Thursday, February 23, 2017

Ponzilocks and the Twenty-Four Trillion Dollar Question

Twenty-three and a half trillion, actually. But what's a few hundred billion? Here today, gone tomorrow, as they say.

At the beginning of 2007, net worth of households and non-profit organizations exceeded its 1947-1996 historical average, relative to GDP, by some $16 trillion. It took 24 months to wipe out eighty percent, or $13 trillion, of that colossal but ephemeral slush fund. In mid-2016, net worth stood at a multiple of 4.83 times GDP, compared with the multiple of 4.72 on the eve of the Great Unworthing.

When I look at the ragged end of the chart I posted yesterday, it screams "Ponzi!" "Ponzi!" "Ponz..."

To make a long story short, let's think of wealth as capital. The value of capital is determined by the present value of an expected future income stream. The value of capital fluctuates with changing expectations but when the nominal value of capital diverges persistently and significantly from net revenues, something's got to give. Either economic growth is going to suddenly gush forth "like nobody has ever seen before" or net worth is going to have to come back down to earth.

Somewhere between 20 and 30 TRILLION dollars of net worth will evaporate within the span of perhaps two years.

When will that happen? Who knows? There is one notable regularity in the data, though -- the one that screams "Ponzi!"

When the net worth bubble stops going up... goes down.

My New Running Shoes and the Auerbach Tax

I’m in the market for a new pair of running shoes and am considering the latest from both Adidas and Nike. I will use my next shopping trip to explain the transfer pricing aspects of a devastating critique of the Destination Based Cash Flow Tax (DBCFT) from Karl Keller, George Korenko, and Lori Hellkamp (KKH):
Like others who have addressed the DBCFT in general, and border adjustments in particular, we have to make certain assumptions about how the border adjustments would work because the details in the proposal are so scant. Indeed, the description of the DBCFT occupies less than two pages of the proposal, and only a few sentences describe the border adjustments ... Likewise, rather than eliminating transfer pricing, the border adjustments will likely shift its focus, incentivizing multinationals to minimize the cost of imports by U.S. affiliates (because such costs would no longer be deductible expenses) and maximize U.S. affiliates’ revenue from exports (because such income would escape U.S. taxation and possibly even result in tax rebates) ... Consider an example to illustrate this point: A U.S. distributor acquires a product from a foreign manufacturer (FM) for $100 and resells it to U.S. customers for $160. (For purposes of this and the next example, we disregard currency adjustments in the figures, as the principle remains the same and, as seen above, perfect and immediate currency adjustments offering universal relief are unlikely.) The U.S. distributor can’t deduct the $100 paid to FM, meaning the distributor has taxable income of $160, with tax of $32 (at the proposed 20 percent rate). Without the border adjustment (and assuming the same 20 percent rate), the distributor’s tax would be only $12. Inevitably the U.S. distributor will try to push at least some of the economic burden of this additional tax cost onto FM.
Both Adidas and Nike are selling my perfect pair of shoes for $160. Each pay $80 per pair (50% of sales) for the design as well as the cost of hiring a Chinese manufacturer. Each incurs $48 per pair (30% of sales) for local sales and marketing expenses. Profits are $32 per pair or 20% of sales, which is divided between the parent corporation and the local distributor depending on the transfer pricing policy. Adidas Germany has established a U.S. distributor – Adidas America – to incur the sales and marketing expenses and in the KKH example, receives a 37.5% gross margin which equates to a 7.5% operating margin or $12 in U.S. profits on my pair of shoes. At a 35% U.S. tax rate, U.S. profits taxes are $4.20. Since the German profits tax rate is only 30%, the CFO of Adidas once wondered why they don’t raise the intercompany price from $100 to $110 but his tax director told him that the IRS team is insisting on their 7.5% operating margin. If DBCFT is adopted, the incentives change as a lower transfer price would eliminate German profits but not change the U.S. tax bill. This was the point of my Trump Toaster Oven example. So yea – transfer pricing manipulation could still exist but now this becomes a German problem. I suspect the German authorities might object if the intercompany price was reduced to $80. But at least the U.S. gets its $22.40 in sales tax – right? That might be true under a retail sales tax arrangement but not necessarily under a VAT. KKH also note that Adidas might scheme DBCFT by asking me to buy my shoes via the internet:
If, instead, FM, which otherwise has no nexus with the U.S., sells directly to the U.S. consumer for $160, it bears no U.S. tax. Without the imposition of a standalone import tax, FM can increase its profit—and even undercut the retail price relative to what U.S. distributors must now charge, while still making a higher profit. In short order, virtually all sales of foreign goods into the U.S. would be made direct to the end consumer, cutting out the tax-costly U.S. middleman.
Nike might look at this scheme and lament that the otherwise conservative folks at Adidas had outdone them in terms of transfer pricing aggression. Nike is known for sourcing some of its foreign based profits in Bermuda but credit the IRS on currently insisting that Nike pay the U.S. some of the intangible profits. DBCFT, however, would give Nike a huge tax break on its foreign sourced income. But Nike also realizes that half of its approximately $30 billion in sales per year are to U.S. customers like me. KKH note that Nike could pull the same trick:
Taking this example one step further, a U.S. seller into the domestic market will also have a strong incentive to adopt this same strategy. Assume a U.S. manufacturer sells the same product as in the above example, with a cost of production of $80. It will sell to a U.S. customer at the market price of $160, and would be subject to tax of $16, resulting in an after-tax profit of $64 ($80 – $16). But if it established a foreign distributor (FD) and sold the product to FD for $150, followed by FD’s resale to the U.S. customer for $160, the U.S. seller would have $70 of profit, subject to no U.S. tax—plus the $10 of profit residing in FD, also subject to no U.S. tax (assuming FD otherwise has no U.S. taxing nexus; for that matter, FD need not be related—U.S. sellers would probably find little difficulty locating foreign companies willing to earn modest profits for acting as a go-between).
Daniel Hemel noted something similar with respect to Microsoft tax planning. KKH also state:
A more traditional VAT would also be expected to withstand a WTO challenge, be compatible with the U.S.’s existing network of income tax treaties, and enjoy the benefit of other countries’ experiences, which could provide guidance for a VAT’s adoption and implementation. This conclusion may seem obvious, but only if one ignores political realities—there is no appetite in Congress for enacting a ‘‘new tax,’’ particularly one that would ultimately fall on American consumers.
Indeed there are simpler ways of accomplishing what Alan Auerbach wants to do but Paul Ryan does not a clear and honest debate over tax policy. Paul Ryan is also making a lot of wonderful sounding claims about DBCFT but then when has Ryan ever been honest about tax policy? Oh well – time to go shopping.

