Friday, September 25, 2009

21st Centrist in Development

I am presently working on development of a new blog, 21st Centrist.
While I have not yet publicly launched it as yet, you can check out
the beta site version of the blog here.

Sunday, September 6, 2009

The Supply Side Health Care Solution

I have not even blogged about it until today, but regardless, another of my policy proposals has just seen international syndication thanks to Mr. Deroy Murdock and the Scripps Howard News Service. This one: a simple way to fix the health care mess. Now, there is something deeply wrong about this. I mean, after all, shouldn't I have at least set it down in black and white, spent some time marshaling my thoughts and all that? How is it that an off-the-cuff suggestion at a conference makes it into, what, scores or hundreds of papers around the world? That is just stupid.

But here it is. And here. And here. A bunch of other places too. Egads.

Here is the National Review Online version, excerpted:
"As New York philanthropist R. Randolph Richardson recently noted at an Atlas Economic Research Foundation seminar, why not reward doctors who donate their services to needy, uninsured patients? Imagine that Doctor Gomez sees the uninsured every Tuesday and Thursday from 10:00 a.m. to noon. She could treat the value of these four hours of weekly foregone revenue as a charitable deduction.

“One fix to our health-care woes might be simply to increase and regularize the supply of pro bono care for those who cannot pay,” Richardson tells me. “Increasing the supply of pro bono care is essentially a supply-side problem, amenable to supply-side solutions. If you want more of something, tax it less. So, if you want doctors and other health-care providers to supply care to those who cannot pay, then simply reduce their taxes to zero for doing so.”

The goal here is to entice millions of health-care professionals to contribute their services to those who cannot afford them and cannot secure or purchase insurance. Why not turn thousands of clinics and examination rooms into the domestic equivalent of Doctors Without Borders?

Government should limit itself to certifying people as uninsured and needy, so that prosperous-but-stingy people do not game the system. "
Perhaps I have some emails I've drafted about this proposal, but I'm damned if I can find 'em right now. Well, there is always another post to put some much needed flesh on this skinny little notion. Shoot. I probably need a whole new blog.

Wednesday, September 2, 2009

Supply Side Environmentalism Goes Public!

Here is a video of the first ever public discussion of Supply Side Environmentalism, as applied to clean energy.  The talk takes place at a conference of think tanks convened by the Atlas Economic Research Foundation.

The crowd in the video is predominantly free market libertarians, so I pitched the talk to that audience, emphasizing that this is a great way to get environmentally concerned progressives and liberals to appreciate tax cuts. Were I to address progressives or liberals, I would rather emphasize that my approach is a great way to get tax cut loving libertarians and conservatives to do and care more about the environment. In any event, my clear intent is to bridge the gap between left and right on this issue, and whichever group does that first, will take the center and the lead.

The Q &A begins at the 50 minute mark, and has some interesting remarks.

Thursday, August 13, 2009

Some Debate!

I was supposed to debate Ken Malloy last week at the Atlas Economic Research Institute conference in Canada. I had been assured he hated my ideas. He favored some sort of energy tax, apparently. So I had been told.

But he came up to me at the opening cocktail party the evening before a debate. Says he: "I really hated your proposal when I first heard it. But when I ran it through my analytical model†, it scored extremely high in nearly all parameters. That made me re-consider. You really hoist some sacred cows on their own petard in a very interesting way. I now think your green energy tax cuts idea is one of the most innovative energy policy proposals I have heard in years."

Wow, thanks Ken! Never had a debate go down quite like that before...

Ken still does not like one aspect of my proposal: he says it distorts markets. However, he favors a carbon tax, which in my views, distorts markets even more, and also imposes economy-wide deadweight loss. But that debate, it seems, will have to wait until another day.

†Ken has developed a tool for analyzing eco/energy policy proposals he calls "The Ecoviergy Index."

