Category: Economics

Nach dem Gleichgewicht auflösen

Swiss-based multinationals such as commodities trader Glencore will receive subsidies and other incentives under plans Switzerland is drawing up to maintain its competitive tax rates, even as the country prepares to sign-up to the G7’s new plan for a global minimum tax on big businesses.

Bern is consulting its cantonal governments — which set their own corporate tax rates — to examine how measures such as research grants, social security deductions and tax credits could create a “toolkit” to offset any changes to headline tax rates, officials told the Financial Times.

Here is the full FT story by Sam Jones.

Austin Vernon on El Salvadoran bitcoin acceptance, from my email

Sent this to [redacted, a man of substance] yesterday. LN = Lightning Network, Bitcoins layer 2 scaling solution based on channels:

As far as I understand it, everyone using LN in El Salvador has primarily been using Strike. Classic crypto conundrum in that they had to centralize to get it to work. There is a Twitter thread with the CEO where he shows they had to block their software using most non Strike LN nodes because there were so many failed payments.

https://mobile.twitter.com/JackMallers/status/1291403528116883456

https://strike.me/faq/howitworks

Also looks like you submit USD and they have some kind of centralized payment system to manage the transactions to the Bitcoin layer 1 chain.

I imagine this is a big improvement for people in El Salvador and I’ve heard Strike has already been popular, but I don’t see it as what is being touted as.

Additionally to the email above:

There was an out at the end of the law that says you don’t have to accept Bitcoin if you are too poor. But a basic smartphone with the app means you can accept it. There is a small town where a donor gave the town Bitcoin and forced them to use it as currency and even started doing a private UBI in Bitcoin. Some of the stores started taking it. Strike is only available in the US and El Salvador. So in a truth is stranger than fiction, the idea probably got jumpstarted by a surfer that loved both a beach town and bitcoin. Helps that El Salvador uses the dollar. The legislators would just have to drive to the town to see how it works rather than read about it.

https://www.bitcoinbeach.com

To me this is more like a new kind of bank than some decentralized currency takeover, because Strike is relatively centralized. Being like a bank probably implies some of the same advantages and vulnerabilities of a regular bank. The PR is nice! Not having to get cash at a Western Union that might be far (and where you can get robbed) could have more impact than cheaper fees. It will be a few years before the technology exists to do this in a more decentralized way. Interesting nonetheless.

Not that there’s anything wrong with that…

…democratic rule and high state capacity combined produce higher levels of income inequality over time. This relationship operates through the positive effect of high-capacity democratic context on foreign direct investment and financial development. By making use of a novel measure of state capacity based on cumulative census administration, we find empirical support for these claims using fixed-effects panel regressions with the data from 126 industrial and developing countries between 1970 and 2013.

Here is the paper by Mart Trasberg and Hector Bahamonde, via Kevin Lewis.

The coming regulation of bank crypto

A $100 exposure in bitcoin would result in a minimum capital requirement of $100, Basel said. The standards would apply to assets created for decentralised finance (DeFi) and non-fungible tokens (NFTs), but potential central bank digital currencies were outside the scope of the consultation, it added.

Here is more from the FT.  While that is an entirely understandable move, the net result will be to hinder the incorporation of crypto into the traditional banking system, and speed the growth of non-bank crypto institutions.  How they will try to regulate those is of course the more important question.

DeFi is the killer app for crypto

That is the topic of my latest Bloomberg column, let me just give you one segment from the end:

And if the question is whether crypto is good for anything, there is now at least one clear answer: Crypto enables DeFi. You don’t have to like every consequence of that reality, but a reality it is.

You could say that crypto is a Trojan horse of a new and quite different financial system. If you have ever dealt with U.S. banks, and suffered through their bureaucracy and mediocre software, you might conclude that they are ripe for  disruption. Banks in other countries may be even more vulnerable.

Obviously, as DeFi grows, questions of government oversight and control will come to the fore. Still, it seems unlikely that DeFi institutions will be regulated out of existence. DeFi can be run on platforms outside of the U.S., and American and European regulators cannot shut it down any more than they can prevent me from placing an online bet on a Mexican soccer game.

Keep in mind that significant swaths of the developing world currently use micro-credit, where borrowing rates of interest are often 50% or 100% on an annualized basis. It is likely that some of those countries will experiment with DeFi as an alternative method of credit allocation, regardless of whether those new institutions satisfy U.S. regulators in every regard.

