if just look over Rothstein's 100 coefficients in his dozens of tables you see a lot of results that fall in the same ballpark as Hoxby's. Which of those 100 is the right one? Hoxby (and her editors) seem to make a good case for the ones published...]

While the merits of the debate are of some academic interest, the papers are worth checking out just because they're so antagonistic. It's like a nerdy Celebrity Death Match. Rothstein scolds Hoxby for shoddy work and for not following the rules; he starts off his data appendix:

"Each issue of the American Economic Review includes a paragraph describing the "Policy on Data Availability:" "to publish papers only if the data used in the analysis are clearly and precisely documented and are readily available to any researcher for purposes of replication." Despite repeated requests over several years, Hoxby has not provided the data used to generate the results in her published paper."

It's an unusual tone for a junior prof to take in so public a forum and so early in his career. [Though perhaps less surprising given that his advisors publish books with titles like "Myth and Measurement" which some have interpreted to mean we're measuring while everyone else is mythologizing.]

Hoxby's reply is just angry. Just read the abstract). Some other juicy bits:

"Rothstein may suffer from such confusion...The comment is not a replication, and each of its points is incorrect...This is not credible...This argument is wrong for multiple reasons...Rothstein (2004) makes several claims, each of which is wrong and/or misleading...This is false... nowhere in his comment does Rothstein describe the redistribution CD or how much work and care it evinces... he implies that whatever data I provided was inadequate, and that he did all of the work. Nothing could be further from the truth... He implies...the mistake was serious. In reality, he is referring to the fact that the single word "update" is missing from lines 52 and 62...(there are almost 18,000 words in this do-file alone)...he frames much of his comment around the typos, repeatedly referring to his corrected dataset as though he had made a dramatic improvement. With a mature view of empirical work, I know that any researcher ought to consider himself fortunate to find only two missing words in 80 pages of code... Moreover, the typos have little effect on the results."

Ouch:
Rothstein: "In examining the Hoxby/NCES data and code, I have found several remaining glitches. First, some errors remain in the new district-MSA crosswalk: Several Ohio school districts are assigned to the Raleigh-Durham MSA..."

Hoxby: "Rothstein (pages 4-5) makes much of the fact that four school districts in Ohio are assigned to a North Carolina metropolitan area... Rothstein avoids revealing the fact that the four districts in question cannot affect the achievement results anyway because there are no NELS students in them."

More ouch:
Rothstein: "One indication that there may be problems with Hoxby's larger streams count is that when I correct Hoxby's code to correctly assign total streams to MSAs her incorrect district-MSA crosswalk is used here as well-there are several MSAs with fewer total streams than larger streams. Hoxby writes that the hand counts were "checked against" the GNIS data (p. 1222), but appears not to have caught all discrepancies."

Hoxby: "It is worth noting that Rothstein (page 9) claims that there are some metropolitan areas in which there are more large streams than there are total streams. This is incorrect, and I have no idea how Rothstein could have come to this conclusion. The redistribution CD has all of the raw data and code. I can only conclude that Rothstein is making coding mistakes... While I could, in theory, re-do and proofread everything that Rothstein has done, imposing such a duty on authors would allow the least objective replicators to absorb much of the time of authors who do original work."

[Addendum: My point isn't to take sides on who is right; I don't have a clear conviction and the comments, despite making their way into the AER, don't seem to be conclusive enough to push me either way. I just thought the language of the debate is over the top. These are buttoned-down Ivy League professors screaming in public about whose standard errors are better!]

Are Small Farms OK? Or Just Tax Sheltered?

2005-04-03T10:17:00.000-05:00

A recent NY Times Op-Ed by BRUCE GARDNER proclaims the financial health of America's small farms: "Small farms are actually surviving and even flourishing to an extent no one guessed 20 or 30 years ago... Even in the age of Monsanto and Cargill, there is still a role for Mom and Pop."

I found the article infuriating not because of this conclusion (which in some sense is correct), but because of his celebration of the reason:

"The United States had 6 million farms in 1944, and by 1970 that number had declined to 3 million, a rate of loss of almost 3 percent each year. If the pattern had held, we would have just over a million farms today. Instead we have 2.1 million...

What made this moderation of the trend possible? In large part, the integration of the farm and nonfarm labor markets....a more recent trend has seen many people commuting to nonfarm jobs while they remain living on the farm. According to the Agriculture Department, nonfarm jobs now account for more than 90 percent of farm households' incomes.

In many cases, one family member focuses on the farming enterprise while others - spouses, siblings, grown children - work off the farm. In other situations, no one works full-time at farming - the operation is a side job for the entire family, in some cases a refuge from urban stresses. While complete statistics are hard to come by, the data indicate that these arrangements are proving viable to an extent far greater than was thought possible 30 years ago."
Sounds bucolic. However, statistics are available and they show that these arrangements are viable only because they are heavily subsidized. Not by farm subsidies but by tax subsidies. Publicly available IRS Statistics of Income data files show that most "small farms" are basically tax shelters. From the 2001 IRS SOI file:

There are 1,981,144 million taxpayers reporting non-zero farm income (compared to the 2.1 million farms cited by Gardner). Of these 2 million:

627,067 report a net gain from farming.

