2005 April 09 Saturday
Taxes For Aging Population To Trigger Political And Economic Death Spiral?

Robert Samuelson worries that tax increases for the aging population may cause wage stagnation or worse.

The great danger of an aging society is that the rising costs of government retirement programs -- mainly Social Security and Medicare -- increase taxes or budget deficits so much that they reduce economic growth. This could trigger an economic and political death spiral. Our commitments to pay retirement benefits grow while our capacity to meet them shrinks. Workers and retirees battle over a relatively fixed economic pie. The debate we're not having is how to avoid this dismal future. President Bush's vague Social Security proposal, including "personal accounts," sidesteps the critical issues. His noisiest critics are equally silent.

...

Here are the basic numbers, as calculated by Elizabeth Bell, a research assistant to Steuerle. In 2005 Social Security and Medicare are expected to cost $822 billion (that's net of premiums paid by recipients); by 2030 the costs are projected to increase to $4.640 trillion. That's an increase of $3.818 trillion. Over the same period, annual wages and salaries are projected to rise from $5.856 trillion to $17.702 trillion -- an increase of $11.846 trillion. Despite the big numbers, the arithmetic is straightforward: The increases in Social Security and Medicare represent 32 percent of the increases in wages and salaries.

Note that these numbers are based on assumptions about economic growth rates, labor market participation rates, productivity growth rates, and rates of growth of costs of medical care for old folks. Any of the assumptions might be excessively optimistic or pessimistic. My fear is that future tax increases will make the assumptions excessively optimistic.

I know a wealthy venture capitalist who likes to argue that higher taxes would be ruinous to economic growth. This is the argument that Stephen Moore and the Club for Growth use in lobbying and fund raising for Republican primary challengers against any Congresscritters who vote for tax increases. I keep asking these people a basic question: If the argument that high taxes will choke off economic growth is right then won't the tax increases which will be enacted to pay for old age benefits for an aging society lead to economic stagnation?

Why would higher taxes reduce economic growth? Taxes decrease the incentive to engage in work for pay. For example (and this is a hypothetical just to illustrate a point), imagine you needed to get your house painted, a house painter would cost you $10 per hour, in your regular job you made $20 per hour, that your employer offers you overtime hours, and that you were just as productive at painting as the $10 per hour painter. Either you or the painter could paint your house in 100 hours. If you hire the painter then you would pay the painter $1000 to paint your house.

Does it make sense to hire the painter? On the surface it does. In a system where there are no taxes you could work 50 hours in your day job to make the money to pay the painter to work 100 hours. You save yourself 50 hours of time. If your tax rate was 25% you would still be better off paying the painter. You would have to work 66.7 hours to earn $1000 in after-tax income to pay the painter. But you would still save yourself 33.3 hours. So working to earn money to pay someone else would still make sense. But raise the tax rate to 60%. Suddenly even though your time is valued by the job market as twice as valuable as the time of the painter you'd have to work 125 hours in your day job to earn enough money to pay the painter to work 100 hours to save you 100 hours painting your house. With a high enough tax rate it becomes more sensible for you to work less in your day job and to paint your house yourself.

Here's the problem: If you paint your house yourself and work less then you earn less and therefore you pay less in taxes. At the same time the painter does not earn money painting your house and so the painter does not pay taxes on that $1000 he no longer earns. If people react to a tax rate increase by working less the net effect can be a decrease in total revenues collected. This may explain why even the most advanced European nations have much lower per capita GDPs than America.

Worse yet, keep in mind that the reason you as the hypothetical $20 per hour worker would be worth twice as much per hour as the $10 per hour painter is typically (and there are exceptions) because you are more productive and generate more wealth in the form of goods and services per hour worked. But if tax rates cause you to shift from your paid job to a task that commands less per hour the productivity of the economy as a whole declines. Instead of your doing a job for which you are more productive you do a job for which you are less productive.

This shifting of labor out of the paid workforce as a result of high taxes is my nightmare scenario for the future of the American economy. We might get into a vicious cycle where politicians keep raising taxes to pay for medical care and other expenses for old folks while American workers chooses to do less paid work. They might do less paid work and instead go camping or to fix their own car, paint their own house, cook their food from scratch with raw ingredients, or grow their own food. Or they might just go to the beach or go hiking in the mountains rather than work harder to earn the money to pay for a trip abroad or a bigger house.

For more on this see Tyler Cowen's post "Why don't the French work more?" and Alex Tabarrok's post "The Microeconomics of Social Security Privatization".

Update: In a research paper about Social Security privatization Martin Feldstein says tax increases decrease the size of the tax base. (PDF format)

The elasticity of taxable labor income with respect to the net-of-tax share, i.e., to one minus the marginal tax rate on labor income, is much greater than the traditional elasticity of labor supply as measured by labor force participation and average hours worked. Estimating this elasticity is now a subject of very active research among public finance economists. Although a wide range of estimates has been produced, some studies are more reliable than others. I believe that a conservative estimate is that the compensated elasticity of taxable income with respect to the net of tax rate is one-half.

