Archive for the ‘Tax and Budget Policy’ Category
Looking at Austerity in Italy
The Italian economy contracted for a third quarter in a row, deepening the country’s recession and adding to the fire of the euro crisis. Italy is the third largest economy in the Eurozone, and many view it as the endgame of an eventual collapse of the common currency because it is too big to fail. Neither the EU nor the IMF have enough cash to rescue it. If the country defaults, that would probably spell the end of the euro.
Austerity is being blamed for Italy’s economic troubles. Chiara Corsa, an economist at UniCredit, wrote that “The key factor is austerity, which is weighing heavily on consumption and investment.” Recent local elections saw the rise of anti-austerity parties. Paul Krugman warned about this back in December when he described the austerity push of Prime Minister Mario Monti as “self-defeating” and “delusional.”
However, as is the case for Britain, France and Greece, commentators are unclear about what austerity means for Italy, although many seem to imply spending cuts. For example, if Krugman’s criticism about Italian austerity is consistent with his critiques about austerity elsewhere in Europe, we know he means spending cuts. So let’s take a look and see if there has been any:
* Using GDP deflator.
Source: European Commission, Economic and Financial Affairs.
Spending in nominal terms increased by a yearly average of 4.1% between 2000 and 2009, and then fell slightly the following year. In 2011 government spending was just 0.14% below its 2009 level. As for spending in real terms, there’s no cut whatsoever. And as a share of the economy, total spending reached a peak in 2009 at 51.6% of GDP, and it fell to 49.6% last year, a decline far from significant.
So what’s austerity all about in Italy so far? According to The Financial Times, the “government’s €30 billion austerity package, passed in December, was heavily oriented towards tax increases rather than spending cuts, an emphasis that is now widely recognized by ministers as having driven Italy deeper into recession.” The FT adds that the Monti administration is facing “intense pressure from business, politicians and the public to shift the burden of austerity away from heavy taxation towards cuts in public spending.” As a result, the Italian Prime Minister announced €4.2 billion in spending cuts starting in June, still less than 1% of total public spending. That doesn’t sound savage to me.
But it’s quite fascinating to see the hysteria surrounding non existent spending cuts and its supposedly negative impact on economic growth. For example, last December The Economist warned:
“But too great an emphasis on austerity in the short run risks sending the continent’s economy into a deep recession; the latest data on Italian industrial production showed an annual fall of 4.1% in October, even before budget cuts were introduced by the new government.”
Interestingly, according to The Economist, spending cuts were somehow responsible for a decline in economic output in Italy even before being implemented!
If austerity is to blame for Italy’s recession, we need to be clear that by austerity we mean mostly tax increases with almost no reduction in government spending.
The States Are Already Getting Bailed Out
In today’s Wall Street Journal, Sen. Jim DeMint (R-SC) and Rep. Kevin Brady (R-TX) advise the states to get their fiscal houses in order instead of holding out hope for a bailout from federal taxpayers. That’s sound advice. However, the states already effectively get bailed out by federal taxpayers each and every year.
The first chart shows that the federal government has accounted for over a third of total state spending in recent years. The increase can be attributed to federal “stimulus” spending. The federal government’s share will retreat as the economy (hopefully) continues to strengthen and federal policymakers limit spending increases in the face of mounting debt. However, getting the federal government’s share of total state spending back to, say, 30 percent would be nothing to celebrate.
The post-stimulus decrease in Washington’s generosity to the states has state and local officials—and the special interests that ultimately benefit from the Beltway-to-State money laundering operation—concerned. Reporters typically relay these concerns to the public without adding any historical context. The following chart provides that context, and it indicates that the concern shouldn’t be that the states won’t be getting as much money; rather, the concern should be that the states have become dangerously reliant on federal money.
So here’s another suggestion for state and local officials. If you want to spend more money than Washington will give you, go out and tell your taxpayers that you want to increase their taxes to pay for it.
[See this Cato essay for more on why the federal government should cut aid to the states.]
Dealing with Fiscal Challenges
I was recently asked the following:
You gotta figure:
- States defaulting on pension obligations through bankruptcy and/or action by legislatures. Some de facto defaults will likely be to promise payment at age 90 or whatever.
- National governments, including the US, also likely defaulting on everything, gov’t bonds and so-called “entitlements.”
So, pensioners, city, state and national get at least a huge haircut on what they expected and Medicare and Medicaid just aren’t viable over time.
What are the economic implications and possible other implications?
