The Becker-Posner Blog

Reform of the Tax Code-Becker

The federal tax code is a mess from any economic perspective. It is not efficient, fair, or clear. A complete set of suggestions to improve the tax system would take hundreds of pages, as did the excellent 2005 Report of the President’s Advisory Panel on Federal Tax Reform. My discussion will concentrate on a few of the needed changes that would help stimulate a more efficient and faster growing American economy.

A major priority is to eliminate taxes on savings and investments. One reason is that they involve double taxation since personal and corporate incomes are first taxed, and then the returns on the savings and investment out of these incomes are taxed again later on. A second even more important problem with taxes on savings and investments is that in the long run they are shifted to labor because these taxes lower after-tax returns, and thereby discourage investments. A lower rate of investment slows down capital accumulation, which leads to a lower ratio of capital to labor. Wages are lower and pretax returns to capital are higher when the capital/labor ratio is lower.

Moreover, the present system taxes different forms of saving and different types of investment goods at different rates. This distorts the allocation of investments among investment categories. For example, depreciation tax rules allow durable capital to be depreciated more slowly than less durable capital, which lowers the relative tax rate on more durable capital. Similarly, savings that enter tax-free IRA or Roth accounts are taxed less heavily than other forms of savings.

One way completely to eliminate taxation of investments is to allow all investments to be written off immediately as expenses instead of being depreciated over time. Taxing only earnings would eliminate double taxation of savings.

Expensing investments and taxing earnings moves the income tax code a long way in the direction of a tax on consumption rather than on incomes. The basic efficiency advantage of consumption taxes is that they do not distort the decision to consume now rather than consume later since the returns on savings and investments are not taxed. By contrast, income taxes do distort this decision since they tax the incomes earned on savings as well as the incomes that led to the savings.

Whether ones moves to a consumption tax or not, taxes should be simpler and flatter because that would reduce the large cost of tax compliance, and encourage greater investment and work effort. A reasonable proposal that would maintain progressivity yet have a much flatter tax structure would be to have only two or three tax rates, such as 20%, 25%, and 30%. The 20% rate would apply to incomes below a certain threshold, 25% would be the rate on incomes above this lower threshold until an upper income threshold, and 30% would be the tax rate on all incomes above the higher threshold. The tax rate on low labor market earnings would be even less than 20% if the earned income tax credit on low earnings were retained. This credit encourages poorer individuals to enter the labor force rather than staying out to become eligible for various welfare benefits, such as food stamps, unemployment compensation, and housing subsidies.

The income tax base should be widened both because that would be more efficient, and because a wider base would also help maintain tax revenue as rates are flattened, and taxes on savings and investments are removed. For starters, the deductibility of mortgage interest should be eliminated because that artificially encourages investments in home ownership relative to investments in other forms of capital. This deduction also favors higher income families since they are more likely to itemize deductions, and they have higher marginal tax rates. If it were too difficult politically to eliminate this deduction, a big improvement would be to allow a tax credit to all homeowners equal to a fraction of their mortgage interest payments. There would be an upper bound to the amount of interest payments that could qualify for the tax credit.

The exclusion of interest on state and local bonds from income taxes should be abolished because that artificially encourages spending by these governments relative to spending by households and businesses. Since higher income individuals hold the vast majority of state and local bonds, this tax exemption also favors higher income persons in an undesirable way.

The tax on business cash flow (net of investment outlays) should be aligned with the proposed flatter personal income tax structure by lowering corporate and partnership tax rates to the proposed maximum tax rate on personal income, say 30%. Doing this, and taxing business cash flow net of investment deductions, would integrate the business tax into an overall consumption tax.

I discussed the most needed reforms, although other reforms are also desirable-many are considered in the report mentioned above on federal tax reform. Unfortunately, major reforms do not have much chance of enactment in the present political climate, but they are longer run goals that should appeal to both Democrats and Republicans.

Tax Reform—Posner

There is a good deal of dissatisfaction with the federal tax system (the state and local systems as well, but I’ll confine my attention to the federal). Most proposals for reform, however good in theory, are totally impractical from a political standpoint. But since politics is volatile, there is value to evaluating such proposals in order to lay a foundation for future reform. 

A tax can be evaluated along four dimensions: cost of collection, allocative effect, revenue effect, and distributive effect. Let me by way of illustration evaluate the Obama Administration’s proposal to raise the marginal income tax on couples with taxable income of at least $250,000 a year from 35 to almost 40 percent and to increase the tax on capital gains and dividends from 15 to 23 percent (the 23 percent including a new tax imposed by the Affordable Health Care Act). But I will confine my consideration to the increase in non-capital-gains and non-dividend income. 