Using this elasticity and the 2004 size of the taxable payroll implies that a rise in the effective marginal tax rate from 37.7 percent to 44.2 percent increases the annual deadweight loss by $96 billion or nearly one percent of GDP.11 Since the 6.5 percent increase in the marginal tax rate applies only to taxable labor income (about 40 percent of GDP), the deadweight loss is equal to about one third of the incremental tax revenue. Even this understates the relative size of the deadweight loss because it ignores the reduction in the tax base and therefore in the tax revenue that results from the higher marginal tax . When that reduction in taxable income is taken into account, the incremental deadweight loss is nearly 50 percent of the incremental revenue.12 The true cost per additional dollar of payroll tax revenue is there $1.50.

Note that this is just the deadweight loss or excess burden i.e. the pure waste associated with the incremental tax. It does not include the deadweight loss of the existing tax or the direct burden of the taxes themselves. And it does not include the deadweight loss caused by the program distortions.

At the end of the next to last paragraph I think he meant to say "is therefore $1.50.".

My guess is his estimate for the economic loss from taxes underestimates the cost because it is a static snapshot. The rate of growth will slow and therefore the amount of the loss will become steadily larger in the out years.

A rise in the retirement age is one way to reduce the extent of future tax increases. If people work longer they will pay in for a longer period of time and receive benefits for a shorter period of time. Feldstein argues for private accounts as a partial replacement for Social Security so that people view the money they put into the accounts as savings rather than as taxes. The thinking is that people will be more willing to work to build up savings than to pay taxes and therefore under a private accounts system labor market participation rates will be higher and the economy will grow more rapidly.

Update II: Edward Prescott of the Minneapolis Federal Reserve and Arizona State University finds that high tax rates are the major reason Europeans work less than Americans.

Americans, that is, residents of the United States, work much more than do Europeans. Using labor market statistics from the Organisation for Economic Co-operation and Development (OECD), I find that Americans on a per person aged 1564 basis work in the market sector 50 percent more than do the French. This was not always the case. In the early 1970s, Americans allocated less time to the market than did the French. The comparisons between Americans and Germans or Italians are the same. Why are there such large differences in labor supply across these countries? Why did the relative labor supplies change so much over time? In this article, I determine the importance of tax rates in accounting for these differences in labor supply for the major advanced industrial countries and find that tax rates alone account for most of them.

This finding has important implications for policy, in particular, for financing public retirement programs, such as U.S. Social Security. On the pessimistic side, one implication is that increasing tax rates will not solve the problem of these underfunded plans, because increasing tax rates will not increase revenue. On the optimistic side, the system can be reformed in a way that makes the young better off while honoring promises to the old. This can be accomplished by modifying the tax system so that when an individual works more and produces

Using per capita GDP measured in purchasing power parity terms France and Germany have 73% of the per capita income of the United States. The reason the gap is not larger is probably because the Europeans also have disincentives in their labor markets for hiring people who are less productive. So some of the labor that is not being used in Europe would be less productive if it was used. However, even among those who do work the Europeans work far fewer hours per year.

Because of the effect that higher taxes have on labor market participation rates the option to raise tax rates to fund retirement may not exist. But that doesn't mean that politicians won't try raising taxes to get the money. This is my fear: Politicians will raise tax rates, lower living standards, slow the economic growth rate (or even reverse it), while not solving the problem of unfunded liabilities in retirement programs. In fact, if economic growth is sufficiently slowed then the tax increases may even make the problem worse.

Thanks to crush41 for finding the Prescott paper.

Share |      By Randall Parker at 2005 April 09 12:10 PM  Economics Demographic


Comments
Dan said at April 9, 2005 2:30 PM:

A couple of points, If this is true why arent things better now with lower taxes then in the 50s when the marginal rate was much higher. Its my observation that things were better then.
Another point is why the bias towards the upper end of the economic scale. All money gets spent, a poor person might use his disposable income for a new boombox at Wal Mart whereas a rich person may get a new boat. Why should the boat be considered more important than the stereo? Older people also spend money,in my opinion Medicare is really a transfer system of wealth to the mhealthcare industry. I repeat all money gets spent anyway, so why does the upper end matter so much?

Randall Parker said at April 9, 2005 3:17 PM:

Dan,

Total government take of the economy was lower in the 1950s. The top rate then can't be taken at face value. If the rates were so high in effect then the governments (federal, state, local) should have been getting a much larger percentage of the GDP than the governments did. In reality there were depreciations and exemptions and expenses and categories of income that were not taxed.

The bias toward the upper end? This is besides the point. But if a higher income person is taxed to give money to a poor person that decreases the incentive for the higher income person to work in the first place.

