Another section of my book-in-progress, this time on the implications of trickle-down. I’m getting lots out of the comments, even if I don’t respond to everything, so please keep them coming.
One thing that would be really useful to me is references to publications (probably popular, rather than journal articles) by prominent academic economists that clearly espouse some of the implications of trickle-down discussed here. More than most of the ideas I’m criticising, trickle-down economics tends to be a background assumption rather than something which comes out into the open, and I want to avoid the suggestion that I’m attacking a straw zombie here.
Implications
…
Defenders of the trickle-down hypothesis frequently employ what my Crooked Tmber co-blogger John Holbo calls theÂ
‘the two-step of terrific triviality’. Say something that is ambiguous between something so strong it is absurd and so weak that it would be absurd even to mention it. When attacked, hop from foot to foot as necessary, keeping a serious expression on your face.
The self-evidently weak version of the trickle-down theory starts with the observation that we all benefit, in all kinds of ways, from living in an advanced industrial society, with access to modern medical care, consumer goods, the Internet and so on. Stretched widely enough, the term ‘capitalism’ includes all advanced industrial societies, from Scandinavian social democracies to the Hong Kong version of laissez-faire. So, in this sense, the benefits of capitalism have trickled down to everyone.
The strong version of the claim is obtained by shifting the meaning of ‘capitalism’ to mean ‘the free-market version of capitalism favored by market liberals’. Relatively few of the benefits mentioned above can be traced directly to this form of capitalism. Advances in medical care have come mostly from publicly-funded research, and from innovations developed in the public health sector. The contributions of for-profit pharmaceutical companies have been modest by comparison. SImilarly, the Internet was developed by the publicly-funded university sector, and even now the most exciting developments are non-profit innovations like Wikipedia.
The crucial question is not whether technological progress and economic development yields benefits to everyone (clearly it does, at least in material terms), but whether market liberal policies generate more such progress than more egalitarian alternatives, so much more that everyone is better off in the end. It is this strong claim that was made repeatedly during the era of market triumphalism in the 1990s, and repeated, though with somewhat less conviction, through the 2000s.Â
 The growth in US inequality during the Great Moderation was undeniable (though that didn’t stop some commentators and thinktanks trying to deny it). So, optimistic assessments of economic performance during the Great Moderation appeared to support the claim that rising inequality must be good for, or at least consistent with, economic growth that would ultimately benefit everybody.
Now, in the wake of the global financial crisis, this claim can be seen to be unambiguously false.
#
Income, inequality and taxation
The most obvious implication of the trickle-down hypothesis is that inequality in market incomes is not only harmless, but positively desirable, producing benefits for everyone in the long run. The general idea is that, the more highly owners of capital and highly-skilled managers are rewarded, the more productive they will be. This will lead both to the provision of goods and services at lower cost and to higher demand for the services of less-skilled workers who will therefore earn higher wages.
In the abstract language of welfare economics, the central implication of the trickle down hypothesis is that policy should be aimed at promoting efficiency, rather than equity since, in the long run, equity will take care of itself. Put in terms of a more homely metaphor, we should focus on making the pie bigger, rather than sharing it out more equally.
In reality, things are not that simple. It is easy to suggest that tax and other policies should apply neutrally to all sectors of the economy, but harder to define how this should actually work. It might seem that a ‘flat’ tax system in which all forms of income are taxed at a low, uniform rate would satisfy the efficiency criterion. But advocates of ‘trickle down’ have arguments to suggest that income from capital should not be taxed at all.Â
Going further, market liberals have claimed that, since everyone benefits from many of the services provided by government, the most efficient and equitable form of taxation is a poll tax [1]. Such a policy was in fact introduced by the Thatcher government in the UK to finance local government services, but was abandoned in the face of massive protests and widespread rioting.
 Once we turn from theoretical policy debate o the details of design, implementation and enforcement, the well-off invariably do better than the poor, while the rich do best of all. This was true during the postwar Great Compression – although the system appeared steeply progressive, the use of deductions, loopholes and tax minimisation schemes mean that it was, at best, only moderately progressive. Under the systems in force since the 1980s, which are only marginally progressive in their design, the actual outcome has been that upper income earners probably pay a smaller proportion of their income in tax than the population as a whole.
The absence of substantial progressivity in the tax system is obscured by the focus, in the US and elsewhere on the fact that high income earners (almost by definition) pay the bulk of income tax. A good deal of the material appearing on this topic in the Wall Street Journal and elsewhere gives the impression that income tax is the only tax in the system. In reality, income tax is not even the sole tax imposed on income – most countries, including the US, levy payroll taxes which fall on labour income. Unlike the progressive income tax, which does indeed fall most heavily on high income earners, payroll taxes are regressive, falling primarily on wage employees.Â
In most taxation systems, capital gains are accorded concessional treatment or not taxed at all. Unsurprisingly, a large share of capital income is taken in the form of capital gains, moving the tax system closer to the ‘trickle-down’ ideal where all taxes fall directly, or indirectly, on wage-earners.
Moreover, taxes on income and wealth only account for about half of government revenue in most tax systems. Consumption taxes typically make up about half of all government revenue, and these taxes are regressive. That is, those on low incomes typically pay a higher proportion of those incomes in consumption taxes than do those on high incomes. There are a number of reasons for this. Low income earners don’t generally save very much, so the ratio of consumption to income is higher for these groups. Taxes on items such as tobacco, alcohol, and gambling are levied at very high rates, and these items tend to make up a larger share of the expenditure of the poor (though absolute expenditure is higher only for tobacco).
Finally, there is tax avoidance and minimisation. A vast industry of lawyers, accountants, money-launderers and other agents exists solely to ensure that no one with sufficient means should pay any more tax than the minimum they are obliged to pay under the most creative possible interpretation of the law, and that those who don’t wish to pay even this much should be free to make this choice without any adverse consequences.
In summary, no matter how favorably the well-off are treated, there will always be arguments to suggest that they should receive even better treatment. Trickle-down theory offers no limit to the extent to which the burdens of taxation and economic risk can or should be shifted from the rich to the poor. In the end, according to the trickle-down story, that which is given to the rich will always come back to the rest of us, while that which is given to the poor is gone forever.
#
The role of the financial sector
The financial sector is the crucial test case for trickle-down theory. During the era of market liberalism, incomes in the financial sector rose more rapidly than in any other part of the economy, and played a major role in bidding up the incomes of senior managers as well as those of professionals in related fields such as law and accounting. According to the trickle-down theory, the growth in income accruing to the financial sector benefitted the US population as a whole in three main ways.
First, the facilitation of takeovers, mergers and private buyouts offered the opportunity to increase the efficiency with which capital was used, and the productivity of the economy as a whole.
Second, expanded provision of credit to households allowed higher standards of living to be enjoyed, as households could ride out <a href=”http://johnquiggin.com/index.php/archives/2005/03/24/bankruptcy-again/”>fluctuations in income</a>, bring forward the benefits of future income growth, and draw on the capital gains associated with rising prices for stocks, real estate and other assets.
Finally, there is the classic ‘trickle-down’ effect in which the wealth of the financial sector generates demands for luxury goods and services of all kinds, thereby benefitting workers in general, or at least those in cities with <a href=”http://americancity.org/magazine/article/cities-and-cronyism-quiggin/”>high concentrations of financial centre activity such as London and New York</a>.
The bubble years from the early 1990s to 2007 gave some support to all of these claims. Measured US productivity grew strongly in the 1990s, and moderately in the years after 2000. Household consumption also grew strongly, and inequality in consumption was much less than inequality in income or wealth. And, although income growth was weak for most households, rates of unemployment were low, at least by post-1970 standards for most of this period.
