There are some worrying trends I see among Americans and especially conservatives. On many key issues having to do with free market, trade, and economics people seem to be mimicking old liberal arguments (many debunked long ago) and (often inadvertently) end up calling for more government intrusion into their daily life and livelihood.

Much of this, of course, is due to noneducation of the subjects at hand. While I don't profess to be an expert on these matters I am well-read enough to understand that government intervention has both seen and unseen, often unintended, consequences on my family's bottom line. But because the "reforms" are packaged as populism -- things that create a division or dichotomy between "the people" and "the elite" -- in this case "the elite" usually being auto-makers, oil companies, drug companies or politicians and lobbyists.

After all...

Who would be against strengthening campaign finance laws?
Who would be against forcing auto-makers to make more fuel efficient vehicles?
Who would be against protecting the environment?
Who would be against cheaper pharmaceuticals or Canadian drug imports?

But each of these things has often unintended but very bad consequences for the individual consumers and citizens whom have been fooled into believing they need government protection. Each of the "reforms" often more harm individual liberty than they do "reform" anything.

Each new set of campaign finance reform laws, for example, attempt to correct the overreach and consequences of past campaign finance reform laws. The McCain-Feingold campaign finance reform bill was created to correct problems created by the Watergate-era campaign finance reform bills. In it's wake, McCain-Feingold ended up curbing free speech guaranteed to us by the First Amendment (in the form of prohibiting broadcast advertisements that name a federal candidate within 30 days of a primary or caucus or 60 days of a general election). This created a vacuum, explained by Reason's Jonathan Rauch, "filled by private groups that are unaccountable to the voters," also known as "527s." To date, there is more money in politics than before, but like damming water running downhill, the law simply shifted the path to groups with anonymous and often very powerful backers whom do not have to answer to voters.

Next, forcing auto-makers to make more fuel efficient vehicles by raising CAFE (Corporate Average Fuel Economy) standards really only does two things: increased the number of highway deaths due to auto-makers making lighter, smaller cars, and increase the price of cars whose engines really do become more fuel efficient. You'll save at the pump but never enough to make up for the extra money you paid to purchase the more expensive fuel-efficient car.

Protecting the environment? On an almost daily basis I cite article after article showing that the cause of global warming and defining of carbon dioxide as a pollutant has little to do with the environment and much to do with continuing grant funding, justifying new taxation schemes, and empowering those few corporate-NGO blocks who have devised way to make money off the red-herring issue (and faulty science at that).

Finally, I'm going to post Megan McArdle's recent commentary as someone who understands the consequences of the continued demonization of pharmaceutical companies and "progressive" populist demand for cheaper drugs. Socialist medicine, single-buyer healthcare, national healthcare, etc., are really just repacked descriptors by our politicians for a monopsony -- the opposite of a monopoly, a monopsony is one buyer to many sellers.

[McCardle:] Yesterday I wrote:

So the most probable outcome of introducing monopsony power here [in the U.S.] is that the market for drugs shrinks to the point where it will support few-to-no new drugs.
Not to put too fine a point on it, Tom responded:

This seems crazy.
He is not the only one for whom this seems a little nuts. But it is not. Let me explain.

People who think that there will be continuing R&D in the pharmaceutical industry are basically thinking of it as a budgeting problem. They think of the pharmaceutical industry's gross income as a budget to be allocated between various functions, such as marketing and R&D. They may concede that by changing the size of the budget, you may shrink the amount of money to fund R&D, because there will be less money in the kitty. (Though many or most hope that shrinking the size of the pie will force pharmaceutical companies to transfer money from the advertising budget to R&D1). But, their reasoning goes, there will still be money in the kitty; if you allow pharmaceutical companies 1/3 as much gross income, you will get 1/3 as much R&D. Or perhaps they will cut their advertising budgets to zero, and then you will get 2/3 as much R&D. But still, you will get something.

I don't think of R&D as a budgeting problem; I think of it as an investment problem. After all, even if the pharmaceutical industry has no profits right now, they can borrow the money in the financial markets at fairly attractive rates.