When you say "all the money gets spent anyway" you assume that it is earned first. But that is my point: Raise taxes and people will not work as hard. Americans work 50% more hours per year in paying work than Germans, Italians, French. Why? Tax rates. That is the main reason why Americans have much higher per capita income.

Do you think that German retirees get as much per month in benefits from the German government as the US retirees get from the US government? Of course not. The Germans do not generate enough wealth to distribute. The lower living standards for the working age are matched by lower living standards for the retirees.

GUYK said at April 9, 2005 3:28 PM:

Dan, I was reared in the fifties and no, things were not better than than now. The standard of living for everything from material comfort to automobiles is better now than then. We live longer, eat better, live in nicer and more comfortable home, use tobacco less, and don't worry near as much about a Nukehitting our major cities as we did in the fifties.
Sure, I have some happy memories of my 53 Ford and blond headed girl friend and a six pack of longnecks. But I wouldn't go back by choice and only after the fight if someone tried to force me.

Few people argue that taxes are completely unneccessary. Rational thinkers undestand that government needs money to provide the infa-structure and defense for the population and few really get upset over a social system that provides a safty net for those who through no fault of their own can't take care of themselves. Such a safty net is a humane paty of society.

However, overtaxation kills incentive to produce. My wife and I are examples. We recently disolved an S corporation and sold the inventory of our small manufacturing and retail company. It came to the point that government regulations and taxes limited our income so much that we were money ahead be selling inventory at a loss and putting the money in tax free annuities. Why work 80 to 90 hours a week for 50,000 and pay taxes when you can earn 25000 without working and as head of household pay little or no taxes. I am beginning to believe that Ayn Rand had some pretty good points about creeping socialism.

crush41 said at April 9, 2005 9:42 PM:

In the hypothetical about higher tax rates lessening the division of labor and thereby slowing economic growth it of course works in the other direction with lower tax rates. If you make $20/hour, not only will you choose to work an hour for every service you desire that costs less than that $20 minus taxes/hour, the provider of the service to you will be more willing to work extra for your money because he'll be able to do more with what he gets from you in terms of future services to be performed on his behalf. Though it might sound redundant, I'm trying to point out that the lower tax rate expands beyond any individual benefit and grows exponentially on itself.

Dan,

Not sure if this is sound, but the cycle starts at the top. If everyone earned identical wages, there would be no incentive for anyone to hire anyone else to do anything for him outside of the hired being more skilled in the specific work at hand. Further, it seems to me that $100,000 to a young Bill Gates in the process of growing a business has a greater macroeconomic benefit than giving $10 to 10,000 minimum wage earners to be used to buy cigarettes and lottery tickets.

I've never been able to figure out the benefit of a progressive tax rate.

Randall,

Thanks for posting on this topic. Financially, it's the scariest thing facing young Americans. I have nightmares that the future will be filled with retirement communities where huge numbers of laborers serve the elderly meals, clean their rooms, direct their activites, etc instead of other industrial endeavors. Basically it's economic deadweight as money is transferred from the old to the young and then recirculated via taxes with no economic growth or meaningful innovation. We don't need a system that encourages the elderly to stop working and taking care of themselves at 63-67 when it's not necessary until a decade later.

Randall Parker said at April 9, 2005 10:04 PM:

crush41,

It took me a few months to get all the links together and to find a brand new article to hang it on. But I finally got around to it. Thanks for finding the Prescott link. Tyler Cowen tells me I should also look for work by Guido Tabellini in this area. European economists have had an interest in studying tax rates and labor market participation for much longer since they have been faced with the problem of lower labor market participation rates for over a couple of decades now and have wanted to understand it.

As for everyone having the same wage and whether they'd hire workers: Yes, they still would have motives to hire others because of the specialization of labor. Are you going to drill your own teeth or do an operation on yourself? Extremely highly unlikely.

Or suppose you just do not like doing some task and someone else does. You'll pay someone else to avoid doing it yourself. There will always be people who have different likes and dislikes for performing various tasks.

The advantage of those different patterns of aversions and preferences is that they encourage the development of specialized skills and higher productivity.

As for your nightmarish imaginings for the future of the US economy: I share them. But I am not optimistic that a Europe-like future of higher taxes, slower economic growth, and lower per capita GDPs can be avoided.

GUYK said at April 10, 2005 3:15 AM:

crush41: The primary reason for a progressive tax rate is income redistribution. I believe that an amendment making income tax constitutional would have never been approved if the majority of the people realized that it would affect them. It was approved because it was only going to tax the "rich" people. The only way the majority of the public will stand still for it now is because the "rich" still get soaked. If there is such a thing as a 'fair' tax, a national consummer tax would be it. Don't want to pay the taxes then don't consume. Of course the socialists will scream about that also.

Randal, I have hopes that the USA can avoid the pitfalls of socialism by watching what is happening to the European economies of slow growth and high unemployment. However, the left has never let facts get in the way of their agenda before and probably will not in the future.

