Dynamic public finance models

by  Tyler Cowen in

A loyal MR reader asks:

What are your thoughts on the new dynamic optimal public finance policy models being built and simulated?  Will they yield any new insights applicable for the real world, or are they a fad?

Real insights maybe, real measurements for sure.  I take this paper by Mankiw to be a paradigmatic example.  Through this body of literature we learn, or confirm our previous intuitions, that:

1. Cutting U.S. income tax rates is not, in general, self-financing.  We also get a rough idea of how much revenue we can make up in the long run.

2. Many forms of corporate and capital income taxation are, in the long or even medium run, inefficient.

3. Ideally we should move to a consumption tax.  (NB: Moving outside the models, I am scared that this kind of tax reform will just turn into another tax increase.  We’ll add a VAT to income taxation rather than shift to the VAT.  Yikes.)

These results are the bread and butter of applied public finance.  You can complain all you want about the assumptions, the artificiality, and the use of intuition to throw out unacceptable calibrations, but at the end of the day there is not a better way to do the work. 

A fad, perhaps, but there is nothing wrong with that.  The Beatles were a fad too.

By the way, here is an interesting paper on a different frontier in public finance, namely field experiments.

#10 in a series of 50.

This one is from Gingdao

by  Tyler Cowen in

[please discuss] China

I love China, and I love braised pork belly.  That’s why we have China Fact of the Day, and that is why I eat and cook so much Chinese food.  (French food is its only rival.)  The pragmatic optimism of the Chinese is a delight.  It’s a shame about the Great Leap Forward and all that other stuff.  I never get tired of reading books on Mao, the recent biography and the one by his doctor are especially good.  Chinese opera has marvelous quivering timbres, although they are usually ruined by electrification and by recording.  The Story of Qiu Ju is my favorite Chinese film, although there are many good ones.  Soul Mountain is my favorite Chinese novel.  China is also the future of Western classical music.  Tang horses are overpriced but still they are amazing and subtle.

Here is why China will not take over the world, sadly the trip to Shanghai still awaits us.  By the way, their nominal exchange rate peg is not a real peg in the medium- to long-run.

#09 in a series of 50.

A’ la carte TV

by  Tyler Cowen in

…explore the potential effects of not only making cable tv a la carte, but also requiring that television content providers allow choice in how the consumer pays for the service – either an advertisement based system or a fee that would eliminate the commercials.  Additionally, require that the consumers be given a choice of types of advertisements they would be exposed to (I could choose for example an advertisement-based model, but that I would not want to see ads for children’s toys or cereal, and that I wanted to see no political ads).

Here is my earlier post on a’la carte cable.  The second question is, in effect, whether a cable company should be allowed to own TiVo and similar providers.  Yes, and Grossman and Hart suggest such mergers can encourage joint investments with value specific to that relationship, in this case perhaps computer-TV linkages.  By the way, the net effect of TiVo will be more shows with ads; if they add commercials to The Sopranos, the people who hate ads can take them out themselves.

Buying and selling specific ads?  The people who want to zap children’s ads for sugar are precisely the homes the advertisers wish to reach; I’ll bet the Coasian equilibrium keeps the ads running but involves parental quotas on TV watching.

#08 in a series of 50.

Is IQ what is truly scarce?

by  Tyler Cowen in

There is a new view — or should I say an old view? — percolating in the blogosphere: "There is something special about IQ.  We must conserve IQ at very high cost, and gains in IQ will bring very high social returns." 

In practical terms, "Conservation of IQ" is used to argue for limits on immigration, against various meliorist attempts, and possibly even for eugenics.  I’ve heard it used to argue for outlawing marijuana, which of course destroys brain cells.

Imagine an evolutionary approach: given the Industrial Revolution and subsequent developments, perhaps IQ has higher social returns than was once the case.  So we must rebuild our intuitions to favor IQ more than otherwise.  When evaluating policy, one question is simply to ask whether it raises or lowers average IQ within a polity or region.

There is also a methodological argument: IQ is (arguably) prior to economic notions of rationality.  Perhaps economists should treat rationality as an open variable and dependent on IQ.

I don’t assign special status to The Conservation of IQ for two reasons.  The first is the Flynn effect, or the fact that measured IQs have been rising steadily over time.  This implies some combination of a) IQ gains come naturally under conditions of progress, and b) IQ statistics are to some extent phony and don’t measure real intelligence.  We can debate the mix, but either deflates fears that IQ is somehow especially scarce or endangered.  These data also suggest that IQ is an artifice to be unpacked rather than a primary category.