1,354,077 (68 percent!) report a loss.

Among those with positive farm income, average farm income was $12,738
Average tax loss for those with negative farm income: -$14,051

So farms that made money earned $8 billion while farms that lost money lost $19 billion.

Well that sounds bad. How do those "losers" survive? Fortunately they had on average $80,001 of other income that year including wage income of $42,293 and capital gains and dividends of $13,492. But those who actually earn money farming are much poorer: they earn $42,381 outside of farming including $22,449 in wages and $8,788 in capital gains and dividends.

For the majority of "farmers" their farms simply allowed them to reduce the taxes they would have paid on their other income. My calculations suggest tax savings of about $3.75 billion or about $2,771 for each farm reporting a loss.

When Gardner writes that these farms are "a refuge from urban stresses" I can only conclude he's talking about taxes.

What Does Social Security Do? (And What That Means for Reform.)

2005-02-17T10:33:00.000-05:00

When thinking about Social Security reform, it helps to start with an understanding of what functions Social Security serves. Starting with the basics makes it easier to evaluate how different reform proposals affect how Social Security fulfills its programmatic goals. From my perspective as a public economist, Social Security addresses three market failures:

1) Social Security provides insurance against low life-time earnings and negative hits to wealth. Some people are just unlucky (low wage jobs, long spells of unemployment, or big medical costs) and Social Security (in addition to SSI) ensures a level of income when they're too old to work.

2) Social Security provides annuities that aren't available in the private market. Annuities provide insurance against out-living one's resources, but adverse selection in the private market makes annuity prices unfair and unavailable to all but guaranteed centenarians.

3) Social Security ensures that myopic individuals have sufficient income in retirement to maintain their (ex-post) desired level of consumption. (Alternatively but in the same vein, it ensures that those hoping to free-ride off family, charity, or government pony up their share ahead of time.)

Privatization by itself only addresses #3. (And I think that there's probably a role for it there, but only there.)

In a fully privatized system where benefits are entirely a function of payroll contributions, there is little or no scope for redistributional insurance (#1). Even partial privatization is likely to reduce the progressivity of benefits. This is unfortunate because basing redistribution on life time income is probably pretty efficient. (Are you going to not work your entire life so you can have slightly higher SS benefits when you're 70?)

In addition, privatization and particularly provisions for beqeathable accounts have the potential to unravel the benefits of annuitization and further erode Social Security's finances. The forced annuitization implicit in the current Social Security system spreads mortality risk among participants and ensures that those who live longer than expected still have money to live on. If annuitization upon retirement were not forced, only those with long life expectancies would opt for annuitization; Those with shore life expectancies would benefit from taking the cash.

The only question is who would be left holding the bag: the government by continuing to offer currently promised annuities based on average life expectancies to individuals with above average expectancies (and therefore paying the difference) or individuals who could either no longer afford privately provided annuities or who would have to pay more. (Note that annuities aren't even available in the private market because they're so easily gamed by individuals who know more about their health and life expectancy than insurers.) Carelessly introducing choices that permit adverse selection could prove to be very expensive.

How Elastic is Demand for Medical Services?

2005-02-16T17:05:00.000-05:00

Comments on one of my previous posts (Taxes and Health Insurance) suggest that people are incredulous that changing the structure of health insurance plans can reduce health care costs in any meaningful way. Their arguments appear persuasive; If the doctor says to get an MRI, you get the MRI and don't have much input into the process regardless of what it might cost you.

Economists were equally incredulous. So they developed and implemented a massive and unprecedented social experiment to examine the effect of different insurance plans on health spending. The experiment was run by RAND between 1975 and 1981, involved 6,000 people, and cost, in today's terms, upwards of $250 million. (An overview of the study can be found here.) They randomly assigned individuals to different insurance plans. All had $1,000 deductibles (in 1975-1981 dollars, close to $3,000 today) but co-insurance rates varied. Some people were assigned to receive free care, some paid 25% of any bills (up to the $1,000 maximum), some paid 95%.

The results were astounding. Those in the least generous plan spent only 66% of what those in the no-cost plan spent. The conclusion drawn: "A catastrophic insurance plan reduces expenditures 31 percent relative to zero out-of-pocket price." People chose to wait-and-see or relied on over-the-counter medicine and home remedies. It sounds ridiculous, but essentially people who had to pay for the doctor visit (and the MRI) waited a couple days to see if their aching shoulder/knee healed itself. If it did they never got the MRI. But why wait and see if care is free?