Here’s my response:
Many US states are facing pension fund insolvency and will have to impose heavier burdens either on taxpayers, employees, or retirees, or some combination thereof. There is a precedent, although not a direct one, for a federal bailout of state and local governments: The Emergency Relief and Construction Act of 1932 provided $300 million to be lent to the states (and onward to cities and counties) for relief. Everybody understood that these loans probably would never be repaid and, in fact, they were eventually written off. This statute was the first breach of the federal “relief dam” — one that burst after FDR took office in March 1933. Despite it, three states-Arkansas, Louisiana, and South Carolina-defaulted on their debts. By the end of 1933, approximately 1,300 local governments also had defaulted and many other state and local governments verged on default.
Recently, Ben Bernanke has ruled out a bailout of states via the Fed (who believes him, given what he’s already done?) and Eric Cantor recently wrote that the states have the tools to deal with their fiscal challenges, including renegotiating agreements with public-sector unions. In his opinion, there is no reason for federal involvement in state government fiscal problems, but how policymakers will respond when the chips are down (or there’s “blood on the streets”) is anyone’s guess. Some states are in pension trouble because they assumed highly risky investment strategies that failed when asset values sank during the 2001 and 2008-09 recessions. One favorable element for some states – Arizona, Utah, Texas, NM, etc. — is their favorable demographics that could help them to slowly improve their pension and fiscal conditions.
At the federal level, the default must also occur through a “renegotiation” of entitlement promises. The Medicare actuaries have clearly indicated that the so-called Medicare fix enacted through ObamaCare is untenable. So, whether or not ObamaCare is repealed, we’re still at square one and a renegotiation must happen soon. The problem is that we always wait for the people to deliver a “clear verdict” through elections, and elections usually don’t. Leadership on this issue is sorely needed but is not forthcoming for understandable reasons. The political game is to push the adjustment costs out into the future — but eventually it will imply significantly reduced living standards for future generations. How that will come about — whether through a crisis as in Greece and Spain, or through a gradual erosion of living standards is difficult to say. The inevitability of one or the other is not in doubt. All we could say is that the probability of a resolution through a violent crisis increases the longer we continue to push the costs out.
I’m placing a high probability on the dissolution of the Euro by the end of this year. With the election results in France, Greece, and Germany, the debt roll-over requirements that Greece, Spain and Italy are facing, and the impossibility of external sources of credible “bailouts” I don’t see how it can be any other way. Some people wonder whether the periphery states will opt out first or whether Germany and stronger northern states will move first to kick them out. There are no formal exit strategies included in the European Stability and Growth Pact. I think, though, that it will be the former — the southern countries are facing austerity with, or chaos without, the Euro and now the perceived difference between the two is not very large.
To answer the last question “And then what?” I would simply say that the developed nations will all be poorer — have lower living standards, more unemployment, less growth, etc, until the boomers pass away. I predict as much in my book that examines the implications of demographic and economic trends in developed nations (it does not deal with business cycle related events). Future generations will have to re-think the state-citizen relationships — a process that we can influence.
Revolt of the Italian Tax Slaves
I wrote last year about a tax protest in Ireland, and I wrote earlier this year about a tax revolt in Greece.
But Irish and Greek taxpayers are wimps compared to their Italian compatriots. When Italians decide to have a tax revolt, they don’t kid around. Here are some remarkable details from the UK-based Telegraph.
In the last six months there has been a wave of countrywide attacks on offices of Equitalia, the agency which handles tax collection, with the most recent on Saturday night when a branch was hit with two petrol bombs.Staff have also expressed fears over their personal safety with increasing numbers calling in sick and with one unidentified employee telling Italian TV: “I have told my son not to say where I work or tell anyone what I do for a living.”
As much as I despise high taxes, I don’t think petrol bombs are the answer. But I am glad that at least some of the bureaucrats feels shame about their jobs.
Not surprisingly, the political elite wants people to be deferential to predatory government.
Annamaria Cancellieri, the interior minister, said she was considering calling in the army in a bid to quell the rising social tensions.“There have been several attacks on the offices of Equitalia in recent weeks. I want to remind people that attacking Equitalia is the equivalent of attacking the State,” she said in an interview with La Repubblica newspaper.
Here’s some advice for Ms. Cancellieri: Maybe people will be less likely to attack “the State” if “the State” stops attacking the people.
But don’t expect that to happen. The Prime Minister also demands obedience to “the State” and there’s rhetoric about “paying taxes is a duty” from other high-level government officials.