Very little of this is likely to survive the financial crisis. At its peak, the financial sector (finance, insurance and real estate) accounted for around 18 per cent of GDP and a much larger share of GDP growth. With professional and business services included, the total share was over 30 per cent.[1] The finance and business services sector is now contracting, and it is clear that a significant part of the output measured in the bubble years was illusory. Many investments and financial transactions made during this period have already proved disastrous, and many more seem likely to do so in coming years.In the process, the apparent productivity gains generated through the expansion of the financial sector will be lost.
fn1. Here I’m measuring the <a href=”http://www.bea.gov/industry/gpotables/gpo_action.cfm?anon=87680&table_id=23981&format_type=0″>ratio of gross FBS output to gross domestic product</a>, which is the figure most relevant to the argument. The value-added in FRBÂ (which nets out inputs purchased by the FRB sector) is smaller, around 20 per cent, but still indicates a highly financialised economy.
#
Equality of outcome and equality of opportunity
The trickle down hypothesis is closely related to the distinction between equality of outcomes (like life expectancy) and equality of opportunity. This distinction has long been a staple of debates between market liberals and social democrats. Many market liberals argue that, as long as society equalises opportunity, for example by providing good-quality schools for all, it’s not a problem if outcomes are highly unequal. Even though some people may do badly, their children will, it’s claimed, benefit from growing up in a dynamic society where everyone has a chance at the glittering prizes.
Writing in the Wall Street Journal, Wisconsin Republican Paul Ryan attacked President Obama’s first budget saying
In a nutshell, the president’s budget seemingly seeks to replace the American political idea of equalizing opportunity with the European notion of equalizing results.
A year earlier, following his victory in the Republican primary in South Carolina, John McCain said
We can overcome any challenge as long as we keep our courage, and stand by our defense of free markets, low taxes, and small government that have made America the greatest land of opportunity in the world.
As these quotations suggest, the trickle-down hypothesis relies on the claim that equality of opportunity and equality of outcome are not only distinct concepts, but stand in active opposition to each other. By removing disincentives to work such as high tax rates and elaborate social welfare systems, it is claimed, an economic system that tolerates highly unequal outcomes will also provide those at the bottom of the income distribution with the incentives and opportunities to haul themselves up into the middle class and beyond.
The idea that the United States is a ‘land of opportunity’ and ‘the most socially mobile society the world has ever known’ (Scott Norvell, in a piece calling for patriotic consumer spending in the wake of 9/11 http://www.foxnews.com/story/0,2933,34378,00.html) is central to the American national self-image, and the belief that this high social mobility derives from free markets is widely shared.Â
As we will see, empirical studies of social mobility do not support such beliefs. But most economists are not engaged in studies of social mobility and many of them share these popular assumptions. This is true not only of self-satisfied American economists, promoting the merits of the status quo and calling for more of the same, but also of European critics of the welfare state, who accept the characterization of their own societies as rigid and sclerotic by comparison with the dynamic and flexible United States.
[1] The word ‘poll’ means ‘head’, but is closely associated with voting. Poll taxes are typically levied using electoral registers to define the tax base and can therefore be used to disenfranchise the poor or, as in the US South in the Jim Crow era, blacks
{ 74 comments }
hattip 12.13.09 at 10:24 am
What Marxist hokum.
Listen, it is none of your business how much money other people make. You have no right at all to steal other people’s money because you want “equality”. What you really want is to avoid hard work. This is communism. Private property and the overcoming of jealousy as a major socially binding force is one of the great advances of history. This is what civilization is all about. This is what progress is about. By implication, the society you are proposing is a primitive throwback to barbarism.
This is nonsense, people are not “equal” in terms of capability talent or drive nor should they be. You are trying to “debunk” the human condition. If person A goes out and earns more money thatn someone lazy bum, call him person B, who sits around and does nothing, then Person B DOES NOT deserve person A’s money. Moreover, you have no moral authority to decide the matter. IT IS NONE OF YOUR BUSINESS. IT IS NOT YOUR PROPERTY. PERIOD.
You are behaving immorally in assuming that authority, and you are engaging in a deeper immorality by pretending your jealousy and arrogant presumption is somehow a higher morality. It most certainly is not.
“Trickle down”, if you are refering to Reagans defense of sane capitalist principles, was a phenomenal success, and it CREATE more wealth. It CREATE MORE millionaires FROM THE MIDDLE CLASS. Without Reagan’s reform of tax policy it isquite doubtful that we wouls have seen the great surge of entrepreneurial effort that gave us the technology revolution of the 80’s and 90’s.
And it was not a “new” philosophy, it is in fact how wealth was buit in the West for centuries. It is sad that someone has to explian this to you. It is merely commonsense and the common plave of the history of manind and your nation.
Stop regurgitating democrat propaganda and learn to think for yourself. Stop sidestepping the hnest truth of the matter with self serving rationalizations.
You seem to think that to assert that
The idea that the United States is a ‘land of opportunity’ and ‘the most socially mobile society the world has ever known’
is some sort on ideologcial “assertion of identity”. It is not. It is a demonstrable fact. To hold otherwise is pure communist/collectivist claptrap, and you would know that if you knew anything about the world at large or the history of mankind, as opposed to this false history of mankind, and this false apprehension of the human condition that the Marxists feed you.
Stop listening to the Democrat. Those people just want to steal other people’s money and not have to work for the lifestyle that they want to live! It is theft pure and simple. If you want more money go out and earn it (and stop pretending that because someone has money they or their forebears did not earn it. Of course they did.) The only reasons for “poverty” in America are laziness and the communist policies of the Democrat Party.
When corrupt government officials can seize private property for their own ends then all the wealth will be in their hands. See what sort of “trickle down” you get then. You will have two classes. The tyrants and everyone else. It is called serfdom. That money will not be in YOUR hands. Soon they will have all the wealth.
America was founded on the notion of liberty and PRIVATE PROPERTY. If people cannot have economic freedom then they cannot have political freedom. If they cannot have propriety rights, then they cannot have economic freedom. If they cannot keep the fruits of their labor then they do not have property rights. It is really a tragedy that you have reached the age that you have and yet you cannot grasp this simple truth.
Communist and socialist contempt for property right has been shown to be a complete disaster the world over (yes even in Europe). Stop it. Stop this contempt for the founding principles of your nation. Reflect on the fundamental immorality of what you are proposing.
Tim Worstall 12.13.09 at 10:46 am
“Advances in medical care have come mostly from publicly-funded research, and from innovations developed in the public health sector. The contributions of for-profit pharmaceutical companies have been modest by comparison.”
Hmm, worth rereading Baumol here perhaps. He makes the distinction between invention (and in his meaning this is what you’ve mentioned above) and innovation. Invention is the creation of new stuff or ways of doing things. This can indeed be done in many systems: his own example is that the Soviets created some pretty spiffy things.
Innovation is something different: the spreading of these inventions across the society. It’s here that that mixture of capitalism and markets (roughly speaking, liberal capitalism) comes into its own. According to Baumol it’s the decisive outcome of the system: that inventions spread, are more widely used more quickly, under liberal capitalism than any other system (erm, that we’ve devised so far that is). And of course it’s the use of inventions which raises productivity (the ultimate source of increasing wealth) not their invention or existence.
Given that is was by reading you that I found out about Baumol’s Cost Disease thought that other side of his work worth mentioning….
Baumol’s certainly attempted a popular work on this point although how popular it was I’m not sure. Paul Ormerod also makes a very similar point in “Why Things Fail” (think that’s the right title from memory). The defining point of liberal capitalism is that it’s the only system we’ve ever tried that provides a consistent, long term, rise in the standard of living for the average person, ie rising productivity.
“Moreover, taxes on income and wealth”
Pedant alert. There aren’t that many places with taxes on wealth. On capital income, yes, but that’s something different.
“In most taxation systems, capital gains are accorded concessional treatment or not taxed at all. Unsurprisingly, a large share of capital income is taken in the form of capital gains, moving the tax system closer to the ‘trickle-down’ ideal where all taxes fall directly, or indirectly, on wage-earners.”
Might be worth pointing out that the Scandanavian tax systems (Sweden especially) work very much on this basis. Yes, there are high marginal income taxes. But there are low capital and corporate taxes and high consumption taxes like VAT.