To put it another way, my advisor once noted that American mortality rates after heart attacks were no better than those in Canada or Europe despite the fact that America spends much, much more. The difference, he said, is that subsidized Americans get the costly bypass instead of the cheaper but equally effective beta-blockers so that they can continue playing tennis.

This is why health economists advocate increasing cost-sharing and initial out-of-pocket costs up to some limit. It's about finding the right mix of insurance when you need it (for big surgeries and accidents) and incentives to dissuade spending when you don't (for everyday colds and runner's knee).

Is Social Security Redistributive?

2005-01-14T09:26:00.000-05:00

The surprising answer is not really. There's been somewhat of a debate about this ("The payroll tax is regressive but benefits are progressive and on net the social security system is progressive" says Alex Tabarrok in In defense of the regressive payroll tax ), but I get the sense few have checked the facts.

People seem to agree that the payroll tax is regressive; It only applies to wage earnings below $89,000. But people mistakenly look at the benefit formula (and its progressive 90-32-15 bracket rates) and assume that because the formula is progressive lifetime benefits are progressive. [Note we're talking about within cohort redistribution, not redistribution from me to my grandparents or from later birth cohorts to earlier birth cohorts.]

However, the progressive formula is undone for a couple reasons. For example, the rich live longer and collect benefits over a longer period of time. Spouses of primary workers receive 50% of the worker's benefits while the primary worker is alive and 100% if widowed. So a married man pays in the same amount as anyone else but gets back 150% of the benefits even if his wife never paid a dime in payroll taxes.

Don't take my word for it:

Martin Feldstein (not generally known to be one to question a program on the basis of redistribution) writes in his recent Presidential address at the AEA meetings:

"The lack of redistribution is well illustrated by the Social Security retirement program... The Social Security program appears to be redistributive because everyone pays the same tax rate while the ratio of benefits to lifetime earnings is designed to fall as those earnings rise. In practice, however, this apparent redistribution is offset by the longer expected life of higher income individuals, their increased use of spouse benefits, and the later age at which they begin to work and to pay taxes. Research by Jeffrey Liebman (2002), based on a large sample of actual individual earnings histories, showed that less than 10 percent of Social Security benefits represented net redistribution across income groups within the same birth cohort. Coronado, Fullerton and Glass (2000) showed that the combination of taxes and benefits for the Social Security program leaves the lifetime Gini coefficient of the population's income essentially unchanged. In addition, the general equilibrium effects of Social Security tilt the pretax distribution of income toward higher income individuals by reducing capital accumulation which in turn lowers real wages and raises the return to capital."

Turning to Jeff Liebman (in "Redistribution in the Current U.S. Social Security System."):

"Because its benefit formula replaces a greater fraction of the lifetime earnings of lower earners than of higher earnings, Social Security is generally thought to be progressive. However, much of the intra-cohort redistribution in the U.S. Social Security system is related to factors other than lifetime income. Social Security transfers income from people with low life expectancies to people with high life expectancies, from single workers and from married couples with substantial earnings by the secondary earner to married one-earner couples, and from people who work for more than 35 years to those who concentrate their earnings in 35 or fewer years... The paper finds that annual income-related transfers from Social Security are only 5 to 9 percent of Social Security benefits paid, or $19 to $34 billion, at 2001 aggregate benefits levels, when taxes and benefits are discounted at the cohort rate of return of 1.29 percent. At higher discount rates, Social Security appears to be more redistributive by some measures, and less redistributive by others. Because much of the redistribution that occurs through Social Security is not related to income, the range of transfers received at a given level of lifetime income is quite wide. For example, 19 percent of individuals in the top lifetime income quintile receive net transfers that are greater than the average transfer for people in the lowest lifetime income quintile."

This compounds my belief that Social Security would benefit from careful change, but does nothing to relieve my anxiety that every change on the table makes many problems worse...

Why is AIDS/HIV More Prevalent in Africa vs. the US?

2005-01-11T09:19:00.000-05:00

A new paper, "Sexually Transmitted Infections, Sexual Behavior and the HIV/AIDS Epidemic" by Harvard economics graduate student Emily Oster, asks why prevalence rates for HIV/AIDS are ten to fifteen times higher in Africa than in the United States. Using a simple model that decomposes infection levels into differences in sexual behavior and differences in transmission rates, she attributes the entire difference in HIV prevalence between the United States and Sub-Saharan Africa to differences in transmission rates. The intuition, as she writes, is that "Higher transmission rates produce more infections this period, and each new infected person can infect people next period, so the result of a higher transmission rate is multiplied many times over."

One of the implications of her findings is that lowering transmission rates by targeting STDs is more cost effective than trying to reduce HIV prevalence using expensive antiretrovirals or education programs aimed at changing behavior.