Wednesday, February 22, 2017

Nineteen Ninety-Six: The Robot/Productivity Paradox

For nearly a half a century, from 1947 to 1996, real GDP and real Net Worth of Households and Non-profit Organizations (in 2009 dollars) both increased at a compound annual rate of a bit over 3.5%. GDP growth, in fact, was just a smidgen faster -- 0.016% -- than  growth of Net Household Worth.

From 1996 to 2015, GDP grew at a compound annual rate of 2.3% while Net Worth increased at the rate of 3.6%.

Responding to an editorial in the New York TimesJared Bernstein reprised a theme that Dean Baker has been stressing for a while -- that productivity and investment measures don't support the "robots are stealing jobs" story. I agree with Jared and Dean that it is policy, not robots that are stealing the jobs. But I am skeptical about using productivity numbers as evidence against the role of labor-saving technology in displacing people from employment.

The reason for my skepticism is that labor productivity is a ratio between two very broad aggregates -- GDP and hours worked -- that lump together a myriad of disparate economic factors. Here is the argument I made to Dean back in December. He was not persuaded:
The difficulty I have with the evidence you [Dean] use for your argument has to do with the changing composition of the aggregate measures that make up the productivity calculation and the possibility that confounding variables in each of those aggregates may be "compounding the confounding" when used for year-to-year comparison. 
As Block and Burns pointed out, the National Research Project that developed the original productivity estimates argued that "no such thing exists in reality" as the productivity of a group of diverse products. Instead they presented two calculations of productivity, using different weighting, to show that the "measurement" depended in part on the weighting of the variables. 
The shift from physical output to GDP measures obscured the fact that there is "no such thing" as the productivity of a diverse collection of products. Monetary value converts those diverse products into so much "leets" -- to use Joan Robinson's sarcastic term. Obviously the mix of goods and services that make up the GDP differs from year to year. The GDP deflator is intended to adjust for price changes and quality improvements but doesn't deal with distributional changes and product substitution. 
The government services component of national income has been a particular issue, the critique of which goes back to Kuznets's 1947 criticism of the Commerce Department's GNP and Kaldor's statistical appendix to Wm. Beveridge's Full Employment in a Free Society. Kuznets argued that much of government services should be treated as intermediate goods rather than final consumption goods. Kaldor considered the inflationary affects of government deficit spending, arguing that some of that "inflation" simply reflected the increased share of collective consumption. Warsh and Minard offered a critique of "inflation" in the 1970s that could easily have referenced Kuznets'sand Kaldor's arguments. Their idea was basically that as government expenditure increases as a percentage of GDP, much of the taxation to pay for it is passed on to the consumer in the form of higher prices. It is an argument about the incidence of taxation. 
Finally, there is the question of the "productivity" of hours of work themselves. Presumably there is an optimal length (or innumerable optimal lengths) of the working day, workweek or year and variation above or below that optimum will result in lower output per hour. Aggregate hours of work and average annual or weekly hours do not reflect changes in the dispersion of hours of work that may in turn be affecting the productivity of hours. Computationally, this injects a circular reference into the measurement of productivity. If you tried to do this on an Excel spreadsheet you would get an error message. It is only by ignoring the feedback effect of changes in hours and changes in dispersal of hours that productivity can be calculated as GDP/Hours. 
By definition, new technology introduces changes in product mix and changes in work arrangements. But also, by definition, the two components of the productivity calculation assume "no change" in product mix or work arrangements. So I'm having trouble seeing how a ratio that relies on an assumption of no change could be adequate to measure the effects of change.
When Jared posted his commentary, I wanted a quantitative illustration of the point I was trying to make. I had already been wondering about the question raised by Bill Gates about taxing robots and the idea that wealth creation might be "bypassing" income, so I looked up the net worth statistics.

