Laffer Curve spotted in the wild again

It always surprises me when people claim that there's no such thing as the Laffer Curve. For the existence of it is simply a mathematical truism, an identity. I'm a little less surprised when people say that OK, there is, but it's got nothing to do with our current tax rates. Surprises me less, but it's still wrong to say so:

This year's budget and increase in stamp duty to 7% above £2m is another example of the folly. Transactions in this price segment have plummeted 50% and the amount of stamp duty realised has actually fallen! Higher rates have produced less. Wealthy people have not been affected one iota. They have either stayed put or bought property outside of the UK. The real victims have been those who will now suffer less government spending because there is less revenue to go around. Where is the social justice in that?

The recent vast increase in cigarette taxes in New York City has also led to falling revenue: not because of falling smoking rates but because of smuggling from other States.

Just as it isn't true that a reduction in tax rates always increases revenue it also isn't true to state that an increase in rates always increases revenue. It really does depend where we are on that curve.

Which leads us to the question of where we are on that curve. The political pressure, that public choice theory thing about tax rates, is that we're always likely to be slightly over the peak of the curve. Politicians are, after all, by definition there so that they can take more of our stuff to do as they wish not as we wish. That's the point of standing for election. They'll continue to push up tax rates until they find that doing so any more doesn't produce any more revenue. Thus the likelihood is that in any mature political system we're going to be just over the peak of that curve: tax rates will have been pushed above that revenue maximising rate.

It's been claimed by very serious people who actually know these things that the current CGT rate of 28% is at that curve peak. Further, that the 45% income tax rate is. I'm not insisting that they are, only that we would expect them to be above it given the incentives to politicians

Which leads us to the really interesting question. For those who say that we should just raise more tax revenue to solve all our problems. Umm, where from? If we're at the Laffer peak then there isn't anywhere we can get more tax revenue from. It's simply not possible. If we're over it then we need to cut tax rates to increase revenue.

Which leads us to the real point. There's some limit to the amount of tax revenue that you can suck out of any given population. When you've got to that point, as I suspect we have, then calling for more tax is not just the usual political silliness, it's actually impossible. Which rather changes the political convsersation, doesn't it?

Zero base tempts Labour

Three years ago I published a book entitled "Zero Base Policy," proposing that the UK needs to examine not just how institutions and practices might be improved, but what their purpose is, and what policies might achieve that purpose.  I wrote:

Government usually continues to do what it has previously done, even in areas where the current policy has visibly failed to succeed.  Sometimes there is tinkering, with government promising "a fresh approach," but in reality offering little more than minor adjustments at the margins.  There ought to be a "zero base policy," under which government would ask in each area what it was trying to achieve, what would count as success, and what policies might conceivably help to achieve that success.

I went through areas such as education, health, the police, drugs, civil liberties and taxation, asking the fundamental question and suggesting policy avenues that could lead to more success than current ones.

It is very refreshing to see front-benchers from the Labour Opposition starting to endorse this radical approach.  First Stella Creasy, and now Ian Murray have given interviews in which the 'Zero Base' approach has featured prominently. 

This is excellent news, and it is just what opposition parties should be doing - using their time out of government to look with fresh eyes at the nation's problems and come up with radical solutions.  All too often governments ask "What is being done and how can we tweak it to improve it?"  A more fundamental question is "What should government be doing, and what policies might enable it to do that successfully?"

Britain faces serious problems, and it is plain to impartial observers that in some areas policy has simply not worked.  The fresh approach of 'zero base' promises new and radical solutions, and its endorsement by some on the Labour front bench is to be welcomed.
 

Why we really do want a carbon tax

I know, I know, climate change isn't happening, it's all been made up. OK, so, for the next few paragraphs let's just assume that it is, we're causing it and also that we need to do something about it. And here's yet another example of what we want and need to do about it is a simple and straightforward carbon tax:

Scottish Renewables said that although the review had reduced connection costs for generators based on the mainland, estimated projected annual connection charges for the Pentland Firth and Orkney Waters area have almost doubled – from £56 million last year to £107m in 2020. Had the affected projects been built in the UK's other Marine Energy Park, in the south-west of England, they would instead receive an annual subsidy amounting to around £2m.

The point here being that connecting the Orkney Islands to the national grid is bloody expensive. Connecting Cornwall to the grid isn't (even if connecting it to the 21 st century still has some way to go). Thus, assuming that we actually want tide and wave power to be used to run washing machines in London we should be connecting up Cornwall and not the Orkneys. This is what prices do for us, give us the information we need to make decisions.