The cost of collection is likely to increase slightly because a tax increase increases the return to tax avoidance. The increase could also cause a substitution of leisure (which is not taxed) for work; that would be the allocative effect. I am skeptical that an increase even of 14 percent (5/35) would have a significant such effect, given a possible offsetting income effect (taxpayers working harder to maintain their standard of living). Income tax rates have varied greatly over the history of the United States without seeming to affect economic growth, though so much else is happening at the same time that isolating the effect of a tax increase or reduction is very difficult, maybe impossible, to do. The higher tax would increase federal tax revenues and reduce after-tax income inequality (the distributive effect). Given growing income inequality, which seems to be having bad effects particularly on children, and the large federal deficit, the proposed increase in income tax may be a good idea, especially given the political infeasibility of the alternatives. 

One of those alternatives would be a federal value-added tax, which is essentially a sales tax but a sales tax imposed at every level of distribution rather than just at the retail level. Such a tax generates large revenues at a low cost of collection, and operates as a tax on consumption and therefore encourages investment. It also increases income inequality, but its revenue potential is such that federal expenditures on wealth redistribution and social welfare benefits could be significantly increased. However, such a tax is politically infeasible, in part because of conservative concern that it would enable a significant increase in the size of the federal government. 

The corporate income tax is criticized as penalizing investment, because it taxes the income generated by corporate investment twice—first at the corporate level and second when corporate earnings are distributed to the corporation’s shareholders in the form of capital gains or dividends. And penalizing investment reduces economic growth, which depends on investment. But the corporate income tax is so riddled with exceptions and opportunities for avoidance that it accounts for only 8 percent of total federal tax revenues. If the tax were abolished, some other federal tax would have to be increased. 

Or would it—the alternative would be to broaden the tax base, so that the same or even a lower tax rate generates the same or even greater tax revenues. Broadening the tax base mainly means eliminating or reducing deductions. The most popular target is the home-mortgage interest deduction. It is an absurd deduction, based on the silly premise that owning a home generates positive externalities: improved maintenance of residential property and enhanced sense of commitment to the community. All residential ownership does is reduce job mobility by increasing relocation costs and delay. But it’s a sacred cow. 

The charitable deduction is questionable as well; charitable deductions reduce the demand for certain government services, but involve a great deal of duplication and administrative expense, and would probably decline only modestly if the deduction were removed. But again it’s a sacred cow, though in the case of both the morrgage-interest and charitable deductions a reduction in the size of the deduction permitted may be feasible. 

Regulatory (“Pigouvian”) taxes should not be ignored. They are intended to alter behavior rather than to generate revenue, but invariably they generate some, and often a great deal, of revenue. We desperately need a heavy tax on carbon emissions, which pose a great long-term threat to the economy; and undoubtedly such a tax would generate substantial revenues. As would an increase in federal gasoline tax, which would reduce both carbon emissions and traffic congestion. 

Given political resistance, the practical feasibility of substantial tax reform is very limited. But at least a modest increase in federal income tax rates seems a politically feasible as well as economically defensible response to the need to increase federal revenue to cope with the fiscal deficit.

Abenomics and Japan’s Stagnation-Becker

During the past 17 years, Japan has experienced sizable deflation; for example, the GDP price deflator declined on average by about 1% per year since 1995, and it declined during the past couple of years by 2% per year. Since many wages and other prices cannot be adjusted downward very easily, deflation tends to distort labor and other markets. To end deflation and stimulate the Japanese economy, Prime Minister Shinzo Abe has introduced a set of policies called “Abenomics”.

These policies have “three arrows”: massive fiscal stimulus, aggressive monetary policy a la the Federal Reserve’s QE’s 1-3, and improved competitiveness of the Japanese economy. It will take many years to greatly improve the competitiveness of the Japanese economy, so for the next few years Abenomics has to rely only on fiscal stimulus and aggressive monetary policy.

Given that Japan’s ratio of debt to GDP is already the highest in the world at almost 2 to 1, Japan can hardly do much more in the way of fiscal stimulus without creating an even larger debt burden. The debt/GDP ratio has reached such a high level because fiscal stimulus was the main weapon used to try to jumpstart the Japanese economy during the 1990s and early part of this century. This policy was basically a failure since large fiscal deficits did not prevent the Japanese economy from growing slowly, and they did not prevent consumer and asset prices from consistently falling.

Short-term interest rates in Japan have hovered near a zero nominal rate during the past 20 years, partly because of the fiscal and other efforts to stimulate the Japanese economy. Long-term nominal rates have also been quite low. Abenomics wants the Central Bank of Japan to start purchasing bonds and other assets on a large scale with the intent of both lowering real long-term interest rates further, and greatly increasing bank lending and the money supply. Increased bank lending and a greater money supply would likely end the many years of deflation and cause prices to rise, with a goal of a 2 per cent annual increase in prices.