After a bit of number crunching, I am astonished at what I see in the numbers. It is not just the discrepancy between GDP and net worth that impresses me but also the long period prior to 1996 during which the two numbers grew at a very similar rate. In the chart below, I have indexed both series to 100, with 1996 as the reference date. The smooth curve is actually two trend lines based on the 1947 to 1996 trend for each series:

Logically speaking, and using the plain language meaning of the terms, wealth is something that is produced. So increases in wealth presumably are predicated on increases in production. It makes intuitive sense that over the long run there would some sort of stable relationship between the growth rates of GDP and of wealth. I was not anticipating, however, such a close fit between the two series from 1947 to 1996. It only accentuates the disjuncture between GDP growth and growth of Net Worth after 1996.

The above chart only goes to the end of 2015, so it doesn't include the recent stock market boom. Nevertheless, it presents an unsettling picture.

Returning to the puzzle of productivity, the point that I was trying to illustrate is that the comparability of the productivity measure requires a good deal of faith in the proportional stability of the economic relationships over time. If there are significant shifts in employment by sector, technology, resource availability, trade arrangements and/or consumption tastes, then comparing productivity between periods is futile. There is too much noise in the component aggregates to begin with -- but using a ratio between them amplifies the noise.

Tuesday, February 21, 2017

Trump Trade Deficit Accounting

Reuters reports:
U.S. President Donald Trump's administration is mulling changes to how it calculates U.S. trade deficits in a way that would likely help bolster political arguments to renegotiate key trade deals, the Wall Street Journal reported on Sunday, citing people involved in the discussions….If the government adopted the new method, the deficit with Mexico would be nearly twice as high. The Journal reported that career government employees at the U.S. Trade Representative's (USTR) office objected to a request to prepare data using the new methodology.
The Wall Street Journal story can be found here if you can get past the fire wall. Tyler Durden appears to be unhappy with this idea and reports:
According to WSJ sources, the White House is considering not counting re-exports from the US trade balance: i.e., excluding from U.S. exports any goods first imported into the country, such as cars, and then transferred to a third country like Canada or Mexico unchanged. Such an approach would inflate trade deficit numbers because it would typically count goods as imports when they come into the country but not count the same goods when they go back out.
That does seem odd. Let’s take an example based on Ford selling its cars to Canadian customers and having them manufactured in Mexico. Suppose Ford Canada sold a car for $20,000 that cost Ford Mexico $16,000 to produce and cost Ford Canada $2000 to distribute. Ford worldwide made $2000 in profits off of that car. The balance of trade statistics currently would take Ford’s transfer pricing as given so let’s speculate on how this might work. Suppose Ford US paid Ford Mexico cost plus 5% or $16,800 but then charged Ford Canada $17,600 on the premise that the Canadian distributor deserved a 12% gross margin as its operating expenses were 10% of sales. Ford US would retain $800 per car in profits for effectively doing nothing. Of course Ford might argue that this represents the value of Ford’s intangibles. I can see the tax authorities of Canada and Mexico disagreeing on this allocation of income. My simple point, however, is that current balance of trade accounting relies on the intercompany pricing of multinationals which at times can be suspect.