“Worthwhile Canadian Initiative” has a series of posts laying all of this out very well. The take away point being that these successful social democratic societies run on a tax system which accords quite well to the market liberal tax structures. Capital is and should be taxed more lightly than incomes which should be taxed more lightly than consumption. Their tax systems as a whole are not notably progressive…..quite possibly less so than many other countries. The progessivity of the system (ie, how much they reduce the gini of market incomes) comes from the way the money is distributed once raised, not in who it is raised from.
Matt McIrvin 12.13.09 at 11:43 am
Concerning tax structures in northern European social democracies, one could possibly turn the argument upside down. Having a more equal distribution of outcomes allows the possibility of a tax system structured more along market-liberal lines. Going to a Scandinavian tax system in the US would just be kicking people who are already down.
Tim Worstall 12.13.09 at 1:27 pm
“Having a more equal distribution of outcomes allows the possibility of a tax system structured more along market-liberal lines.”
But the unaltered market outcomes aren’t that different. Market income gini is some 0.48 in both Sweden and the US.
Tim Wilkinson 12.13.09 at 1:53 pm
There are a lot more steps beside those ones. Some metaphor about a thousand-legged cat on a not particularly hot tin roof, or a hydra or something rather than a two-step.
Some points:
* Generalised Smithian market productivity/incentive hocus pocus – not really called trickle-down generally is it?
* Trickle down presumably meant to refer to tax breaks/cuts for the rich.
* Reagan etc tend(ed) to refer to ‘supply side’ policies rather than trickle down.
* Agnew referred to ‘trickle down’ in 1971, at which time it was already considered an ‘old’ Republican theory.
* (A two-step:) 1. the rich are more likely to spend (your luxury goods argument) – OR (the suppy side version) more likely to save.
* Social Darwinism – (I think Hayek, Rothbard and other scattergun merchants like to include this in the mix) the rich (psst! the self-made ones) are good at making money, so obviously the best people to decide how to invest it succefully (and make more). Handwave in direction of an impenetrable web of redefinitions, articles of faith and non-sequiturs: Pareto, general equilibrium, revealed preference, mumble mumble, for reason to think making money is reliably correlated with social benefits.
* Similar/interlocked: the rich are the best at picking winners (the ‘innovation’ argument, e.g. Windows) – especially nice bit of supply side stuff – especially when ‘advertising’ is used to stimulate demand for the chosen product line.
* If it’s not too obvious a suggestion, the place to get references is Google news archive search, with some patient refining of search terms: ORs and quoted phrases (+ quoting a single word stops Google from helpfully substituting similar ones). e.g. Jude Wanniski, Marty Feldstein, David Stockman. And using advanced archive search allows you to limit your search to free content, avoidig those ridiculously priced pig-in-a-poke pay sites. Apologies for egg-sucking tutorial, but I get the impression that the usefulness of the Google news archive is not always fully appreciated.
Aulus Gellius 12.13.09 at 2:17 pm
“Straw zombie”: giving terrifying new meaning to the phrase “if I only had a brain.”
rz 12.13.09 at 4:48 pm
@Tim Worstall: According to Wikipedia the US has a gini of 45, and Sweden has a gini of 23.
This means that:
“Having a more equal distribution of outcomes allows the possibility of a tax system structured more along market-liberal lines.”
is probably true.
rz 12.13.09 at 4:51 pm
@Tim Worstall:
ah wait, you mean essentially “gini before tax”? Ok, that might be different.
hix 12.13.09 at 6:47 pm
Swedens wealth distrubution is quite bad. And i would not call low capital gains or corporate taxes liberal. What they are unfortunatly is a very pragmatic solution for small countries since the corporate profits tend to disappear together with the wealthy.
I like the American big bully aproach lets just tax our citicen no matter if they life hereto physical disapearance of the wealthy part of the problem.
John Quiggin 12.13.09 at 7:50 pm
@Tim Worstall “The defining point of liberal capitalism is that it’s the only system we’ve ever tried that provides a consistent, long term, rise in the standard of living for the average person, ie rising productivity.”
This is exactly the first step in the TSOTT I warned against in the opening para (with your own earlier comments in mind, I must add). Are you saying that social democracy has not provided such a consistent increase in the standard of living ? Or that for this purpose all advanced, growing societies should be classified as “liberal capitalism”?
And, as it happens, I first made this point in response to Baumol’s very disappointing book, back in 2002, before I had discovered the TSOTT
http://www.australianreview.net/digest/2002/11/quiggin.html
“Social democracies are dealt with using the simple technique of argument by definition. It turns out that the ‘free-market’ in Baumol’s title is redundant. In his analysis, all capitalist societies, even those where tax revenues exceed 50 per cent of national income, are classed as ‘free-market’. Thus, the question of the relative roles of the public and private sectors in research and development is effectively ignored.”
John Quiggin 12.13.09 at 8:07 pm
@Tim Wilkinson. Thanks for all these suggestions. I’ll see how much I can fit in. Also, thanks for the tip on Google’s use of +, and for suggesting Feldstein who’s perfect for what I want, and turns up with plenty on Google. (Wanniski and Stockman don’t count here). I’ll check some other GOP CEA Chairs and similar for more of the same.
hilzoy 12.13.09 at 8:42 pm
“Many market liberals argue that, as long as society equalises opportunity, for example by providing good-quality schools for all, it’s not a problem if outcomes are highly unequal.”
Progressive though I be, I would be absolutely thrilled if the US made anything remotely resembling an effort to equalize opportunity. Trying seriously to tackle the state of inner-city schools; getting serious about siting low-income housing in non-low-income neighborhoods; subsidizing higher education so that differences in parental wealth did not immediately translate into postgraduate opportunities constrained by massive debt; not to mention universally accessible health care: I want this “market liberalism”, and I yearn for the day that my political opponents and I agree on all these points, and only quibble about whether we should spare any additional concern for equality of outcome.
In fact, however, like concerns about the deficit, this variant of conservatism only appears when Democrats are in power, and it can be used to argue against any attempt to mitigate inequality. When Republicans have power, and could actually try to produce equality of opportunity, this issue mysteriously vanishes from their minds.
Alex 12.13.09 at 8:43 pm
But the unaltered market outcomes aren’t that different. Market income gini is some 0.48 in both Sweden and the US.
I cannot in good conscience support the use of antibiotic drugs. The pro-antibiotic lobby likes to cite survival rates for a range of diseases that are much higher; but if you consider the unaltered clinical outcomes, the non-antibiotics survival rate is identical!
John Quiggin 12.13.09 at 8:45 pm
@hilzoy You’ve anticipated the general response to this line that will be coming up in the “Failure” section of this chapter. I might borrow some of your specifics.
john c. halasz 12.13.09 at 9:25 pm
Why does this seem so U.S.-centric? Is it because the U.S., while seemingly unable to successfully export anything else, has managed to export its (bad) economic theories?
Tim Wilkinson 12.13.09 at 9:27 pm
+ quoting a single word stops Google from helpfully substituting similar ones
Clarification: My use of a plus sign was a misleading irrelevance. I should have said just ‘putting a single word in (double) quotes stops…’ etc.
Tim Wilkinson 12.13.09 at 10:07 pm
re: hilzoy, equal opportunity.
There’s an obvious tension between bequeathal (tuistic transfer) of property on the one hand, and equal opp’ties on the other – typified in John Major’s combination of ‘classless society’ rhetoric with his ‘wealth flowing down the generations’ speech opposing inheritance taxes.