Invisible Scientist said at April 10, 2005 6:08 AM:

Randall Parker:
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"Using per capita GDP measured in purchasing power parity terms France and Germany have 73% of the per capita income of the United States. The reason the gap is not larger is probably because the Europeans also have disincentives in their labor markets for hiring people who are less productive. So some of the labor that is not being used in Europe would be less productive if it was used. However, even among those who do work the Europeans work far fewer hours per year."
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Although I am not a communist, it seems to me that one reason the Americans work harder than the French and the Germans, is because it is FAR worse to be poor in the United States than in Western Europe. Most of the new jobs that were created in the United States during 2003 and 2004, were low paying service jobs. In order to become "efficient", many of the working poor in the United States, end up working much longer for less.

PacRim Jim said at April 10, 2005 9:44 AM:

Many of the "poor" today live better than did much of the middle class 40 years ago. Thy have better medical car, safer cars, year-round access to fruits and vegetables, not to mention hundreds of labor-saving appliances and electronic devices. Women had to stay home then because of the workload and the kids usually had a long list of chores and jobs in the summer. I've no desire to live poor, but it's not a bad as it used to be and it's comparable to much of the "middle class" in Europe, especially Eastern Europe. Have some perspective, please.

Invisible Scientist said at April 10, 2005 11:50 AM:

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"Many of the "poor" today live better than did much of the middle class 40 years ago. Thy have better medical car, safer cars, year-round access to fruits and vegetables, not to mention hundreds of labor-saving appliances and electronic devices. Women had to stay home then because of the workload and the kids usually had a long list of chores and jobs in the summer. I've no desire to live poor, but it's not a bad as it used to be and it's comparable to much of the "middle class" in Europe, especially Eastern Europe. Have some perspective, please."
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I was companring the situation in the United States, to Western Europe, not Eastern Europe, and I was comparing it to present circumstances, not 40 years ago, and so I do have "some perspective". Understandably, the poor are better off than they were 40 years ago, for they are getting the bread crumbs that are leftover. But consider this: while in 1980, the top 1 % richest American families owned "only" about 20 % of the wealth in the United States, in March 2000, that figure more than doubled, in the sense tha the top 1 % richest families owned almost 50 % of the total wealth in March 2000 (even without the stock market bubble, the top 1 % left the rest of the nation in the dust.) Again, in March 2000, the top 10 % owned about 90 % of the wealth in the United States. At this rate, by 2025, I am sure that the top 5 % will own 95 % of the wealth in the United States. There is nothing "wrong" with the fact that the upper class surpasses the lower class, but when the percentages become so asymmetric, the "social glue" that keeps the American people starts to disappear, and this will almost certainly lead to dramatic internal hostilities in the future. For instance, given the way automation is making even service industry more efficient, I am sure that unemployment will rise to 20 % in one more generation, since many of the hard working people won't be needed, for hard work itself won't be enough, only the best and the brightest will be needed.

Also, this "labor arbitrage" trend where the actual labor of the people who are working, are also internatioally traded like commodities and finished goods, is not the same thing as free trade, which used to mean the free exchange of goods in the past. This is something new, and even the high paying American jobs are being lost to foreign countries where chemists with doctoral degrees, are accepting 20 % of the salary in the United States. This spells disaster on the horizon, in my view, because only the top 10 % will benefit from this trend, and the rest will get poorer and poorer as a function of time.

GUYK said at April 10, 2005 1:28 PM:

Invisible: Could be that the chemical engineers i the USA just priced themselves out of a job! If labor was allowed to fluxuate with supply and demand there probably wouldn't be thse kind of problems. And, I don't know nor have I heard of any chemical engineers in the USA that are hurting for a job.

I don't think outsourcing jobs is near the problem that the left wants us to think it is. Nor do I think the fact that a majority of wealth is in a minority of hand is all that big of a problem either. I see two automobiles in the driveway and kids with their private desk top andmobil phones. I also see the projects where there is a fifty percent high school dropout rate and those there that wouldn't work if they were paid a living wage. Why work when one can get it free.

That is the problem with much of Europe now. Those who don't have the ambition to earn their lunch have the government providing it at the expense of the ones that do believe in paying their on tab. But there is not a free lunch. Socialism will only survive as long as there is someone willing to produce and be legally extorted of their production that is in excess to their needs. This is beginning to be a problem in the USA as well. Once the incentive to produce becomes nil, why produce? Also keep in mind about mega-business-the majority of them are not run by thieves nor cretins. Business had one obligation and that is profit whether it be to the stockholders or a private business owner.When there is no profit the business quits doing business.

Many years ago my father, an oil field laborer, pointed out to me that when I hired out that I had to earn the employer more than I was paid in order for the employer to afford to hire me.If I just produced my wages then the employer was spinning wheels and had no reason to keep me. It made a lot of sense then and still does today. Profit is not a dirty word:it is between peace and prosperity in the dictionary. Income redistribution is legalized extortion.