Monday, February 20, 2017

Border Taxes and the Maquiladora Program

While the House Republicans are pushing that Destination Based Cash Flow Tax, President Trump has other ideas as do the Senate Republicans. Trump wants to encourage U.S. net exports by simply placing a 20% tariff on goods from Mexico while some in the Senate want to simply reduce our corporate profits tax rate to 20% (Mexico’s corporate profits tax rate is 30%). Suppose we do both – keep the corporate profits tax but at a lower rate and impose tariffs on imports from Mexico. Not that I’m endorsing either but this GAO document was interesting with its title:
International Taxation: IRS' Administration of Tax-Customs Valuation Rules in Tax Code Section 1059A (Letter Report, 02/04/94, GAO/GGD-94-61).
What is section 1059A?
Congress enacted section 1059A in 1986 to improve IRS' enforcement of transfer pricing regulations. Section 1059A was designed to prevent the federal government from being whipsawed by an importer, on property acquired from a related party, who claims a low valuation for customs purposes and a higher valuation for tax purposes ... The legislative history of the section indicates that the section was intended to address the Tax Court holding of Brittingham v. Commissioner. In this case, IRS determined that a U.S. importer paid more than an arm's length price for ceramic tile imported from a related party in Mexico. The purchase price exceeded the value reported for customs duty purposes.
This case dates back to intercompany pricing when John Kennedy happened to be President. Imagine you were a homeowner way back then and you purchased $100 in ceramic tile that cost the Mexican affiliate of a multinational $60 to produce and $20 for the U.S. affiliate to distribute. The $20 in profits would have been taxable partly in Mexico and partly in the U.S. depending on the transfer pricing policy, which we was set at $66 for Mexican income tax purposes and U.S. customs purposes. But somehow this multinational got away with telling the IRS that the intercompany price was $80 for U.S. income tax purposes. So it got away with a low customs duty charge and having about 70% of its profits tax-free for income tax purposes. Nice trick I guess. So yea – section 1059A was sort of a good idea. But here is where this gets weird:
According to IRS officials, since 1986 IRS has raised section 1059A issues in nine audits. Furthermore, when raised in audits, its application has been primarily directed at taxpayers operating under the maquiladora program--U.S.-owned manufacturing and assembly operations in Mexico (maquiladoras) that export their products back to the United States. About 2,100 maquiladoras exported products to the United States in 1991 ... In response to our inquiry on legislative options, IRS' Office of Chief Counsel concluded in a January 7, 1993, letter that the issue addressed in the technical advice memorandum is not a tax problem. Rather, it believed that the problem is with customs valuation that results from a loophole in customs legislation. The letter concluded the issue should be resolved by amending customs law.
So the remedy is to ask any multinational declaring inconsistent transfer pricing to pay more customs duties? And the focus was on Mexican maquiladoras? I bet you caught the irony of the fact that this document was issued in 1994 just as NAFTA kicked in eliminating most tariffs on imports from Mexico. One should also remember that even before NAFTA that the entire point of the maquiladora program was to allow U.S. multinationals to import goods manufactured in Mexico duty free.

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Sunday, February 19, 2017

Manifesto for a Suicide Cult

In an earlier post, Peter Doman, "would sincerely appreciate intelligent arguments from the degrowth side" in response to the question of "whether declining investment is an occasion for celebration?" In Dorman's opinion, "degrowth is a suicide cult masquerading as a political position."

In a nutshell, the degrowth argument is that there are real limits to growth and that consequently an end to growth will happen whether it is desired or not, planned or unplanned. It would thus be prudent to mitigate the prospective end of growth by planning for it, to whatever extent possible.

