Taxes — not lonely enough at the top?

Bruce Bartlett offers a fine economic history lesson on the U.S. top marginal tax rate. Most people know that the top rate has changed quite a bit over time. (For those keeping score: 91% from WW2 to the early 1960s; 70% till the early 1980s; 50% for most of the Reagan administration; 28% in the late 1980s; raised to 31%, then 36%, then 39.6% in the early 1990s; lowered to 35% in 2001). Bartlett compares the top tax rate with the economic growth rates during those intervals and finds basically no correlation. That, too, is not really news (and a more careful study would take other factors into account).

What is striking, however, is how the threshold level of income for the top rate has changed over time. The original income tax, at the height of the Progressive Era during the Wilson administration, set the threshold at $500,000, which is not only higher than today’s $374,000 but was in 1913. The price level has increased more than 20 times since then; adjusting for inflation, the 1913 top tax rate kicked in at $11 million.

The famous tax cuts engineered by Harding-Coolidge-Hoover Treasury Secretary Andrew Mellon in the 1920s lowered that threshold considerably (to $100,000, or $1.2 million in today’s dollars) but in real terms left it still well above today’s. Pres. Franklin Roosevelt raised both the top tax rate and the threshold to sky-high levels (79%, and a threshold that would be $80 million in today’s dollars and may have only affected one person; some called it “the Rockefeller tax”).  The threshold fell to $200,000 (equivalent to about $3 million today) during WW2 and basically stayed there till the early 1980s. The “Reagan tax cuts” of 1981 lowered the threshold to $85,600 (not quite $200,000 today). The Tax Reform Act of 1986, which Reagan signed, flattened the tax system further, with a top rate of 28% that kicked in at just $30,000 (about $50,000 today). The “Clinton tax increase” raised the threshold from $86,000 to $250,000, and inflation adjustments have raised it to $374,000 today.

Notice a partisan pattern here? It’s no secret that Republicans think the rich are overtaxed and Democrats think the rich are undertaxed, but the discussion almost always focuses on the top tax rate. What’s often missing is just where the definition of “rich” begins. In the historical record, Democrats (Wilson, Franklin Roosevelt, Clinton) have tended to set the top tax threshold high, whereas Republicans (Harding, Reagan) have tended to lower it. Much of this comes down to different notions of fairness: Democrats tend to favor a progressive income tax in which richer people pay a larger share of their income and poor people pay little or none; Republicans tend to favor a flat income tax (or no income tax), in which everyone pays the same marginal rate. Having the top rate kick in at very high levels of income tends to go hand in hand with a multiplicity of different tax rates and a highly progressive tax structure, whereas having it kick in at low levels of income means a much flatter tax.

Ever since the “Bush tax cuts” of 2001 were passed, many Democrats have talked about raising the top tax from 35% back to 39.6%, but until recently I’d  heard surprisingly little talk about raising the threshold.This was surprising to me, because, as Bartlett points out, many people do not regard $250,000 or even $374,000 as particularly rich — at least not if, say, you live in New York City and have a family of four. It’s rather unclever politics to talk about raising the top rate without reassuring upper-middle class people that you’re not going to raise their taxes too. Republicans, with clever simplicity, typically truncate “tax increase on the wealthy” to “tax increase,” implying that it’s a tax increase on everybody. Lately Pres. Obama has called for raising the threshold to $1 million, so that people making $374,000-$999,999 would still pay 35 cents on their last dollar of income but people would pay 39.6 cents on every dollar of income above $1 million.

It is still debatable whether raising anyone’s taxes in a depression is ever a good idea, but ideally whatever major long-term deficit reduction plan Congress passes will go into effect only when recovery is well underway and unemployment is down to, say, 7% or less. When that happens, I agree with Bartlett that raising revenues efficiently and equitably will entail raising taxes on the top brackets (either through raising rates or, better yet, closing loopholes) and raising the top tax threshold.

Jobs, jobs, jobs, stimulus, Depression

It’s been noted that President Obama used the word “jobs” more times (29) than other word in last night’s State of the Union address.  Much of that was in connection with a jobs bill that he plans to introduce, and about which he mentioned a few reasonable-sounding specifics.  But indications are that he and his party will try to do this one on the cheap, rather than open themselves to the “big spenders” charge or the predictable cries of deficit scolds who think there’s nothing wrong with the economy that a good bloodletting won’t cure.