Saturday night’s attack took place on the Equitalia office in Livorno and the front of the building was left severely damaged by fire after the bombs exploded. The phrases “Thieves” and “Death to Equitalia” were sprayed onto outside walls. It came just 24 hours after more than 200 people had been involved in running battles with police outside a branch in Naples which left a dozen protesters and officers hurt. …There has also been a striking increase in suicides with people leaving notes directly blaming Equitalia and tax demands. Paola Severino, the Justice minister, said: “The economic situation has produced unease but paying taxes is a duty. On one side there is anger and the problem of paying when the resources are scare but on the other side is the fact that they must be paid.” …Mr Monti has vowed to press on even harder this year to recover the lost money. He is due to have a meeting with Equitalia chief Attilio Befera to discuss the situation and he has already said: “We are not going to take a step back, there will be no giving in to those who have declared was against the revenue and therefore the State. We will not be intimidated.”
Keep in mind, by the way, that this is the government that supposedly is being run by brilliant technocrats, yet they are so incompetent that they appoint the wrong people to posts. But the real problem is that government is far too big, consuming one-half of Italy’s economic output.
If Italy’s political class wants to improve tax compliance, they should listen to the IMF and academic economists, both of whom point out that lower tax rates reduce incentives for evasion and avoidance.
It also would help to shrink the burden of the public sector. Unfortunately, as is the case with most other European nations, “austerity” in Italy mostly means higher taxes, not less spending.
$1 Million in Waste, but No Bathtubs
(Image Credit: Google Plus)
Occasional episodes of government mismanagement explode into big scandals, such as the General Services Administration’s party in Las Vegas that wasted more than $800,000.
Other waste gets flagged by auditors but generally goes unnoticed. I came across this new Inspector General (IG) report revealing $1 million of waste at the Bureau of Indian Affairs (BIA). Unlike the GSA scandal, it included no photos of bureaucrats in bathtubs, so you probably won’t see it on the cable news.
Still, the BIA episode revealed many standard elements of federal waste. According to the IG, the episode included:
- A Politician Seeking Something: Then Senator Byron Dorgan (D-ND) pressured the BIA to hire more law enforcement officials.
- An Incompetent Agency: The BIA contracted-out head-hunter activities to a group called the National Native American Law Enforcement Association (NNALEA). The IG says that the BIA “violated federal procurement regulations” a variety of ways, and it was clearly duped by the contractor. The NNALEA “capitalized on the bureau’s failures.”
- A Contractor Doing Shoddy Work: The applications sent by the NNALEA to the BIA for the law enforcement jobs were of very poor quality. Of the 514 reviewed by the IG, for example, 104 simply didn’t meet the age requirements. All in all, “none” of the applications was of any use to the BIA.
- A Lack of Personal Responsibility: NNALEA’s leaders generally refused to be interviewed by the IG regarding their failures. And because the IG’s new report came out a couple years after the events took place, the key BIA personnel responsible have moved on, including the then-head of the BIA, Larry Echohawk.
In sum, routine bureaucratic and political factors resulted in the BIA spending $1 million from which taxpayers and the intended recipients received “no benefit,” according to the IG. So no bathtubs on this one, just a run-of-the-mill Beltway boondoggle.
Will Smith: Socialists Just Don’t Understand
My French is rusty, but I’m pretty sure the Fresh Prince just flipped out at the idea of a 75-percent marginal tax rate like that advocated by France’s new socialist president.
Looking at Austerity in Greece
Since 2009 Greece has been at the epicenter of the euro crisis, and after last week’s parliamentary election, it looks like its departure from the common currency is a matter of weeks. Everyone agrees that Greece didn’t get into trouble because it spent too little, just the opposite. When George Papandreou became prime minister in October 2009, he found that his conservative predecessor had cooked the books and left him with a staggering fiscal deficit of 12.7% of GDP. The socialist Papandreou was then forced to shelve his promises of more handouts and implement a program of fiscal austerity in exchange for multi-billion bailouts from the European Union.
Two and a half years on, things look as bleak as ever for Greece, with an economy that is still shrinking and unemployment on the rise. Today, many people claim that, even though profligacy was the source of Greece’s problems, austerity is now making things worse by cutting spending too fast too soon. Time magazine’s Fareed Zakaria explained the dynamics yesterday in his CNN show GPS:
“The problem is that as these governments cut spending in very depressed economies, it has caused growth to slow even further – you see government workers who have been fired tend to buy fewer goods and services, for example – and all this means falling tax receipts and thus even bigger deficits.”