Degrowth, is thus not a utopia but a cautionary tale. Here is how Georgescu-Roegen framed the matter in his 1975 article, "Energy and Economic Myths":
Undoubtedly, the current growth must cease, nay, be reversed. But anyone who believes that he can draw a blueprint for the ecological salvation of the human species does not understand the nature of evolution, or even of history -- which is that of permanent struggle in continuously novel forms, not that of a predictable, controllable physico-chemical process, such as boiling an egg or launching a rocket to the moon.
In conclusion, he conceded that "The most we can reasonably hope is that we may educate ourselves to refrain from 'unnecessary' harm..." and dismissed notions of "complete protection and absolute reduction of pollution" as "dangerous myths." Acknowledging the impracticality of a "complete renunciation of... industrial comfort," Georgescu-Roegen instead sketched what he termed a "minimal bioeconomic program":
First, the production of all instruments of war, not only of war itself, should be prohibited completely. It is utterly absurd (and also hypocritical) to continue growing tobacco if, avowedly, no one intends to smoke. The nations which are so developed as to be the main producers of armaments should be able to reach a consensus over this prohibition without any difficulty if, as they claim, they also possess the wisdom to lead mankind. Discontinuing the production of all instruments of war will not only do away at least with the mass killings by ingenious weapons but will also release some tremendous productive forces for international aid without lowering the standard of living in the corresponding countries. 
Second, through the use of these productive forces as well as by additional well-planned and sincerely intended measures, the underdeveloped nations must be aided to arrive as quickly as possible at a good (not luxurious) life. Both ends of the spectrum must effectively participate in the efforts required by this transformation and accept the necessity of a radical change in their polarized outlooks on life.  
Third, mankind should gradually lower its population to a level that could be adequately fed only by organic agriculture. Naturally, the nations now experiencing a very high demographic growth will have to strive hard for the most rapid possible results in that direction. 
Fourth, until either the direct use of solar energy becomes a general convenience or controlled fusion is achieved, all waste of energy -- by overheating, overcooling, overspeeding, overlighting, etc. -- should be carefully avoided, and if necessary, strictly regulated. 
Fifth, we must cure ourselves of the morbid craving for extravagant gadgetry, splendidly illustrated by such a contradictory item as the golf cart, and for such mammoth splendors as two-garage cars. Once we do so, manufacturers will have to stop manufacturing such "commodities." 
Sixth, we must also get rid of fashion, of "that disease of the human mind," as Abbot Fernando Galliani characterized it in his celebrated Della Moneta (1750). It is indeed a disease of the mind to throw away a coat or a piece of furniture while it can still perform its specific service. To get a "new" car every year and to refashion the house every other is a bioeconomic crime. Other writers have already proposed that goods be manufactured in such a way as to be more durable. But it is even more important that consumers should reeducate themselves to despise fashion. Manufacturers will then have to focus on durability. 
Seventh, and closely related to the preceding point, is the necessity that durable goods be made still more durable by being designed so as to be repairable. (To put it in a plastic analogy, in many cases nowadays, we have to throw away a pair of shoes merely because one lace has broken.)
Eighth, in a compelling harmony with all the above thoughts we should cure ourselves of what I have been calling "the circumdrome of the shaving machine," which is to shave oneself faster so as to have more time to work on a machine that shaves faster so as to have more time to work on a machine that shaves still faster, and so on ad infinitum. This change will call for a great deal of recanting on the part of all those professions which have lured man into this empty infinite regress. We must come to realize that an important prerequisite for a good life is a substantial amount of leisure spent in an intelligent manner.

Bill Gates's Robot Tax

Bill Gates wonders if we should tax robots who take jobs from people:
"Right now, the human worker who does, say, $50,000 worth of work in a factory, that income is taxed and you get income tax, social security tax, all those things. If a robot comes in to do the same thing, you’d think that we’d tax the robot at a similar level." -- Bill Gates
Gates is suggesting taxing robots as a way of financing the retraining of displaced workers -- not as a measure to inhibit their introduction. But, of course, taxes act as disincentives for the taxed activity as well as revenue generators.

Tim Worstall thinks taxing robots is a bad idea "because we don't want to tax production at all." What does Worstall propose instead of taxing robots?  "Exactly the same places we get the tax revenue from today, from some combination of everyone's incomes and or consumption." Worstall believes that since the introduction of robots will increase aggregate production, that will automatically increase tax revenues to offset the lose of tax revenues from the incomes of workers displaced by robots.

Unfortunately for Worstall's argument, he fails to distinguish between physical production and value production and as a consequence overlooks the question of distribution of the latter. There may be a larger quantity of goods and services produced, having a greater aggregate value but a larger proportion of that value may consequently be sheltered from taxes. In fact, it probably is because of tax policies that seek to encourage investment (not to mention tax havens and other loopholes).

In short, taxation is not some exogenous distortion imposed on a fine-tuned, market-based economic machine. It is part of the underlying structure. Whether or not "taxing robots" makes sense, Gates's comments address a real conundrum. Changing the income shares of capital and labor has an impact on tax revenues that is not automatically compensated by aggregate growth of GDP.

Degrowth and Disinvestment: Yea or Nay?

Hey, degrowthers!  I know you’re out there.  I’d like to get your take on a post by Tim Taylor on investment.  Taylor points out that both gross and net investment as a share of GDP have been falling in the US, net faster than gross.  (Deduct investment that replaces depreciation from the gross figure and you have nothing but net.)  Here is his key diagram, culled from FRED.

There is a lot of cyclical variability, but peak to peak or trough to trough we’re definitely headed down.

So my question for the degrowth community is whether declining investment is an occasion for celebration?  Does this mean that economic policy is actually getting something right?

Here’s one answer I won’t accept: we don’t care about growth in general, just growth of bad stuff, like fossil fuels, accumulation of waste, destruction of coastlines, etc.  That isn’t a degrowth position.  Everyone wants more of the good and less of the bad, however they define it.  I’m in favor of only toothsome pizza crusts and I’m dead set against the soggy kind, but that’s not the same as being on a diet.