And, according to polls, last winter’s American Recovery and Reinvestment Act (a.k.a. the stimulus bill) is unpopular.  It was too small to make much of a dent in the massive unemployment crisis, and the continued high and rising unemployment has led many to conclude, by that famous fallacy post hoc ergo propter hoc and with the encouragement of countless politicians and talking heads, that the stimulus actually caused the rise in unemployment.  Brad DeLong has an excellent column on “America’s Employment Dilemma” right here.

Some on the right have likened the Obama stimulus bill and the still-high unemployment to the New Deal jobs programs and the Great Depression:  the argument is, if they didn’t end it, then they must have caused it.  (Which is kind of like blaming Doctors Without Borders for an earthquake.)  Others make the less extreme but still ridiculous argument that because unemployment is still high, the fiscal stimulus must not have created a single job.  (Which is hogwash — Prof. Menzie Chinn of Econbrowser shows that private studies by IHS/Global Insight, Macroeconomic Advisers, and Moody’s Economy.com estimate that the stimulus has created 1.1 to 1.6 million jobs to date, and Chinn himself estimates that the number may be more like 2.9 million.  It’s wonkish stuff, but worth a look.)

Anyway, here’s an unpublished letter I wrote a few weeks ago to USA Today in response to a letter that made that bogus argument about how those New Deal programs that employed millions somehow didn’t employ anybody:

Barack Hoover Obama? (updated Dec. 4)

The administration has apparently ditched Keynesian economics in favor of Philistine economics, calling for a domestic spending freeze or even spending cuts in the midst of double-digit unemployment.

The Associated Press has the story here.

Focusing on deficit reduction during a depression did not work for Herbert Hoover in 1932, and I’m at a loss to see why Obama’s economists are embracing spending cuts now.  The article does quote budget director Peter Orszag as saying cutting spending too fast could undermine the recovery, so I can only hope that they do not mean to make these cuts until recovery is well underway.  (Then again, the article implies that Obama’s budget next February will ask every agency for spending freezes or 5 percent cuts.)  Given the dim prospects for a rapid recovery, the economy may not be ready to absorb any deep spending cuts for many years to come.

Perhaps a better analogy than Hoover in 1932 is Franklin D. Roosevelt in 1936-37.  At that time the U.S. economy had been recovering for about four years (after bottoming out in early 1933) but was still in depression, with unemployment above 9%.  But FDR, deciding it was time to focus on the budget deficit instead of the economy, cut spending and raised taxes (as the Fed doubled bank reserve requirements to soak up the vast excess reserves out there — which also sounds like a recent conversation), and the economy nosedived.  Had FDR and the Fed been less leery of deficits and excess reserves, the depression might not have lasted until World War II.

UPDATE, 18 November 2009:  Edward Harrison of Credit Writedowns, writing on the Naked Capitalism site, makes a similar argument with a lot more detail.

UPDATE, 21 November 2009: Krugman has an excellent piece on the matter here, and a “wonkier” one on deficits and interest rates here.

By the way, I changed the heading from “Barack Hoover Roosevelt?” to the current one, because FDR is so widely associated with pro-active steps like the Works Progress Administration and other jobs programs, fixing and reforming the banking and financial system, and ending the early-’30s deflation by going off the gold standard.  While his budget-balancing disaster of 1936-37 and his too-small budget deficits in other years show that he was no Keynesian when it came to fiscal policy, I’d be delighted to see Obama commit to policies that created three million relief jobs per year, as FDR did.  The stimulus is creating a fraction of that number, which seems unsurprising considering that the job creation is indirect:  rather than create new agencies to directly employ workers in various projects, the government is handing out money to lucky companies in the hope that they’ll hire people.  The fear of creating new federal government employees seems even stronger than the fear of deficits.

UPDATE, 4 December 2009:  Obama may have talking out of school when he said that last month.  In an interview yesterday just prior to the jobs summit, he said the following:

He ruled out an immediate effort to reduce the $1.4 trillion budget deficit until the economy rebounds further and the 10.2% unemployment rate begins to decline. Focusing on the deficit too soon, he said, could risk a “double-dip recession.”

