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01/27/2008

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a Duoist

At the macroeconomic level, the prosperity of the member OECD nations compared to the 171 non-OECD nations is not a function of tax burdens. Rather, it is function of differing levels of freedom.

Grouping 185 nations into four income levels reveals an astonishing perfect correlation (1.0) between a nation's level of overall freedom and its GDP. This is true regardless of whether the country is land-locked or has access to the sea; regardless of whether it is East or West, North or South; regardless of its religion or language; and regardless of whether it is an oil importer or oil exporter.

In turn, the most prosperous nations--17 members of the OECD on the three northern continents--not only have the highest levels of overall freedom, they are also the countries with the longest and most serious commitment (as measured by annual graduates) to the open inquiry of science.

The 'rich are getting richer, the poor are getting poorer' not because of tax burdens; the growth of the most prosperous nations is directly related to that nation's commitment to science. Not surprisingly, the past 500 years growth of freedom in the world precisely matches the spread of science. The result is faster rates of increased prosperity.

This is the critical qualitative difference in Mankiw's corection of Solow's model: technology is the key variable, yes, and human capital influences the growth in technology, but it the appreciation for open inquiry which is at the heart of the spread of freedom and prosperity among nations.

Tax burdens are important, but not over the long sweep of history. Freedom is much more important to a nation's prosperity, and science is most important of all.

Bertil Hatt

‹‹ The curious thing about the OECD data is that prosperity, economic growth, and other measures of economic well-being do not seem closely correlated with the tax burden. ››

Would I be wrong in considering this is an interesting economic result, that could be interpreted as: Moderate socialism is not so bad?

Nope: instead of trying to do science, in front of results going against one's opinion, Economics become a religion, something you ought to believe otherwise you are out of the Church of Laissez-Faire:

‹‹ One would think that the tax burden, especially but not only when it is created mainly by direct taxes, would have a strong negative effect on economic well-being. ››

How can you write that, if you just observed the opposite?

‹‹ However, there is some negative correlation between economic performance and the tax burden; for Ireland, Switzerland ›› — both have recently been benefiting from fiscal paradise statutes, rather then an actual economic growth: it's easier to have low tax and many corporate shell, when you go next door to produce, get well & do real business.

Ralph Heinrich

Posner writes that "the increase in tax burden is due to increased revenues from "direct" taxes--income (including payroll) and corporate taxes [...]. Even though most countries, including the United States, have cut income and corporate tax rates, the cuts have been more than offset by increases in income and corporate profits".
This is wrong: GDP is defined (from the "distribution" side) basically as the sum of labor income and profits. Therefore increases in labor incomes and profits per se can never result in a higher tax burden. The tax burden is defined as tax revenue over GDP; the revenue from any given tax is the product of the average tax rate and the tax base. Therefore the tax burden can rise only if (i) additional taxes are introduced, or (ii) average tax rates rise, or (iii) the tax base rises RELATIVE TO GDP. Without having looked into the matter in detail, I am pretty sure that the prime reason for increasing tax burdens (relative to 1975) was a rise in average tax rates (the cuts Posner is referring to were in MARGINAL rates and happened relatively late in the period under consideration).

Diversity

Posner makes an error that is widespread in economic commentary. Citizens who have an effective vote in their countries' governance can and do choose what level and types of publicly provided goods and services they receive. In making that choice, they ask "What do I/we get for the money?" If they are not getting what they consider good value, they will sooner or later insist on lower taxes instead. There is therefore no proper general economic presumption that the publicly provided goods and services are of lesser value to the consumers than equivalent spending on privately provided goods and services.

The model of higher public spending/higher taxes as necessarily a drag on the delivery of economic value actually applies only where the citizens do not have effective choice, and the people in government are not trying to deliver what the citizens want.

Richard Heinrich

In looking at international comparisons, there is a fourth way in which the tax burden can rise (or decline). Tax can be collected more (or less) effectively. Spain has maintained surprisingly healthy public finances over the years by smoothly improving the effectiveness of the tax system. Italy is experiencing a sharp`rise in tax burden at present as the tax authorities make an overdue push to make people pay their taxes. Greece and Portugal have shaky public finances not because average nominal tax rates are low, but because collection is relatively ineffective. Etc.