In addition, the increasing capacity of renewable electricity due to be generated in the Orkney waters from wave and tidal projects will require a new, larger grid cable at additional cost. The Government has the power under the Energy Act, as amended by the Climate Change and Sustainable Energy Act, to adjust transmission charges for renewable electricity generators in a specified area in the UK. Stuart called on the Government to use this power, which can be exercised if renewable development in a particular area is likely to be deterred or hindered to a "material" extent by the level of transmission charges that would otherwise apply, for the benefit of projects in the Orkney Islands. "We would like to see the Secretary of State for Energy and Climate Change use his powers to adjust the transmission charges and ensure costs do not deter renewable energy generation in the north of Scotland, home of the world's leading wave and tidal sector," he said.

And there's our problem with the current system. Having given the Sec of State the power to intervene then the political pressure is on the Sec to intervene and ignore prices. And make our solution to climate change ever more expensive for political reasons.

Oh, did I mention that the constituency is the longest held Liberal/Lib Dem seat in the country? The same party as the relevant Sec of State?

As at the top, assume that climate change is happening, it's a problem, we're causing it and we must do something. What we must do is therefore change just one thing, the price of carbon. Instead of this appalling mish mash of regulation and political favouritism that we currently have. For we can see that when politicians have the power to pick and choose they're always urged to pick and choose the method that picks our pockets even more. What's worse, they often agree to do so.

The wrong question

The Liberal Democrats are the latest ones to come up with the wrong answer by asking the wrong question.  They announce (but are unlikely to get) a mansion tax, taxes on wealth, and an additional 100 tax inspectors to scrutinize the returns of "the rich."  They think the question is "How do we get well-off people to pay more taxes?" 

Others have tried to blur in the public mind the important distinction between ordering one's affairs to minimize tax liability, using the provisions the state has allowed for doing so, and not declaring one's income honestly in order to escape paying taxes on it.  The former is tax avoidance and is legal, the latter is tax evasion and is not.

The aim of the people who advocate these things is to raise taxation by having high earners pay more.  Rather than simply raising the rates, as some argue for, the additional aim seems to be one of having HMRC aggressively re-interpret the rules so as to gain more revenue from the existing rates.

The whole question is misconceived.  Instead of asking, "How do we get well-off people to pay more taxes?" we should be asking, "How do we get talented and creative people to generate more business, more growth, and more jobs?"  If they do that, they will broaden the tax base and generate more revenue for the Exchequer, although it will be a smaller proportion of the total economy.

Several studies have shown that government wastes billions of pounds every year on things it does badly and things it should not be doing at all.  Instead of trying to extract more money from successful people to fund this wastage, they should be trying to prevent it happening in the first place.

New attacks on successful people are likely to drive some of them abroad, and to prevent others like them from setting up business in the UK.  We should not be trying to squeeze more revenue from them for government spending, we should be lowering the taxes and regulations that act as disincentives for business development and expansion.  It comes as no surprise that when people ask the wrong question they end up with the wrong answer.

Junk statistics on the carrier bag charge

I was intrigued by an interview on Sky News last week with Tamsin Omond, an environmental campaigner from Climate Rush. A keen supporter of levying a 5p charge on plastic carrier bags, she claimed that in Wales—where such a law has been in force since October 2011—“use of these bags has fallen by 95 per cent.”

This is a remarkable and barely believable statistic and the Sky presenter looked suitably sceptical (see video below from 3 minutes in). “It fell by 95 per cent?!? Over how long a period?” Osmond replied that “because it’s only been in place for a quarter of the year, use fell by 22 per cent over the last quarter...” “So you extrapolate that through?” “Exactly.”

Hmm. That’s quite an extrapolation. If we look at the figures, we can see that the average number of plastic bags used in Wales fell from 9.7 per person in 2010 to 7.6 per person in 2011. This, indeed, is a drop of 22 per cent. Such declines are not unprecedented. Plastic bag use fell by 22.5% in England in 2008, for example (presumably because of the credit crunch), but since Wales was the only part of the union to record a significant fall in use in 2011, it is reasonable to assume that the plastic bag charge played a role.

But does this equate to a 95 per cent reduction overall? To reach this figure, the campaigners have assumed that there was no decline in plastic bag use until the 5p charge came in on October 1st. If so, the annual rate could only have fallen by 22 per cent if the last quarter saw plastic bag use plummet by 95 per cent. They further assume that plastic bag use will remain at a five per cent of the pre-levy rate throughout 2012 and forevermore.

This logic does not stand up to scrutiny. Firstly, the basic maths is wrong. If the levy introduced in the final quarter was responsible for the entirety of the 2011 drop, it would mean an 88 per cent decline in that quarter, not 95 per cent. This would be nit-picking if the other assumptions were sound, but they are not. There is no reason to believe that plastic bag use was not already declining in the previous quarters. In the months running up to the 5p levy, the government, shops and the supermarkets informed the public that the charge was about to be introduced and it is fair to assume that people were already being weaned off free carrier bags to some extent before October 1st.