The hope is that lower long-term interest rates and greater availability of credit will also stimulate investment and innovation, and thereby increase the growth rate of the Japanese economy on a sustained basis. Lower real interest rates are also expected to reduce the value of the yen in international markets by making Japanese bonds and other assets less attractive to world investors. A lower real value of the yen-that is, lower after adjustment for the increase in Japanese prices-would increase consumer demand in other countries for Japanese exports.

Will Abenomics, and its main manifestation in more aggressive buying of assets by the Bank of Japan, succeed in increasing the economy’s growth rate? Japan is trying to copy the Fed’s large-scale asset purchases in the Fed’s efforts to limit damage from the financial crisis, and get the American economy rolling again. The Fed’s actions have had 3 stages: QE1, introduced during the early days of the crisis, attempted to prevent the American economy from slipping into a very serious depression. QE2 and QE3 were implemented after the American economy was in a major recession, and they were designed to reduce unemployment and increase the growth rate of American GDP.

Most economists, including myself, believe that QE1 was extremely important in providing liquidity to the American banking system at a time when liquidity was in scarce supply. But I have many doubts about the efficacy of QE2 and QE3 that further increased bank reserves, and lowered long-term interest rates even further. Although the evidence on the effects of these Fed actions is not conclusive, despite the aggressive actions the recovery of the American economy has been slower than in any previous recession. More than 4 years after the crisis erupted, unemployment is still about 7 1/2 % (compared to under 5% before the crisis), and the growth rate of GDP is still far below its long-term growth path.

Japan is not in a financial crisis, so the success of QE1 in providing liquidity to banks is not very relevant. Expansive monetary policy by Japan is likely to end its deflation and lead to price increases. That is the good news. The bad news is that the evidence so far on QE2 and QE3 is not reassuring that Abenomics’ monetary loosening will significantly raise the long term growth rate of Japan’s real GDP.

Should the European Union Emulate Japan's Inflationary Monetary Policy?—Posner

For many years now Japan has been plagued by deflation, which has retarded its economic growth; since 1981 the average annual growth of Japanese GDP has been only 2.1 percent. Deflation implies that the value of money relative to goods and services is rising, which reduces consumption (and hence production) by inducing people to postpone purchases in the expectation that prices will be lower in the future. Recently the Japanese central bank at the behest of Prime Minister Abe increased the volume of Japanese money in order to increase the ratio of money to goods and services, and thus change deflation to inflation. Inflation can induce a temporary spurt in consumption, but not a permanent increase; although Japan has announced a goal of 2 percent annual inflation, I assume the major goal of the increase in the money supply is to increase exports and reduce imports, thereby stimulating domestic production (both of exported goods, but also of domestic substitutes for imports made more costly by the devaluation since their prices in yen rise) and so consumption, employment, and economic growth, as well as ending deflation. In addition, an increased supply of money should reduce interest rates, thereby stimulating borrowing and so further stimulating consumption. 

Keynes urged devaluation of the pound against the dollar in the 1920s in order to stimulate the stagnant British economy, but the British Treasury refused because of Britain’s very substantial foreign investments, which would be worth less if the pound were weaker. Apparently no similar obstacle was interposed to the Japanese devaluation. 

It is not yet clear how effective Japan’s devaluation will be either in reducing deflation or in stimulating production and employment. The reason is that Japan has many very inefficient labor regulations, along with a very aged population (the Japanese people have the greatest longevity of any nation’s population), a combination that, by making for sluggish production and cautious consumers, depresses economic growth. The depressive effect may greatly limit the efficacy of the new policy. Abe wants to remove inefficient regulation, but the political obstacles may be formidable. 

Europe is suffering from protracted economic stagnation too, so the question arises whether it might benefit from emulating Japanese devaluation. The obvious objection is that the major European countries (except Britain) have the same currency, the euro, so that devaluation would not alter relative prices among the euro countries—and they are major trading partners of one another. Then too for such a large part of the world’s economy (roughly 20 percent) to devalue could well, depending on the size of the devaluation, induce retaliatory devaluation. 

For devaluation to stimulate economic growth without provoking retaliation from outside the euro bloc might require that the economically weakest European countries, primarily Spain, Portugal, Italy, Greece, and Cyprus, abandon the euro and then devalue the local currencies that would replace it. But for a nation to abandon the euro would be very difficult, because as soon as the abandonment was realized to be imminent, euros would flow out of the country to avoid the devaluation that would ensue from the replacement of the euro by a local currency, and because all sorts of legal and financial tangles would ensue from the fact that contracts in euro countries are denominated in euros. 