Friday, July 31, 2009

Sir Antony Fisher, Gentleman Turtle Farmer

Many old memories have bubbled to the surface since the Atlas Economic Research Institute invited me to speak at their conference in Canada next week -- on a panel about supply side environmentalism -- primarily because Atlas founder, Sir Antony Fisher, was a good friend and influential mentor to me in my youth. Many of the core ideas that I write about on this blog are a direct outgrowth of Sir Antony's free market environmentalist influence. So addressing his organization, his intellectual descendants, feels a bit like coming full circle.

Sir Antony was a frequent overnight guest in my family's Manhattan apartment in the 1970's and early 1980's, a wanderer on a great mission -- a mission he shared with my father, Randy Richardson, then President of the Smith Richardson Foundation, and others -- a mission to spread the idea of liberty. There can be no doubt that Sir Antony is one of liberty's great unsung heroes, directly instigating the creation over 150 libertarian or free market think tanks world wide in his lifetime -- including many of the most influential, such as the Institute For Economic Affairs in London, The Manhattan Institute, The Fraser Institute in Canada, and the Pacific Research Institute in San Francisco. That network of think tanks, supported and fostered by Atlas, has now swelled to well over 300.

My dad half-jokingly call him "the Johnny Appleseed of ideas." He was a fascinating Englishman, and we were only too happy to help him in his mission, and provide him with shelter and meals whenever he blew into town.

Sir Antony and my dad clicked on so many levels. Both were WWII veterans, my dad a grunt in Patton's Third Army, Fisher more glamorously, a decorated RAF pilot who flew alongside and lost his brother in the Battle of Britain. The war taught them a deep, lifelong hatred of totalitarianism in all its flavors. So both became champions of liberal democracy and free markets. Both were entrepreneurs and aquaculture pioneers, with a passion for doomed sea farming ventures: Fisher ran a green sea turtle farm in the Cayman Islands, while my dad in those days launched innovative ventures with mussels, clams and shrimp. (Dad sometimes referred fondly to Sir Antony as "that gentleman turtle farmer.")

They advised each other on these ventures, and stoked a kind of wild eyed mania in each other for the dream of saving the planet by farming the sea. Whenever Sir Antony would show up, we would trade long yarns, war stories and fish tales until late into the night. I of course got quite caught up in all this, eventually taking time off after my freshman year in 1980 to do underwater construction on the first US mussel farm, BlueGold Sea Farms, located in Narragansett Bay, RI. The next time I saw Sir Antony, he was keen to hear all about my experiences working 50 feet down in pitch black freezing water, lowering, guiding and then unshackling two ton mooring blocks, sunk six feet in mud, while scores of giant spider crabs circled and closed in. Ah, the romance of the sea!

(I remember thinking enviously that Sir Antony at least had the good sense to do his sea farming on a tropical island with warm, clear water and resort facilities.)

But for me, the most seductive aspect of the various aquaculture ventures we discussed with Sir Antony was not their potential profitability, but their innovative idealism. To us, sea farming was a way to feed a world in danger of overpopulation and starvation, a way to provide massive amounts of cheap high quality protein well beyond the overstretched capabilities of dirt farmers. Sir Antony was not just trying to turn a buck with his green sea turtle farm, he was saving an endangered species. A portion of all turtle hatchlings at the farm were raised until able to fend for themselves, then released into the wild. Sir Antony was actually increasing wild turtle populations, actually saving the green sea turtle. Ironically, the farm was done in by radical environmentalist who banned the sale of all green sea turtle products, regardless of origin, and refused to listen to reason. Sir Antony's turtle farm would have been successful, but for this.

Of direct relevance to the Atlas conference in Canada, to our panel on supply side environmentalism, is then the legacy of Sir Antony's free market environmentalism, and his personal impact on the ideas I will be presenting. A key point is that the founder of the Atlas network, Sir Antony Fisher, was NOT dismissive of environmental concerns, but passionate about them. He was only critical of ill-conceived big government solutions to these problems. Rather, he cared deeply about beautiful endangered species such as the green sea turtle, and personally committed his time and fortune to saving them, through free market means. (Note that Sir Antony was well ahead of the curve with this strategy. Nowadays is is commonplace for groups like the Rainforest Alliance to promote the idea of saving an endangered resource like the rainforest by turning it into a sustainable commercial opportunity.)