Martin Bento 12.13.09 at 11:23 pm
John, as I have understood it, the trickle-down argument isn’t that giving more money to the wealthy will lead them to order more luxury goods and services, thereby enriching the rest of us as bauble-builders, winemakers, tailors, butlers, prostitutes, and kidney donors. The argument is bad, but not that bad. It’s that the rich will invest a substantial portion of their money, whereas the poor will spend all and the middle class the bulk of it. Hence, the money given to the rich is put to more productive use. Hence, the connection to “supply-side” theories, that propose to encourage growth by increasing investment capital, rather than “demand-side” Keynesian theories that propose to encourage growth by increasing demand and thereby enlarging the market. The fact that there are people who call themselves “supply-siders”, but none I know of who call themselves “demand-siders” might suggest the situation is not so symmetrical as that, however. Obviously, both investment capital and demand are necessary for growth, and which is more important to expand at any given times is going to depend on the situation. It hardly makes sense to be always a supply-sider or always a demand-sider. But we do have people who seem to avowedly fall into the former category, but not the latter. This connects to what I said in the previous thread on this book: asset inflation means investment capital has exceeded its utility and further measures should either be taken on the demand side or should be made in the furtherance of goals other than immediate growth, expressly at the expense of capital for private investment. Asset inflation means that economy is too suppy side.
Tomboktu 12.14.09 at 12:07 am
Not quite on the direct topic, but 00 depending on what you’re planning to discuss next — one logical follow-on:
Do you know if anybody has done any work on how the market distribution of income might be made less unequal? (See my mumblings on this issue here: http://cedarlounge.wordpress.com/2009/09/30/8443/)
It seems to me that until we can both determine a just distribution and put in place a mechanism to bring that into effect, we are not going tobe able to go anywhere with this debate.
Omega Centauri 12.14.09 at 12:34 am
Shouldn’t we explicitly try to avoid the sorts of false dichotomies that arise from the partisan political process. The trickle down hypothesis is merely the claim that some sort of plot of longterm growth rate versus inequlity has a slope such that increasing inequality (at least for some reasonable range of inequality) increases the growth rate. If we actually untook the project of estimating what this curve actually looks like rather than fighting for our side (push it as far as possible left or right), we might be able to tone down the acrimony. Once a curve shape is actually present, than we have political choices to make. Is increasing inequality by X amount worth an increase in the growth rate of Y percent? I submit that many of our difficulties arise because we try to fight out our policy questions using only the innumerate but emotionally charged regions of the brain.
Dan 12.14.09 at 2:45 am
I used to be a Libertarian, in large part because I bought the rhetoric that taxes basically steal somebody else’s money and give it to others. It’s very powerful rhetoric! I certainly wouldn’t want to be thought of as a thief!
But I quit being a Libertarian because I started to think about it this way: Suppose a man gets some slaves and becomes rich off of their labor. They then “rob” him. Is it really HIS money? No. They’re just trying to take back SOME of the money he stole from them by exploiting their labor.
That’s what the rich have now done in this country. They’ve stolen our labor and we just want a little of OUR money back.
Another thing that made me leave the Libertarian party is their absurd inflammatory rhetoric. If you try to suggest that there should be even the slightest bit of “redistribution of wealth” they call you a Marxist or Communist. It’s complete nonsense. The “Democrat” party in the US isn’t calling for anything even remotely close to Marxism or Communism! They just don’t want Dicken’s England.
Tom West 12.14.09 at 4:16 am
I submit that many of our difficulties arise because we try to fight out our policy questions using only the innumerate but emotionally charged regions of the brain.
Omega, that sort of path will get you shot by both sides.
The right will paint you as evil for even considering policies of lower growth, pointing out that even dropping growth 0.1% annually will comparatively pauperize the population in a few decades and the left will paint you as dangerous for implying that pursuing equality has any economic costs at all.
Remember, each side’s position has no costs or trade-offs (except to those who richly deserve it). None at all. The poor are all lazy druggies and the rich are all trust-fund spend-thrifts.
(Posted as a Canadian who happily admits that our national tendency towards greater equality means that we will almost always be behind the US in economic growth. I’d like to think it’s a trade-off we choose to make, not one we’ve made because we’ve deluded ourselves.)
John Quiggin 12.14.09 at 4:19 am
@jch The book as a whole is ending up more US-centric than I would like. Part of the problem is that the economies with which I’m most familiar are the US, Aust and NZ, and references to the latter two look a bit parochial (I have included some). So, I tend to use US examples more than I would really like.
But in the specific case of “trickle-down”, it’s natural to focus on the US both as the exporter of the idea and as the primary test case on one side, with non-Anglo Europe as the other, and the UK, NZ, Oz etc in the middle.
Tom West 12.14.09 at 4:35 am
Err, sorry for #22. That came out way more bitter than intended.
Tim Worstall 12.14.09 at 8:52 am
“Or that for this purpose all advanced, growing societies should be classified as “liberal capitalismâ€?”
Not by definition, no. But is social democracy a subset of liberal capitalism, as is Hong Kong’s near laissez faire? Sure. Indeed, you could argue that the Swedes are rather more unapologetically capitalist in some ways that many other countries. The current attempts by GM to get shot of Saab: the Swedish government has said that if it can’t find a buyer then shut it down. Compare and contrast to GM itself or Rover.
Quite how to define liberal capitalism is of course something of a problem: private ownership (from the majority to all of?) of the means of production plus the extensive use of markets as a distribution and pricing mechanism? Not something hugely thought through that but reasonable as a first pencil sketch perhaps?
But Sweden is an open economy, industry is privately owned, markets rather than allocation or rationing are used to distribute and price goods ….yes, I’d say that’s a variant of liberal capitalism. High marginal income tax rates and high consumption taxes to fund income redistribution don’t make it not one.
This obviously still leaves room for argument about which variation of liberal capitalism works best according to one’s own definition of “best”. But it blocks off a number of economic structures which we know does not produce an advanced and growing economy: socialism, communism, fascism, autarky and so on (where those are indeed economic structures not political ones).
The much more interesting question would be not “do we classify all advanced growing countries as liberal capitalist ones?” but can we find advanced growing countries that are not liberal capitalist ones by this very basic definition? Further, can we find any that were both and which then, by stopping being some variant of liberal capitalist, stopped being advanced growing ones ? (Argentina over the 20th century comes to mind). Even, do we find countries that were not by this very basic definition liberal capitalist advancing and growing more quickly when they become so?
“ah wait, you mean essentially “gini before taxâ€? Ok, that might be different.”
Correct.
“If we actually untook the project of estimating what this curve actually looks like rather than fighting for our side (push it as far as possible left or right), we might be able to tone down the acrimony. ”
Unlikely to work though: as JQ has pointed out, the Laffer Curve is trivially true but attempts to identify the inflection point always become mired in a political shouting match rather than empirical evaluation.
“Thus, the question of the relative roles of the public and private sectors in research and development is effectively ignored.”
But that isn’t his point at all. He absolutely agrees that R&D can be done under many different systems. It’s the implementation, the spreading of use out across the economy, that depends upon the free market bit. Wildly casting about for an example……. Budget revenue as a percentage of GDP is roughly similar in Denmark and Cuba, then in France and Iran. But we would put Denmark and France in one group of (as well as advanced and growing) countries with a largely capitalist and free market economy and Cuba and Iran as not so. We would also note, if we were to investigate Baumol’s point, that innovations spread more rapidly through the economies of the first two than the latter two.
Tim Wilkinson 12.14.09 at 3:15 pm
the Laffer Curve is trivially true but attempts to identify the inflection point always become mired in a political shouting match rather than empirical evaluation.
So is that the fault of the politicians (but surely economists can turn off the TV and get on with their work), the economists (but surely at least some of them are willing and able to do whatever can be done in that direction?), or the thoroughly unempirical – even unscientific – nature of the theory and even the field? (Or something else, I know not what?)
Statements like “We would also note, if we were to investigate…” don’t inspire much confidence, do they.
John Quiggin 12.14.09 at 7:03 pm
To restate, Tim W, if social democracy and neoliberalism/market liberalism are subsets of liberal capitalism, then the success of liberal capitalism has no implications for the relative merits of social democracy and neoliberalism.
In particular, there are no implications for the validity of relevant forms of the trickle down hypothesis which take the general form “if we redistribute less from the rich to the poor than at present, everyone, including the poor, will benefit”
Tim Worstall 12.15.09 at 10:37 am
“then the success of liberal capitalism has no implications for the relative merits of social democracy and neoliberalism.”