A devaluation of the euro, as distinct from abandonment of the euro by the economically weak European nations, would not involve these problems. And if it were a modest devaluation (modest enough to avoid retaliation by the United  States, China, or other leading non-EU nations), it would increase the weak EU countries’ exports outside the EU and reduce their imports from outside the EU, and thus strengthen the economies of the EU nations. The resulting spur to economic growth would reduce the rates at which the weak EU countries borrow, by reducing the risk of default, and so would reduce their fiscal deficits. 

Devaluation is no silver bullet, however. To minimize the risk of retaliation, it cannot be too great. if it is small, it is unlikely to overcome the drag on economic growth that anticompetitive labor and other regulations, heavy taxes, inefficient state companies, corruption, and waste impose on an  economy.

China’s Tilt Toward the Private Sector? Becker

In a speech this month to Communist party officials (reported in yesterday’s New York Times), Li Keqiang, the recently chosen Prime Minister of China, called for greater reliance on the private sector and reduced dependence on governmental regulations and oversight of the economy. In a remarkable admission he said “The market is the creator of social wealth and the wellspring of self-sustaining economic development.” Several troubling developments in the Chinese economy led to Li’s speech.

China has had very rapid economic growth during the past 30 years that lifted many hundreds of millions of Chinese out of dire poverty. However, during the first quarter of 2013, China’s GDP expanded by “only” 7.7% compared to a year earlier. Although China’s rate of growth is still fast compared to other nations, it is considerably lower than its growth during earlier years. For example, from 2003 to 2011, China’s GDP grew at rates that ranged from about 9% to over 14%. While the last quarter may be only a temporary decline in China’s growth rate, it is consistent with a slowing of growth during the past several years, and with other adverse developments in the Chinese economy.

The Chinese economy has used low wages to specialize in labor-intensive products for the export market. This model is breaking down because wages have risen greatly during past decade, and export markets have shrunk because of reduced demands from the sluggish economies of the European Union, Japan, and the United States.

Chinese growth has been very uneven, as urban areas have prospered much more than rural areas. This has greatly increased income inequality, especially between farmers and factory workers. The increase in inequality has been magnified by China’s policy of restricting migration from farms to cities, and by not providing the same education and health care to these migrants that is available to other city residents.

China has encouraged investment and discouraged consumption by allowing the state-run banking system to provide investors with low interest rates and easy credit terms, and by price controls and other restrictions on the provision of consumer goods. As a result, private consumption accounts for only about 35% of China’s GDP, compared with over 70% in the United States. Since China’s exports are expected to rise more slowly in the future, in part because its currency will appreciate in value relative to the dollar and other major currencies, the domestic market will become a more important destination for China’s production.

These are some of the problems that explain Prime Minister’s Li desire to unleash the power of the private sector to galvanize China’s economy. A good place to start is with the state-owned enterprises (SOEs) that are still very important in manufacturing, banking, energy, and telecommunications. These SOEs frequently have protected economic positions because competitors are not allowed to enter; for example, three state-operated enterprises divide up the telecom sector. Studies indicate that SOEs are on the whole considerably less efficient than private companies, partly because SOEs get many subsides, including loans on subsidized terms from the state-run banking system, and soft budget constraints.

Therefore, it is particularly important to curtail the lending and other practices of state-owned banks, and to allow private domestic and foreign banks to become more important providers of credit. This would encourage private enterprises by giving them access to credit on terms that are market driven, and that are more comparable to the terms available to the SOEs.

The many millions of migrants from rural sectors to urban areas should be fully legitimatized, so that they have the same rights to education, health, and credit as persons born in cities. This would help reduce inequality and increase productivity by speeding up the migration out of the less efficient parts of the rural sector into more efficient factories and service activities.

The financial crisis and major recession that was brought about in part by excesses in the private banking sector in the United States and some other developed countries led to a widespread reaction against capitalism and the private sector. This happened as well in China for a couple of years as the state sector expanded relative to the private sector.

China’s new leaders have now made clear that the country needs to rely much more on the creativity and resourcefulness of the private sector if it is to move beyond middle income status, and become a major economic power as measured not only by aggregate GDP, but also by per capita GDP. It remains to be seen whether even the new leaders can overcome the strong opposition of SOEs and other special interest groups to the implementation of a major shift toward the private sector.

 

 

 

 

 

The Chinese Economy—Posner

A very poor country can grow rapidly, but a rich one cannot. The U.S. economy is very robust by international standards, but it rarely grows by more than 3 percent a year (except in the catching-up phase that follows a dip in the business cycle), and much of this growth is attributable to population increase; the U.S. has a relatively high birth rate and a high immigration rate. China grew at a very high rate, once it abandoned the communist economic system, from a very low base, but it is not surprising that the rate has slowed—yet slowed to a rate, still very high, of 7.7 percent in 2012. 