As Atlas network think tanks ponder the way forward in the wake of the financial crisis and the electoral gains of liberals, we could do no better than to consider Sir Antony's passion for green sea turtles. Don't waste time dismissing liberal environmental concerns. Instead, get passionate about solving real environmental problems. Promote free market solutions that work better than tax, spend and regulate, that leave the economy in better shape than if we did nothing (regardless of whether the problem is real or not). In other words, steal the issue by providing better, cheaper, prosperity-inducing solutions.

Like supply side green energy tax cuts.

More on that later.

Friday, July 3, 2009

Libertarian Columnists, Right and Wrong

Some libertarians get it, some don't.

Nationally syndicated pundit Deroy Murdock has taken up the green energy tax cut cause with spirit and passion in his latest column for Scripps Howard News Service and National Review Online. Mr. Murdock quotes me and this blog extensively. He points out that the cap and trade bill in Congress will likely act as an energy tax, depressing the economy further, while a green energy tax cut would both stimulate the economy and more effectively shift America away from dirty fuels and inefficient vehicles.

On the other hand, Cato Institute scholar Alan Reynolds, for whom I have enormous respect as one off the founding fathers of supply-side economics, has most disappointingly joined the chorus of those calling for a gas tax in a op-ed in the Wall Street Journal. Reynolds is one of the key guys who made the Reagan tax cuts happen, so it is frustrating to see him now championing tax hikes. Worse, he is part of an increasingly weird phenomenon of folks who call themselves libertarian/supply-side/or free market economists who now voice some support for energy taxes. This group includes Harvard economists Jeffrey Miron and Greg Mankiw, as well as Cato Senior Fellow Jerry Taylor, whom I debated at some length in January.

Of course, neither carbon nor gas tax hikes have any real basis in libertarian or supply-side theory. What precisely is behind this misguided pro-tax advocacy will be a subject for a future post.

To his credit, Reynolds rationale for a gas tax is better than most. Reynolds is rightly concerned that new CAFE fuel efficiency standards (which already shut down the previously successful Caterpillar Diesel Truck Engine division just last year) will kill GM. Further, he rightly points out that because we apply a 24¢/gallon tax to diesel, our most efficient fuel, but not to gasoline and ethanol, we create an economic distortion that decreases American fuel efficiency. Reynolds argues that a 24¢/gallon tax on both gas and ethanol would level the playing field, increasing American fuel efficiency and the spurring the development of more fuel efficient cars without the potentially catastrophic damage CAFE will do to GM and Chrysler.

The problem with Reynolds' proposal is that, in the current climate, if Republicans who listen to people like Reynolds become friendly to a gas tax, we will get BOTH the new, harsh CAFE standards AND a new gas tax. The Democrats have blinders on to any economic damage that might result from their most beloved green policies: CAFE, energy taxes and subsidies. They are not going to listen to Mr. Reynolds criticism and will insist on the policies they want, and use any support they get from the pro-energy-tax libertarians to ram that policy through too.

Further, just as the Democrats turn a blind eye to the damage from CAFE, Reynolds also turns a blind eye to the damage that will be caused by the taxes he proposes. All energy taxes create a dead-weight loss that act as a drag on the entire economy, raising prices, depressing nearly all economic activity. Reynolds ignores that inconvenient truth, as do his pro-tax libertarian colleagues.

The saddest part of it is that Reynolds should know better. If supply-side tax cut prescriptions work for the entire economy, they will also work for Americas' green industries, while stimulating the entire economy in the process. Mr. Reynolds should have provided a real alternative not only to CAFE, but to the entire tax/subsidize/regulate Democrat energy agenda. CAFE standards should not be used to force companies to make uneconomic decisions, but as the basis of a schedule of tax relief encouraging companies to invest in the most fuel efficient vehicles. Not only should such vehicles be tax free to the extent they meet or exceed CAFE standards, but companies that meet them (and their stocks and bonds) should be income and capital gains tax free in proportion to the percentage of highly fuel efficient vehicles that such companies sell. Far from depressing the economy as would any energy tax, such CAFE-based green tax cuts would stimulate both the economy and massive new investment in a green retooling of the auto industries -- without a bailout -- as I discuss here.