Second, defenders of the IQ view tend to read evolutionary biology and intelligence research.  My roots are in cultural history.  Clusters of amazing achievement come and go pretty quickly, usually through some mix of environmental effects and luck.  Look at Venetian painting.  It was much better centuries ago, but I doubt if Venetian IQs have been falling.  Once we see how such enormous differences can be explained by non-IQ factors, I again don’t obsess over the variable.

I do think economists should study IQ more.  And for sure I value it in friends.  But when analyzing social problems, institutions, social psychology, and economic mechanisms still command most of my analytic attention. 

A few of you had asked about IQ, I crammed my thoughts into this one post, so this is #04-07 in a series of 50.  Do, by the way, save your thoughts on immigration for other posts.

More fun than chess

by  Tyler Cowen in

Let’s consider a power supplier with market power and zero marginal cost.  Capacity suffices for ten units but five units are sold at p = 10; selling more would lower profits.  Now, using carbon offsets, bribe the fifth buyer to stay out of the market, say by walking to work rather than flying his jetpack.  Even better, just shoot him. 

The company has two options.  It can stick with selling four units and raise price.  Or it could drop price a bit and pick up a fifth buyer again.  Hard to say what will happen.  Alternatively, if buyers stand along a continuum, is there a general proof one way or the other? 

Rather than bribing the fifth buyer to walk, invest the "carbon offsets" money in building a nice comfy sidewalk.  In principle all buyers could walk on this new path.

It is then easy to see how the power company might lower price and expand to six units or more.  Otherwise they might lose all their customers.

A key question is the cost structure of the alternative clean technology.  Non-scalable technologies, with little potential for expansion, are the least likely to backfire and least likely to lead to more dirty power.  Scalable technologies, such as the sidewalk, are most likely to backfire and make the world dirtier.  They require a bigger competitive response on the part of the dirty power supplier.  (At least in the short run this is true, in the longer run the scalable technology might eliminate dirty power altogether.)

This counterintuitive conclusion is one reason why we have economic models.

The Paris School of Economics

by  Tyler Cowen in

French Prime Minister Dominique de Villepin presided over the inauguration last week of the Paris School of Economics, a new institution that its founders hope will eventually rival economics powerhouses like the Massachusetts Institute of Technology and the London School of Economics and Political Science.

Here is much more, and note that the institution will be unencumbered by many French civil service restrictions.  This is a noble idea, and it has some serious people behind it.  It is often underestimated how much the quality of American higher education drives superior American economic performance, so of course Europe should make moves in this direction.  But can this graduate school succeed?  Until the European job market offers comparable opportunities to the United States (also known as systematic higher education reform), why pursue this Ph.d., only to be yanked away from the glorious land of non-pasteurized cheeses and sent to toil in Berkeley, Austin, or Princeton?

Did I mention this is an object lesson in why economic growth is so hard to manage and stimulate?  Thanks to Jacob Levy and Scott Cunningham for pointers.

Why do people own things?

by  Tyler Cowen in

A loyal MR reader asks:

This is related to a recent post and something I’ve been thinking about a lot as I pack up my house to move: Why do we buy books and videos?  Doesn’t it make much more sense to outsource their storage to libraries and video stores or services like Netflix?

I have an intrinsic desire to collect and flood my house with nuggets of joy (not Natasha’s phrase), but that doesn’t explain everyone.  Often people own books and DVDs for reasons of identity and self-expression; that is why iTunes outcompeted Rhapsody, even though the latter in some ways offered a better deal.  Ownership, especially of the non-digital kind, also allows you to lend out, to send to friends, and to show off.  The ownership puzzle is related to the "why do we buy mostly new music" puzzle.

It makes the most sense to own songs and CDs, if only because the desire to hear them is more spontaneous, and renting them is harder.  The costs of renting are falling, but the costs of personal storage are falling too, as houses become larger.  The mail isn’t getting much quicker, but the demand for immediacy is growing.  Ownership remains robust.

#3 in a series of 50.

Why are Latin American politicians so bad?

by  Tyler Cowen in

A loyal MR reader asks:

[Please discuss] Latin American politics. Why do our politicians ****?

A few points:

1. I’m not convinced they are worse than average, once you adjust for per capita income.  If East Asia looks better, perhaps the quality of the bureaucracy is more important than the relative quality of the elites.

2. Combining parliamentary, proportional, and presidential systems, as much of Latin America has done, is a recipe for disaster.  Read Ljiphart and others on this topic.  It is too easy to block reforms, there is too little accountability, and there is no coherent ruling coalition.  If you are going to have a strong presidential role, try to restrict the number of major parties to two.  Or if you want many parties, make the president directly accountable to a coalition. 

