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Stupid Is as Stupid Does

Stupid Is as Stupid Does


Somewhere in the last 30-40 years, we have become economically illiterate.

Elizabeth Warren wants wealth taxes that will impose asset forfeitures of 2-3% on households with more than $50 million in assets. There are practical and legal problems with the implementation of these “taxes,” but she wants to implement them anyway.

Alexandria Ocasio-Cortez wants a 70% income tax rate on incomes over $10 million. People sympathetic to the idea point out that this affects only 16,000 households and that it only returns marginal rates to historical levels, anyway. This would give the US the highest income tax rates in the OECD.

Stephanie Kelton, an economist at Stony Brook University, wants to implement something called Modern Monetary Theory. MMT is where the central bank prints money and pays government expenses, freeing the government from reliance on fiscal policy that is constrained, well, by the amount of money it can collect.

This is some crazy stuff. Crazier than a road lizard. Let’s deconstruct it, since the major financial media outlets are not really allowing the other side of the story to be heard.

The key points here are TRADE-OFFS and INCENTIVES.

TRADE-OFFS

We live in a world of constraints. The physical world is full of constraints. If you wear mittens, your fingers are warm but you can’t pick things up. If you wear gloves, you can pick things up but your fingers are cold. You don’t get to have it both ways.

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The weird thing about economics is that some people think we get to have it both ways, because… we are special?

 

Actually, if you want to buy food, you have to give them your money. Then you will have food, but no money. Or, if you would rather have money, you can keep your money, but then you won’t get food. Trade-offs.

There is an economic concept known as scarcity. You can’t have everything. You can have a little bit of a lot of things, or all of one thing and none of another, but you can’t have everything.

This is where people go crazy. Economics isn’t physics, but in a lot of ways, it is. There are physical laws that you must simply obey. You can have money, or you can have food.

MMT says you can have money and you can have food.

It says that you can have money, food, aircraft carriers, social security payments, maybe even basic income. There are no constraints! You can have whatever you want.

There are always, always, always… tradeoffs.

In this particular case, a third-grader could identify the trade-off. If you printed money to buy food, aircraft carriers, entitlement payments, and basic income, you would probably end up with inflation.

More money chasing around a finite quantity of goods results in inflation. This is common sense.

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The really, really smart people in economics—I mean the smartest, brightest stars—come up with ideas that defy common sense. If you question them, most say you are just too dumb to understand their research.

I don’t think we are too dumb. I really don’t think it’s that hard.

You simply can’t have everything you want. You have to make choices. Even the richest country in the world has to make choices. If you want to give everyone 3 squares and a basic income, there are choices involved with that, too. There are trade-offs.

     
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INCENTIVES

Now, to the tax stuff. I’ve found that economically left people completely fail to understand that human beings respond to incentives in ways that are fairly easy to predict.

If you tax income at 70% (or higher), then you create a strong incentive not to earn $10 million. People will earn less, find out how to get compensated in creative ways, or defer compensation into the future. Confiscatory taxes never raise any money. People just get clever, or they go somewhere else. Throughout the history of the income tax, high and low, it always collects roughly the same percentage of GDP.

As for the wealth tax, it’s not really a tax. It’s an asset forfeiture, the kind we claim to dislike so much when the police do it. Asset seizures are not in the Constitution, so you would have to pass a constitutional amendment (just like you did with the income tax back 100 years ago), which is highly unlikely in today’s environment.

The practical problems with wealth taxes are astounding. Take Jeff Bezos, who, pre-divorce, was worth around $140 billion. Tax that at 3 percent, and you take $4.2 billion—which is a lot more than he has liquid lying around. He’d have to sell stock to raise money to pay the tax. Multiply that by 3,000 other CEOs, and you see the magnitude of the problem.

Of course, it’s a lot harder for privately-held businesses. Imagine the administrative nightmare with hiring an army of IRS workers to obtain appraisals of hard-to-value assets and charge tax (which people are not liquid enough to pay). Most people’s wealth is tied up in illiquid stuff, so they will probably just get fed up and leave.

Elizabeth Warren has a plan for that, too—charge an exit penalty, but then we are building walls to keep people in rather than building walls to keep people out.

All of this is simple to understand. If you don’t like rich people for whatever reason, and you’d like to see them leave, well, then great. We will see how things turn out.

The Scary Thing

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Here is the one scary thing: I don’t think we’ve hit the top of economic stupidity yet! We are going into the 2020 elections, and we are going to reach Brobdingnagian levels of stupidity—on both sides.

If you spent your life worrying about this kind of stuff, you would not be a happy person. Don’t dwell on it. The only advice I can give is:

  1. Stay mobile
  1. If you can’t stay mobile, get positively exposed to stupidity

As readers of The Daily Dirtnap know, I spend pretty much all my time trying to figure out how to make money off other people’s stupidity, a strategy that seems to be coming back in favor.

I’m cursing the guy who once said “May you live in interesting times.”