Sure. Not trying to imply that it does. The relative merits of sd and n-l depend upon which version of lc meets the desired objectives. That the supporters of sd and n-l might have different desired objectives, particularly over the importance of equitable distribution, is where the arguments start….
Uncle Jeffy 12.15.09 at 10:11 pm
I believe that William Baumol (certainly no bleeding-heart liberal) has criticized some aspects of the purist version of trickle-down economics in his book “Good Capitalism Bad Capitalism.”
And will someone please tell Hattip (12/13/09, 10:24 AM) that his rhetoric would be far more effective if he could spell and punctuate.
Martin Bento 12.15.09 at 11:58 pm
omega wrote:
“The trickle down hypothesis is merely the claim that some sort of plot of longterm growth rate versus inequlity has a slope such that increasing inequality (at least for some reasonable range of inequality) increases the growth rate.”
and Tom West wrote:
“The right will paint you as evil for even considering policies of lower growth, pointing out that even dropping growth 0.1% annually will comparatively pauperize the population in a few decades and the left will paint you as dangerous for implying that pursuing equality has any economic costs at all.”
One problem is that, while there are certainly ranges of inequality that make it slope that way, it is not clear that the inequality in the US over the last century has fallen in the range where there is such a tradeoff. The Great Compression had less inequality *and* greater growth than the Great Moderation. While a common riposte is to point out that the US had a near monopoly on industrial Capitalism after WW2, both the US and its capitalist competitors experienced greater growth over the following decades than they had in the periods before or since, under conditions of greater equality than the three decades before or since. Indeed, the “Great Moderation” itself amounts to a moving of the goalposts. Once it was clear that the welcoming of greater inequality had in fact led to lower growth, Bernanke decided that it was higher growth that mattered – it was more steady growth. Which, coincidentally, he could retrospectively defend as an achievement of the neoliberal era. Of course, that claim doesn’t look so hot either now.
Martin Bento 12.16.09 at 12:19 am
“that it was higher growth ” – that it wasn’t higher growth. Guess I’m going to have to start proofing before I post.
piglet 12.16.09 at 12:21 am
“Posted as a Canadian who happily admits that our national tendency towards greater equality means that we will almost always be behind the US in economic growth.”
Economic growth doesn’t measure well-being, as nowadays even economists are able to recognize. So what if you are “behind” on a metric that doesn’t measure anything meaningful? Let’s be specific. 29% of US GDP growth over 2000-2007 has been due to rising health care expenses. Canadians may well be “behind” in comparison to that achievement. I live in the US after living in Canada and Germany. I don’t see any evidence that the American version of free market capitalism, compared to those other versions, has any palpable advantages for ordinary people with respect to the standard of living, not even in the purely material sense, and I don’t know of any empirical data that support that contention.
And yes TW, all of these are “free market” systems. Sweden, Canada, Germany, none of them are remotely socialistic. It is silly rhetoric to pretend otherwise. The trickle-down theory is invoked in support of specific policies, it is not a question of “system”. It is of course part of the political rhetoric to invoke the “specter” of socialism to oppose, for example, universal health care. Are you willing to discuss the merits of “trickle down” on a policy by policy basis, based on empirical evidence?
piglet 12.16.09 at 12:45 am
“Market income gini is some 0.48 in both Sweden and the US.”
If this is true (reference?), and the tax system brings Sweden’s gini down to 0.23, that would be a surprisingly strong vindication of progressive taxation.
piglet 12.16.09 at 3:29 am
I should correct myself in one respect: “free market” is an ideological slogan and not a factual description of real existing capitalism. The truly “free market” is a mythical creature about as abundant as the unicorn. So rather than describing Sweden, Canada and the USA as “free market systems”, let’s simply stay with the capitalist label.
Sebastian 12.16.09 at 8:13 am
“Advances in medical care have come mostly from publicly-funded research, and from innovations developed in the public health sector. The contributions of for-profit pharmaceutical companies have been modest by comparison.”
This is pretty close to flat out wrong unless you are going to engage in the two step yourself. The step from target to actual drug is enormous, and pretty much no one is able to do it on a regular basis in a mostly government setting.
You can argue that the pharmaceutical companies rely on lots of basic research, but that is a lot more like arguing that a lot companies rely on government built roads to get their employees to work than it like saying that Microsoft relies on government subsidies to create operating systems. See In the Pipeline for an informed take. He isn’t thrilled about pharma companies, but he regularly shows that the “government basically does it all” line is crap.
Tim Worstall 12.16.09 at 10:09 am
“that would be a surprisingly strong vindication of progressive taxation.”
Well, no, it wouldn’t. For the Swedish tax system is not notably progressive. Taken as a whole, the combination of capital, income and consumption taxes in Sweden is probably less progressive than that in the US.
That there’s a higher level of taxation in general and a greater redistribution of the proceeds of that taxation, yes, this does lead to that dramatic reduction in the gini.
http://worthwhile.typepad.com/worthwhile_canadian_initi/2009/11/revisiting-robin-hoods-agenda-be-less-concerned-about-taking-from-the-rich-and-focus-on-giving-to-th.html
It’s not the progressivity of the taxation, it’s the progessivity of the spending which leads to the result.
Tim Wilkinson 12.16.09 at 10:43 am
“pretty much no one is able to do it on a regular basis in a mostly government setting.”
That is getting closer to an empirical test of the right question, viz., not: do corprations with private shareholders happen to be the only game in town when it comes to pharmaceutical innovation, but: could non-profit driven mechanisms achieve the same or better (given comparable investment)?
In these kind of issues, I find marketeers rapidly turn to sweeping, almost superstitious-sounding statements about market forces such as profit incentive and ‘price signalling’, without actually breaking down the decisions made and tasks performed (including things like allocation of investment and employment decisions) and showing which ones depend directly or indirectly on profitable status rather than the kind of technical skill that government employees might just conceivably exhibit. (How many goverment economists would it take to run retail banking in the UK, say? Would a public banking system not have introduced useful innovations like ATMs and er, well, ATMs anyway?)
What is it about shareholders that makes them so much better than any public body at ensuring their employees do a good job (even if we assume that returning regular profit is a good proxy measure for doing a good job)? I really don’t see it – though I’m willing to be shown it.
Jack Strocchi 12.16.09 at 12:11 pm
[aeiou]Pr Q said:
The problem with these studies of the US’s recent plutocratic tendencies is that they assume that social mobility is entirely a function of institutional culture , independent of individual nature. The regressive effects of high immigration and diversification are most evident at the tails, rather than the body, of the income distribution curve.
If you controlled for race you would find that the US and the EU had broadly similar rates of social mobility. My general impression is that the US’s broad white middle-class has more or less held its own over this time, perhaps making slower progress than their fathers generation.
Things are not so rosy at the Big End and Bad End of town.
For sure over the past generation the US has allowed their financial over-class to rig the system to snare the lions share of the wealth, now locked up in trusts and property never to be dissipated. Thats bound to become some rich kids economic inheritance
But over the same time the US has also allowed the growth of a racial under-class whose low endowments of human capital doom them to semi-permanent ghetto status. This is because crucial determinants of economic ability are partly genetically heritable.
Hidari 12.16.09 at 12:14 pm
‘This is because crucial determinants of economic ability are partly genetically heritable.’
Just for information, does this not breach Crooked Timber’s posting policy?
‘If your comments are blatantly racist, sexist or homophobic we will delete them and ban you from the site. ‘
JoB 12.16.09 at 2:09 pm
Hey John,
Nothing on this but I can’t shake the feeling that you didn’t address one of the theories that need to be adressed: the myth of the consumer rewarding the best competitor.
