Tuesday, April 17, 2012

Giving Guidance to the Angels means never having to say you are sorry

Yesterday, the NYT, in its news pages, presented a glowing article about a pair of French economists, Emmanual Saez and Thomas Piketty, whose seminal ground breaking research shows that income inequality is a very bad thing indeed, and that, therefore, we need a 90% marginal tax rate on top earners. Their main points:
  • Income inequality has become morally offensive
  • This inequality is correlated with a steep reduction in marginal labor tax rates for high earners
  • The increase in inequality is particularly pronounced in the Anglosphere
  • The so-called Buffet rule, which would invoke a 30% tax rate on incomes above $1 million, "... would do little to reverse the rich's gains."

Therefore, according to Mr. Saez, "Absent drastic policy changes, I doubt that income inequality will decline on its own."

Previous income inequality studies had a fairly short timeline: direct data had only been collected since 1970. Saez and Piketty extended that horizon by researching income tax archives all the way back to 1913. According to their research, inequality dropped after WWII, and remained relatively low until the 1970s, when it started to increase. "From 2000 to 2007, incomes for the bottom 90% of earners rose only about 4%, once adjusted for inflation. For the top 0.1%, incomes climbed about 94%. ... In 2010, the top 10% of earners took about half of overall income."

That has led the two economists to renew their calls for higher rates on the rich. Along with Peter Diamond, an emeritus professor at MIT and a Nobel laureate, Mr. Saez has estimated the "optimal" tax rates for the wealthy -- getting the most revenue from those most able to surrender it -- to be between 45% and 70%."

According to Mr. Diamond, "... whom [President] Obama nominated to the Federal reserve and Republicans blocked[,] 'Our finding is that the debate should be between the pre-1986 Reagan tax rate, which was 50%, and the rates that existed from Johnson to Reagan, which were higher." [Note: by "higher" the reporter, whose job description apparently excludes even superficial research, meant to say 91%.]

Since I am not a reporter, I am not at risk of betraying the profession by, well, reading the actual study. Also, as merely a glorified heavy equipment operator, and not an intellectual, I am not in the business of providing guidance to the angels, and therefore perhaps less willing to mistake my policy preferences for objective truth.

So, despite my lack of reportorial professionalism and academic credentials, I am going to take on the anointed elite to see if Saez and Piketty's argument is vulnerable to the predations of the hoi polloi.

From the introduction (citations omitted; edited slightly for wordiness; emphasis mine):

While there have been many discussions both in the academic literature and the public debate about the causes of the surge in top incomes, there is not a fully compelling explanation. Most explanations can be classified into market driven changes vs. institution driven changes. The market driven stories posit that technological progress has been skilled-biased and has favored top earners relative to average earners for CEOs as well as Winner-Take-All theories for superstars. [These] pure market explanations ... cannot account for the fact that top income shares have only increased modestly in advanced countries such as Japan or Germany or France which are also subject to the same technological forces. The institution driven stories posit that changes in institutions, defined to include labor and financial market regulations, Union policies, tax policy, and also more broadly social norms regarding pay disparity and in particular tolerance for executive pay, have played a key role in the evolution of inequality. Simply put, under that view, the Reagan and Thatcher revolutions ushered new eras in the United States and United Kingdom that favored the rich and significantly increased their bargaining power while other countries were less affected.

Whether you call it "reason", "science", or "rational inquiry", analytical thinking is abundantly effective at organizing systematic observations into an overarching schema. However, there are two significant limitations to that approach. First, and most obvious, not all phenomena are amenable to systematic observation: art, for instance. That doesn't mean art doesn't exist; rather, it means that definitive statements about art, which is primarily subjective, are essentially impossible.

Second, and less readily apparent, all analytical thinking aims to create a model of reality. Since the model is not reality itself, analysis must make decisions about which phenomena to include, and which to exclude. We all do this whenever trying to solve any problem: if I am trying to discover the source of a noise in the front end of my car, I am not going to spend much time observing the seat belts. Consequently, the challenge of useful analytical thinking is to include all phenomena that can have a "significant" impact on the analyses.

Now, one would think that such esteemed intellectuals as Saez and Picketty would understand this and, furthermore, that they would provide some indication that they had considered, and excluded, certain phenomena that might, just might, have some impact on their findings.

In the highlighted sentence above, the market explanation is seemingly shown as inadequate because of the contrasting inequality between the US and England on one hand, and the obviously more enlightened European-socialist economies on the other. Since they are alike in all other respects, then the explanation for greater income inequality within the Anglosphere must be down to that one area: tax rates and other policies which put Progressives on the side of the angels.

Not so fast. Even before flipping to the second page, they have not considered two factors which probably go well beyond the realm of the merely salient.