Moreover, the last quarter of the year is not a typical retail period. The pre-Christmas period is the food and retail sector’s busiest time (see graph below from the Office for National Statistics)  and, therefore, it is the period in which a disproportionately large number of plastic bags are consumed. Doubtless, the plastic bag levy led to fewer bags being used between October and December, but it is wrong to assume that the decline in the absolute number of bags used will continue during quieter shopping months when fewer bags are used overall. That, however, is exactly what campaigners have done.

Looking at the survey data, it seems clear that the 5p levy did not lead to a 95 per cent reduction in plastic bag use, nor anything close to it. Figures from the British Retail Consortium show that “the number of shoppers [in Wales] who said they had used their own bags on their last supermarket trip rose from 61% in September 2011 to 82% by April 2012.”  In other words, the number of people who didn’t use their own bags in supermarkets fell by half. This is all well and good, but it is some distance from 95 per cent. Research from Cardiff University found that “the number of people who always take their own bags when shopping rose in Wales from 27% (42% in supermarkets) before the introduction of the charge to 43% (64% in supermarkets) afterwards”. This is an increase of about 50 per cent and many would applaud it, but it is not congruent with the claimed 95 per cent drop in plastic bag use.

None of this is intended to suggest that the Welsh policy is necessarily misguided. Clearly, there has been a marked decline in plastic bag use which many would welcome. Equally, we know that such laws have unintended consequences, such as the tenfold increase in the sale of black bin bags in Ireland after similar legislation was introduced in 2002. The point is that policy should be based on sound evidence rather than hyperbolic claims from special interest groups. It is easy to bandy impressive figures around, but when one digs a little deeper, they often turn out to be built on weak foundations. Time will tell what effect the Welsh levy has had, but the available evidence suggests that the 95 per cent figure is a junk statistic based on dodgy mathematics and unsound assumptions which should not be taken seriously.

We're all poorer than we need to be: because government

It's one of those definitional little things that causes such problems when you start to unravel it. How do we measure the influence of government spending upon GDP?

The problem is that it's exceedingly difficult to really measure the value of some to all of the things that government does. Thus we simply assume that the effect on GDP of government spending is the amount of that government spending. This is one reason why the Keynesian prescription that the way to raise GDP is to increase government spending "works". Because that's how we've defined it at the start.

However, there are, as we've all noted, certain inefficiencies in having things carried out by the men with clipboards. The accretion of stultifying bureaucracies that market based systems would sweep away. How big is that inefficiency? An interesting paper from the World Bank:

There are obviously glaring differences in the efficiency with which governments spend money on health care, education, roads etc., not only over time in a country, but also among countries. Therefore, as absenteeism of teachers and health workers, overruns in costs of building roads, and other aspects are not taken into account, directly comparing the government part of GDP -- and thus total GDP -- among countries may be misleading. Generous wage raises in the public sector may even be straightly counted as increases in productivity.Grigoli and Ley conducted an interesting exercise. Using indicators of government expenditure inefficiency ("waste") in health and education for a group of 24 countries, and using one of them (Singapore) as a benchmark for best practice, they corrected the other GDPs accordingly to gauge how misleading it is to compare figures obtained through conventional methodologies. On average, meaningful GDP figures should be 4.1 percent lower, with the loss associated with wasted public resources reaching 7.8 percent in Portugal.

4% of GDP is a pretty large number. Near £60 billion: we're collectively poorer by that much here in the UK because we let government run the health and education sectors. Which indicates that it's pretty much a free lunch in getting them to be more market orientated, isn't it?

Yes, I know, there is no such thing as a free lunch: but this is only true when we do not have inefficiency in the system. The eradication of inefficiency is in fact  that free lunch which does not exist.

Cable's business bank is a terrible idea

Business Secretary Vince Cable wants to establish a state business bank to lend to small and medium-sized enterprises. This idea will do business no good, will mess up the finance market, and saddle taxpayers with yet more cost.

There are three reasons why businesses are not borrowing. First, having found themselves overstretched when the crisis hit, they are now doing the right thing and – unlike Mr Cable's government – reducing their debt. The existence of a state business bank is not going to change that.

Second, times remain very uncertain and many firms cannot see many good projects to invest in, so are not actively seeking finance. A state business bank is not going to change that either – though a growth policy of major cuts in regulation and business taxes might.