Interesting Times at SIC in Dallas

If you want to save $1,000 on your SIC 2019 ticket, now is the time to do it.

I’m putting together my own session, complete with speakers I want to hear from. I’ll tell you more about that soon, but suffice it to say I’m super excited about it.

There is too much amazing stuff happening at the SIC to list here, but I want to point out that the debt panel has a lineup that guarantees fireworks. It includes both Howard Marks, co-Chairman of Oaktree Capital and Carmen Reinhart, Professor of the International Financial System at Harvard Kennedy. In other words, a famous debt investor and a famous academic on debt cycles—pull up a chair!

It’s going to be great, and I hope you can join me there. February 18 is the cutoff point if you want to take advantage of priority pricing, so there isn’t much time to lose.

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Discussion

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0 comments

Edward Jerum
Feb. 7, 2019, 1:10 p.m.

This is an overly simplistic view and contains assumptions on the effect of higher tax rates. Rather than diss Warren and OCA I would like your positive take on how to address inequality in the US,Several countries have high tax rates and have happier less divisive populations than the US https://www.financialexpress.com/economy/those-who-pay-higher-tax-are-happier-dont-believe-us-heres-the-proof/1101148/. I’m no expert on this area, but I don’t think this issue is simple at all. It involves way more than “physics”.

Jim Coulson
Feb. 7, 2019, 12:15 p.m.

When I was a young officer (Carter years), I made a wage below the poverty line in the time of 12-16% mortgages.  Frequently I’d “shop” at the base exchange to see what was available, but never bought anything.  If I really needed something, I’d take money out of the budget somewhere, save up and buy it.  The one thing I never shorted was my 10% savings.

Over time, I got in the habit of saving every pay raise, and not raising my standard of living much.  When I got married, we continued to do the same thing.  We were able to put $ away for our retirement and kids’ education without my wife working. (We moved a lot, and when we weren’t moving, I deployed so she was a stay at home mom…priceless in my humble opinion).

When we moved to our current home, our youngest went to a cabin with friends.  “Dad, they have a cabin, jet skis, a boat, and ATV’s.  Why don’t we have all that?”  Answer: Because…your college and my retirement is paid for. 

Later on, we had to have a tough conversation about her undergrad college.  She wanted to go to one that was more expensive “because all my friends are going there.”  I showed her what HER portion of the extra $10k/semester was going to cost her with a student loan.  Tears were shed, she went to one of the 5 colleges that offered her a good value, and we had money left in the 529 plan when she got accepted at Vet school.

I was eventually able to pay for college and Vet school for one kid (The other went to a Service Academy) and not kill ourselves doing it. 

My point is that many people (not all) who “don’t have” the money often prioritize other things.  Those people who were taking out second mortgages for toys most likely lost those homes…a very expensive lesson to learn. 

I had a Great Aunt who earned a solid middle class wage along with her husband.  However, they blew through every dime they had as quickly as it came in.  When they retired, it was on SSec only.  After her husband died, her son had to put her on a budget and sometimes pay her taxes.  She owned a home, but couldn’t afford the repairs it needed.

I have often said I’m in favor of requiring a class in personal budgeting, investing and financing in High School.  However, after a stint as a college prof and seeing the products coming out, I have little faith in the US education system teaching the “3 R’s”.

Live below your means, save, save, save.  Too many people rely upon the government to bail them out of their own bad decisions.

OBTW:  As one person pointed out on TV recently, most of the tax loopholes that people had when taxes were at the 70-90% rate are gone.  When the national debt comes home to roost, there won’t be tax breaks for anybody, nor much of a govt safety net, let alone Green New Deals, Medicare for all, and so on.

Jim Johnson 34645
Feb. 7, 2019, 11:56 a.m.

The bottom line is that “starvation is an excellent incentive.” 
It has worked quite well, until the last 60ish years.

pwright72@yahoo.com
Feb. 7, 2019, 11:35 a.m.

Hi Jared,
Thanks for another great article.
I don’t have any particular opinion with regard to your comments about the various tax proposals.
But, I do wonder if the concept of “scarcity” in the modern economy works exactly as you suggest.
In fact, I wonder if scarcity is really a feature of many modern markets.

In the old economics textbooks, the idea of course is that everyone specializes in the thing they can make most efficiently, and then trades with each other.  So in the simple model, if there are 10 workers in Spain who make wine efficiently, and 10 workers in France who make cheese efficiently, they will each specialize in those things and trade.

But, what if you have a situation where there are 2 guys in Spain, who have a wine-making machine, and can make enough wine for Spain, France, and anyone else for that matter, very efficiently?  And they can increase their production almost indefinitely with very limited additional marginal cost?  And in France there are also cheese-makers (blessed are the cheese-makers) who have similar machinery?

What would that do to incentives?