PacRim Jim said at April 10, 2005 2:04 PM:

Any system organized as a pyramid will allow the people at the top to profit from the people below. Remember, though, many of the people at the top started at the bottom and paid their dues. Also, people at the top pay more than half of the personal income taxes. If work and excellence are not rewarded commensurately, there will be no work or excellence. This system will end soon, though. Nanotechnology will allow the cheap production of highly durable goods, thereby ending material poverty. Biotechnology will improve health and extend life, which will reduce the need for large families and medical care. In one or two generations, we won't recognize the system. Our system is moribund, so DO NOT EXTRAPOLATE IT INDEFINITELY INTO THE FUTURE.

GUYK said at April 10, 2005 2:34 PM:

I wouldn't bet everything I had on it, Jim. No doubtthe world as we know it is going to change drastically. Hell, it has changed drastically during my life of 63 years. But, incentive to produce is still incentive to produce. Even under the Soviet system those who made things happen such as engineers and scientists were paid more according to their abilities than their needs. I can't visualize any economic system other than tribal socialism where it would be any different. It is just human nature to want to keep what one produces and human nature for others to covet what others have produced. It was even one of the commandments of Moses- something about 'thou shalt not covet' I'm sure ole Moses wasn't talking about the neighbors wife because he threw another commandment in about that also.

The point is that income redistribution is about greed-but not the greed of those who have earned it but those who have not and demand a share of it.

Randall Parker said at April 10, 2005 4:18 PM:

PacRim Jim,

Yes, some day government-funded retirement will be obsolesced by rejuvenation therapies. However, I think we are going to go through a period of a couple of decades of rising taxes before we start to see developments provide substantial relief.

PacRim Jim said at April 10, 2005 5:11 PM:

I'm not touting a future paradise. I'm just saying that things will be relatively better for the poor. (I do believe that poverty will be eliminated worldwide in this century.) All improvement will be relative. One hundred years from now, people with homes only on earth will be thought paupers.

crush41 said at April 10, 2005 5:24 PM:

Randall,

On Guido Tabellini's homepage there is a link to his paper entitled: "Finn Kydland and Edward Prescott's contribution to the theory of macroeconomic policy" but I'm having trouble accessing it.

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As for everyone having the same wage and whether they'd hire workers: Yes, they still would have motives to hire others because of the specialization of labor. Are you going to drill your own teeth or do an operation on yourself? Extremely
highly unlikely.
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I understand people would hire out for work they simply were unable to perform on their own. But for the vast number of services that can be self-provided, it would be economically detrimental to pay someone else (assuming there is even a 1% tax in the equal-wage scenario) to do it. Of course it's not logical to even suppose such a system could exist short of some central body forcing it upon the populous, because almost no one would be willing to undertake the more difficult tasks like brain surgery if they could earn the same reading books at a low-volume convenient store.

That extreme illustrates how the opposite extreme--enormous variations in wages--leads to the most economic activity. A vibrant economy that provides every service imaginable creates a desirable destination for foreign brainpower. I'll never forget a couple of years ago talking to two marketing professional Indian friends of my dad who told me that people come to America not so much for the money as for the lifestyle and the environment. Not sure how empirically true that is, but it makes sense to me.

I don't see the danger in the rich getting richer so long as the poor don't get poorer. It seems to me the economic gap is often spun to make it seem like it's becoming ever-more-difficult to put food on the table for those on the short end of the stick. Also, with more than half the US owning stock in one form or another, much of the increase in wealth is not recorded in wages or income.

GuyK,

There is a movement for a national sales tax and it's called exactly what you said it should be called--the fair tax. (http://www.fairtax.org/) In my area there are a couple guys who basically do an infomercial for it every weekend on the radio.

Wes said at April 10, 2005 5:27 PM:

Very good article Randall, stimulating food for thought. I've wavered in both directions on this issue, as there's a sort of happy medium here that's very difficult to reach. On the one hand, I definitely agree on the unsustainability of the system in much of Europe. Not just European countries' high taxes but their, in many cases, relative failure to reward hard work and high achievement-- a classic quasi-socialist distrust of "elitism"-- creates a disincentive to accomplishment, plain and simple. A mature society does strive for egalitarianism and a desire to take care of their least fortunate members, it's true, but this is not mutually exclusive with something just as important: rewarding ambitious, entrepreneurial people and encouraging an entrepreneurial spirit. Places like France, Britain, and Italy with these semi-socialist systems are removing many of the spurs that actually make an economy grow. (Germany's somewhere in between the US and rest of Europe; eastern Germany is stuck in a socialist miasma almost as bad as Russia and drags down the country's overall numbers, while the West is much healthier economically and more resembles the United States.) It's especially ridiculous that they start exorbitant government pensions for well-off people in their 50's and allow them to retire; frequently, these days, it takes 30-35 years just to get trained in a profession, and we can't have these mass retirements of trained professionals so early. (This is also a reason why old-fashioned, basic aging of the population may itself be catastrophic and incompatible with modern requirements for education and professional training-- but that's a topic for another thread.)