This is a practical, policy-relevant question.  There are many smart economists trying to understand the investment slump so they can devise policies to turn it around.  You’ll notice this concern is prominent in the writing on increasing industrial concentration, the shareholder value obsession, globalization and outsourcing, and other topics.  The goal of these researchers is to reform corporate and market structure in order to restore a higher rate of investment, among other things.  That of course would tend to accelerate economic growth.  So what’s the degrowth position on all this?  Should economists be looking for additional measures to discourage investment?

Again, please don’t tell me that it’s just investment in “bads” that needs to be discouraged.  That’s a given across the entire spectrum of economic rationality (which is admittedly somewhat narrower than the political spectrum).  In the aggregate, is it good that investment is trending down?

My own view, as readers of this blog will know (see here and here), is that degrowth is a suicide cult masquerading as a political position.  I’m pretty sure that radically transforming our economy to make it sustainable will involve a tremendous amount of investment and new production, and it seems clear to me that boosting living standards through more and better consumption is both politically and ethically essential.  But I could be wrong.  I would sincerely appreciate intelligent arguments from the degrowth side.

Saturday, February 18, 2017

Great Moments in Academic Writing, Midnight February 17 Edition

In the course I’m currently teaching one of the required books is Gender, Work, and the Economy by Heidi Gottfried.  Reading the introduction to the second chapter I came across this gem:
To begin, the chapter elaborates on the basic tenets of feminism, arguing that women suffer discrimination due to their subordinate positions in gender systems of inequality (Delmar, 1986: 8).
Note that this profound observation comes to us with the pedigree of a citation!  In case you were wondering what systemic discrimination could possibly have to do with systems of inequality, you now have an authority to summon.

No doubt the quote rests on a fine distinction between widespread inequalities suffered by individuals belonging to a common group and the inequality of that group, and readers for whom this is important can fill me in on it.  They are the ideal audience for this book.

Friday, February 17, 2017

All News is "Fake News" (always has been)

From "The Flaneur, the Sandwichman and the Whore: the politics of loitering," Susan Buck-Morss:
The flaneur is the prototype of a new form of salaried employee who produces news / literature / advertisements for the purpose of information / entertainment / persuasion (the forms of both product and purpose are not clearly distinguished). These products fill the "empty" hours which time-off from work has become in the modern city. Writers, now dependent on the market, scan the street scene for material, keeping themselves in the public eye and wearing their own identity like a sandwich board.

A salaried flaneur profits by following the ideological fashion. Benjamin connects him ultimately to the police informer and in a late note makes the association: "Flaneur - sandwichman - journalist-in-uniform.The latter advertises the state, no longer the commodity." In an economically precarious and ideologically extremist climate like the 1930s the penalty for a writer's refusal to toe the political line could be great.
The topic of fake news is dear to the Sandwichman to the extent I take my nom de plume from Benjamin's commentary in his notes for the Passagenwerk. The intellectual employee may deny what he or she objectively is -- a salaried thinker -- but cannot escape being one, except by virtue of unemployment.

The spectacle we are currently being entertained by is essentially a turf battle between competing factions of journalist-in-uniform police informers. Are there grounds for critically supporting one faction in its opposition to the other? Yes, there are. The so-called President's objection to fake news is specifically that it is not fake enough -- it does not toe his political line. In an economically precarious and ideologically extremist climate the penalty for not distinguishing between ideologically-distorted news and politically-dictated news could be great.

Saint Janet Yellen: The Best Fed Chair Ever?

OK, so the immediate reaction of many to this title might be to laugh, but I challenge anybody reading this to name another Fed Chair who was clearly better than she is.  I do not think you can.  However, one reason why one may not think much about her is that things have been so inconsequential since she has been Chair.  Nothing much has happened.  She continued the Quantitative Easing for awhile started by Bernanke and then stopped it.  Inflation has remained below 2% mostly.  Growth has not been dramatic, but it has been steady and higher than in most other advanced market capitalist economies.  There has not been a recession since 2009.  There have been no bubbles and no crashes.  Nothing dramatic has happened and certainly nothing bad, even if lots of deep problems of the US economy such as inequality remain.  But that one is not the Fed's responsibility anyway.  So, bottom line, she has been doing a great job even if everybody is quite certain Trump will replace her, with all kinds of candidate names being thrown around.  But none of these will be better than she has been.

So, going backwards her most serious rival might be her immediate predecessor, who  looks to have played a substantial role in the save of September, 2008 that involved buying a lot of eurojunk from the ECB, only to roll it off over the next six months or so.  Of course some of the more innovative things done then were coming out of the NY Fed, but Bernanke did an excellent job when the crisis hit.  At the same time, Janet was around during that period, initially as San Fran Fed president, and then later as Vice Chair.  But where Bernanke looks not so good is the runup to that crisis, where he seems really not to have seen it coming.  Who saw it coming and as far back as 2005 sounding the alarm about the housing bubble?  Oh, right. Janet Yellen.