(and maybe it links to your micro/macro bits)
Consumers are presented as people expressing a preference for a certain product. But I don’t think that’s right – or at least not to the extent it is tacitly assumed to be. Take a product like energy (but also: a computer), consumers have no desire to choose ‘twixt various energy products of various energy suppliers. Really they can’t be bothered – & I think this is also true for fashionable things like the portion of green energy; it would be perfectly OK for 99% of consumers if the law stated that X% has to be renewable as I think it would be perfectly OK for most of us if this law specified THE computer that does basically all the vast majority of non-geeks want it to do.
That means competition is not good because it is good for consumers. It mostly is the nuisance we know it is when we need to choose between internet connectivity options or something like that. It means competition is only needed
a. between producers to optimize production (this can be organized, although I do not know how, without consumer involvement)
b. for new features (and there really is only a very limited number of – as of yet – non-essential things that really differentiate as to novelty) to look for what people like
Which means that we could nationalize most things – as long as we make sure there are three or more providers for those things and that the best providers are rewarded.
Tim Wilkinson 12.16.09 at 2:42 pm
I was hoping to get a discussion going about revealed preference on the Samuelson thread, but it didn’t develop any momentum. No-one interested, thread getting old, or my posting a bit of a screed which may appear ignorant, contrarian, strident, incoherent, longwinded, garbled… Dynamics of which conversations take off quite interesting in itself.
Come to think of it, perhaps there was a Branestawmishly earnest obliviousness to sensitivities, as you earthlings call them – an obit post perhaps not the place for such a critical discussion. Dunno
JoB 12.16.09 at 3:42 pm
Tim, on the off chance you were obliquely referring to me: I didn’t follow that thread & am quite happy to take it up tomorrow.
Tim Wilkinson 12.16.09 at 3:50 pm
no, no-one in partcular
JoB 12.16.09 at 4:31 pm
ok then
piglet 12.16.09 at 5:43 pm
Worstall: if the after-tax income distribution is a lot more egalitarian than before-tax, and that is your claim, then logically taxation must be progressive.
“It’s not the progressivity of the taxation, it’s the progessivity of the spending which leads to the result.” I take it you refer to transfer income like unemployment benefits. I would be surprised if that could ever explain such a huge change in the distribution. Most public spending is not in that category. Most public money is spent on education, infrastructure and the like. But why don’t you show us the sources for your data.
piglet 12.16.09 at 5:59 pm
“How many government economists would it take to run retail banking in the UK, say? Would a public banking system not have introduced useful innovations like ATMs and er, well, ATMs anyway?”
Continental Europeans do have public banking systems. Sparkassen in Germany, Kantonalbanken and Postfinance in Switzerland. Those are not run by “government economists”, they are run by bank professionals and they offer in general efficient, low cost services. Also, they have in general been very successful during the financial crisis.
howardl 12.16.09 at 8:53 pm
Looking for a (even popular press) quote along these lines: How about this from Ashfaq Khan, Dean and Professor of NUST school of business in Pakistan?
http://thenews.jang.com.pk/print1.asp?id=189054
“Economic growth is essential for job creation and poverty alleviation. Studies have shown that capital accumulation by the private sector drives growth. It is also acknowledged that private-sector investment is highly influenced by the prevailing macroeconomic environment. Macroeconomic stability is therefore one of the critical elements of promoting private-sector investment which, in turn, is the main drivers of growth. Empirical evidence shows that private investment is significantly and negatively influenced by uncertainty and macroeconomic instability. The experiences of Pakistan during the 1990s and over the last two years are in line with empirical evidence. A key objective of the country’s macroeconomic policies should be to establish conditions that facilitate private investment. …. The private sector in Pakistan is not only the main engine of growth but also the main source of employment generation.
How to promote private sector investment by improving investment climate is a major challenge for the government over the medium term …..A worsening of macroeconomic environment over the last two years have adversely affected investment and growth. Investment is down to 19.7 percent from 22.5 percent of the GDP and economic growth has slowed to 2.0 percent. Consequently, unemployment and poverty have increased and will continue to worsen as long as the macroeconomic environment is not improved. The government, therefore, must concentrate on improving macroeconomic environments, that is, bring inflation to low single-digit, bring budget and current account deficits to around 3 percent and 2-2.5 percent of the GDP, respectively, maintain stability in the exchange rate and build foreign-exchange reserves to provide a cushion against adverse external shocks over the next three years. Unfortunately, the government has decided to revive growth by creating more imbalances in the economy. We may not see a revival of economic growth but widening of budget and current account deficits.”
Tim Wilkinson 12.16.09 at 11:14 pm
JoB @42 – but yes, please do!
piglet @46 – I suppose I was (or can claim to have been) using ‘economist’ and ‘government’ (and ‘run’) very broadly. And including the central bank in a putative wholly nationalised industry – something which for a moment recently almost dared to dream might happen, if Gordon Brown could only see things anew afresh and aright, seize the moment, do the thing- the one thing to do, go out on a bold stroke etc. (actually, emphasis on ‘dream’ there too.) Thoughof course the bailout has provided an illustration of the usually invisible public backing the ‘private’ system has, as it is by now almost trite to point out, and which reflects a pattern in privatised
I’d be interested in whether the existence of public competitors (if they actually are that) has a moderating effect on German private banks’ tendency to cartel-‘like’ behaviour. I wonder how the production of FISIM – the monetary value of financial intermediation as imputed (sorry, indirectly measured they now call it) – compares, and whether it reflects a similar difference in some more direct measure of the amount of financial intermediation (rather than producer surplus).
Incidentally, one good example of the kind of practice that public bankers would be less likely to stop to is the price discrimination/gouging use of the double (advised/unadvised) overdraft limit, along with (in the past) a generous waiver policy as a way of extracting very heavy bank charges for unplanned overdrafts from those who were too poor, disorganised, financially incontinent, ignorant etc. to avoid paying them.
Overshadowed (and probably influenced in favour of he banks) by other news, there was recentlya dubious -HoL- Supreme Court judgement on this which ended up concluding that because the banks relied on it to such an extent (and pssst! subsidised M’Lord’s and other decent folks’ ‘free banking’ by means of it – if profits are held constant, of course), it couldn’t be considered a sneaky bit of small print. I kid you not, that was the upshot. The OFT and their cosy litigation agreement with the bankers (who were able to put aside their usual cutthroat competition of course) were rubbish and have messed things up in many ways for those of us with an actual lis thank you very much. I digress.
I think that phenomenon was quite a good example of a problem with revealed preference – many people show every appearance of trying to avoid accepting the ‘services’ to which the charges are attached (though for which the courts agree they are not the price of, since pricing is a holistic matter , seee FISIM). They would never think it worthwhile to incur them, or if they did it would be a nugatory choice in which the value of lending services is exaggerated by the extreme consequences, of, say, bouncing a rent payment and possibly prompting a landlord to terminate your shorthold tenancy, etc.
Derek Lowe 12.17.09 at 2:55 am
Tim Wilkinson, in #37:
“That is getting closer to an empirical test of the right question, viz., not: do corprations with private shareholders happen to be the only game in town when it comes to pharmaceutical innovation, but: could non-profit driven mechanisms achieve the same or better (given comparable investment)?”
As someone who works in the industry, my answer is: “maybe, but it would be a pretty weird nonprofit”. I say that because, having worked under for-profit conditions, it really does focus the mind to know that the company has to make money from its inventions and business deals – and, as a corollary, that if nothing gets invented that you stand a good chance of ending up out on the street. A similar urgency comes from knowing that the other companies are working in the same therapeutic area – have they got something better than we do? Are they ahead of us? We’d better get moving, then.