I don’t know what the future holds, but it wouldn’t surprise me if the Chinese rate of economic growth plummeted. There are many negatives in China’s economic picture. The obvious one is the state-owned enterprises, which account for about half of total Chinese output. They are inefficient and corrupt, but also deeply entrenched, with numerous links to the communist officialdom that runs the country. 

But there is also the uncertainty remarked by Becker that is created by China’s need to reduce the ratio of output that is exported and output that is consumed domestically, because increasing wages of Chinese workers have increased competition from countries where wages are still very low. The problem in reorienting an economy from producing primarily for export to producing primarily for the domestic market is that the sale of consumer goods requires an elaborate distribution infrastructure, a service culture, and a reasonably well informed consuming public, none of which is necessary for exporting and each of which is difficult to create. So China faces large restructuring costs in reorienting its economy to producing more for and selling more in the domestic market. 

China is experiencing a brain drain, though retarded at present by poor employment opportunities in Europe (owing to Europe’s economic misery) and good ones, still, at home. Many of China’s brighest, best educated young people do not want to remain in China, and are welcomed as immigrants by many countries, such as the United States, Canada, and Australia. One reason they don’t want to remain is China’s political system. China is a dictatorship, and in a dictatorship everything is subordinated to its maintenance. China not only is not democratic; it does not (as authoritarian regimes sometimes do—the Prussia of Frederick the Great is a famous example) protect personal liberties. China is also corrupt, increasingly militaristic, ethnically divided, hostile to minorities, and fearful of cults and religious sects. Its traditions, like those of Russia, are antithetical to the political and economic cultures of most prosperous countries. The negative features of Chinese society are relevant not only to explaining the brain drain, but also to judging whether its economy is likely to continue growing rapidly. 

Emigration of the young is further worrying from the standpoint of economic growth because, as a result of China’s “one-child” policy (albeit sporadically enforced), the population is aging rapidly. This both diminishes labor supply (and so forces up wages, reducing China’s international competitiveness) and diverts resources to supporting unproductive elderly persons. 

Another obstacle to continued rapid growth of the Chinese economy is the continuing rapid increase in the amount of pollution, which has already reached staggering proportions, beyond what developing countries usually encounter. As economic activity increases, so will the amount of pollution; to prevent it from getting altogether out of hand, China will have either to divert greater resources to pollution control, which will increase welfare but not measured economic output, or slow the rate of economic growth. 

Still another source of concern is the recent drop in China’s economic growth rate, from about 10 percent to 7.7 percent. That is a drop of almost 25 percent, which implies a significant drop in the return on investment, which in turn implies that investment will fall. Such a fall will increase unemployment. It may also put strains on China’s banking system (if firms that borrowed to invest have difficulty repaying their loans, because of falling output)—a system already reported to be heavily stressed. 

And finally I’m mistrustful of Chinese statistics. Should we trust economic reporting by officials of a dictatorship? I think not.

Security Surveillance Cameras—Posner

In the wake of the Boston Marathon attack last month, considerable attention is being paid to surveillance cameras, which played a key role in the identification of the two attackers; their identification led within days to the killing of one and the arrest of the other. Had they not been identified, they might have escaped from the Boston area and committed a terrorist attack in New York City or elsewhere. 

Many businesses (notably banks) and even homes have surveillance cameras nowadays. Usually they are pointed at the interior of the building though sometimes also or instead at the entrance to or the grounds of the building. These uses of surveillance cameeras are uncontroversial. But there is controversy over surveillance cameras that are owned by or form part of a network of surveillance cameras that is accessible to government, especially when, as is increasingly common, the surveillance cameras are technologically sophisticated and can for example enlarge the photographed
images, take pictures at night, enable face recognition by matching facial features of a person photographed by the camera with a database of facial features, and even follow a vehicle or pedestrian as it or he goes out of the range of one camera and into the range of another. 

Most surveillance cameras are privately owned and operated and therefore do not provide coverage of vehicles (and sometimes their drivers or passengers), or of pedestrians other than the entrance to the private establishment. But some cities, like London, New York, and Chicago (and many others, including many much smaller ones, as well), install large numbers of surveillance cameras outdoors (for example on lamp posts), where they can photograph vehicles and pedestrians. Moreover, many owners of private businesses or other private institutions (or public institutions, such as public schools, that may be part of a different part of government from the part to which the police or other
law enforcement agencies belong) agree to give the police or some other law enforcement agency access to their surveillance cameras, thus creating a much richer surveillance network than the government would have if it were limited to placing surveillance cameras in public places. So when for example one reads that Chicago now has 22,000 surveillance cameras, one is to understand that the Chicago police department has access to a network of 22,000 surveillance cameras; only a relatively small number are owned by the police. 