"The results indicate that treating untreated bacterial STIs could prevent as many as 24 percent of new infections over the next decade, at a cost of less than $80 per infection, or around $3.67 per life year. Interventions to decrease sexual behavior are less effective, although they may also have a role. Both types of interventions considered are more cost-effective than antiretroviral therapy, for which (generic) drug costs alone are $1 per day, or $365 per year, substantially higher than the estimated yearly cost of bacterial STI treatment. Although some policy-makers have focused on antiretroviral provision as the duty of rich countries and pharmaceutical companies (see, for example, Sachs [2000] and Sachs [2004]) the results here indicate that this type of treatment should not be the first line of defense."

Pretty interesting. Read the paper.

Why is Re-Indexing So Hard to Understand?

2005-01-10T10:57:00.000-05:00

Not to jump on the "Why Oh Why Can't We Have a Better Press Corps?" band wagon, but the authors of yesterday's Washington Post editorial, How Much to Cut?, clearly didn't read the fine print of CSSS Plan 2 before leaping into their discussion of the wage-versus-price-indexing debate. (Though they do have some cogent arguments sprinkled in there.) As I tried to make clear in my earlier post the Bush plan changes the indexing of the benefit formula (essentially the "kink points" [including the current maximum benefit]) not the indexing of an individual's earning history. This is a huge difference, but one the Post hasn't figured out:

"The practice of wage indexing that the administration appears keen to scrap is one source of this excessive generosity. The indexing works by taking the 35 highest-paid years of a person's career, then upping the numbers by the rate of national wage growth in the intervening period. Suppose, for example, you earned $40,000 in 1988. Wages have increased by about 80 percent since then, so your 1988 earnings are upped to around $72,000 for the purposes of calculating your pension entitlement. Because of this system, benefits are on an expensive growth path. The average earner who retires this year at 65 gets an annual benefit of about $14,000, whereas an average earner who retires in 2050 is projected to get over $20,000 in today's dollars."

Excellent exposition, but totally irrelevant: no one is proposing to make this change.

CSSS Plan 2 notes on page 120 that "Benefits in the traditional Social Security system would be indexed to price inflation rather than national wage growth beginning in 2009" and in a footnote [what a cliche] that "In practice, the policy would be implemented by multiplying the PIA bend point factors (the bend points would remain indexed to wages) by the ratio of the Consumer Price Index to the Average Wage Index in successive years." [For those willing to take my word on the math, this is equivalent to re-indexing the "bend points" [including the current maximum benefit] to prices rather than wages.]

Why does this difference matter? Under the Washington Post's misconception of the re-indexing plan, benefits fall because an individuals earnings are scaled up by the CPI instead of wage growth. But since people's wages grow, er, at the rate of wage growth, a person retiring in 2009 loses about the same fraction of currently promised benefits as someone retiring in 2039 or 2069 or 2099. Instead of everyone getting 42 percent of pre-retirement wages, everyone gets, say, 39 percent.

But re-indexing the "bend points" (which were set in 1979) results in cuts that grow geometrically over time. Each year, each new wave of retirees gets a deeper cut than the year before. Look at the CBO's numbers from table 3 (from their analysis of plan 2); every year replacement rates fall further:

(Year of birth, replacement rate)
1940- 42.8
1950- 39.9
1960- 34.8
1970- 30.9
1980- 27.4
1990- 24.6
2000- 21.7

If you keep extending the series, replacement rates continue right on down, asymptotically, towards zero. [Figures 1A and 1B are perhaps better illustrations of how 'outlays' head straight into the ground.] On the other hand, I do have to give the Post credit for calling this "excessive."

A Last Thought on Taxes and Health Insurance

2005-01-06T21:33:00.000-05:00

Good tax policy for health insurance is hard to design because policy makers face conflicting goals of increasing health insurance coverage rates while reducing the generosity of the health insurance individuals receive.

The current tax preference for health insurance ensures that most employees are offered coverage, but also generates incentives for employees to choose "too much" insurance. [By "too much" I mean what Hubbard et al. mean: "the incentive to purchase care through low-deductible, low-copayment insurance instead of out-of-pocket, which in turn leads to cost-unconsciousness and wasteful medical practices."] Choosing a "bare bones" plan (high co-insurance, high deductible) that costs $2,000 a year saves an employee $1,035 in taxes.* This is why we have employer provided coverage. But getting the more generous plan for $2,000 more saves an additional $1,035 in taxes. This is why no one gets just the "bare bones" plan.

While I will always appreciate Glenn Hubbard's efforts to leave no playing field un-leveled, I don't believe that expanding unlimited deductibility for medical expenses is a plausible way to reduce medical spending. [My other criticism of the his and his co-authors' plan stems from the fact that tinkering with the exclusion for health insurance so that more people pay out of pocket can have nasty implications for progressivity and for coverage rates.]