OTOH, it's also possible to suffer big-time economic losses from overwork, especially when (particularly in modern times) there's downward pressure on the wages of professionals, such as computer programmers, and dwindling financial rewards for such skills. The health of workers in the US is shockingly low compared to Europe and for an industrialized country like our own, in general. In hospitals and clinics I've seen scores of people who were pushed well beyond sensible limits and just wound up burning out; they get hypertension, coronary artery disease, and obesity (no time to exercise), and are more prone to alcohol and substance abuse, than European counterparts. With declining physical health, their contribution to the US labor force and tax base obviously decreases and they often have to leave the workforce prematurely, sometimes winding up in bankruptcy (which, of course, is disastrous both for the individual worker and the labor force in general). There tends to be less of this in Europe. Also, in a statistical abstract recently (sorry don't know the source offhand) there was a reference that European efficiency (tasks completed/hour) was in general higher than in the USA. Of course, American productivity per worker is still much higher since we work so many more hours, but again, the question is whether many places are hitting diminishing returns. I've been at sites before where the workers are so damn exhausted, pushed to the brink by employers, that they hardly get much done in any given day. They're not lazy and they're not goofing off, they care about their jobs and good performance; they're just physically wrung dry. It's even worse in classic "cutthroat" environments where burnout levels are ridiculously high-- definitely a tax on productivity.

The ideal economic system is somewhere in the middle, one that's creative and flexible and does its utmost to get quality work from employees and reward it w/o driving workers into the ground physically and mentally, which shuts down otherwise productive workers. In part b/c of this I have mixed feelings about the whole outsourcing and offshoring trend. I do agree with some outsourcing defenders that there's a good deal of foreign insourcing that gets underreported. OTOH, as Robert Samuelson himself wrote a few months ago, I worry that it's a basically unsustainable pressure for an employment system that, for all its shortcomings, has so ideally rewarded hard work as our own. Computer programmers, engineers, and other US professionals who are being hardest hit by outsourcing-- these people tend to be the most diligent, among the best educated, and the folks who, back in high school, college and graduate school, postponed immediate gratification for the promise of higher wages and respect down the road. If they see meager rewards upon completing their training, and think they're being treated like dirt (while being saddled with +$200,000 educational loans), this might have a corrosive impact here. It's very difficult to get people to spend decades working incredibly hard to train themselves with specialized technical skills; you have to give them a reasonable expectation of substantial financial remuneration at the end of the road in return for their deferred gratification during those early years. If such rewards aren't present, otherwise promising engineers, computer specialists, scientists, and other crucial technical workers will just say "F--- this; I'm quitting this thankless major and heading to the keg party tonight." Remember, while engineers in other countries might be earning only 10-20% of Americans' wages, their cost of living there is also only about 5-10% of that in the USA (or less), plus they don't face the mountain of educational debt that we do here. I don't know a solution offhand, but we can't just leave such driven people hanging out to dry after they've completed their unbelievably lengthy education.

Randall Parker said at April 10, 2005 6:08 PM:

Wes,

I'd be more convinced by some of your arguments if you had empirical evidence to back up your assertions. For example, how sure are you that Americans are fatter than Europeans? See my recent FuturePundit post "Euopean Obesity Rates Surpassing American Levels".

Where is your empirical evidence for lower health for American workers? I am unconvinced.

As for Americans working harder: Not exactly. I didn't include this in this post above (basically I forgot I'd read it and now I'm too busy to Google up a reference) but some economists claim that in at least some Europeans work as many hours but they spent more time working for themselves in non-paying activities. So, as per my example, they are more likely to paint their own house or fix their own car. This also means that the per capita GDP comparisons might overstate the difference in American and European living standards. But the overstatement is pretty small as shown by comparisons of housing sizes and other comparisons (even people in Mississippi have higher living standards than Germans). Those extra hours working for oneself are not nearly as productive as hours spent in more organized work environments for which one is better trained and for which one has better capital equipment.

European versus American efficiency: I can see that you did not click thru and read Prescott's paper. He's got a chart on that. No, Europeans are not more productive.

Euro versus American productivity comparisons are difficult to do in any case. The least productive Euros are far more likely to be unemployed (or in the case of the Netherlands or Sweden incorrectly classified as disabled) and living on the state. If the least productive Americans were pulled out of the labor market by higher minimum wages combined with better social benefits the average productivity of actual workers would rise.

crush41 said at April 10, 2005 6:23 PM:

Wes,

Higher unemployment is naturally going to lead to higher productivity per worker as the least skilled workers will be removed from the mix and stopped from pulling down the average. Even so, the higher productivity in Germany and France is very negligible--in the UK, where people work longer hours, the productivity rate is lower than the US. And even so, US total output per worker is much higher than in the those EU countries. If the later hours are somehow noticeably less productive, they obviously still beat no production at all.