How you’d reproduce this constant poke-with-a-sharp-stick feeling in a nonprofit atmosphere is a tough question.
john c. halasz 12.17.09 at 4:40 am
Well, as to “revealed preference”, I always took it to be an obvious tautology, (though not the only one to be found in economic theory), but,- and this I take it is the substance of the Wong criticism,- the problem with it is that it is no improvement over the neo-classical conception of psychologistic/subjective of “utility”, the impasses of which it just repeats. And that original neo-classical account of utility was a piece of late 19th century psychologism, weirdly at once positivist and idealist. (For purposes of definition, “positivism” amounts to the doctrine that knowledge consists in sheer “appearances”, whether those “appearances” are labeled “facts”, “sensations”, “protocol sentences”, etc,. and the formal relations between them, without any commitment to underlying real processes and their structures, as if “reality” were a function of said knowledge, rather than vice versa). Of course, the idea was to eliminate any question of economic “value”, as impossibly and regressively objective, in favor of an account of auction-like nominal price formation, the undoubtable “appearances”, such that the entire economy could be construed as a continuous set of market-clearing prices, which would guarantee optimal efficiency, welfare, output, etc. Now, individual utility preference functions, as an account of demand-side consumer behavior, aside from being technically “sweet” as allowing for well-known calculus, do make some sense in the short-run, but generalized to the entire economy, (and especially to the production side, in which substitutability of inputs, involving both market and technological constraints, doesn’t work out as a matter of mere “subjective” preferences), such a basically subjectivist “foundation” scarcely suffices to account for the structure of markets and production. The trick of “reveal preferences” is to convert such subjective “foundations” into an “objective” account, if in intention only. And that’s because cross-secting budget constraints are obviously a key ingredient in the matter and whole idea of “economy”. What’s not the case is that a better psychologistic account of economic behavior would resolve the problem, since that just begs the question of the sources of the constraints that economic agents encounter. Methodological, let alone substantive, individualism evades the question (of cross-secting, hence systemic constraints).
The center-piece of neo-classical economics, at which utility preference functions aim, is the account of market-based distributions in terms of the marginal product of the “factors of production”, itself dependent of inverted logical idealizations such as “perfectly competitive markets”. That account fails in many ways, but I think the key way is its evasion of the classical account of the “primacy” of production. Advanced, large-scale, concentrated production involves high, long-run fixed capital investment costs, which is the largest and determinative cost, such that the own-demand production supply curve features increasing returns almost throughout, (rather than diminishing returns, where marginal revenue = marginal costs), and costs are not determined marginally, but rather allocated administratively in determining strategic pricings across business cycles. And the securement of oligopolistic rents or quasi-rents through market-dominant power is the prime aim of corporate organizations, since such rents are partly “justified” functionally through the need to manage high fixed capital costs across business cycles and in the face of endemic underlying uncertainty, while the technical efficiency of such large-scale capital-intensive production far outweighs the alleged efficiency induced by competitive markets at lower scales. Add to that that technical improvements in capital stocks, which tend toward concentration or, at least, the managerial/organizational equivalent, not only destroy the value of older capital stocks, but implicitly value capital at its replacement rather than historical costs, and the need/”force” to avoid “competitive” pricings and distributions becomes all the more paramount. “Consumer sovereignty”, (which, by the way, is a very odd, perhaps symptomatic, usage of the word “sovereignty”, for the price-taking assumption), has little to do with the outcomes, but rather functions as an ideological stalking-horse for the maintenance of profits/rents. “Revealed preferences” are not the corner-stone of the whole system, but rather the manipulative tool of its marketeers.
John Quiggin 12.17.09 at 5:46 am
Revealed preference has two quite different aspects.
The one with which most CT readers are familiar is the quasi-ideological aspect associated with terms like consumer sovereignty. I don’t know how seriously my fellow economists take this, some more than others I expect, but I certainly regard it as a fairly weak reed. Granted, the fact that chocolate sells better than (ugh!) carob, probably tells us that people prefer chocolate, but if you try to extend this to anything even marginally more interesting (why does Walmart do so well?) you run into trouble very fast.
But there is also a much more technical question. Given a series of observations of market prices and quantities consumed, is there a demand function, consistent with some underlying theory of consumer preferences, that fits the observed data? If the data are consistent with the requirements of revealed preference theory, the answer is Yes. (There are bunch of weaker and stronger requirements, giving weaker and stronger answers).
I associate Samuelson with the second of these questions rather than the first.
Tim Worstall 12.17.09 at 10:52 am
“Worstall: if the after-tax income distribution is a lot more egalitarian than before-tax, and that is your claim, then logically taxation must be progressive.”
That isn’t my claim. 1) I’ve not said that the Swedish tax system is not progressive. I’ve said that it’s not very. 2) I’ve said that inequality is reduced by the combination of the tax system and the way the money raised is spent. That is, adding together both the tax and the benefits system.
My source is there above, the blog Worthwhile Canadian Initiative.
“That is getting closer to an empirical test of the right question, viz., not: do corprations with private shareholders happen to be the only game in town when it comes to pharmaceutical innovation, but: could non-profit driven mechanisms achieve the same or better (given comparable investment)?”
This is one of the specific points that Baumol tries to address. Taking, as he does, the distinction between invention (finding, testing and making new drugs) and innovation (the use of those new drugs across the health care system) he says that many systems can do the invention. After all, The Wellcome Trust does pretty well….weren’t they the first with anti-virals? Mebbe second…..
It’s the innovation part that he thinks the combination of capitalism and markets are so good at.
Tim Wilkinson 12.17.09 at 11:46 am
Yeah, but does he provide any grounds for thinking non-profit driven mechanisms couldn’t achieve the same or better (given comparable investment)?
Tim Worstall 12.17.09 at 1:06 pm
“given comparable investment”
As I recall, that’s the difficult bit. For it’s the desire to make a profit which induces people/companies to adopt new technologies and makes them willing to make the necessary investments.
Martin Bento 12.18.09 at 4:17 am
If the contribution of Capitalism is not in generating invention but in efficiently dispersing it, then it no longer has a contribution to make when we come to pure intangibles, as we largely have today. Drugs are not an example of this, but much of the economy now is: music, software, movies, everything transmitted over the Internet. All of these have no significant marginal cost of production. As we have seen, they propagate most effectively when made available without controls, but capitalism actually requires (in general) that said propagation be constrained in order for it to realize profit. In the realm of intangibles, there may simply be no advantage to capitalism. Paying creators on socialist principles and enabling free distribution seems much more efficient.
Martin Bento 12.18.09 at 4:41 am
Oh, darn I used the bad word and got caught in moderation. Any chance of getting the filter fixed?
Martin Bento 12.18.09 at 4:51 am
Ah, heck. Here’s my moderated comment with the offensive word cauterized:
If the contribution of Capitalism is not in generating invention but in efficiently dispersing it, then it no longer has a contribution to make when we come to pure intangibles, as we largely have today. Drugs are not an example of this, but much of the economy now is: music, software, movies, everything transmitted over the Internet. All of these have no significant marginal cost of production. As we have seen, they propagate most effectively when made available without controls, but capitalism actually requires (in general) that said propagation be constrained in order for it to realize profit. In the realm of intangibles, there may simply be no advantage to capitalism. Paying creators on soc1al-1st principles and enabling free distribution seems much more efficient, as it will not require the deliberate construction of obstacles to dispersal, the theoretical strength of capitalism.
John Quiggin 12.18.09 at 5:11 am
I’ve been writing a fair bit along these lines, Martin. Not sure how much I can fit into the current book.
Martin Bento 12.18.09 at 5:24 am
No, I imagine it is off-topic for your book, but seemed to be part of the flow for this thread.
Metatone 12.18.09 at 7:28 pm
It’s worth noting that there is no evidence of private sector health systems spreading innovations more quickly than public sector ones when the innovations have originated in another country. That’s one of the key criticisms of Baumol’s work (and those who have built on it, like Tim Worstall) – there is no empirical backup – the US examples they rely on all founder once you factor in proximity to the original invention.
Tim Wilkinson 12.18.09 at 10:37 pm
TW’l @54 – it’s the desire to make a profit which induces people/companies to adopt new technologies and makes them willing to make the necessary investments.
Doesn’t that come under corprations with private shareholders happen to be the only game in town when it comes to pharmaceutical innovation?