My feeling is that the tax code should retain strong incentives for employers to offer and for employees to take-up high deductible, high co-insurance "catastrophic" coverage plans, but should remove marginal incentives for additional coverage beyond that threshold. For example, provide a tax break or tax credit for the first $3,000 of insurance benefits but tax benefits above $3,000 as regular income. [Adjusting, of course, for single versus family coverage etc.] How this is implemented, as a credit (as Samwick suggests) or an exemption/deduction as in the current tax system, seems less essential than making sure the structure of incentives is right.

I'm actually surprised that I couldn't find more good research on this subject. Gruber does a good job hammering out the issues related to coverage and the costs and benefits related to increasing coverage through various tax provisions. But he's clearly not interested in the separate issue of how to structure incentives to minimize wasteful health spending. If there's stuff I'm missing let me know.

*2002, DC, filing single, earning $50,000.

Who Bears the Burden of Social Security Reform?

2005-01-05T20:16:00.000-05:00

Social Security Reform is really about one and only one issue: Deciding who is going to pay for Social Security's unfunded liabilities.

Over the next 75 years there is a $3.7 trillion gap between currently promised benefits and Social Security's expected revenues (according to the Social Security trustees). [We can haggle over the exact number, but the point is it's real.]

Putting aside the [in my mind ridiculous] side-show about private accounts & free lunches, and arguments over technical details (life-expectancy, productivity growth...), all of the economic back-and-forth over Social Security Reform boils down to a debate over distributional issues; Someone, someday is going to have to pay higher taxes or receive lower government transfers to pay for Social Security's future deficit. Reform is just about deciding who that someone is.

With this in mind, all the arguments for and even against reform, from Bush's cries of 'imminent crisis' to Krugman's counter claims, are implicitly judgments about who should pay. People can decide for themselves what is 'fair' but one place where economists could do a lot more is illustrating what various plans imply in terms of distributional issues. Looking at things this way, I was actually surprised and disappointed at the alternatives proposed.

Let me give you some (highly stylized) examples so you understand what I'm talking about:

1) The Administration's likely policy (Plan 2, with gradually phased-in private accounts eventually up to 6% [my $ is on 6%] plus re-indexing the benefit formula to prices so that replacement rates fall geometrically over time):

This plan essentially shifts the entire burden of the deficit to those retiring on or after 2035 through benefit cuts, with the largest cuts going to the youngest generations. I think it's illustrative to consider the infinite-horizon deficit pegged at $10 trillion because then it becomes apparent that the Bush plan 'works' because revenues as a percent of GDP remain constant but benefits approach zero: The program is eliminated but the taxes remain. One can argue about how fair this is to 'Nell' and everyone else hoping to retire after 2035, but really I think this is another shell game: in 2050 are politicians going to be able to sit by and watch benefits be eliminated? In my mind, a comparable policy in terms of its actuarial effects and political time-inconsistencies would be end Social Security entirely after 75 years, instantly "saving" us $6.3 trillion. [The CBO report goes partway in illustrating how this works by showing how benefit cuts accelerate over time.]

2) Paul Krugman in yesterday's Times (Stopping the Bum's Rush): [And more generally, those on the left who think that the government has an iron-clad obligation to pay back the trust fund out of general revenues, thereby pushing back the 'crisis' until 2042.] In Krugman's words:

"The Washington Post recently described 2018, when benefit payments are projected to exceed payroll tax revenues, as a "day of reckoning." Here's the truth: by law, Social Security has a budget independent of the rest of the U.S. government... When benefit payments start to exceed payroll tax revenues, Social Security will be able to draw on that trust fund. And the trust fund will last for a long time... So where's the imminent crisis? Privatizers say the trust fund doesn't count because it's invested in U.S. government bonds, which are "meaningless i.o.u.'s."... The short version is that the bonds in the Social Security trust fund are obligations of the federal government's general fund, the budget outside Social Security. They have the same status as U.S. bonds owned by Japanese pension funds and the government of China... There are only two things that could endanger Social Security's ability to pay benefits before the trust fund runs out. One would be a fiscal crisis that led the U.S. to default on all its debts. The other would be legislation specifically repudiating the general fund's debts to retirees."

[Note that his are legal and moral arguments, not economic arguments.]

This 'plan' basically calls for Social Security's projected deficit between 2018 and 2042 to be paid by the 'general fund,' i.e. by increasing progressive income and corporate taxation or reducing discretionary spending. A tax increase levied through a progressive income tax is exactly how the left should want to fiance income security programs and I think this is their main motivation for talking-up the sanctity of the trust fund. After 2042: Who knows? Continue paying out of general revenues? Cut benefits to 75% of current levels for everyone 67 and younger as of 2042?

3) Diamond - Orszag. (Combination of progressive benefit cuts and progressive tax increases starting ASAP): This plan was recently scored by the CBO here.) As CBO writes:

"Workers with higher earnings would be disproportionately affected by the proposal; relative to their earnings, they would generally experience larger tax increases and larger benefit reductions than workers with average or below-average earnings. Beneficiaries who worked for many years at low wages would be sheltered from many of the benefit reductions, and some would be better off under the proposal."