Spurring new green investment is essentially a supply-side problem, amenable to supply-side solutions. Reynolds and his pro-energy-tax economist colleagues should learn that energy tax hikes do not spur green investment. These folks need to take a hard look at the experience of Scandinavian countries that have employed aggressive carbon taxes since the 1990s with (surprise!) no net reduction of carbon emissions. This failure is explained by the fact that energy taxes starve industries of the very revenue and new capital that are most needed in order to invest in green technologies. If new green investment is what is needed, supply-side green tax cuts are the best way to go.

Thursday, March 12, 2009

Obama Talks Sense! Reason Rallies with Markets!

I swear, it is like Obama is reading my blog.

A week ago, I opined that Obama's lack of bipartisanship destroyed the market's confidence, and that he needs to cut corporate taxes in line with European/OECD rates and rethink his energy plan in order for the markets to rally and the economy recover. Today, addressing CEOs at the Business Roundtable, Obama put corporate tax cuts and energy plan redesign on the table. And the markets rallied.

Even better, Obama apparently linked cutting corporate taxes to closing loopholes and ending subsidies. Amen. One can only hope this does not turn out to be another example of his famous fake right, go left hoops tactic.

But really, the last couple of days has seen an epidemic outbreak of reason, tracking the current stock market rally. On Tuesday, Barney Frank announced the re-instatement of the uptick rule, which slows down a short-selling avalanche and so will give a lift to markets. On Wednesday, both Fed Chairman Bernanke and Warren Buffet urged "improvements" in mark to market accounting rules, which many argue triggered the current financial crisis and collapse of major investment banks by forcing valuable assets to be listed at zero market value when markets are not functioning.

Then the Europeans chimed in: "In Berlin Thursday, with German Chancellor Angela Merkel at his side, French President Nicolas Sarkozy explicitly rejected Mr. Obama's push for more global fiscal stimulus, declaring, 'the problem is not about spending more, but putting in place a system of regulation so that the economic and financial catastrophe that the world is seeing does not reproduce itself.'"

Since the mere mention of European technocrats can induce fits of boot licking and forelock tugging among American liberals, one can only hope Obama will listen closely to this advice. Hopefully, Sarkozy will also find time at the G-20 summit to explain to Obama the policy of green tax cuts that he and British Prime Minister Gordon Brown helped steer through the European Parliament this winter – the addition of which could seriously improve Obama's energy plan.

One can only hope that good sense is contagious, and these ideas all take root, as they should have months ago, sparing us all much unnecessary pain and loss. My expectation is that the degree to which these various great ideas are adopted or rejected, the markets and the economy will rise or fall.

Thursday, March 5, 2009

How to Dodge "The Obama Depression"

Google "Obama Depression" and you will find that an increasing number of bloggers and pundits are throwing the term around. Since a depression occurs only when real GDP declines more than 10%, more circumspect publications like the Wall Street Journal are now calling it "The Obama Economy" and warning that the possibility of depression has been increased by the President and his party's policies and statements.†

While there is plenty of blame to go around, there are perhaps reasons to lay some responsibility for the post-inauguration stock market free fall at Obama's doorstep, and if GDP falls 10% or more, it will be called the Obama Depression, and the name will likely stick. Why?

1) Lack of bipartisanship on the stimulus bill, budget and financial recovery plans destroyed confidence. This goes beyond the obvious fact that these were all the highly partisan creations of Team Obama, so he will get the credit, or blame, for the results. More importantly, by insisting on a partisan economic plan, Obama guarantied that only about half the country would like the plan, and the other half would have no confidence in it. Obama failed to restore consumer or investor confidence, and in fact destroyed it, by rushing through plans half the country would certainly hate. Plunging stock markets and lowest-ever consumer confidence index are a direct reflection of that dynamic.