The main obstacle to R&D, then, is not the current state of pharmaceutical industry profits; it is the potential return on the investment in R&D. After all, Merck doesn't have to make drugs; it could generate a nice, safe return of 5% a year in government bonds. Or it could get into some other business, such as making soap. If you drive down the profits on new drugs too far, it stops making sense to invest in new drugs, even if there is a small profit to be made on current production.

Developing new drugs is very, very risky. Depending on what you think constitutes a drug candidate, somewhere between one in one thousand, and one in ten thousand drug candidates makes it from a lab bench to clinical trials. Each of the failed drugs was very expensive, particularly if it got partway through clinicals, which run about $500 million per course.

The problem is, once you've developed a drug, it's easy to copy. It's also usually trivially cheap to produce. And your patent is rapidly running out. This gives a monopsony buyer a lot of leverage to force down your price--you're almost always better off taking something. This is particularly true if the monopsony buyer has the power to break your patent and license its generic manufacturers to turn out cheap but near-perfect imitations of your product2. This is, in fact, what Europe has done; they make pharmaceutical firms sell to them at cost plus. The lion's share of the profits on any drug come from the United States; what they get in Europe and Canada and the rest of the world is (thin) gravy, a price that is just a little bit better than not selling any drugs there.

Now imagine that America drives drug prices down to that sort of "cost+10" or "cost+20" level. The pharmaceutical firms will keep making the drugs they already have, because there will still be a little profit there. But they would have to be psychotic to invest billions of dollars over a 20 year time horizon in exchange for a one in a thousand chance of making that small a profit. Would you put 20% of your income now into an investment that might yield a profit of 10% of your income--in thirty years?

But they have to invest in R&D, say my interlocutors; otherwise they won't have any drugs to sell! This makes the odd assumption that they can't do anything else. But history is full of companies that used to do something else entirely--and also, of companies that went out of business when their market collapsed.

1 This belief is wrong, for reasons I will explain in another post.

2 The patent threat seems to be the most plausible reason that pharmaceutical firms do not raise Canadian prices to US levels.

Labels: CAFE, campaign finance, civil liberties, Economics, free markets, healthcare, mccain, Oil, pharmacy, supply-side, taxes, the moderate trap

Fred Thompson has a great idea...

Fred Thompson's Presidential campaign has been struggling, in part because of a sense that he lacks passion and an agenda. But late last week he unveiled a tax reform that is more ambitious than anything we've seen so far from the rest of the GOP field.

Mr. Thompson wants to abolish the death tax and the Alternative Minimum Tax and cut the corporate income tax rate to 27% from 35%. But his really big idea is a voluntary flat tax that would give every American the option of ditching the current code in favor of filing a simple tax return with two tax rates of 10% and 25%.

Mr. Thompson is getting aboard what has become a global bandwagon, with more than 20 nations having adopted some form of flat tax. Most -- especially in Eastern Europe -- have seen their economies grow and revenues increase as they've adopted low tax rates of between 13% and 25% with few exemptions.

The main political obstacle to such a reform in the U.S. has come from liberals, who favor punitive taxes for "class" reasons, and K Street corporate lobbyists who want to retain their tax-loophole empires. The housing and insurance industries, states and localities, charities, bond traders and tax preparers are all foes of low tax rates.

That's why the idea of a voluntary flat tax -- introduced on these pages a dozen years ago -- makes political sense. The Thompson plan would allow taxpayers to keep their mortgage and charitable deductions if they prefer, by adhering to the current tax code and rates. But it would also allow the option to abandon those credits and deductions except for a single allowance based on family size ($39,000 for a family of four). Most taxpayers would pay a 10% rate on income above that allowance, with a 25% rate kicking in at $100,000 for a couple. There would only be five lines on the tax form and most taxpayers could fill it out in minutes.

Liberals are already objecting that the plan is not "paid for," by which they mean it doesn't raise taxes the way they hope the next President will. But Mr. Thompson is right in refusing to play by the "static revenue" scoring game that demands that one dollar in estimated tax cuts be offset by one dollar in estimated tax increases somewhere else. "The experts always overrate the revenue losses from tax cuts," Mr. Thompson says, and history supports him going back to the Mellon reductions of the 1920s, the Kennedy tax cuts of the 1960s, the Gipper's in the 1980s, and this decade's success with President Bush's reductions.