There is one thing, besides a hatred of the poor that only Satan could love, that the US and England share, which the other advanced economies do not: English. So What? S&P might ask. As it happens, English happens to be the language for the vast majority of the world's various entertainment offerings. Best selling books, blockbuster movies, popular music, are all far more likely to come from the Anglosphere than the rest of the world, combined. I think the fancy economics term for this is "network effect", and it is non-trivial: think Microsoft.

And by ignoring, whether blithely or otherwise, network effect, S&P then compound the problem by confusing a group characteristic for its composition. The characteristic is wealth. Upon that characteristic, they impose a presumed composition of the group sharing that characteristic, and it is that composition upon which their analysis rests: the wealthy are CEO-ish. Their whole notion of economic responses to confiscatory taxation presumes that essentially everyone who is wealthy is someone who is paid for some sort of executive position.

But thanks to the network effect, that is nonsense. Confining ourselves to that voracious beast, the top 1%, at any given moment, a substantial number of them are athletes and entertainers (which is really two words for the same thing). There are at least as many of those as there are Fortune Top 500 CEOs. Moreover, even understanding that the composition of that top 1% is far from monolithic doesn't go far enough. Most entertainers lucky enough to hit it big don't do so for long. The subset of the category "wealthy" that is composed of entertainers is fairly constant over time, but the members of that subset do not.

Speaking of time. While I am not going to quibble over whether top executives take home a higher multiple of average wage earner pay than they once did, homogenizing the category "wealthy" into one easily demonized group ensures that S&P, as well as all other Progressives, ignore the certainty that no small amount of that multiple is due to the far higher compensation of entertainers now than, say, the 1970s.

So, even before getting to the meat of this seminal groundbreaking study, there are two good reasons to suspect that, through ignoring what very much needs attention, S&P have produced a result that, regardless of the mathematical ornamentation, should be rejected out of hand.

Similarly missing, or, perhaps more accurately, waved away is the notion of opportunity cost. S&P insist that a uniform tax system (i.e., all income treated the same, regardless of source or nature) sufficiently ruthlessly imposed, will so reduce the gains from high salaries or elaborate fringe benefits that people will not go to the bother of bargaining for higher pay. VOILA! equality.

Glaring in its absence is what must happen instead. The wealthy, just like the rest of us, can do only two things with money: spend or save it. By engaging in ruthless taxation, the economic value of the talents of high wage earners accrues to the government, rather than the individuals themselves. That, in turn, must mean that essentially all of the spending and investing that the wealthy would have done instead becomes government spending. All of those employed as a direct consequence of the rich spending their ill-gotten gains must lose their jobs, never mind the knock-on effects.

I could go on, but this has already long gotten past the cut-to-the-comments point. In a recent Thought Mesh thread, I suggested that the sine qua non of Progressivism (the presumption of sufficient knowledge to conclude that their policy preferences are equivalent to how the world should and will work) means that Progressives must more frequently, and thoroughly, purvey ideas that are either divorced from reality, as here, or completely fraudulent (Gleick, Rather, Group of 88, et al).

But to everyone who is not a Progressive, that presumption of knowledge is the disease of self-appointed intellectuals who might have extensive and well founded knowledge within their own specialty, and from that conclude their temperamental preferences are equivalent to social imperatives.

Note the emphasis on "might." At the risk of throwing my shoulder out of whack due to unjustifiably vigorous self congratulation, I think my assessment of S&P's seminal groundbreaking paper shows that they can reach their conclusion only by ignoring every element of reality that might contradict The Narrative.

Just so here. Behind a cloak of flashy, but trite, mathematical formalism, S&P produce a seminal groundbreaking result that flatters the self-regard of Progressives without putting themselves through the bother of properly identifying global cultural trends, understanding the nature some particular group, or the opportunity costs of replacing the monetary decisions of individuals with the tender mercies of an increasingly bloated government.

But it must be OK. After all, it the NYT thought it was just fine, and so does the Obama administration.


Monday, April 16, 2012


A few days ago I happened to be listening to "Marketplace"* on PBS. In particular, the segment was on demand-driven publishing: digitizing content means that printers can nearly as efficiently print one copy of a book as a whole run. That, in turn, means a few good things: far less wastage, greatly tightening the supply chain, and the ability to satisfy demand, no matter how small.

One of the examples given was the consequences of a recent Glen Beck program, touting " ... an obscure economics text ... ": there was a sudden demand for copies, which these demand-driven printing companies were easily and quickly able to satisfy.

The name of that "obscure economics text"? Road to Serfdom.

*Any program that features Robert Reich as a commentator, or considers Road to Serfdom obscure, and calls itself "Marketplace", must be utterly immune to irony.