Tim Wilkinson 12.18.09 at 11:07 pm
Derek Lowe @49 How you’d reproduce this constant poke-with-a-sharp-stick feeling in a nonprofit atmosphere
Well, I’m sure it could be simulated closely enough, given the right fine-tuning of actual peoples’ actual incentives. (Weird, perhaps, but in a good way.) It might be discovered, once the New Economics is established, that in at least some industries a less pointy stick might lead to a more acceptable trade-off between the good effects in greater productivity and the ill ones in moral hazard. Not to speak of putting an entry in the ledger for the less-than-enthusing nature of much workplace domination.
I mean rival teams of drug-developers might derive the same urgency and tight-knit, pull-an-all-nighter attitude (should that be deemed desirable) from the prospect of having their unit disbanded and deployed to junior positions. More generally, I’m pretty sure that worrying about getting sacked is any part of the best way of improving productivity in most jobs.
Tim Wilkinson 12.18.09 at 11:09 pm
detail: “is any part” = “isn’t any part” (or “needn’t be any part”)
Martin Bento 12.19.09 at 10:26 am
Dan, one way to look at the issues you raise more systematically is to recognize that property is a social construction. Many societies have held that human beings can be property, and ours used to be one of them. Holding that land, ideas, or personal items can be property is also a social decision. Libertarians seem to think that there is some “natural” right to property that the government interferes with. Absent the government, your property is whatever you can control by force, which is literally indistinguishable from theft. This does not mean that all social constructions of property are equal by moral or other criteria: I think a social construction that includes slavery is inferior to one that is not. But all are human social inventions.
Tim Worstall 12.19.09 at 12:09 pm
“In the realm of intangibles, there may simply be no advantage to capitalism.”
Entirely possible. I’ve no problem with the idea that a change in technology might lead to different ways of maximising efficiency. Up to and including changes in property rights.
JoB 12.19.09 at 4:25 pm
Martin-57,
Interesting counterfactual. It convinced me that I do think trickle-down is not foolish, even if I agree it is foolish to the extent it was preached in the last decades of the XXth century.
The trickle down question in its weakest sense is whether difference of outcome has a material impact on the quality of the contributions made. I think it does, and I think it is a misleading example that John uses on pharmaceuticals. I agree with him that there is no – or at any rate: not a lot – of impact if the field is organized in for profit company or in not-for-ptofit organizations. I do think however that the rate of invention will be lower if the actual individual inventors and/or groups of inventors (research group) is going to be lower if these individuals/groups would not be able to claim a difference in outcome based on their higher quality contribution. I do in fact think that there is this thing that could be called ‘invisible hand’ that will direct people to higher quality in the contributions they make based on the fact that they will be differentiated based on the relative merits of their work. In all cases the differentiation has to be done ‘blind’ – i.e. it will require the absence of an identifiable number of decision makers (which is what is wrong with the capitalism of big corporations where Gates & Buffett get to call what is hot & what is not). In some cases the most effective will be the ‘free market’. For the intellectual ‘products’ this means that some form of intellectual property is required – and not only because the creator has to have some control on what is done to what she has created – also because the creator has to feel the direct benefit of the fact that her creations are in fact hers and not everybody’s.
So, John, I think you need to be more precise in trickle down.
There is the principle of individual liberty that entails some difference in outcome and at least to the extent that that difference in outcome benefits society as a whole it does reign supreme. (to reformulate something impopular over here)
Or in a one-liner: as much as extreme trickle down is nonsensical, extreme non-trickle-down has proven to be, literally in fact, a non-starter.
The thing is that the difference in outcome was not based anymore on contributions in creativity but in the position of people in a power maze that was unrelated – the bigger the typical size of organizations: negatively related – to actual contribution.
piglet 12.19.09 at 11:11 pm
I got around to the source used by the Canadians referenced by Worstall. It is here: http://www.u.arizona.edu/~lkenwor/challenge2009.pdf
The Gini coefficient charts (p. 78 and 80) are indeed surprising but what is being ignored is the chart on p. 78 showing the income share of the top 1%. Its is off the charts for US, UK and Canada, somewhat high in Germany, and low in the Nordic countries. This discrepancy is apparently not captured by the Gini index.
piglet 12.19.09 at 11:27 pm
“I’d be interested in whether the existence of public competitors (if they actually are that) has a moderating effect on German private banks’ tendency to cartel-’like’ behaviour… Incidentally, one good example of the kind of practice that public bankers would be less likely to stoop to is the price discrimination/gouging use of the double (advised/unadvised) overdraft limit, along with (in the past) a generous waiver policy as a way of extracting very heavy bank charges for unplanned overdrafts from those who were too poor, disorganised, financially incontinent, ignorant etc. to avoid paying them.”
You are correct. German banks do not engage in these unfair practices. Overdrafts are prevented and where they are tolerated they result in comparatively moderate interest charges. The overdraft fees charged by US banks are a compelling example of capitalism violating any textbook notion of “free market” efficiency. The true administrative cost of an overdraft to the bank is pennies at most. The $30 they charge are pure profit and cannot be reconciled with how competitive markets are supposed to behave. US banks charge these exorbitant fees because they can and consumers have no meaningful choice, contrary to Germans.
john c. halasz 12.20.09 at 12:15 am
@66:
Hmmm… no differentiation between agonal and market competition involved? Those who organize the capitalization of innovations, it turns out, are generally not those who originate them. And market competition,- am I the only one to notice?- often tends toward conformism and herding. It’s scarcely the automatic engine of innovation and diversification that it’s trumpeted to be.
Martin Bento 12.20.09 at 1:34 am
Job, first of all, it’s not a counterfactual. The premise is Baumol’s conclusions as summarized by Tim Worstall in comment 25
“He absolutely agrees that R&D can be done under many different systems. It’s the implementation, the spreading of use out across the economy, that depends upon the free market bit.”
Of course, there are other arguments for my point than this, because the natural scarcity that powers the market does not exist with informational goods once the initial generation is completed.
Secondly, trickle down is not about rewarding the generators of invention; it is about rewarding the funders of it. Generators are generally paid through wages or IP rents, but the biggest tax cut the tricklers demand is in the capital gains tax, not on these others. And where they want income tax cut, it is at the top, especially the very top, where, again, we are talking primarily about people who make money with their money, not money with their ideas. Of course, there is the question of knowing where to put money. But most capital is now managed, and the investment industry cannot outperform the indexes it invests in, so it’s not clear we are dealing with actual genius there. Recent events and ample historical precedent suggest not, unless it is genius in fraud.
Third, one can reward invention without using the market. The University system does this, for example. I have in another thread proposed an approach to doing it for music, which preserves the rewards of popularity without restricting access to the music for the collection of rent.
piglet 12.20.09 at 3:24 am
The tricklers like to throw in some talk about incentives as a red herring. Those working hard deserve to be rewarded and this makes everybody better off. Bot those who get the biggest rewards aren’t usually the ones working the hardest or the most productively. The most absurd manifestation of this dishonesty is the claim that even the failed managers of failed financial institutions should continue receiving “bonuses”.
“The trickle down question in its weakest sense is whether difference of outcome has a material impact on the quality of the contributions made.”Am I the only one to notice that the capitalist system has generated a class of super-privileged who have managed to decouple the quality of their contributions from the material impact?
John Quiggin 12.20.09 at 4:11 am
I think this is covered by my distinction between the Khaldun-Laffer curve (valid) and the Laffer hypothesis (false).
Martin Bento 12.20.09 at 6:10 am
So where does the Laffler curve inflect? Has there been any serious attempt to answer this question for any given period or situation? Didn’t we have marginal tax rates around 90% in the fifties in the US? Any evidence of decreased tax revenue when those were imposed? Maybe the inflection point is at a marginal tax rate of around 96-98%?
piglet 12.20.09 at 7:06 am
“I think this is covered by my distinction between the Khaldun-Laffer curve (valid) and the Laffer hypothesis (false).”
I wasn’t aware you are making this distinction. On what grounds are these two statements based? I frankly doubt there is any empirical evidence for “the Laffer curve”. Also I would think that trickle-down theory is not logically dependent on the Laffer hypothesis.
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