Mr. Thompson's plan is based on one introduced by GOP Representatives Paul Ryan and Jeb Hensarling that is in any case not designed to lose revenue. It is intended to allow federal receipts to grow at the rate of the economy, which would leave them at some 18% or 19% of GDP -- roughly their average of recent decades. When critics object to revenue losses, they are really saying that the tax share of GDP should be allowed to rise to 20% and higher, which is where we are headed if the Bush tax rates expire.

We'd prefer a flat tax with one rate instead of Mr. Thompson's two. Once the concession is made that richer people should pay a higher tax rate, the political temptation is always to raise the rate on the wealthy. The virtue of the single-rate flat tax isn't merely its efficiency but also its moral component: It treats all taxpayers equally. If a person makes five times more money than his neighbor, he should pay five times more taxes, not 10 or 20 times more.

However, what's refreshing about the Thompson plan is that it goes well beyond the current Republican mantra to make "the Bush tax cuts permanent." That is certainly needed, but the GOP also needs a more ambitious agenda, especially with economic growth slowing. The flat tax has the added political benefit of assaulting the special interests who populate the Gucci Gulch outside Congress's tax-writing committee rooms. Lower rates and simplify the tax code, and you instantly reduce the opportunities for Beltway corruption. It is both a tax policy and political reform.

The two apparent Republican front runners, Rudy Giuliani and Mitt Romney, should be paying attention. Both have called for tax cuts in general but have dodged any endorsement of the flat tax -- presumably because they think it is too politically risky. The politically calculating Mr. Romney has questioned whether the flat tax is "fair." Mr. Giuliani is more open to the idea, saying the flat tax "would be a lot easier. It would probably bring in a lot more revenue and it would not have some of the burdens on the economy that the massive tax code has." That's right, so why not go all the way?

Mr. Thompson's voluntary proposal is one way to deflect some of the inevitable political opposition. Anyone who prefers the current tax code can stick with it. The rest of us can have a better choice.

Labels: Economics, supply-side, tax cuts, taxes

The Washington Post has a surprisingly good article contrasting political rhetoric to reality on the topic of income tax and wealth. Democrats have long used the "rich" scapegoat to score easy political points with their constituents. The Washington Post asks, in summary: Yo! Define rich!

Barak Obama's answer is kind of scary, I think.

Who's rich? Who's middle class? How can you tell the difference? By the "upper class," do we mean the yacht-club set, the ascot-wearing folks with the Thurston Howell III lockjaw diction and the monogrammed jodhpurs? Or does the upper class include all those harried, two-income suburban families who somehow burn through 200 grand a year and fret about orthodontic bills?

Class, always an awkward topic in the United States, made a rare cameo appearance at a recent candidates debate in Las Vegas . The two front-running Democratic presidential contenders, Sen. Barack Obama (Ill.) and Sen. Hillary Rodham Clinton (N.Y.), sparred over tax policy and quickly got entangled in the question of whether someone making more than $97,000 a year is middle class or upper class. That's upper class, Obama said. Not necessarily, suggested Clinton.

The exchange between Obama and Clinton began when the senator from Illinois said he was open to adjusting the cap on wages subject to the payroll tax. That's the tax that the government prefers to call a "contribution" to Social Security. Under current law, a worker pays a flat percentage (and employers match it) of wages up to $97,500. Wages beyond that aren't taxed.

Clinton responded by saying that lifting the payroll tax would mean a trillion-dollar tax increase, adding that she did not want to "fix the problems of Social Security on the backs of middle-class families and seniors."

Obama replied: "Understand that only 6 percent of Americans make more than $97,000 a year. So 6 percent is not the middle class. It is the upper class."
It continues shortly. But let's pause for a moment to think about Obama's answer and "Understand" that married couples file jointly, and thus two persons making $97K a year (or $48.5K each) would be considered "upper class" and worthy of Obama's highest tax bracket!

Even so. The notion that making $97,000 a year makes one "upper class" is infantile. It reminds me of being in college, thinking like a kid, that a first job of, say, $25K would allow me to buy a new car and have X thousand dollars remaining. The world of expenses and debt just don't work like that, senator. One can be making $97K and under certain circumstances -- say running their own business, or contracting -- not saving any money, be unable to make their next mortgage payment, etc.