So what are the costs and benefits of these surveillance networks? These seem to be largely unknown. The financial costs probably are small, since most of the cameras are private and the network as a whole probably operates as a substitute for a number of police who would otherwise have to be watching personally the users of streets, sidewalks, parks, and other public spaces. The benefits of the surveillance camera networks include preventing crimes (as by observing suspicious behavior in time to head off a terrorist attack or other crime), deterring criminals (including, of course, terrorists) by increasing the likelihood that they will be apprehended and successfully prosecuted, apprehending criminals who have not been deterred, and, by providing evidence for use in criminal prosecutions, helping to convict criminals. But I am not aware of studies that enable these benefits to be estimated, even crudely. Obviously there are benefits, however, and the costs of terrorist attacks and other murder sprees are such that the expected benefits of comprehensive surveillance are likely to be substantial. 

The major costs, or at least the costs that people worry about, are of two kinds. One is the potential for abuse by government, and is the focus of civil liberties organizations, which invoke, though inappropriately, the “telescreens” in George Orwell’s novel Nineteen Eighty-Four (1948), whereby “Big Brother” (the totalitarian government depicted in the novel) watches the interior of every home. Our government is not totalitarian, obviously, though there have been abuses of government surveillance, notably in the Cold War, and surveillance within the home is more intimidating than surveillance in public. 

The greater concern is invasion of privacy; many people don’t like the idea of being watched, even in public, by government monitors, even if there are no abuses. I find this concern difficult to understand, and I don’t think it’s actually widely shared. Even before the Boston Marathon attack focused attention on the security benefits of surveillance cameras pointed at streets and sidewalks, surveillance cameras public as well as private were widely endorsed. 

Although “privacy” has positive connotations and is greatly valued by most people, most people don’t think of streets and sidewalks as private places, because they are open to personal observation (including eavesdropping) by strangers, including police, journalists, and (other) snoopers. The incremental invasion of privacy by the photograph seems to most people offset by the benefits in enhanced security. 

More interetingly, the social as distinct from private value of privacy is easily exaggerated. After all, as a practical matter, privacy means concealment; and with some exceptions (such as trade secrecy), concealment is more often a social bad rather than a social good. People conceal aspects of themselves that might cause others to shun them or, more generally, transact with them on less favorable terms; privacy is thus, to exaggerate slightly, a form of fraudulent marketing of oneself. Against this characterization it can be argued that people often exaggerate the significance of personal aspects of a person that everyone prefers to conceal, such as psychiatric or other medical impairments, an arrest record, a business failure, a criminal relative. But this is a paternalistic ground governmental protection for privacy. The less protection for privacy there is, the better behaved people are likely to be and also the more realistic they are likely to be in evaluating the disfavored “private” characteristics of other people. 

Still, there is an argument that privacy is inverse to conformity; that creativity tends to be correlated with nonconformity; and hence that a population is likely to be more creative if there is considerable legal protection of privacy. I think this is an argument worth taking seriously, but that it has little or no application to security cameras in public places.

The Internet, Surveillance Cameras, and Misuse of Big Data-Becker

Surveillance cameras, tax reporting, Internet-based data, emails, mobile phone records and their cameras are some of the more salient modern ways that provide information on individuals and organizations. Few object when banks and other organizations use surveillance cameras on their premises to deter theft and robbery. There is much greater concern when Internet companies like Google and Facebook use their vast stores of data to learn about the interests and other personal information, of the millions of individuals who use their services. Probably, however, the most serious threat is the misuse of “big data” by governments, including democratic governments.

This past week the possible misuse of extensive data by the Internal Revenue Service and the Justice Department has been widely reported. Prior to the presidential election in 2012, tax inspectors may have singled out for closer scrutiny the applications of “Tea Party” and other conservative organizations for tax-exempt status. The Justice Department secured telephone records of reporters for the Associated Press in order to find their sources for leaked information. Data mining with advanced technologies played a part in both alleged abuses of governmental power.

To be sure, using the vast data resources of modern governments to target opponents is not new. For example, Richard Nixon wanted tax inspectors to audit his list of “enemies” and avoid auditing his friends, but George Shultz, the then Secretary of Treasury, refused to go along. What is different now is the explosive growth in governmental (and private) access to “big data” with extensive information on millions of individuals and hundreds of thousands of organizations.

Of course, big data has many valuable uses. To give a few examples, health insurance companies can better forecast their future financial obligations from their extensive information on the past health, use of medical resources, and other behavior of millions of insured individuals and families. Economists use the vast government social security data to track how earnings of different individuals vary over the lifecycle, and even how the earnings of children are related to those of their parents. Governments use their extensive information on incomes and deductions to discover who is likely to be underreporting their incomes and over reporting their deductions to tax authorities.