The perception among many moderates (like myself) that Obama has broken his pledge to govern in a bipartisan manner has also increased uncertainty about how extreme his policies might become (i.e., nationalization). This uncertainty has obviously helped fuel the market decline as well.

2) Obama promotes economic policies that have failed in the past, while he rejects policies that have succeeded. Obama's stimulus is entirely demand-side spending in hopes of sparking more demand and spending, and no supply-side tax cuts to stimulate work and investment. In fact, his plan even includes supply-side depressants in the form of tax hikes and a more steeply graduated tax code. History gives fairly clear guidance that this is the wrong approach. Supply-side tax cuts were put into effect under Kennedy/Johnson, Reagan and Bush, and each time resulted in economic expansion and the end of a recession or slump. However, the last time large scale demand-side stimulus was attempted in conjunction with tax hikes it resulted stagnation and inflation under Carter. When FDR raised taxes in 1937, he re-tanked the economy and undid whatever good he had done up until that point. Anyone who is aware of this history – as are many sophisticated investors – would be understandably concerned about Obama's dangerous combination of demand-side stimulus and tax hikes.††

Thus, many investors lack confidence in Obama's plans because there is fairly strong evidence that they won't fix the economy and might even set back any recovery.

While Obama often contrasts his plan to "those who think we should do nothing," in reality most Republicans and libertarians actually advocate supply-side corporate tax cuts. The US rates are 15 percentage points higher than the OECD average but produce about a third less revenue. That is good evidence that not only are the rates out of line internationally, placing the US at a competitive disadvantage, but that the rates are too high on the curve, so reducing them could likely result in more tax revenue, and a greater stimulus effect than spending. There really is no good excuse not to do this, given the OECD data. Ironically, Obama can now be criticized for not doing enough, for rejecting the most promising solutions because of ideological prejudice.

So how can the President best prevent "The Obama Depression" and revive the markets and the economy? First, by actually living up to his pledge to govern in a bipartisan mannner, particularly with respect to the stimulus and budget. We need a recovery plan that can give confidence to ALL Americans, not just half of them. There needs to be elements in the plan that everyone can cheer. Specifically, by revising the stimulus plan to cut corporate tax cuts to average OECD levels (24%) and including other supply-side incentives to work and invest, he can give hope and confidence to all Americans, not just his followers. Markets would rally. Such tax cuts would increase the earnings derived value of corporate stock by over 23%, so help markets to rise and recover, which would in turn boost spending and renewed investment. All that would boost the economy, and so reduce the rate of foreclosures, taking pressure off the banking crisis.

Getting buyers back in the markets is key, both to help stocks recover, and in order to clean up the CDO mess. Here are a few suggestions to encourage such investments: For the next twelve months, let's make any stock purchased be capital gains and dividend tax free for as long as it is held. That would be a very strong encouragement for buyers to come back into the markets... and we are not giving up any current revenue to do so. In fact, we could raise a great deal of current revenue if instead, for twelve months, buyers paid a .25% sales tax on stock at purchase rather than a 15% or 20% capital gains tax when it is sold: that is quite a good deal for investors, and would raise quite a bit here and now, while pulling buyers back to the market.

Eliminating gains taxes on existing distressed CDOs would increase their value and marketability to private investors, and reduce the amount taxpayers would have to pay for any bailout. Along these lines, I suggest interest income taxes be eliminated in cases where banks voluntarily reduce the interest or principal due on a loan in foreclosure by at least the value of the taxes due. This would encourage voluntary loan adjustments, reduce foreclosures, and also help to increase the marketability of CDOs.