However, powerful unions make this occurence in Europe almost impossible. Higher tax rates lead to higher unemployment which leads to more capital investment relative to labor investment which leads to lower marginal return on capital (encouraging people to turn towards foreign investment) which leads to less growth. Consequently I don't see how they'll ever get out of the perpetual economic slump.

crush41 said at April 10, 2005 6:25 PM:

Should be "higher tax rates -> higher unemployment AND more k relative to l"

Bob Badour said at April 10, 2005 11:59 PM:

Wes,

Productivity is economic output per hour of work. Working more hours does not in any situation increase productivity unless you are somehow saying that those extra hours worked are much more productive than the first hours worked. Somehow, I doubt you are saying that.

Bob Badour said at April 11, 2005 12:07 AM:

Wes,

Having worked for a German company, I find some of your ideas about Germany strange. I noticed an apparently very high rate of alcoholism among Germans when I was there, and far from rejecting elitism, I found Europeans embrace aristocracy and hierarchy even in business. Perhaps especially in business.

Dan said at April 11, 2005 10:37 AM:

Excellent topic Randall I had the first post on this topic and there have been a lot of interesting comments. I have a couple of comments; First GUYK on his statementthere are no chemical engineers unemployed. If this is slightly streched to include food chemists it is false I know a ffod chemist with 30+ experience and degrees from top progrsms who is unemployed and cant find a job. One personal obesrvation from spending time in Eutope, the restaurants are jammed the the shops are well stocked with trendy merchandise and people including blue collarworkers are always traveling, if this is a "decining" economy Ill take it anyday. The "high grqwth economy" semms to me to generate little but low paying jobs. I am not advocating "conficatory taxation" but upper income people can and must absorb higher taxes than the current rste. (Note I did not say like them.) As far as paying for the retirees, its got to be done and will br done and higher taxes will be a major part of the solution. As stated above there is no such thing as aa free lunch so lets just bite the bullet and pay the bills. Dan

Randall Parker said at April 11, 2005 11:06 AM:

Furthermore on European health: I'm too busy to google it up but don't the Germans, French, Italians, etc all smoke like chimney stacks? It is my impression that the rate of smoking is much higher in European countries than in the United States. Am I wrong?

Invisible Scientist said at April 11, 2005 12:05 PM:

Europeans do smoke like chimney stacks, and and they also do drink like fish. I overheard an Austrian citizen say that "Unlike the Americans who worry about every kind of disease and ruin their emotional lives with all sorts of fears, we the Europeans enjoy what we enjoy, and when it is time, 'we just check out' without complaining".

I am not saying that he is right, but this is the way they live over there. But in any case, the French do know how to have fun when they have fun.

Jim said at April 11, 2005 12:23 PM:

what is your opinion about shifting some of the tax burden from earnings to estate taxes? - lower the top marginal rates, but increase the estate tax.... people can stop working, but they can't stop dying (although they could stop saving up so much $$ for their kids. their kids didn't earn it anyhow, and having less inheritance would encourage them to work.)

GUYK said at April 11, 2005 1:58 PM:

Estate taxes=death taxes. It is bad enough for the government to legally extort income from business and individuals for income redistribution. A death tax just adds to the problem and takes away the incentive to amass any wealth other than for personal needs. I do realize that I can't take it with me when I croak but I damn sure want to be the one who determines who gets it. I am the one who earned it, saved, paid taxes on it for years, and I want to be the one to cut some out of the will and put others in. Not the government.

DAN: I also know people who are unemployed but not because they can't find a job. They just can't find the job they want and in most cases they can't find the job that pays the money they want. Keep in mind that if the whole world had PHDs some would still be at the low end of the pay scale.And why should upper income people pay a higher rate of taxes than they pay now? Because they have it? And because someone else needs it? If you stick a gun to my head and rob me and give the proceeds of the robbery to someone else you will go to jail if your caught. The liberal media might cite you for bing Robbing Hood but you stiull have broken the law. However, this is what you are advocating. Theft by majority rule. The problem with this is that the time is coming when there will be no more for the majority to rob. When those who are producing finally get tired of supporting more and more who do not want to produce they will quit producing any more than they need for their immediate use. Some have already done so,myself included.Yes, I am selfish and proud of it. I take care of myself and mine and if I have a little left over I may donate it. It finaaly dawned on me that the more I produced the more the tyranny by the majority was going to take. The only way to beat those who think as you think is not to produce.Lots of luck in the future when you discover that someone who used to pay for your free lunch is no longer willing to do so.

crush 41: I will support a national consummer tax provided there are no income nor business taxes on profits. I have no problems with various use fees and licenses. However, Canada and Europe have both a national consummer tax and income tax. And they still have a problem obtaining sufficient funds to support their welfare states. I am afraid that this would happen here as well.

crush41 said at April 12, 2005 9:13 AM:

Invisible,

Cigarette and alcohol use is higher in Europe, but the US has a much more severe drug use problem. And European countries that are more like the US trend in the same way (the UK for example). To go along with your Austrian anecdote, is this because the detrimental effects of drug use are less documented and understood than that of cigarette/alcohol use? Thus, being less "existential" and more attuned to health, we are more inclined to use drugs and less inclined to smoke/drink?