Zakaria is not the only one describing austerity as mostly spending cuts, and some pundits even dramatize the term by adding adjectives such as “deep,” “brutal,” “savage,” or “self-defeating.” Let’s look at how brutal these spending cuts have been in Greece:
Source: Source: European Commission, Economic and Financial Affairs.
Spending has declined to approximately its 2007 level in nominal terms, while in real terms it actually continues to go up. (I look at spending in real terms because that’s what Ryan Avent at The Economist said we should look at in a reply to Veronique de Rugy’s initial graph on austerity in Europe. Note that, as in my previous posts on Britain and France, I’m using the GDP deflator to calculate spending in real terms). If we look at spending in real terms, there haven’t been any spending cuts in Greece. On the other hand, Tyler Cowen observes that “in the short run it is supposedly nominal which matters (that said, gdp and population [and inflation] are not skyrocketing in these countries for the most part).” Let’s look at nominal then. Since 2000, public spending rose in Greece at an annual rate of 7.8% until 2009. Then it declined by 8.3% in 2010 and a further 4.1% in 2011. This is certainly a cut in spending, but far from brutal.
Some argue that we shouldn’t look at spending levels when talking about austerity, but rather at spending as a share of the economy. In that sense, government spending in Greece went up from 47.1% of GDP in 2000 to 53.8% in 2009 and it has come down to 50.3% in 2011—approximately its 2008 level. However, I don’t buy the argument. Does it mean that the government has to spend an ever increasing share of the GDP in order to keep the economy afloat? Is half of the economy not enough when it comes to government spending?
What about Zakaria’s argument of the crippling effect of firing government workers on growth? Last January, The Economist looked at the situation in Greece and noted that “Of the 470,000 who have lost their jobs since 2008, not one came from the public sector. The civil service has had a 13.5% pay cut and some reductions in benefits, but no net job losses.” As for what “austerity” means for most Greeks, the magazine added, “Since Greece’s first bail-out in May 2010, the government has imposed austerity, increasing taxes so much that people can barely manage.”
The Economist is not alone in pointing out the extent to which taxes have gone up. Even the IMF has done so. Back in November, Poul Thomsen, the IMF mission chief in Greece, said that the country “has relied too much on taxes and I think one of the things we have seen in 2011 is that we have reached the limit of what can be achieved through increasing taxes.” Since then Greece agreed to eliminate 15,000 government jobs (2% of its public sector workforce) in exchange for a second bailout. Once again, that figure pales when compared to the number of people who have lost their jobs in the private sector.
The evidence shows that in Greece austerity has meant significant tax increases and timid spending cuts.
Adult Supervision
Some politicians say that banks need more regulation because JPMorgan Chase lost $2 billion, about 2 percent of its annual revenue.
Meanwhile, the federal government will have a deficit of about $1.3 trillion this year, more than half its annual revenue (and about a third of its annual spending).
Is there some sort of regulation that might remedy that?
California Knows How to Party… $16 Billlion Too Lavishly
Californians may be forgiven for expectorating coffee over their morning newspapers today, as they learn that their state deficit is not $9 billion, as Governor Brown’s administration had predicted, but rather $16 billion. Oops.
Further increasing the breakfast table choking hazard is the Governor’s “solution”: raise taxes. Gov. Brown is pushing a fall ballot initiative that would raise both sales and income taxes. He argues that this is preferable to cutting spending on things like public schooling on the grounds that schools have already been slashed to the bone. But have they? Actually, no. California’s per pupil spending has nearly doubled over the past forty odd years, in real inflation-adjusted dollars, and remains near its all-time high.
What did California get for that massive spending increase? Not a great deal if the SAT performance of its college-bound high school students is any guide. And, as I pointed out in this op-ed, it’s a pretty reasonable guide.
But while raising taxes has consistently failed to improve educational performance, cutting them actually works—via tax-credit school choice programs that give families an easier choice between public and private schools. Florida’s education tax credit program, for instance, has been shown to improve the achievement of students who stay in public schools, to improve the achievement of students who accept scholarships and attend private schools, and to save taxpayers millions of dollars a year. If expanded on a mass scale in a large state like California, it would save billions of dollars a year.
So what’ll it be, Californians? Fiscal and education policy sobriety, or the Governor’s hair-of-the-dog continued big government partying?