It might give the 2 guys with the machine the power to set price, and the other 8 guys would have to figure out how to make nice to the machine guys so they could get some wine and cheese.  No point for them to try to produce it themselves, because the machine will beat them every time.  Maybe the machine guys would be afraid that somebody would steal their machine.  But also, on a positive note, setting aside the question of who controls the machine, it would be easy to produce enough wine and cheese for everybody.


In a market like that, I’d suggest that scarcity would not be its primary characteristic. 


And, when I go to the grocery store and I see about 100 varieties of breakfast cereal available for me to choose, I’m uncertain whether it would be appropriate to say that the breakfast cereal market is characterized by scarcity.  I think it’s pretty easy for General Mills to make some more Lucky Charms, if they’re inclined to.


Of course, it’s a long way from that to a wealth tax, or whatever.  But, I do wonder if the actual conditions in our current economy, can so easily be explained by this concept of scarcity.  It’s been a long time since Smith and Ricardo.  And if so, I don’t know what the answer is, but it seems complicated.


Thanks for listening.

Pete Wright

Chapel Hill NC

John Thich
Feb. 7, 2019, 10:52 a.m.

Jared,  From my perspective, the problem is not how much money people can accumulate, it is the power they have with that money to influence the political landscape in their favor.  I never hear anyone talking about ways to even the playing field via regulations that limit how much the super rich can stack things in their favor.  The existence of Citizens United etc…continues to support the super rich agenda to the detriment of the average worker in this country.  Sure, no one wants more regulation but something has to be done to limit the negative influence of the super rich on the welfare of the average worker.

wadehufford@comcast.net
Feb. 7, 2019, 10:48 a.m.

Your arguments are usually well reasoned.  You seem to abandon reason with this article.

MMT does NOT say that there are no constraints, it says the constraint is INFLATION, which is what you say the harm will be under MMT.  So you are actually in agreement with the theory, and maybe just disagree on how much printing could occur before inflation “constrains” further printing.  I agree there are always trade offs, but the world economy has had more trouble with deflation than inflation counting 1800s forward.  Japan since 1990, US since 2009, US during the 1800s and some of the 1900s, although more inflation that century.

With regard to the wealth tax, we already have plenty of examples of wealth taxes, such as real and personal property taxes imposed at the state and local levels.  This tax would only apply AFTER the first $50 million.  Wealth has become ever more concentrated in the US and this is putting a squeeze on the middle class.  When we had higher taxes in the 1950s middle class people could raise and educate their kids relatively cheaply, leaving more money in their pocket, because the government paid for education and supported the middle class with policies fostering cheap roads, cheap houses, cheap living expenses, safe neighborhoods.

You talk about incentives.  I doubt very many people are too incentivized by the second $10 million they make in a year, or by an extra $50 million in assets if they already have $50 million.

If you make $50,000 yr you are very incentivized by making another $50,000, and losing 70% of it to a tax would be a big disincentive (NOT PROPOSED BY ANYONE).  If you make $10 million, the marginal rate on an additional $50,000 is not likely to motivate you one way or another.  If you enjoy your work, you will work anyway.  If at that income level you want to spend your time at the beach, you will even if your marginal rate is 5% (what is proposed is an increase from 40% to 70% on income over $10 million).

I guess I was looking for a deeper, more realistic analysis from you.  This sounded more like shallow hysteria.   

Tom Dietsche
Feb. 7, 2019, 10:45 a.m.

re: “As for the wealth tax, it’s not really a tax. It’s an asset forfeiture ... Asset seizures are not in the Constitution, so you would have to pass a constitutional amendment”.
Well, that would be big news here in Saint Paul, Minnesota where they impose a nearly 2% wealth tax on homeowners each year. They call it a “property” tax, not an “asset” tax. Not sure I see the difference?
As someone else pointed out, such property taxes mainly burden the shrinking middle class, for many of whom their home is their major asset. Compare this to the upper class whose wealth is mainly in financial instruments. Do you see any problem here with inequality? Just saying . . .

Kenneth Goldman
Feb. 7, 2019, 10:43 a.m.

The Overton Window has changed, which is the range of discourse considered plausible or worth discussing. A 70% marginal tax rate on incomes over $10 mil is not an idea “of the far left”. It’s an idea of the early 1960’s. JFK actually LOWERED top marginal rates to 70% back then. Under Dwight Eisenhower, top rates topped 90%! Was Ike a radical lefty? Nope.

On the wealth tax, I agree it is unworkable due to difficulties in valuing “hard to value” or offshore assets. Not practical. What is practical is to reinstitute a meaningful estate tax rate. This tax was meant to prevent dynastic families, and was characterized by the right as a “death tax”. High Net Worth Assets should be earned through productive contributions to society, not merely from winning the birth lottery. So, the wealth tax isn’t going to happen, except on inherited wealth in the future, perhaps.

America needs to rebuild infrastructure, cut wasteful spending in the military/defense sector, and improve scaled cost-contained delivery of healthcare, one way or another. Libertarians have it wrong. Government is necessary. The absence of it is…...anarchy. Tradeoffs, indeed!

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