Transcript Slide 1 - Ozblogistan

Taxing ourselves into prosperity
Sinclair Davidson
Gross Public Debt
120
100
% GDP
80
60
40
20
0
1992 1994 1996 1998 2000 2002 2004 2006 2008 2010
Australia
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Euro-Area
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OECD
2
% GDP
Structural Government Balance
2.0
1.0
0.0
-1.0
-2.0
-3.0
-4.0
-5.0
-6.0
-7.0
-8.0
1992 1994 1996 1998 2000 2002 2004 2006 2008 2010
Australia
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Euro-Area
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3
Australian Tax and Spend
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US Tax and Spend
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Euro-zone Tax and Spend
54
52
% GDP
50
48
46
44
42
40
1992
1994 1996 1998
2000 2002 2004 2006
Receipts
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2008 2010
Outlays
6
% GDP
OECD Tax and Spend
45
44
43
42
41
40
39
38
37
36
35
1992
1994 1996 1998
2000 2002 2004 2006
Receipts
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2008 2010
Outlays
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Questions
• It is quite clear that governments have been fiscally irresponsible.
– The data supports the that governments have been running long-term
budget deficits.
– The level of public debt did not (generally) fall in the boom times and rise
in the down times.
• The poor fiscal outcomes are NOT due to the Global Finance Crisis.
• Government has to get public finance onto a sustainable and responsible
basis.
– That means balanced budgets in general.
– That means budget surpluses.
– That means either raising taxes or cutting spending.
• There is a question about high levels of public debt.
– Pay it off out of future growth.
– Inflate it away.
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Krugman’s solution: Inflation
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Krugman’s solution: Inflation
• Inflation is difficult to control.
• Inflation distorts the economy.
• A massive inflation would undermine Chinese savings.
• Inflation leads to inefficient ‘investment’.
–Gold.
• Krugman’s ‘solution’ involves aggregates and not
specifics.
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Krugman’s solution: Inflation
• Ludwig von Mises
–‘The assistance of inflation is invoked whenever a government is
unwilling to increase taxation or unable to raise a loan; that is the
truth of the matter.’
–‘It would be a serious blunder to neglect the fact that inflation also
generates forces which tend toward capital consumption. One of its
consequences is that it falsifies economic calculation and
accounting. It produces the phenomenon of illusory or apparent
profits.’
–‘The advocates of public control cannot do without inflation. They
need it in order to finance their policy of reckless spending and of
lavishly subsidizing and bribing the voters.’
–‘Inflation is the true opium of the people and it is administered to
them by anticapitalist governments and parties.’
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Growth accounting


y  k  l  
• Where y = GDP growth
k = net investment rate in capital stock
l
= growth rate in effective labour force
 = productivity growth
 = marginal productivity of capital
 = output elasticity of labour
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Growth accounting
• Five variables → taxation can impact growth in five ways
• Tax can impact the capital stock
– Tax affects investment rate and depreciation
• Tax can impact labour market
– Tax affects labour supply, hours worked, acquisition of educations & skills
• Tax can impact productivity growth
– Tax affects R&D decisions and venture capital choices
• Taxes also affect marginal productivity of capital by distorting investment
away from highly taxed sectors
• Taxes also affect labour output by distorting employment away from high
social output – high tax industry to lower output – lower tax industry
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Growth accounting
• But we have to consider the impact of government spending.
• It is not clear that government spending adds as much value as taxation
takes out of the economy.
• That implies that rigorous cost-benefit analysis needs to be passed before
public spending is justified.
• “… though they may be in the highest degree advantageous to a great
society, [they] are, however, of such a nature, that the profit could never repay
the expense to any individual or small number of individuals.” Adam Smith
1776.
– advantageous
– could never repay the expense
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Private Returns
When Should Government Fund Activity?
Private
Private
Funding
Funding
Nobody should
Public Funding
Fund
(Arrow)
Cost of
Private
Funds
Cost of Public Funds
Public Return
Source: Adapted from Kenneth M. Brown (1998, pg. 45).
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What is the cost of public funds?
• Cost of private funds scaled up by deadweight
costs of taxation.
–Deadweight costs of taxation may be very high!
–Henry Review
–Corporate income tax 40%
–Personal income tax 24%
• The notion that government funding is ‘cheaper’
than private sector funding is simply wrong.
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Taxation and Coercion
Public Good