GuyK,

Having both taxes would be disasterous as the biggest benefit of a national sales tax for commoners is the hassle and money that is saved each April by not having to file income tax returns. I doubt fairtax supporters would go for that, just like private account supporters are not likely to go for private accounts if they are added to the existing social security structure, as some Democrats have suggested, because that would defeat the purpose--cutting down social security over time.

Jim,

The system currently benefits wealthy people more than high income earners--the latter is much more easily taxed. An increased estate tax (such as what will take effect in 2011 if nothing is done) will punish people for saving. However, if income taxes were equally decreased, it would probably spur economic growth. Still, it seems to me that we need higher saving rates, not lower ones.

Invisible Scientist said at April 12, 2005 11:41 AM:


"Cigarette and alcohol use is higher in Europe, but the US has a much more severe drug use problem. And European countries that are more like the US trend in the same way (the UK for example). To go along with your Austrian anecdote, is this because the detrimental effects of drug use are less documented and understood than that of cigarette/alcohol use? Thus, being less "existential" and more attuned to health, we are more inclined to use drugs and less inclined to smoke/drink?"
------------------------------------------------------------------------------

Perhaps we the Americans are more inclined to use narcotics and other drugs because we are more individualistic and hence more isolated in life. The French and Italians are more social in character, and so drinking and eating is enough for them, in comparison to the Brits and the Americans who are more isolated due to individualism. Switzerland also has a horrible heroin problem, due to the lack of social life in many regions of the country. When you are unsuccessful in the United States, you have very few friends, but this is not the case in most European countries. I like the United States better than Europe, but with every place there is something right and wrong.

Dan Morgan said at April 12, 2005 8:36 PM:

What is needed is to begin a rapid transition of both Social Security and Medicare to personal savings accounts. Both savings accounts can be converted to annuities at retirement, one used to live on during retirement and one used to buy private health insurance. Then each worker in each generation pays his or her own way. Generational equity is achieved, one generation does not rip-off the next. And the looming financial problems than Samuelson describes can be avoided. See: http://nospeedbumps.com/?p=70

Jim said at April 13, 2005 8:17 AM:

guyk - thanks for bringing me up to date on karl rove's strategic vernacular on the topic of estate taxes (=death taxes)

crush41 - comparing an estate tax vs. income tax (i obviously don't like either, but the gov't will take $ one way or another, so i think it's most constructive to compare taxes) the majority of rich people are rich because their parents are rich, and once you're rich then your income is mostly from investments, savings, etc. savings are taxed at a relatively low level. why should a fortunate son get to inherit billions of $ for doing absolutely nothing besides being born to the right family not be taxed on this unearned income? wealth is already accumulating at the top in our economy.

whereas when you're a young person working at a high-paying job who is not from a wealthy family, then you probably have negative wealth (read student loans) but the highest taxes possible in our current system. it is that type of person who is most valuable to our economy because obviously he/she must have gotten there on merit.

t. heinz-kerry reported to have an effective tax rate below 15% while her husband argued for raising income taxes on the highest-income americans who already suffer from more than twice that, such as our proverbial industrious genius above.

regarding your comment about the effect of estate taxes on savings - that is a very important point against estate taxes, imho, and maybe that effect could be balanced by a moderate sales tax. i could envision a blend of all three taxes that is probably optimum for our economy, and my preference would be for higher estate and sales to lower income taxes.

crush41 said at April 14, 2005 9:41 AM:

Jim,

It's the tax conundrum. We want people to be able to build wealth and we want them to be able to hang on to it. Any tax is going to be detrimental to at least one part of that equation. You're probably right on blending them to some optimal formula. My resistance to allowing the estate tax to shoot back up in 2011 (which the House will not let happen, but the Senate probably won't allow the tax to be annihilated either) is that there will likely be no income tax reduction to offset this, and we will have higher overall tax rates.

Bob Badour said at April 14, 2005 4:12 PM:

Resist any effort to introduce another tax even if the politicians claim to reduce another tax to compensate. They will only raise all the taxes later.

Jim said at April 15, 2005 2:19 PM:

I'm with you on that one Bob. it does make it hard to have an honest discussion of relative advantages of one tax over another though - what's your perfered tax blend (estate/income/sales/corporate)?


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