3. The charismatic traditions in these cultures do not make for responsible politicians.  Visit Eva Peron’s grave in Buenos Aires if you need to be convinced.

4. It is difficult to rule a country with significant ethnic divisions.  This covers many Latin countries, though not Argentina or Chile or Uruguay.

5. Latin tax systems are underdeveloped, so distortionary policies are needed to collect sufficient revenue.  Citizens then become cynical about government, and consider it illegitimate.  Tax evasion is rampant.  The spiral worsens and again no one can govern well.

The bottom line: If they put me in charge of a Latin country, I don’t think I could deliver superior growth performance.  At best I would avoid some of the really stupid mistakes, but I couldn’t turn the country around.

This post is #02 in a series of 50 (?).

Addendum: Bryan Caplan adds comment, but I think he is just proving my point.

Do carbon offsets work?

by  Tyler Cowen in

Maybe-Megan-McArdle writes:

When you donate money to build a new windfarm, you don’t take any of
the old, polluting power offline; you increase the supply of power,
reducing the price until others are encouraged to buy more
carbon-emitting power.

In other words, these carbon offsets shift back the demand curve for dirty power but they also shift out the supply curve for power as a whole.  (The persnickety might argue the demand curve doesn’t even shift back, but if you have to buy all those offsets you will think twice about your next plane trip.)  Competition from wind power forces down the price of the monopolistic dirty power company (electricity?), which means that other people buy more of it.  The quantity of dirty power consumed might well go up rather than down.

A better approach for carbon offsets might involve buying up a power plant and taking it off the market, thereby raising price and discouraging consumption.

Or it might be better if that "wind farm" is a failure and a fraud.

Furthermore if you simply buy less of a non-storable good such as electricity,
price to other demanders will go back down and social quantity consumed will
not change.  The boycott matters only if general
capacity shrinks over time, and that of course requires a large boycott.

If the dirty power source is from a broadly competitive sector (is there one? gasoline? cars?), the carbon offset is more likely to work.  If a non-dirty competitor comes on-line, the dirty power source has no option of lowering price and expanding quantity sold; the price of the dirty power source can’t fall below marginal cost.  Instead the supply of the dirty power source falls and the offset works.   

The bottom line: Unless you can put them under, don’t try to compete on price with your local power company.

Smoked and steamed

by  Tyler Cowen in

Cook some fatty bacon just enough to be slightly done, then chop it a bit and mix it with equal parts smoked trout, chopped into comparably sized pieces, in a bowl.  Mix in three tablespoons Chinese wine.  Mix in two tablespoons of chili flakes or chili oil with flakes.  Mix in two tablespoons black bean sauce.  Steam for at least forty minutes, or until the stock market drops, more is better, in a heatproof bowl, at relatively high heat.  Mix in a little bit of sesame oil at the end.  Serve with rice and a green vegetable.

Fearing the Lucas critique

by  Tyler Cowen in

Thank you for all the blogging suggestions.  I am going to try an experiment, namely to satisfy the first 50, not counting the ones I’ve already done and yes the archives go way way back.  Let’s see how far I can get without flipping out in the middle, running for blogging liberty and charging that corporate America was infringing upon my sacred freedom of speech.  It would be fun if some other blogger picked up the same topics (though I won’t do them in order), if so let us know in the comments.  And if you’re not in the first fifty, I’ll still consider your suggestion, so don’t stop leaving ideas.

Progressive taxation as price discimination

by  Tyler Cowen in

That’s a request from the comments, sometimes the customer is king after all.

The point of price discrimination is to sell more goods and services while taking in more profit; the low demanders can pay a lower price, yet the company still sells for a higher price to the high demanders.  If output goes up, social welfare usually does too. 

So ideally we might levy higher taxes on those people who especially enjoy working, or people who especially enjoy living in the country.  Current tax rates are conditioned mostly on income plus a blizzard of confusing factors listed in the tax code, such as depreciation allowances and legislated tax breaks.  Why not — either directly or indirectly — condition tax payments on proxies for enjoying one’s job and country?  After all, those are the people least likely to leave or least likely to stop working.

Tax flags, guns, churches, and other correlates with patriotism.

Tax fun jobs.  Like being a professor.

Next idea?

More generally, I’m not always keen on taxing inelastic factors, if only because it leads to excess revenue collection, a’la Brennan and Buchanan.