Third, some SMEs that would like to borrow cannot get credit because the government has told their banks not to take so many risks – and SMEs are inherently risky enterprises. A business bank would simply pass these risks to the taxpayer. And taxpayers have already paid enough.

It is astonishing that Mr Cable believes that he and his civil servants know what SMEs have viable business plans that deserve finance better than professional lenders and investors who live by making these decisions every hour of every day. The only result will be the establishment of a vast new state organisation with all the efficiency of the Post Office, and more bureaucratic control and regulation of the capital markets on which economic growth depends.

Ineptocracy

Just how unequal is the United States?

The US Census has released its update to the figures for inequality in the country. There's the usual sort of reporting about it, including comparisons to inequality in other countries. I've written elsewhere about how this is entirely silly. The US numbers are before taxes and redistribution, everyone else's numbers are after it. Given that redistribution does, umm, change the distribution of income we shouldn't be surprised that the results of the distribution of income are different when measured before and after such redistribution.

But there's one more point that we should consider. Is the US actually more unequal than the European Union? The two economies are about the same size, similar sorts of numbers of people. Yes, 300 million to 500 million, but that's a more sensible comparison than 300 million to the 9 million in Sweden. What I found was that Eurostat itself doesn't, at least as far as I could find, answer the question. What they give is the inequality (or Gini) for each country then just average them. That's not at all the same as the US number, which is inequality among all 300 million of them.

Fortunately, others seem to have done the work. Branco Milanovic for example, who is the World Bank's go to guy on this subject:

The EU27 has caught up in inequality with the United States because of the enlargement towards the Eastern areas of the continent which have significantly lower mean incomes. Thus, in 2007, after Bulgaria and Romania (and previously eight other post-Communist countries) became members of the European Union, the EU-wide Gini coefficient (across all individuals in the area) reached 41 points which is about the same as the Gini calculated across all individuals in the United States. The difference however is that in the former case, most of inequality is driven by mean income differences between the member-states. If we take EU15 the Gini coefficient is only 33, about the same as the median Gini of the fifteen countries and significantly less than US inequality.

That's not entirely and wholly true I think. The post tax and post benefits Gini for the US is more like 38 than 41. And we are definitely talking about post tax post benefit because for market incomes alone many EU countries are alone, let alone across all of them, more unequal than the US.

But even if we ignore those niggles I think that's an interesting result, don't you? The European Union is around and about as unequal as the United States is. We have vast tax burdens and redistributive programs to reduce inequality, in a way that the US doesn't, yet inequality is about the same across the two near continents.

Yes, I'm entirely aware that this isn't an entirely and completely fair comparison. But I do still think that it's an interesting result.

Thankfully there's too few Bristol pounds to do any damage

The loons over at the nef (yes, this local town money comes from them) have managed to get another group of cultists to sign up and create the Bristol pound:

More than 300 businesses – including butchers, bakers, solicitors, plumbers, electricians, book stores, art galleries, a chimney sweep, supplier of firewood, even a pole dancing tutor – have signed up, making the Bristol pound the largest local currency in the UK.

The idea is simple: to encourage consumers to spend more of their money in the local independent shops that accept the one, five, 10 and 20 pound notes and stop money leaking out of the area to faceless multinationals, unknown shareholders or the discredited banking system.

They really are missing the point of this money thing, aren't they? It's so that one can in fact deal with faceless multinationals and unknown shareholders. If all you wanted was a small local economy that didn't trade with anyone outside a couple of miles all you need is some exercise books in which to keep a set of credits and debits. The whole and entire point of using "money" to trade with is to establish something that can facilitate trade with those you don't know and don't know whether you can trust. So I rather think they've missed the point.

What's worse of course is that by limiting trade to a specific area you've limited people to trading for what is produced in that limited area. Which agains isn't the point at all. Once we've accepted the very idea of the division and specialisation (and anyone who has seen a home made bookcase knows that's a good idea) of labour then the only logical boundary to the resultant trade is the entire world. And even that's only because of the absence of anyone anywhere else to trade with.

But fortunately this scheme, for all the column inches The Guardian will give it, is too small to actually damage very much.

The company (motto: Our City, Our Money) has made available £125,000 worth of the currency and thinks in excess of £500,000 will be in circulation by this time next year.

Looking at the Bank of England figures we seem to have £60 odd billion of notes and coins supporting our £1,400 billion economy (rough numbers you understand). So we seem to have around and about a 25 to 1 relationship between economic activity and the physical geld needed to grease it. £500k of this new money will thus support some £12.5 million of economic activity in Bristol over the year. The economy of Bristol is perhaps £9 billion a year at present. We're thus talking about an incredible 0.1% or so of the economy.

So, not really capable of doing much damage to anyone and at least it keeps the hippies happy, eh?