Obama's answer is particularly silly given that the IRS doesn't bill you based on cost of living indexes or location.

The Washington Post, much to their credit (perhaps to give benefit to Ms. Clinton), expands upon that:

As for how people see themselves, location is key. Is Clinton right that firefighters make the kind of money mentioned in Las Vegas? Yes, sometimes, in some places. According to the Web site FactCheck.org, the base pay of a New York City firefighter with five years' experience is $68,475, but with overtime and holiday work, the same firefighter can make $86,518. A city fire captain can make $140,173 with overtime. Most school superintendents in New York state make more than $100,000.

Online calculators allow anyone to make an instant city-to-city cost-of-living comparison. One such Web site calculates that someone making $97,500 in Washington could live just as comfortably on $67,846 in Ames, Iowa.

The three richest large counties in the country are in the Washington suburbs: Fairfax, Loudoun and Howard. A recent survey showed that 43 percent of people in the core counties of metropolitan Washington live in households with incomes of at least $100,000 a year.

Median household income in America in 2006 was $48,201, which, adjusted for inflation, is lower than it was in 1999.

Edward Wolff, a professor of economics at New York University, thinks that the middle class in a major city includes people in households with incomes from $40,000 to $100,000. From there, up to $200,000, people are "upper middle class." They all have difficult financial issues to contend with, from health-care costs to college tuition.

"Financial stress: That's the key ingredient," Wolff said.

People making $200,000 to $350,000, he says, could be considered rich, but they still have to slog to work every day. To be really rich, in Wolff's scholarly judgment, you need not only an income upwards of $350,000 a year -- which happens to be right about the point where today's top marginal income tax rate of 35 percent kicks in -- you also need at least $10 million in accumulated wealth.

"These are people who can basically live off their wealth and don't have to work. You're talking about the top half of 1 percent," Wolff said.
These one percent, by the way, are often the whiners of the world: The people like Warren Buffet who complains that the government doesn't tax him or his ilk enough, all the while Buffet could simply pay more tax on his return as a gift to the US Treasury department.

I don't know if Clinton actually believes her figures or not -- she's just as guilty of class warfare demagoguery as anyone else -- but clearly she's going to clean Obama's clock on taxation if Obama sticks to his "$97K is upper class" policy.

Labels: Clinton, Economics, Obama, supply-side, tax cuts, taxes

Coolidge, JFK, Reagan, and Bush... how many times does it have to be proven? Tax cuts increase tax revenues.

[WSJ] The Bush Administration's midsession budget review, released yesterday, estimates that the deficit will have shrunk by more than 50% in three years: to $205 billion in the fiscal year ending this September from $413 billion in 2004. As a share of the economy, the budget deficit is expected to fall to 1.5%, well below the 40-year average of 2.4%.

Buoyant tax revenues are the major reason for this deficit reduction. So far this year tax receipts are up 7.5%, and that follows two years of double-digit increases. Federal tax receipts since 2004 are up by nearly $700 billion -- the largest ever revenue gain over a similar period. Tax collections have been so resilient that many private forecasters and the Congressional Budget Office are predicting a budget deficit well under $200 billion by year's end.

After the fiscal blowout of Mr. Bush's first term, federal spending is finally starting to slow, with this year's increase estimated to be a more sustainable 4.7%. Medicare is still the entitlement that ate the taxpayer -- up $42 billion, or 13%. Congress is set to expand federal health-care expenditures by another $25 billion or so next year with more funding for the states to pay for health programs in the name of children that increasingly cover adults. Because the states have built record budget reserves over the past two years, it's not clear why the indebted feds should be giving states more money.

The bright fiscal picture is especially impressive given that we have the fiscal burden of spending $173 billion this year to fight the war against terror in Afghanistan and Iraq. The biggest threat to continued deficit reduction is not war spending, which as a share of the economy is still below what it was in 1992. The main risk is from a potential economic slowdown -- which would mean less worker income and corporate profits to tax.

In 2003, Mr. Bush and Congress cut taxes on investment and high earners, and the happy result has been revenues aplenty. As a hedge against the economy cooling down, it might be time to cut tax rates further on the economy's most productive assets and workers.

Labels: Economics, laffer curve, supply-side, tax cuts, taxes