“If we move too abruptly in that direction and we’re not thinking about all the people out there who aren’t working and businesses who aren’t making money, then we’re going to be in a negative spiral that I think would be very destructive,” the president said.

Instead, Obama said, any additional spending and tax cuts intended to spur job growth should be balanced later with deficit-reduction efforts. “The most important thing we could do for our deficits is to have robust economic growth and have people working and businesses selling products and they’re paying taxes,” he said. “That’s a hole that we can fill.”

On the other hand, he also said, “It is not going to be possible for us to have a huge second stimulus, because frankly, we just don’t have the money.”  Apparently the government jobs initiatives that the article mentions will somehow not involve government money.  Nice free lunch if you can get it.

So what we have is a mixed bag, but I’d say the bag is more empty than full.  While it is a relief to hear the president say that he’s aware that sudden deficit-reduction measures could trigger a double-dip recession, he has yet to retract his earlier remark, i.e, this one to Fox News:

“It is important though to recognize if we keep on adding to the debt, even in the midst of this recovery, that at some point, people could lose confidence in the U.S. economy in a way that could actually lead to a double-dip recession,” he said.

Yes, if in a spontaneous shower of sparks, holders of U.S. Treasury bonds suddenly decided that mid-1990s debt/GDP ratios (like we have now) were completely unacceptable and decided to dump their T-bonds, interest rates would go up and the economy would go south.  Except the economy has already gone south.  And the debt-doomsday scenario (which some people have been predicting for decades) just ain’t very plausible.  What is plausible, and seems to be the consensus forecast of economists, is that unemployment stays in double digits well into next year and even rises (despite the good news for November).  By ruling out any more stimulus spending to counter that unemployment, Obama seems to be ruling in a depression.

Lessons From FDR’s First Ten Days?

Somewhat lost in this week’s media-created milestone of the first hundred days of the Obama Administration, and the inevitable comparisons to Pres. Franklin D. Roosevelt’s momentous First Hundred Days (so momentous that they became a proper noun) is FDR’s even more extraordinary accomplishment in his first ten days:  the resurrection of the U.S. banking system.  Such resurrection, as you may have heard, has so far eluded Pres. Obama and his predecessor.  Are there lessons from how FDR and his guys did it?

First, a quick timeline:  FDR took office on March 4, 1933 (after that, the 20th Amendment moved the inauguration date up to January).  On March 5, he declared the famous “bank holiday.”  On March 9, he got Congress to pass the Emergency Banking Act, to give his administration unprecedented powers over the banks.  On March 12, he gave his first “fireside chat,” assuring people that the banks were about to reopen and would be healthy when they did.  On March 13 (day 10), banks reopened in 12 cities.  By March 16, the administration’s massive audit and purge operation, more than 70 percent of U.S. banks had reopened, while others were closed.

Economic historians are in less-than-complete agreement about the New Deal’s overall macroeconomic impact, with a substantial minority in a recent survey agreeing with a proposition that the New Deal harmed the economy.  But there does seem to be consensus that the bank overhaul was a great success.  Even FDR advisor-turned-harsh-critic Raymond Moley described it in glowing terms.  With the president’s signing of the Emergency Banking Act, he wrote in After Seven Years (a classic among Roosevelt bashers), without sarcasm, “The sequence of bold, heart-warming action had begun.”

The personnel involved in the great bank triage operation, which involved some 15,000 banks (i.e., twice as many as we have now) were various Treasury and Federal Reserve officials, with Secretary of the Treasury William Woodin at the helm.  In Moley’s words:

‘ . . . as I look back at those frenzied days, it seems to me that the country has never quite realized the extent to which Woodin, [Hoover’s Undersecretary of the Treasury Arthur] Ballantine, and, last but no means least, [Hoover’s Acting Comptroller of the Currency F.G.] Awalt helped to restore the confidence of the country by a rapid and unprejudiced approximation of the equities — social as well as financial — involved in each case. . . .’

‘Capitalism was saved in eight days, and no other single factor in its salvation was half so important as the imagination and sturdiness and common sense of Will Woodin.’

Mister, we could use a man like William Woodin again.

(to be continued)