[Note from Table 1A that tax increases and not benefit cuts are doing most of the work.]

Looking over these proposals I was actually disappointed. The Bush plan basically pays for Reform by crushing retirees in the distant future which seems neither fair nor likely to be permitted when the time comes. Paying for benefits out of the general fund also seems unsustainable given projections of red ink accelerating from already record levels.

Diamond-Orszag, perhaps the best thought out, improves the progressivity of the program but achieves it mainly through tax hikes and partly by bumping up the bottom and does a good job of sharing the burden over time and shifting it to those best able to pay.

I like Diamond-Orszag, but I was hoping to find a plan of Diamond-Orszag quality that reduced the size of the program progressively and moved Social Security back towards the social insurance plan it was conceived as instead of the enormous retirement plan it has become. Why aren't there better ideas out there?

Is the U.S. Stingy?

2005-01-04T10:08:00.000-05:00

The editorial page of the NY Times disagrees with its Op-Ed page:
Thursday's NY Times ran an editorial entitled Are We Stingy? Yes that suggests that the citizens of the United States give less than our counterparts across the Atlantic.

"Fuming at the charge of stinginess, Mr. Powell pointed to disaster relief and said the United States "has given more aid in the last four years than any other nation or combination of nations in the world." But for development aid, America gave $16.2 billion in 2003; the European Union gave $37.1 billion. In 2002, those numbers were $13.2 billion for America, and $29.9 billion for Europe."

The obvious retort (and the one propounded by Carol Adelman on today's Op-Ed page A High Quality of Mercy) is that we more than make up for relatively lower public giving with greater private giving:

"Most important ... Americans generally help people abroad the same way they help people at home: through private charities, religious organizations, foundations, corporations, universities and money sent to relatives. In 2000, all this came to more than $35 billion, more than three times what the government gave. And this does did not include giving by local churches or by overseas affiliates of American corporations."

Unfortunately, Carol Adelman gets it wrong because she's included "money sent to relatives." Personal remittances aren't charitable giving; they're money sent home to support family members left behind. When parents pay for their children's expenses or children pay for parents' elderly care we don't call it charitable giving. It's not generosity.

Of the $38.2 in net private remittances to the rest of the world in 2003 (as reported in the BEA's NIPA tables) personal remittances amounted to perhaps half (the only figures I know of are from 2000 and amounted to $18 billion of $33.6 billion in private remittances from USAID). If we're going to count as aid income paid to foreign nationals why stop at $38.2 billion? Why not include the entire current account deficit? That's American money sent to foreign countries... The bottom line is that most of this so-called private generosity is just within-family private transfers. Relative to our European peers Americans really are stingy.

Election Empirics Part II

2004-12-30T10:10:00.000-05:00

Interesting article in the post today: On Nov. 2, GOP Got More Bang For Its Billion, Analysis Shows. The main thrust of the article (and something I suggested in an earlier post):

"Despite their fundraising success, Democrats simply did not spend their money as effectively as Bush...The Kerry campaign, in addition to being outspent at key times, was outorganized and outthought... "

Some other choice excerpts that show just how much more sophisticated the Republican party was:

"Republican firms, including TargetPoint Consultants and National Media Inc., delved into commercial databases that pinpointed consumer buying patterns and television-watching habits to unearth such information as Coors beer and bourbon drinkers skewing Republican, brandy and cognac drinkers tilting Democratic; college football TV viewers were more Republican than those who watch professional football; viewers of Fox News were overwhelmingly committed to vote for Bush; homes with telephone caller ID tended to be Republican; people interested in gambling, fashion and theater tended to be Democratic.

Surveys of people on these consumer data lists were then used to determine "anger points" (late-term abortion, trial lawyer fees, estate taxes) that coincided with the Bush agenda for as many as 32 categories of voters, each identifiable by income, magazine subscriptions, favorite television shows and other "flags." Merging this data, in turn, enabled those running direct mail, precinct walking and phone bank programs to target each voter with a tailored message."

It's one thing to lose an election because of a weak candidate or because of poor policy stances but another thing entirely to lose because of incompetence. Maybe somebody at the DNC should be taking notes; If the Democrats want to be competitive moving forward they've apparently got a lot of changes to make.

Why Do Democrats Like the Deduction for State and Local Taxes?

2004-12-28T18:50:00.000-05:00

Democrats are already mounting strong opposition to tax reform proposals that limit or eliminate the deductibility of state and local income taxes from federal taxable income (see for example yesterday's NY Times article). Why?

Deductions for state and local taxes predominately benefit the wealthy. This is apparently lost in the article despite the following example:

"Around 2.5 million New York households with incomes under $100,000 take federal deductions for state and local taxes. On average, these households would lose the ability to deduct about $5,600 per year.