Frankly the records look worse as one goes back further in time.  Of course Alan Greenspan got lots of praise during the "Great Moderation," but then many later decided that he laid the groundwork for the housing bubble and crash that came later, and even he himself has admitted that he may have contributed to it.  I give him credit for a great save at the time of the 1987 crash, but it does seem that he stayed in too  long and deserves some of the blame for what came later.

Volcker gets lots of praise for breaking the inflation that came out of the 1970s, but then this was done in connection with the deepest recession since the Great Depression, even if it did not last long.  His legacy is certainly a mixed bag.  G. William Miller before him was viewed as pretty much of a disaster with inflation taking off under him, and with his predecessor, Arthur Burns getting blamed for stagflation, even if it was not all his fault.  Earlier Fed chairs in the 40s, 50s, and 60s had a generally strong economy to deal with, but they had this tendency to "take away the pumchbowl just as the party got going," leading to stop and go policies that marked that period.

Arguably earlier chairs had greater challenges with the Great Depression and World War II, but in much of that either they engaged in disastrous policies or were subordinate to others, and behavior of  the Fed chairs early in its history seems to have bee mostly awful, with the recession of the early 20s and then the reatlly total botches of 1929 and 1931, with Bernanke struggling to avoid the mistakes made in that latter year, which turned what had been a bad recession into the Great Depression.

So, really, Janet Yellen looks about as good as they get when you think about it. We are now in a situation where Donald Trump has three openings on the Board of Governors to appoint.  I have no idea who he will pick, but I lay odds that they will not improve what goes on there, especially if he decides to go for some gold bug nuts or whomever.  However, for all the talk now that assumes it is a done deal that she will be replaced, if things go downhill for Trump, it may come to pass that he may be betting Yellen to stay on next January, although I shall not bet on that.  In the meantime, she and Obama and others have handed him a pretty well functioning economy that will probably continue to do well at least for awhile to come and that he will take credit for.  We shall see.

Barkley Rosser

Thursday, February 16, 2017

Donald Trump Rants and Raves

“Tomorrow, they will say, ‘Donald Trump rants and raves at the press.’ I’m not ranting and raving. I’m just telling you. You know, you’re dishonest people. But — but I’m not ranting and raving. I love this. I’m having a good time doing it. 
"But tomorrow, the headlines are going to be, ‘Donald Trump rants and raves.’ I’m not ranting and raving.”

Why You Should Never Use a Supply and Demand Diagram for Labor Markets

You would know this if you read your Cahuc, Carcillo and Zylberberg, but you probably won’t, so read this instead.

A standard S&D diagram for the labor market might look like this:

It’s common to use W (wage) on the price axis and N (number of workers) on the quantity axis.  Equilibrium is supposed to occur at the W where quantity supplied equals quantity demanded.  From here you might introduce statutory minimum wage laws, or jobs with different nonpecuniary benefits and costs, etc.  The default conclusion is that free markets are best.

But hold on a moment.  S and D don’t tell you how many workers actually have jobs or how many jobs are actually filled—these are offer curves.  The S curve tells you how many workers would be willing to accept a job at various wages, and the D curve tells you how many jobs would be made available to them.  That’s not the same as employment.

They would be the same in a world in which labor markets operated according to a two-sided instantaneous matching algorithm, something designed by Google with no human interference at any stage of the process.  In such a world all offers would enter a digital hopper, and all deemed acceptable by someone else’s algorithm would be accepted immediately.  Maybe not Google but Priceline.

But that’s not the world we live in.  Finding out about job openings and job applicants is somewhat haphazard and time-consuming.  Applicants and jobs differ from one another in lots of obscure, subtle but crucial ways.  You really wouldn’t want an algorithm to make these decisions.  And so only some workers who offer their labor, even at what might be an equilibrium wage rate, are taken on, and only some job openings workers willingly apply for are filled.  When we measure unemployment and vacancies à la JOLTS, we are not seeing offers but changes in actual employment and disemployment.

So let’s redraw that diagram.

To the left of N*, the equilibrium number of employment offers, we find N**, the number of workers whose offers have actually been accepted and are now on the job.  A little reflection should be enough to indicate that S&D is a lousy way to frame this distinction.

First of all, what determines this gap between wanting to work (or fill a job) and actually working (or filling it)?  What does this apparatus tell you about N*–N**?  Nothing.  It isn’t built to answer that question, and it doesn’t answer it.