If you are baffled by a lot of DeFi, well … welcome to the club. The confusing and ever-changing nature of DeFi helps explains why the prices of crypto assets are so volatile. If DeFi lies in part behind the demand for crypto, and you don’t know exactly where DeFi is headed, the future for crypto is also highly uncertain. It is very unusual to have such a highly visible window on what is essentially the value of a bunch of startups.

Recommended, and here are some earlier posts by Alex on DeFi.  And here is a new essay on DeFi.

Bitcoin as legal tender in El Salvador

Here is FT coverage, I still feel I don’t know the whole story, but bitcoin will be legal tender and furthermore:

The government will set up a trust at the Development Bank of El Salvador to enable automatic conversion of bitcoin to dollars. The law will take effect 90 days after its publication in the official gazette.

“The entry of bitcoins will be equivalent to an increase in the country’s monetary supply, which will temporarily boost El Salvador’s economic activity, but will also pressure inflation higher and with that, interest rates will rise,” Gabriela Siller, head of economic analysis at Banco Base in Mexico, said in a note to clients.

Here are a few observations:

1. El Salvador already uses the U.S. dollar, so there is not much loss of monetary sovereignty here.

2. Maybe the easing into bitcoin is intended to lower the cost of sending remittances from the U.S., which are fundamental to the El Salvadoran economy?  According to the FT, remittances are about one-fifth of gdp, and transfer charges can be steep.

3. Is this all just?: “You don’t have to move to Puerto Rico to avoid capital gains tax, you can just invest in El Salvador!  We’re going to precommit to accepting your bitcoin so you will plan around that.”

3b. Isn’t it suspicious that their legislature approved the legal tender law by such an overwhelming margin?  Is it that they all have read and digested so many Medium crypto essays?  Or do they just see this as “a deal”?

4. I don’t see why this should increase price inflation in El Salvador.  Prices are denominated in dollars, and El Salvadorans, or for that matter visiting tourists, already had the option of converting their crypto into dollars before buying more pupusas.

5. Even in the United States the retail demand for bitcoin transactional use has been quite low.  Making merchants in El Salvador take bitcoin seems like a PR move to me.  What does it mean to make a low-tech merchant in the countryside “take bitcoin”?  How is he supposed to take it?  Do the abuelas in the market have to set up Coinbase accounts?

6. Could this be a transitional or bridge move to ease El Salvador away from the U.S. dollar and to replace it with a native currency?

7. Is the increasingly authoritarian government of El Salvador looking to PR moves to boost its international legitimacy?

8. Given all the surrounding publicity, it does seem that “they really mean it,” and the government will try to “get something” out of the initiative.

I will keep you posted as I learn more.  But as a general rule, if Central America is the laboratory for your ideas, beware before leaping to conclusions too quickly!  At the very least do go visit the country you are wondering about, and, in trying to understand the equilibrium, have the country more prominent in your mind than the innovation.

High discounts and high unemployment

Unemployment is high when financial discounts are high. In recessions, the stock market falls and all types of investment fall, including employers’ investment in job creation. The discount rate implicit in the stock market rises, and discounts for other claims on business income also rise. A higher discount implies a lower present value of the benefit of a new hire to an employer. According to the leading view of unemployment—the Diamond-Mortensen-Pissarides model—when the incentive for job creation falls, the labor market slackens and unemployment rises. Thus high discount rates imply high unemployment.

That is from Robert E. Hall, published 2017.

Better Crowdfunding

In 1998, I designed the “dominant assurance contract” (DAC) mechanism for producing public goods privately. In my latest paper, just published in GEB written with the excellent Tim Cason and Robertas Zubrickas we test the theory in the lab and…it works! Kickstarter hadn’t yet been created when I first wrote but the DAC mechanism can now be easily explained as a Kickstarter contract with refund bonuses. On Kickstarter and other crowdfunding sites you contribute to a project and if a contribution threshold isn’t reached you get your money back. The Kickstarter contract is useful but it’s still easy for a good project to fail because there are many equilibria with non-funding. For example, if I think that you won’t contribute then I may decide not to contribute and if I don’t contribute then you may decide not to contribute. Neither of us can do better by contributing, given the other person is not-contributing, and so non-contributing is a Nash equilibrium (see my talk at the Foresight Institute for more details). Now introduce refund bonuses which pay out only if the threshold is not reached. Now if I think that you won’t contribute then I want to contribute, to earn the refund bonus, and the same is true for you. Indeed, the only equilibria in the crowdfunding game with refund bonuses have the project being funded. Thus, a nice feature of the refund bonus game is that in equilibrium the refund bonuses are never paid!