People in the highest income brackets would also shoulder a significant burden. About 219,000 households in the state with income of more than $200,000 take federal deductions for state and local taxes. These households would lose the ability to deduct about $67,400 on average per year."

First, itemizable deductions (like state and local taxes) are only worth claiming when their value exceeds the standard deduction of $9,700 for married couples and $4,850 for singles (in 2004). In the article's example, the people who 'lose the ability to deduct $5,600' gain the ability to deduct $4,850. (They should never take a $5,600 deduction if they're married.) Really they lose $750 in deductions. But the guys making over $200,000 lose $67,400 (and probably still itemize). In the absence of any other tax changes affecting these groups (which seems unlikely if tax reform is to be revenue neutral) this is a tax increase of $187 (750*.25) for people making $75,000/year and a $22,242 tax increase (67,400*.33) for those making more than $200,000. This looks to me like a progressive tax hike that Democrats should favor. (Didn't Kerry advocate upping taxes on those making more than $200k? Isn't this the same thing?)

Second, who are these affected people? In New York state, a married couple with no other deductions must earn more than $140,000/year to benefit from the state and local tax deduction by itemizing. Adding in other deductions for charitable giving and mortgage interest reduces this threshold, but the vast majority of New Yorkers do not receive any tax benefit from the state and local tax deduction. According to the IRS, only 37% of New York filers took the deduction and only 17% of those earning less than $50,000.

Finally, a revenue neutral tax reform requires that the increase in tax revenue generated by eliminating the deduction for state and local taxes be offset by reductions in taxes elsewhere. The likely reductions in marginal tax rates and in taxes on saving and investment would disproportionately reward higher-income 'Blue' states. On net it seems like a tax change Democrats should favor.

Are Tax Cuts That Are Percentage-Wise Progressive Really Progressive?

2004-12-27T09:33:00.000-05:00

David Altig (Macroblog) recently flagged me with a "Subjective Judgment Alert" for comments I made about how progressive a recent health insurance-related tax proposal really was. The abridged exchange:

Me: "The key is the phrase 'percentage tax reductions...' One would like to think that health care spending would be measured in more absolute and egalitarian terms."

Altig: "Whether policy ought to be more "egalitarian" is not the sort of thing that economists can speak to with any degree of authority -- our training gives us absolutely no special status for making value judgments."

If my comments were normative I would agree, but they were not intended to be; Economists mean something very specific when they call a tax change 'progressive' and the persistent practice of the current administration and its adherents of mis-labling regressive tax cuts as 'percentage-wise progressive' is disingenuous.

For example, on the White House web site President Bush writes:

"These are the basic ideas that guide my tax policy: lower income taxes for all, with the greatest help for those most in need. Everyone who pays income taxes benefits- while the highest percentage tax cuts go to the lowest income Americans."

The phrase "greatest help to those most in need" implies that the bulk of the tax cut would go to lower income Americans. This is simply false. In dollar terms, the majority of the tax cut goes to the wealthiest Americans. The Bush administration uses a little bit of simple math to make this seem progressive. A tax cut of $150 for someone making $20,000 represents an income tax cut of 10% ($150/$1480). A smaller percentage tax cut of 5% to someone making $1,000,000 amounts to around $16,000 in dollar terms. The tax cuts for low income families are large percentage-wise not because the numerator (the tax cut) is large, but because the denominator (their current income tax) is small.

Conflating "greatest help to those most in need" with "the highest percentage tax cuts go to the lowest income Americans" might make sense in a world where people paid for goods and services in 'percentages', but the fact is that Americans buy things with dollars. The distributional consequences of tax changes should be measured in kind.

For this reason I was dismayed to read Cogan et al. (in their "Brilliant Deduction"):

"Also, in spite of the fact that a $1 deduction benefits a high-income taxpayer more than a low-income one, tax deductibility is not a tax break for the rich. As our calculations from the Medical Expenditure Panel Survey show, percentage tax reductions from deductibility for low-income households are three to five times the size of reductions for high-income households."

Their implicit statement seems to be that it's ok to spend $1,000 on health care for the rich but only $100 on the poor because $100 is a larger percentage of the poor's taxes. People don't need economists to tell them if that is egalitarian or not, but they do need to know when the facts are being misrepresented.

UPDATE: With lightning speed Altig responds (seemingly before I had posted my initial comments).

To save on space, I've replied here...

Index Social Security to Wages or the CPI?

2004-12-16T16:33:00.000-05:00

There's a lot of confusion about how social security benefits are indexed to wages and to prices and how changing indexing will change benefits. Part of the confusion stems from the fact that when people talk about switching from wage indexing to price indexing they're often not talking about the same thing.