But it’s worse.  The apparatus indicates that N*–N** is the same on both sides of the market: the number of workers looking for work is exactly equal to the number of jobs looking for workers.  But why would we expect that to happen?  What reason is there to think that it’s equally easy for workers to find jobs and jobs to find workers?  On the contrary, the ratio of unemployed workers to job openings never falls to 1.0, or hasn’t since we’ve had JOLTS to inform us.

S&D is simply the wrong model, based on a failure to distinguish between offers and transactions.  Fortunately, there’s a better model out there, search theory, with fairly straightforward intuitions and tons of available data.

Anyone who waves an S&D model at me and makes claims about the labor market is simply advertising that they know less about economics than they think they do.

Wednesday, February 15, 2017

Scoring DBCFT: That Bottle of French Wine You Bought for Your Sweetie Yesterday

Brad Setser gets the transfer pricing issues surrounding Alan Auerbach’s Destination Based Cash Flow Tax (DBCFT):
Small aside on the border adjustment: a border adjustment eliminates the incentive to game the system by shifting profits offshore, but it does so by exempting profits on exports from any onshore tax. It basically abandons the notion of trying to tax the intellectual property (IP) rents on export income, or the economic rents from the export of natural resources for that matter. And it could create incentives for other kinds of gaming. I am convinced that the current system is heavily gamed in ways that hurt U.S. exports of IP and high-margin products (the active ingredient in pharmaceuticals for example), but the proposed border-adjustment gets rid of some of the games by in effect not taxing certain kinds of hard-to-tax income.
I have seen some rough guesses of the alleged net revenue gains from DBCFT based on the simple minded notion that our imports exceed our exports. But if Greg Mankiw is right about this being eliminating the corporate profits tax in favor of VAT, then these rough guesses may be all wrong. I will try to explain using four examples two of which we shall discuss today. A 1989 discussion from the GAO explained how both a tax-credit VAT and a subtraction VAT works:
Both the subtraction and tax-credit methods of calculating a value added tax are based on the premise that value added is equal to a firm’s sales minus purchases. The methods differ in what information is used to calculate the tax. The subtraction method calculates the tax once during the reporting period on the total business activity of the firm. It is simply the total value of sales minus the total value of purchases multiplied by the tax rate. In contrast, the tax-credit method is calculated on the basis of individual transactions, i.e. on each sale and purchase. The individual calculations are then aggregated into the total taxes on sales and the total taxes on purchases. The difference is the tax liability of the firm.
We will deal with subtraction VAT later this week but our current examples are based on imports from Europe which relies on tax credit methods. Rick Steves provides the relevant tax rates for European nations. Let’s imagine you bought a $10 bottle of French wine on the way home to celebrate Valentine’s Day with your wife. The multinational that sold you this bottle spent $7 in France making the wine and $2 in the U.S. on distribution costs. The intercompany price between the French parent and the U.S. affiliate was set a $7.50 by a bilateral Advance Pricing Agreement (APA) where the multinational did care want to game anything as French income tax rates are almost as high as the current U.S. profits tax rate. The French parent ended up paying $0.10 on French VAT since its value-added of $0.50 was taxes at a 20% rate. Auerbach would have us have the same VAT but then abandon the profits tax. So at this transfer price we would also get $0.10 in VAT after the tax credit and the labor subsidy are factored in but lose out on the $0.175 in income taxes. Auerbach et al. admit:
Taxing business income in the place of destination also has the considerable advantage that the DBCFT is also robust against avoidance through inter-company transactions. Common means of tax avoidance – including the use of intercompany debt, locating intangible property in low-tax jurisdictions and mispricing inter-company transactions - would not be successful in reducing tax liabilities under a DBCFT. Here however the distinction between universal and unilateral adoption is important. With adoption by only a subset of countries, those not adopting are likely to find their profit shifting problems to be intensified: companies operating in high tax countries, for instance, which may seek to artificially over-price their imports, will face no countervailing tax when sourcing them by exporting from related companies in DBCFT countries.
As Brad notes – gaming the system will continue as our multinational will be tempted to lower the transfer price to $7 a bottle wiping out French profits. This change if allowed would increase U.S. VAT by lowering French VAT. Of course the French tax authorities would strongly object. Auerbach might advise the French to follow our lead by eliminating their corporate profits tax and relying exclusively using VAT. I don’t exactly see that happening but let’s talk about your lovely wife who was the real big spender buying you a $100 Swiss watch, which cost the Swiss parent $70 to make and its U.S. affiliate $20 to distribute. The current transfer price is set at $75, which makes this example a lot like that cheap bottle of wine you bought her. Since Switzerland has both low income taxes and a low VAT, I leave it to your brilliant wife to explain to you the details.