Other parts of Obama's plan could also be accomplished with more stimulus effect, less economic drag and reduced cost. For instance, aggressive supply-and-demand-side tax cuts for clean, efficient renewable energy technologies could replace most of the Obama energy plan with better results for less. Expensive subsidies often end up rewarding failure, while carbon taxes depress the economy and simply don't work.†† CAFE regulations recently put the successful Caterpillar diesel truck engine division out of business, and could do the same to other companies. By contrast, steep tax cuts or tax freedom for green energy businesses that meet the desired standards would stimulate the entire economy by lowering the cost of clean energy while increasing and diversifying the supply. This would create a stronger, more entrepreneurial green energy sector, while avoiding the pitfalls of political patronage, heavy-handed over-regulation, subsidized failure and corporate dependency. And it could help save and transform the auto industry without a bailout.

Obama can turn around the economy and take out an insurance policy against "The Obama Depression" by embracing smart, supply-side, bipartisan solutions that markets can cheer. Indeed, given the unprecedented severity of the crisis, and the extent to which people are suffering as never before, it is unconscionable for Obama to leave undone anything that could help, particularly the proven solutions that have worked in the past.

†I spoke to soon: even the WSJ has published the "Obama depression" moniker here.
††Obama has a similar problem with his energy program. While Obama promotes a carbon cap-and-trade plan, many green advocates believe cap-and-trade is ineffective and unenforceable, and prefer a carbon tax. Unfortunately, the empirical evidence from Scandinavian countries is that carbon taxes do not work. Norway has had carbon taxes since the 1990's and their per capita emissions are up over 40%. Denmark's experience shows that what really works is investment in renewable energy and efficiency. So the question then becomes how to best support such investment: direct subsidy or supply-and-demand-side tax cuts for green energy? Unless you want to subsidize failure an create a culture of patronage and corporate dependency, the only real answer is tax cuts. This approach would be cheaper, more effective, and better at stimulating both green energy and the economy.

Sunday, February 8, 2009

From Textbook Stimulus Fallacy to Dow 10,000

Missing Tax Cut Multipliers Make all the Difference
There is, it seems, a fallacy in textbook economic theory. Harvard economist and best selling textbook author Greg Mankiw points out in the New York Times that while textbook Keynesian economics suggests federal spending is more effective than tax cuts at stimulating the economy, empirical evidence suggests otherwise.
Economics textbooks, including Mr. Samuelson’s and my own more recent contribution, teach that each dollar of government spending can increase the nation’s gross domestic product by more than a dollar. When higher government spending increases G.D.P., consumers respond to the extra income they earn by spending more themselves. Higher consumer spending expands aggregate demand further, raising the G.D.P. yet again. And so on. This positive feedback loop is called the multiplier effect.
In practice, however, the multiplier for government spending is not very large. The best evidence comes from a recent study by Valerie A. Ramey, an economist at the University of California, San Diego. Based on the United States’ historical record, Professor Ramey estimates that each dollar of government spending increases the G.D.P. by only 1.4 dollars. So, by doing the math, we find that when the G.D.P. expands, less than a third of the increase takes the form of private consumption and investment. Most is for what the government has ordered, which raises the next question.
WILL THE EXTRA SPENDING BE ON THINGS WE NEED? If you hire your neighbor for $100 to dig a hole in your backyard and then fill it up, and he hires you to do the same in his yard, the government statisticians report that things are improving. The economy has created two jobs, and the G.D.P. rises by $200. But it is unlikely that, having wasted all that time digging and filling, either of you is better off... If the stimulus package takes the form of bridges to nowhere, a result could be economic expansion as measured by standard statistics but little increase in economic well-being...
MIGHT TAX CUTS BE MORE POTENT? Textbook Keynesian theory says that tax cuts are less potent than spending increases for stimulating an economy. When the government spends a dollar, the dollar is spent. When the government gives a household a dollar back in taxes, the dollar might be saved, which does not add to aggregate demand.
The evidence, however, is hard to square with the theory. A recent study by Christina D. Romer and David H. Romer, then economists at the University of California, Berkeley, finds that a dollar of tax cuts raises the G.D.P. by about $3. According to the Romers, the multiplier for tax cuts is more than twice what Professor Ramey finds for spending increases.†
Why this is so remains a puzzle. One can easily conjecture about what the textbook theory leaves out, but it will take more research to sort things out.
One wishes Prof. Mankiw would do a bit more informed conjecturing in the Times, because the answer to the above puzzle could greatly inform the current stimulus debate. It is likely there is more than just one factor at play here. Prof. Mankiw at least offers one explanation here why the multiplier for spending stimulus may be so low: too many bridges to nowhere, too much useless digging-and-filling ditches drags down the spending multiplier. But hidden elsewhere in his blog, Mankiw more powerfully explains the higher multiplier for tax cuts:
One hypothesis is that that compared with spending increases, tax cuts produce a bigger boost in investment demand. This might work through changing relative prices in a direction favorable to capital investment--a mechanism absent in the textbook Keynesian model.