Yet each of these and other big data sets is subject to abuse. Extensive health histories enable insurance companies, unless checked, to reclassify men and women into worse health categories as they age and experience health problems. Such reclassification takes away the prospect of individuals getting some long term health insurance from annual insurance contracts. Big data sets available to researchers have been manipulated to identify individuals and corporations. Already mentioned is that governments sometimes use extensive tax information to target individuals and groups who oppose them. The information from government surveillance cameras, as Posner indicates, may be improperly used for political advantage, as when cameras detect well-known political leaders in cars with women who are not their spouses.

Fortunately, the Internet, social media, and other modern technologies are not only a major source of the big data that is sometimes used for bad purposes, but these technologies often also help expose these abuses. Individuals who become privy to damaging information about governmental (or private) behavior can publicize that behavior on the Internet to vast audiences. For example, since information about these events is quickly posted online,The Internet has forced China to admit to events that in the past would have been kept secret, such as governmental land grabs, protests against local pollution levels, local health epidemics, and deaths from mining disasters, 

How to harness big data to socially valuable purposes while keeping down abuses is becoming an important priority in democratic societies. The Internet is an important source of big data, but it also is an increasingly valuable way to control the abuses.

 

 

The Rise in College Tuition and Student Loans-Becker

During the past 30 years tuition at American colleges has been growing at a fast pace. The increase has been greatest at 4-year private colleges and universities, and least at 2-year public colleges, but all college categories have had large tuition increases. For example, real tuition at the 4-year private colleges has more than doubled since 1980, while tuition at 2-year public colleges increased by over 50%.

Many commentators have criticized these large tuition increases. Colleges and universities are said to be too greedy and are charging what the traffic will bear, or  colleges are claimed to conspire together to increase tuition. Although colleges do conspire on some financial issues, such as agreeing through the NCAA to prevent payments to college athletes, conspiracy is not likely to be important in determining tuition since over 4000 colleges and universities compete fiercely for students, faculty, and funding.

The growth in tuition is not explained by any conspiracy theory, but mainly by increases in the cost of producing college education. Professors and other teachers are the principal input in colleges, so that the cost of these teachers is an important determinant of the cost of producing education. College teachers are well educated since they almost always have Masters degrees, and at the better colleges and universities they are very likely to have PhDs or similar advanced degrees.

Colleges have to compete for highly educated persons against employers in both the private and public sectors. Since after 1980 earnings of highly educated persons has risen rapidly in these other sectors, colleges have had to pay a lot more for their faculties and administrative staffs. The greatly increased pay of faculty has substantially raised college costs, which in part have been passed on to students through higher tuition and other fees.

This analysis also explains why tuition has grown most rapidly at 4-year private colleges and other elite schools. These schools tend to have faculties that are considered the most skilled and productive, and they invariably have PhDs or other advanced degrees. Since the rise in earnings in recent decades has been greatest for the most educated individuals, the costs of more elite colleges and universities have risen faster than that of other schools. They too have passed through to students some of these much greater costs via much higher tuition.

The increased return to greater skill means that colleges have an incentive to increase the workload of students, and improve the quality of the education they provide. Higher quality education is more expensive, however, which further has increased the cost of providing education, and the tuition charged students.

Whatever the cause of the tuition increases, to many that indicates that college is no longer a good investment. That is, the costs of going to college are claimed to now outweigh the benefits for many of the students who attend college. This is particularly the case, it is argued, for students who take out large student loans to finance their education.

A benefit-cost analysis of an activity like attending college cannot be based only on costs, in this case represented by tuition, but also requires evidence on benefits. While tuition increased rapidly since the 1980s, so too did the monetary returns from college. In 1980, the average graduate of a 4-year college earned about 40% more than the average high school graduate, whereas now the average college premium is over 80%. The increase in earnings has been even greater for persons who received graduate degrees.

What happened to the value of a college education during the past several decades depends on how the increase in earnings from going to college compares to the increase in tuition and other costs of college. Calculations show that the average gain in earnings during the past 30 years has exceeded the rise in tuition, so that the average rate of return on graduating from college has greatly increased, despite the large growth in tuition.

Nevertheless, the rise in tuition has forced many students to take on larger student loans than students did in the past. This has led to growing calls to forgive much of student indebtedness, even though college is a better deal than it was in the past, and student loans are already significantly subsidized. Moreover, despite a widespread belief that student loans are the main source of debt to younger individuals, in fact student loans remain a relatively small fraction of their total debt. An article in the New York Times of May 11 shows that although student loans have grown rapidly during the past decade, they are still only 15% of the total debt of individuals under age 35 (and a smaller fraction of the debt of those over age 35), whereas mortgages comprise 74% of their debt. The article claims that the “heavy” load of student debt is weighing on economy, but surely mortgages are a far more important influence on the spending of younger families.