No
Disputed Territory

Free Rider Problem

Private Economy
No
Coercion
Yes

Yes
Pay Tax
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The Rahn Curve
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The Laffer Curve
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What is the relationship between Rahn and Laffer?
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Can we spend our way out of trouble?
• No.
• Paul Krugman in the Age this morning.
– Now, we weren't supposed to find ourselves replaying the late 1930s.
President Barack Obama's economists promised not to repeat the
mistakes of 1937, when FDR pulled back fiscal stimulus too soon. But by
making his program too small and too short-lived, Obama did just that: the
stimulus raised growth while it lasted, but it made only a small dent in
unemployment - and now it's fading out.
Just as some of us feared, the inadequacy of the administration's initial
economic plan has landed it - and the nation - in a political trap. More
stimulus is desperately needed, but in the public's eyes the failure of the
initial program to deliver a convincing recovery has discredited
government action to create jobs.
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Can we spend our way out of trouble?
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US Stimulus
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US stimulus
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Australian equivalent
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Is government spending self-financing?
• No.
• Robert Reich
– The only sure way to bring that debt down and make it manageable in
future years is to get the economy growing again — which requires that, in
the short term, the government spend a lot of money (because consumers
and businesses won’t).
• Lateral Economics
– So for every dollar the government spent, tax revenue to Australia’s
governments rose by around 22.5 cents, leaving just 77.5 cents to be
repaid. The total windfall to the budget – and to the community – of the
additional tax revenue from the cash transfers is around $6.7 billion. This
money and the production of all those people and all that capital kept in
employment are the riches of good economic management – the only kind
of free lunch we know of.
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Is government spending self-financing?
Suppose I walk up to you and forcibly take from your wallet $3636. That is
roughly about the amount of the Federal Government's combined stimulus
programs per head of population.
I immediately give you back $900 of this for you to spend on anything you
want - cigarettes, clothing, computer games, fridges, handbags, mobile
phones, tattoos, anything you care to buy. You could even deposit it straight
back into your own bank account.
I then spend $2227 of your money on things that take my fancy.
Some lobbyist told me that throwing some of the money I've taken from you
(let's call it what it is, a tax) towards housing insulation batts would somehow
save the Earth. Someone else whispered in my ear that spending a fraction of
the $2227 tax take on school gyms, at inflated rates, would help kids read,
write, add and subtract. In fact, so many people are lobbying me to spend
your money that I need more cash from elsewhere. I resolve this by
borrowing even more currency, on top of your taxes.
I forgot to mention at the outset that 14 cents out of every dollar I spend is on
my own administration costs.
Julie Novak - The Courier Mail 23rd September, 2009
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Did the Rudd Stimulus Packages work?
• No.
• If our package worked, why did everyone else fail?
GDP Growth year to June quarter 2009 %
Figure One: Economic Growth and Stimulus
1
0
-2
-1
-1 0
1
2
3
4
5
6
-2
-3
-4
-5
-6
-7
Size of Stimulus (2008 - 2010 as % 2008 GDP)
Source: Size of St imulus OECD, GDP Growth Australian Financial Rev iew 3 September, pg. 10
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Did the Rudd Stimulus Packages work?
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Did the Rudd Stimulus Packages work?
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Did the Rudd Stimulus Packages work?
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Conclusions
• Vulgar Keynesianism has failed. Again.
– This theory has been tried again and again and always fails.
• Government spending needs to be restrained.
• Economists have known this for a long time.
• Adam Smith
– Great nations are never impoverished by private, though they sometimes
are by publick prodigality and misconduct.
– It is the highest impertinence and presumption, therefore, in kings and
ministers, to pretend to watch over the œconomy of private people….
They are themselves always, and without any exception, the greatest
spendthrifts in the society. Let them look well after their own expence, and
they may safely trust private people with theirs. If their own extravagance
does not ruin the state, that of their subjects never will.
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