To test the theory we (mostly Tim and Robertas!) created an environment very similar to that faced by people on Kickstarter. Namely, there are multiple projects to choose from, each with different private payouts and each project has a contribution threshold and some projects offer refund bonuses. We test a variety of different types of refund bonuses including fixed (e.g. $10) and proportional e.g. (20% of your contribution) and also early refund bonuses (a refund bonus if the contribution threshold is not reached and you agreed to contribute in the first half of the funding period) or for contributions at any point in the game. Our research leads to three important conclusions.

First, without refund bonuses only ~30% of socially valuable projects succeed (perhaps coincidentally almost the exact same as on Kickstarter). But with refund bonuses the success rate increases by about 50% to 50- 60% and it doesn’t much matter much what type of refund bonuses are used!

Second, early refund bonuses have some useful properties. A key to the mechanism is that it quickly makes many contributors pivotal. At the beginning of the game it’s in no single individual’s interest to fund the public good but as others contribute there comes a time when the contribution necessary to push the total funding over the threshold is less than the value of the public good to the individual–thus, for purely self-interested reasons, a potential contributor can benefit by pushing funding just over the threshold. We say such contributors are pivotal. Early refund bonuses make contributors pivotal sooner and we think this gives people time to recognize that pushing funding over the threshold is in their interest. In addition, when more people contribute early this sends a signal of social cooperativeness which also appears important to fund public goods.

Third, refund bonuses pay for themselves! In theory, refund bonuses are never paid but in practice, as we have seen, some socially valuable projects fail even with refund bonuses. Nevertheless, for reasonable markups it’s still in an entrepreneur’s interest to use refund bonuses because the greater success rate more than pays for having to pay modest refund bonuses when a project fails.

We think refund bonuses can substantially improve crowdfunding and we hope to partner with a crowdfunding site to run a field experiment. Contact me if interested!

Read the whole thing.

Some points about corporate tax

Written from the British context:

Should the system be changed to one where companies are taxed on all the profits they make from their sales in the country?

There are a few downsides to this.

First of all it would be very hard for one country to switch to such a system without getting the rest of the world to do it too. If we did it unilaterally it would open up more differences between national tax regimes and so create, rather than reduce tax avoidance loopholes.

It is also far from clear the UK would gain from such a change. We might gain from some of the big US-based multinationals paying more tax here, but we have plenty of multinationals of our own and they would generally end up paying less here. The biggest losers could well be poorer developing countries, especially those reliant on extractive industries such as mining. If they could only tax companies based on their sales to their residents in that country that would bring in a lot less than taxing them on the share of the economic value of the products generated in that country. The UK itself still generates between 8 and 9 percent of Government revenues from corporation tax, which is pretty respectable internationally, despite being a very open economy exposed to competition.

There is also an economic question as to who ultimately bears the burden of taxes ‎on a company – is it the shareholders, the customers, or the workers, and if the workers, is it the highly-paid top management or the people at the bottom? The answer is not certain, but it does seem likely that a shift to sales-based tax would be at the expense of the customers. In other words, by taxing internet-based suppliers more, we could be more heavily taxing ourselves.

But the strongest argument against is fairness. If a product is invented / developed / mined / refined / built and potentially even marketed and sold all round the world entirely from country X, making use of staff educated in country X, who use country X’s health care system and transport network, often with tax breaks from country X to encourage its growth, and maybe even wage subsidies from country X for its employees, who deserves to be able to tax the company’s profits? Is it country X, or every country that has someone in it who buys a product from the company? Of course if a country wants to tax sales it can, and sales taxes such as VAT are a perfectly reasonable and sensible part of a country’s tax mix; though in the EU, this is governed to a considerable extent by EU rules.

There are many further detailed points at the link.  And do note this:

There is a perceived issue with the internet making it easier than ever for companies to ‘sell into’ a country with little or no presence in that country, and therefore offering little or no taxable base for the government of that country to tax the profits of. Sales taxes can be part of the answer to this.