Haris

"given that our mess is half again more costly than the other advanced countries wouldn't we have to stay up late at night to create something less efficient?"

Couple of things:
1. We try very hard to make it inefficient, starting with the FDA and adding Medicare that spends hundreds of thousands on elder patients to gain them a very short period of what I imagine is an unpleasant end of life.
2. I still haven't heard conclusive evidence that tells me that other countries are providing the same quality of care, which would explain why it would cost less. [The data I've seen on this is so inconclusive and affected by the biases of those who put it together that I doubt we'll know for a while.]

Chuck

Does this imply that their is an "optimal" tax strategy for free societies?

David

Posner asserts that the British national health service is more efficient than the U.S. health care system, because "[t]ransfer socialism is not as inefficient as means-of-production socialism."

Perhaps there is another factor at work here. Markets work well when properly regulated to discourage abuse or fraud, and -- most important -- when consumers can make rational decisions based on supply and demand. But the "supply and demand" pricing model does not apply well to health care. When care is needed, demand is inelastic, and suppliers thus have an incentive to overcharge. To solve this problem, we have developed a highly inefficient system of insurance coverage, which -- for all its flaws -- is still better than a pure market model.

But there is even a better model for health care. Insure everyone, so there is no fighting about coverage, and so premiums accurately reflect the nationwide risk. Strictly regulate the system to protect patients and doctors from abuses by insurers, and to protect insurers from overcharging by providers and by drug companies. A national health service is not necessary (though it might be easiest), but at least strong central oversight is required. This is a "market failure" that demands a fix.

Perhaps Posner will recognize that other market failures demand fixes as well. Markets are very good but by no means perfect. And some industries are not well served by markets. Capitalism is a tool, not a god.

Matt

Another post on this quote from Becker:

"Nevertheless, a U.S. National Health Service on the English model would undoubtedly be highly inefficient compared to our admittedly highly imperfect private provision of health care."

So, have you read Krugman on health care?

http://select.nytimes.com/2007/07/09/opinion/09krugman.html?scp=4&sq=krugman+health+efficient&st=nyt

Essentially: "Every wealthy country except the United States already has some form of universal care. Citizens of these countries pay extra taxes as a result — but they make up for that through savings on insurance premiums and out-of-pocket medical costs. The overall cost of health care in countries with universal coverage is much lower than it is here."

The jist is that the government is more efficient than the market in this case because it doesn't have to waste any administrative, bureaucratic money to weed out unhealthy people.

ohwilleke

The efficiency of government production of goods and services is vastly different abroad and in the U.S.

In the U.K. and the U.S. economic development was historically largely a private sector development. In most of the rest of the world, economic development was to a great extent the work of state owned enterprises, while a powerful union movement made large private enterprises look more like government employers do in the U.S. In the U.S., civil service and government procurement norms tolerate a great deal of inefficiency, and the labor movement has historically been rather weak compared to its international peers making the public sector and private sector far more distinct.

Notably, the most prestigious university in France trains people to be civil servants, while the most prestigious graduate schools in the United States (Harvard Law, Yale Law, Harvard Business School, etc.) send their best and brightest to Wall Street. Most European countries pay their senior civil servants better relative to their private sector employees than the U.S. does (who particularly in the health care sector are far less well paid), give senior civil servants more discretionary political power than comparable level U.S. officials other than judges, and have smaller and less influential financial sectors than the U.S.

The British Royal family has sent its sons into military service. The Clintons have sent their daughter to work at a hedge fund.