Romney Needs Spending Cutters
The Washington Times today discusses whether Mitt Romney’s political and policy team is looking too much like George W. Bush’s team. The reporter quotes me in his article:
Chris Edwards, director of tax policy studies at the Cato Institute, a libertarian-leaning think tank, offered glowing reviews of Mr. Romney’s troika of advisers—Mr. Hubbard, Mr. Mankiw and Kevin Hassett, another former member of the Bush team—on issues of taxation and economic policy.
“These are brilliant economists,” Mr. Edwards said before cautioning that Mr. Romney shouldn’t look to Mr. Bush’s team on the spending side.
“A key failing of Bush was that he spent far too much money. Bush’s Office of Management and Budget chiefs, like Joshua Bolten, were not spending cutters. Indeed, they were believers in big government like Bush was,” he said.
“So,” he said, “Romney needs spending-cutting experts to complement these tax experts. Our giant $1 trillion deficits and huge Obama spending increases will be the key thing Romney needs to tackle if he is elected.”
“So he needs experts on how to cut, privatize and downsize federal departments like Housing and Urban Development, Energy and Education. If elected, he needs a hard-line spending-cutting OMB chief. He needs Cabinet secretaries who believe in cutting their own departments.”
Facebook Billionaire Gives Up Citizenship to Escape Bad American Tax Policy
It is very sad that America’s tax system is so onerous that some rich people feel they have no choice but to give up U.S. citizenship in order to protect their family finances.
I’ve written about this issue before, particularly in the context of Obama’s class-warfare policies leading to an increase in the number of Americans “voting with their feet” for places with less punitive tax regimes.
We now have a very high-profile tax expatriate. One of the founders of Facebook is escaping to Singapore. Here are some relevant passages from a Bloomberg article.
Eduardo Saverin, the billionaire co-founder of Facebook Inc. (FB), renounced his U.S. citizenship before an initial public offering that values the social network at as much as $96 billion, a move that may reduce his tax bill. …Saverin’s stake is about 4 percent, according to the website Who Owns Facebook. At the high end of the IPO valuation, that would be worth about $3.84 billion. …Saverin, 30, joins a growing number of people giving up U.S. citizenship, a move that can trim their tax liabilities in that country. …“Eduardo recently found it more practical to become a resident of Singapore since he plans to live there for an indefinite period of time,” said Tom Goodman, a spokesman for Saverin, in an e-mailed statement. …Singapore doesn’t have a capital gains tax. It does tax income earned in that nation, as well as “certain foreign-sourced income,” according to a government website on tax policies there. …Renouncing your citizenship well in advance of an IPO is “a very smart idea” from a tax standpoint, said Avi-Yonah. “Once it’s public you can’t fool around with the value.” …Renouncing citizenship is an option chosen by increasing numbers of Americans. A record 1,780 gave up their U.S. passports last year compared with 235 in 2008, according to government records. …“It’s a loss for the U.S. to have many well-educated people who actually have a great deal of affection for America make that choice,” said Richard Weisman, an attorney at Baker & McKenzie in Hong Kong. “The tax cost, complexity and the traps for the unwary are among the considerations.”
Small Business Survey from Thumbtack.com
Thumbtack.com is a young web start-up that people can use to find service professionals in their area. The company recently utilized its nationwide network to survey small businesses on their state’s business climate (select cities were included too).
The survey, which can be found here, contained a couple of interesting findings. First, although taxes are an important consideration, licensing and regulatory concerns were even more important:
Although taxes are a dominant topic in many discussions of a location’s attractiveness to business, our analysis indicates that small businesses tend to care more deeply about the friendliness of a region’s licensing regime by a factor of nearly two. Similarly, being subject to special regulatory requirements had a negative effect on overall small business friendliness, and among those small businesses subject to special regulations, the ease of complying with these requirements was by far the most important factor.
Second, I was initially disturbed to read that “An important predictor of small business friendliness was whether the respondent was aware of the state or local government offering training programs for small businesses.” Yikes. As a former state budget official, one of the more worthless agencies I encountered was the one that was supposed to assist small businesses. So I was relieved when I then read this:
Interestingly, while those aware of training programs gave overall small business friendliness scores approximately 10% higher than those who were not, respondents who had actually attended one of the trainings rated their states less than one-percent higher than those who were aware of the trainings but had never attended.
For a state by state break-down, see here. Texas, Oklahoma, Idaho, and Utah received the best marks from small businesses, while California, Vermont, and Rhode Island received the worst.
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