Of course, a high level of student debt is a burden for individuals who are not earning a lot, and the default rate on student loans is much higher for low earners than for others with student debt. Students with low earnings mainly went either to proprietary colleges or to 2-year colleges. Their debt problems are not surprising since it is well known that these students are not likely to earn a lot after they enter the labor force. Perhaps greater constraint should be placed on their access to publically subsidized student loans, and perhaps interest rates on student loans should be positively related to earnings.

But any changes in policies regarding student loans should recognize that despite the rapid growth in tuition, college education remains a very good investment for the large majority of students who graduate from college.

 

 

College Costs and Quality—Posner

I graduated from Yale College in 1959. Tuition, room, and board at Yale in the late 1950s was $2000 a year; this year it is $60,000. Adjusted for inflation, this is a more than threefold increase. Average salary for a full professor at Yale went from $13,000 in 1959 to $186,000 this year (excluding medical school faculty), which after correction for inflation, an almost twofold increase. The rates of increase in these two variables varies from college to college, but I believe it is generally true that college costs have risen significantly faster than faculty costs. One thing that has depressed the increase in faculty costs is the increasing use of graduate students and other part-time faculty in lieu of tenure-track faculty. In addition, the administrative staffs of colleges have grown rapidly, in part because of increased legal regulation of education. Also, colleges have increased the quality of student housing and provided other amenities for students, in an effort to compete more effectively for rich kids. In addition, greatly reduced state subsidies for state colleges, in the wake of the economic depression that began in 2008, have forced state colleges to increase tuition. 

The increase in faculty salaries may be in part a “Baumol” phenomenon. The economist William Baumol pointed out long ago that competition may force up salaries in markets in which capital is not a good substitute for labor, and the result in those markets will be higher prices unrelated to higher quality. Suppose there are productivity increases in engineering but not in teaching; still, teacher salaries will have to rise in order for colleges to be able to compete with engineering firms for labor, and because there are few if any productivity improvements in teaching the higher salaries will be translated into higher prices. An alternative explanation is that salaries for skilled workers in general have risen, and college teachers are skilled. But it is only if skilled workers have alternatives in other
markets that their wages would rise in markets that do not show productivity gains. But, to repeat, increased faculty salaries, whatever their cause, do not explain the steep increase in college costs. 

I do not have the sense that the quality of college education has improved in the last half century. Colleges have become more competitive, but the forms that the increased competition has taken do not seem to have improved quality. From the standpoint of society as a whole, the goals of higher education are to enlarge general (as distinct from firm-specific) human capital by imparting valuable intellectual skills to young people of intelligence and ambition, and to produce research that generates mainly external benefits and so is underproduced by for-profit entities. To a large extent, certainly, colleges and universities work toward those goals, and with considerable success. But from the standpoint of a private college’s trustees and administrators, an equally important goal is to maximize the institution’s revenue (net of cost) and hence tuition income, donations, research grants, and income from consulting and patents—the grant money and income from consulting and especially patents being shared between faculty and university. The consequences of these endeavors include a high level of expenditures on student amenities (to attract rich kids), on intercollegiate sports (to stimulate alumni donations), and on faculty “stars” who can attract research grants and impress parents and alumni. Other consequences include light teaching loads for faculty stars as a form of untaxed compensation, the shift of teaching responsibilities from tenured faculty to graduate students and non-tenure-track floating faculty, pandering to students (beyond just the provision of amenities) and so grade inflation, reduction in required courses and distribution requirements, dilution of college-level education by promiscuous grant of advanced-placement credits (in effect giving college credit for high-school coursework), and proliferation of extracurricular activities—all being aspects of treating students as “consumers” to be pampered in partial compensation for high tuition and student debt and to encourage future donations. Still other consequences of endeavors to maximize revenue include recruitment of student athletes who may have no intellectual interests or promise, “legacy” admissions (discrimination in favor of student applicants who are children of alumni, especially wealthy alumni—though that is a very old practice, as is recruitment of student athletes), and encouraging applied research (because it is patentable, as basic research is not). False advertising of job opportunities for graduates of graduate schools and professional schools (such as law) is also a not uncommon university marketing tools. 

The federal student loan guaranty has pernicious aspects. In particular, it disincentivizes colleges to screen student loan applicants, and in fact incentivizes college administrators not only to raise tuition but also to encourage students to take on excessive debt, since the loans are guaranteed and therefore the university doesn’t have to worry about whether the students can pay back the loans. 

The greatest hope for improvements in quality and reduction in costs of higher education may be the
“MOOCs”—massive open online courses. They have revolutionary potential for enhancing competition in higher education by using computer and communications technology to improve quality and drastically reduce cost.