Alan Reynolds

Norway has something most others don’t – namely, a lot more oil than it needs. In the note below, Norway’s Ministry of Finance provides some other reasons comparing the ratio of tax receipts to GDP can be treacherous: (http://www.regjeringen.no/en/dep/fin/Selected-topics/Taxes-and-Duties/The-tax-level.html?id=465766)
“Although tax as a percentage of GDP may be useful as an indicator of the role of the public sector in the economy, this method of measurement is subject to distinct limitations:
• A country that mainly makes use of direct transfers to support various groups will feature higher taxes as a percentage of GDP than does a country that mainly makes use of various tax allowances, etc., even if the overall level of support is identical.
• Tax as a percentage of GDP is affected by the extent to which various social security benefits and other transfers are taxable. In a country like Norway, where these are often taxable, tax as a percentage of GDP will be higher than in a country where such income is tax-exempt, even if the net benefits are the same.
• Tax as a percentage of GDP will be affected by whether countries have public or private pension systems. A public pension system often involves savings through the tax system (social security contributions). Such countries will feature higher taxes as a percentage of GDP than will countries where such arrangements are organised in the form of payments to private pension schemes.
• The tax level in a country as a percentage of GDP will also be affected by where it finds itself in the business cycle, because tax revenue growth resulting from changes in economic activity may differ from GDP growth. Consequently, tax as a percentage of GDP may change without any amendment to the tax rules. In other words, changes in tax as a percentage of GDP will not necessarily reflect any differences in tax policy, whether over time or between countries.
• Governments may also have other sources of income than tax
• Because of weaknesses in the indicators used to measure the tax level in Norway and in other countries, it is important to be cautious when interpreting changes from one year to the next, as well as differences between countries."

Jack

Speaking of Wall Street does anyone here thing THAT act is at all "efficient?"

S G

Interesting article, although it somehow omits the question if the additional taxes paid for government investment that actually yielded some benefits to citizens.

I must note, some data seem to be "shaky" to use a word i saw here.

Why is Greece a troubled economy? It has had continuous growth for more than 13 years, averaging about 3.5-4% in the last 7!

"of course Japan is a very wealthy country, as Greece is not"

Let's have a look at the Economist's "The World in 2008" publciation. GDP in PPPs, Greece=35,150
Japan=35,170.
20 dollars per capita per annum make the difference between a very wealthy country and one that is not?

The causes for the rise in government spending in Greece and Japan are exactly opposite. In Japan it is a sign of crisis, in Greece probably a sign of prosperity and convergence with the rest of Europe...

黃慧傑

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jyoti ranjan pani

Very informative post...keep it up.

A student of Economics

"The curious thing about the OECD data is that prosperity, economic growth, and other measures of economic well-being do not seem closely correlated with the tax burden. "

Perhaps this is only "curious" if you have strong ideological preconceptions. Arguably, an important reason we have government provide services is because it can provide many services MORE efficiently than the private sector. Care to have only private sector armies, police forces, SEC, FDA, etc?

There is likely a reverse "Laffer curve" in effect. With zero government, life would be nasty, brutish and short and GDP would be very, very low. If government controlled 100% of GDP, that would also likely be inefficient. What's the optimal amount? Probably not significantly less than the US/Japan/Greece nor more than Sweden/Denmark/France.

Of course, it matters greatly which functions government runs and how well it does so, but that's a distinct question from Posner's.

Jack

A student; good work IMHO. Yes different tools for different tasks and where to draw the line. I'm reminded of shoe making in the USSR; apparently one "five year plan" told the factory to make as many shoes as possible to fill the ever-present shortages. It's easier of course to make just a few, or one size so that's what they did. There'd be a different incentive or goal the next time, and of course they never got it right.

On the other hand as long as the craft of teaching is based upon 20 students and one teacher, what's to be gained by "privatising?"

Posner and Becker's essays don't go far enough....... at all; surely there are studies showing the "market value" of what one gets for their tax buck in the various countries. Let's see....... if we valued health care for ALL at the price paid in the US, the French, UK and other governments might look VERY efficient and productive!

DanC

Reminds me of President Reagan warning about over-taxation AND over-regulation. Perhaps over-regulation, indirect taxes, can do greater damage to an economy then overt taxes.

Using the tax code for social engineering may be more efficient in some cases since competitive markets will adjust to meet the tax most efficiently. But in other cases it may so distort incentives that you get unintended results.

For example, creating markets to reduce pollution can be efficient. But encouraging ethanol production from corn can lead to a inefficient diversion of resources.

Or look at raising CAFE standards in the early 80's. The cost of increasing fuel economy just about equaled the increasing cost of fuel. But now the CAFE standards are being set so high that the cost of modifications, and increased vehicle costs, will be much greater the the savings from greater fuel economy. ( When an increase in the fuel tax would be more efficient but more costly in terms of vote.

Perhaps you can tax at higher rates, with a flatter tax, and still maintain higher productivity levels. So rather then look at tax burden alone, look at degree of regulation, complexity of tax code, and tax burden as percentage of DP.

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