But of course a sales tax does not appear to consumers to be a free lunch, and so it is not as politically popular as a sales-based hike in corporate rates.  And so we arrive at the current mess of a situation: “We want tax equity, but you can’t possibly expect us to do that in a way that is transparent!”

Tax incidence on competing two-sided platforms

That is a paper by Paul Belleflamme and Eric Toulemonde, from a few years ago:

We analyze the effects of various taxes on competing two-sided platforms. First, we consider nondiscriminating taxes. We show that specific taxes are entirely passed to the agents on the side on which they are levied; other agents and platforms are left unaffected. Transaction taxes hurt agents on both sides and benefit platforms. Ad valorem taxes are the only tax instrument that allows the tax authority to capture part of the platforms’ profits. Second, regarding asymmetric taxes, we show that agents on the untaxed side benefit from the tax. At least one platform, possibly the taxed one, benefits from the tax.

This may all turn out to matter more if the new multinational corporate tax regime comes into existence.  Of course you can vary the assumptions further yet, and get additional and differing results, but please keep in mind: the tax you impose is not the incidence you get.

Trade Wars Are Hard to Win, Part LXXIV

Bloomberg: The surge of cheap panels from China dealt a crushing blow to U.S. manufacturers — and Solyndra wasn’t the only casualty. After three other U.S. solar manufacturers sought bankruptcy protection, Obama in 2012 slapped duties as high as 249% on the imports. Manufacturers responded by moving operations out of China, but they didn’t head to the U.S. Instead, large manufacturers skirted the U.S. tariffs by building facilities to assemble solar cells and modules across Southeast Asia.

Making matters worse, China retaliated by imposing its own duties of up to 57% on imports of U.S.-made polysilicon — tariffs that crippled U.S. producers of the conductive material used in solar panels.

…Before the Chinese tariffs, U.S.-made polysilicon had been shipped to the country and used to produce ingots, the next stage of solar cell manufacturing. But the tariffs made American polysilicon too expensive, Wang said, and the U.S. went from making 50% of the world’s polysilicon in 2007 to less than 5% today.

Tariffs on imports of solar panels were imposed by both the Obama and Trump presidencies and neither succeeded. We would have done better by letting the Chinese subsidize their solar industry and thus our solar energy system and more likely keeping our input suppliers.

Hat tip: Scott Lincicome.

Structural adjustment for thee but not allowed for me

The economy has not bounced back to prepandemic employment levels, even as G.D.P. effectively has.

Some blame unemployment benefits for keeping workers at home, while others claim that it is the virus still holding back customers and therefore employers from adding jobs. Yet there is a third factor that is likely the labor market’s primary challenge: We are undergoing an enormous reallocation of people and jobs. People need time to find their new position in the labor market.

The early hope among policymakers and economists was that the pandemic aid offered to businesses and families would mean that once we recovered from the pandemic, workers would simply return to their old jobs, sending millions back to work each month and closing the employment gap quickly.

The problem is that old jobs are long gone for the vast majority of those who remain unemployed.

That is from Betsey Stevenson (NYT), and I am not taking issue with her arguments.  Note that if you look about the debate over 2021 more broadly, pretty much everyone agrees there might be too much AD rather than too little.  And yet these matching problems are still around?  Hmm….once you are in a mess, supply-side labor adjustment problems just cannot be fixed so easily by nominal demand and nominal demand only.  See my earlier recent post on this point, namely that business cycle recoveries tend to look the same on the labor side for supply-side reasons.  During recoveries a lot of people just don’t want to go back to work or even look for a job!  That was true in the last recession as well, read this paper, or this research.  People hate the idea if you call them ZMP, but it’s right there in the numbers…how can someone be MP > 0 if they won’t even show up for an interview?

You might notice, by the way, I am not a huge fan of the NAIRU concept and you won’t see me cite it very often (occasionally it is useful shorthand for a less controversial concept.)  The following notion, however, is well-defined: “What the rate of unemployment would be if there were no major negative shocks for a decade and people had seven, eight, or even more years to search for the right job match.”  Yes that is indeed a well-defined number, and that number is pretty low.  I’m just not sure that is very “natural.”  What would John Gray say?  The Marquis de Sade?