There are two different and important components of Social Security indexed to wage growth: 1) Your average earnings over the 35 highest earning years of your life (your AIME) and 2) Parameters of the benefit calculator called (rather scientifically) "bend points" that are used to extrapolate the benefit amount from your AIME. Social Security takes your earnings each year and multiplies them by wage growth between that year and today, finds the monthly average to get your AIME, and then compares your AIME to the formula based on the "bend points." You get 90% of your earnings back up the first "bend point" 35% between point 1 and point 2 and 15% after point 2 up to a maximum benefit.

The effects of changing from wage indexing to price indexing depend crucially on if you are changing one or the other.

The most innocuous (and the one that I incorrectly thought most people were talking about) is changing the indexing of earnings. For example, if you made $5,000 in 1970, under the wage indexing formula you'd multiply that number by 5.07 to figure that year's contribution to your AIME. Under CPI indexing you'd multiply by 4.80. For your 1990 earnings you'd multiply by 1.42 instead of 1.62. This is really a modest change. Someone retiring in 2100 would only lose a maximum of the weighted average of the difference between the CPI and wage growth between 2060 and 2100.

However, the "bend points" were set in 1979. Those don't grow. Today's bend points are calculated by scaling up these 1979 values by wage growth between 1979 and today. Changing from wage indexing to price indexing would mean that someone retiring in 2100 would lose an amount proportionate to the difference between the CPI and wage growth between 1979 and 2100. Thanks to compound interest, this difference will grow arbitrarily large over time with the implication that changing the indexing of the "bend points" would eventually totally eliminate Social Security.

"Saving" Social Security really only requires modest tweaks here and there. Changing the indexing in AIME is one of those modest tweaks that seems reasonable to me. [I discuss others in a previous post.] However, changing the indexing of the "bend points" is not a modest change and those concerned about preserving Social Security for the future should be wary.

UPDATE: I've been scolded by my brother and others for not defining what I mean by "eliminate" Social Security. Basically, retirees currently receive around 40 percent of their pre-retirement wages back in benefits. If all wage indexing were eliminated in favor of price indexing, this percentage would fall year after year ultimately becoming an insignificant fraction of pre-retirement wages. My point is that the implications of switching from wage indexing to price indexing depends on which components of Social Security you're talking about and that changing different components may have very different effects.

In Praise of Malcolm Gladwell (and His Website!)

2004-12-15T11:49:00.000-05:00

Malcolm Gladwell, a frequent New Yorker contributing author, keeps his writings online.
First, he asks interesting questions and writes on interesting topics:"How to think about prescription drugs," "Are smart people overrated?," and "What do job interviews really tell us?"
Second, he archives his writing online. Why don't all authors do this? As an economist, it's crucial that I'm able to look up working papers by other economists and to my advantage to put my writing where people can find it. Don't newspaper reporters or magazine writers have the same incentives?

UPDATE: Virginia Postrel archives her writing as well!

"Jail Mail"

2004-12-14T09:04:00.000-05:00

Alex Tabarrok has an interesting quotation from a current inmate on the incentives of prison operators (though perhaps he's not totally unbiased):

"A privately owned and publicly traded company like CCA has no incentive to rehabilitate criminals. It is in the best interests of the company for even more criminals to exist. Unfortunately, the same is true of government run prisons. And contrary to what you may have been told, prisoners are not paroled because they have indicated by their actions or behaviors while inside that they are less likely to reoffend; they are let go because the Parole Boards believe that will commit another crime. This way the prison lobbyists can then "prove" that parole doesn't work. The Department of Corrections gets less money from paroled prisoners than it does for those kept inside. And also, "good" inmates are less trouble (less labor) than the trouble-makers, and so trouble-makers get released."

UPDATE: A good editorial in the NY Times that touches on the incentives of politicians in rural towns with prisons:

"Inmates, as it turned out, were magically transformed into "residents," thanks to a quirk in the census rules that counts them as living at their prisons. Although people sentenced under the drug laws frequently serve long sentences, many prisoners remain behind bars only briefly before returning to homes that are often hundreds of miles away.

Felons are barred from voting in 48 of 50 states - including New York. Yet in New York, as in the rest of the country, disenfranchised prisoners are included in the population counts that become the basis for drawing legislative districts.

An eye-opening analysis by Prison Policy Initiative's Peter Wagner found seven upstate New York Senate districts that meet minimal population requirements only because prison inmates are included in the count. New York is not alone. The group's researchers have found 21 counties nationally where at least 21 percent of the "residents' were inmates."

The Cold-Weather Theory of Witchcraft

2004-12-12T14:55:00.000-05:00

The New York Times's magazine section ran a series on the best ideas of 2004 which included a description of Emily Oster's paper on The Cold-Weather Theory of Witchcraft. (The actual paper can be downloaded at her web page.) It's an interesting paper but one that was not well-received in the history class she wrote it for. [I think it initially earned her something like a B-. For those not at Harvard a "B-" equals "F." Hopefully her old prof gets the Times.] It's good to see a good idea justly rewarded.