The new proposal on corporate tax synchronization

The G-7 nations have coordinated (NYT, FT here) to announce a minimum corporate tax rate of 15%.  Even if seen through, that doesn’t mean all rates must be at 15% or higher, rather if a rate is at 5% another country (the home base country?  the countries where the customers are?) gets to tack on another 10% to make the total take 15%.  That limits the incentive to post very low rates in the first place, by checking the gains from tax haven strategies.

One perennial question is whether the 15% rate is defined over gross or net income.  You don’t want to tax gross income, especially if the business under consideration actually is making a loss.  In any case, you basically end up taxing business income acquisition per se.

If it is net income you are taxing at minimum 15%, you haven’t done as much to limit tax arbitrage as you thought at first.  Especially if the multinational and its subsidiaries engage at arm’s length transactions with shadow pricing, etc.  Net income is a major object of the actual manipulations, and would become all the more so under this new plan, assuming it is applied to net income.  Won’t countries wanting to play the tax haven game end up with very lax definitions of “net income”?  (Or for that matter gross income?)  Or does that get regulated as well?

I don’t think this whole plan should make “the Left” happy.  David Fickling wrote for Bloomberg:

The more likely outcome of the current round of reform will be a continuation of the decline in corporate rates that we’ve seen for four decades. Even amid the push to prevent tax-base erosion in recent years, 24 of the 37 members of the Organization for Economic Cooperation and Development have cut their corporate tax rates since 2008, while just seven have raised them. Statutory corporate tax rates have trended downward by about 5% a decade since 1980 to the current situation, where the average sits at around 24%. Nations that want to compete with lower-taxed jurisdictions may find the pull of 15% irresistible.

And then:

The risk now is that 15% becomes not just a minimum, but an anchor for maximum tax rates as well.

In other words, the tax haven tax competition game is redone with a 15% floor, but the agreement also pinpoints a corporate tax rate that is “good enough” and would come to be seen as “best possible treatment.”  Neither of those are forcing moves which would require countries to drop their rates to 15% in the resulting equilibrium, but yes I agree with Fickling that there might be a good deal of clustering right at or near 15%, accelerated by this plan of course.

Note also that, under the plan, the 100 largest corporations would have to pay tax in proportion to where they sell their goods and services, even if they are not formally located in those countries (will there be a literal notch right at “company #100”?).  Ireland loses big on that provision, as in essence more corporate tax revenue would be routed to larger countries such as France and Germany.  In how serious a manner would companies have to keep track of their customers?  (What happened to privacy law here?  Or did they never really care much about privacy to begin with!?  What are crypto companies supposed to do about this?)

Biden wants to raise the U.S. corporate tax rate to 28 percent, and Ireland, one of the major supposed villains in this game, has a rate of 12.5%.  So fifteen percent just isn’t that outrageously high, even if companies do end up having the pay that actual rate (though see above about gross vs. net income, and what other “outs” will there be?).

The European digital taxes may be scrapped as well (with the details under negotiation and no one wanting to “move first”), which would ease a wee bit of the burden on the major tech companies from the broader change.

Here are various observations from Soumaya Keynes.

Is the underlying view that the U.S. Congress is supposed to approve this without further renegotiations?  How about the other countries?

*The Economist* on digital money

This multi-article section from a few weeks ago was very good.  Here is one excerpt:

“It feels very significant that the countries which, apart from China, are most advanced, most active and most interested in cbdcs are the medium-sized emerging economies,” says Mr Landau. “They are too big to accept the loss of monetary autonomy, and sufficiently small to be exposed to the risk of foreign-currency competition.” They may feel they have no choice.

Here is another:

The rise of intangible capital may explain several capital-market trends, including the fact that private firms are tending to stay private for longer and the popularity of mergers. Software companies find it easier to protect intellectual property in private markets. Rigid accounting rules do not cope well with intangible capital, for instance by mostly booking spending on research as an expense, discouraging it.

The shift has other broad implications. Lenders like collateral: whenever financiers make loans they worry about being repaid, but they can take valuable property in case of default. Most consumer lending is secured against houses or cars.But businesses that create intangible assets do not have such collateral. This can make it harder to secure debt-financing, which is often not available unsecured for new businesses at a reasonable rate. Stephen Cecchetti, an economist at Brandeis University, calls this the “tyranny of collateral”.

In those settings, data can matter more than the ability to pin down collateral…