Suppose, for example, that tax cuts... take the form of cuts in payroll taxes (as suggested by Bils and Klenow). This tax cut would reduce the cost of labor and, if labor and capital are complements, increase the demand for capital goods. Thus, the tax cut stimulates demand not only by increasing disposable income and consumption spending (the textbook Keynesian channel) but also by incentivizing more investment spending. A similar result might obtain if the tax cut included, say, an investment tax credit.††
All the above clearly applies to the current debate over whether corporate tax cuts should be included in the stimulus package, with critics making the same textbook arguments that businesses might save rather than invest the tax cut, while federal spending is surely spent.

However, it seems to me that when the Mankiw hypothesis is applied to corporate tax cuts, (which is a cleaner thought experiment than a payroll tax in that we don't need to consider the employee tax cut) not only does it become crystal clear that Mankiw MUST be right about price changes boosting investment demand, but that there is an additional market mechanism in play here, boosting both aggregate demand and hence the tax multiplier.

Let's follow the chain of cause and effect: corporate tax cuts would mean higher after-tax earnings; since earnings determine stock prices through P/E ratios, higher earnings forecasts would signal a immediately higher market value for each corporation and the stock market as a whole. Rising values will pull investors back into the market. Further, a rising stock market generally means rising consumer spending and demand as individual see their net worth recover and deferred needs become pressing. Lastly, rising demand would further determine that corporate tax cuts would be invested, not saved, again, in direct contradiction of the above textbook expectations.

How does this work out in the current market? Doing the math, we see that cutting combined federal-state corporate rates 15 percentage points from the present 39% to say 24% (making US rates in line with average corporate rates in OECD countries) would raise corporate after-tax earnings by about 24.6%. If P/E ratios are stable, it is likely that both corporate valuations and stock markets would rise by roughly the same percentage, around 24.6%, in a fairly short period. If the current market floor is at about DOW 8000, that implies that a 15% corporate tax cut would raise the value of the DOW to just under 10,000. This number could be higher if P/E ratios rise (as is usually the case in rising markets) or if a significant portion of investors use leverage. Subsequent rising demand could further boost the Dow significantly above 10,000, driving a powerful positive feedback loop that boosts demand and GDP further.

While I leave it up to others to quantify tax cut multipliers, it is easy to see where additional equity and debt market multipliers kick in, and what has been left out of the textbook theory: some of the new investors will use debt for leverage (creating an additional credit market multiplier) or pull money out of savings (in contradiction to textbook models that result in low multipliers). Further, as with the new investment, the new consumption will also be partly financed from debt or savings, credit markets again boosting demand and the tax multiplier. Lastly, facing stronger demand, businesses would not only invest their tax cuts, but seek more equity and debt financing, creating an additional leverage multiplier. Higher stock valuations (the direct result of tax cuts) would further strengthen balance sheets and allow corporations to borrow more money more cheaply.

At nearly every step of this chain of causation, we further see that the textbook Keynesian assumption that the tax cut will be saved rather than invested is powerfully contradicted, that the tax cut would be not only fully invested but also attracts additional debt or equity financing at three different levels: that of the investor, consumer and corporation.

By contrast, no such equity+credit market multiplier effect could be plausibly attributed to federal spending, which seems instead to actually crowd out private investment.

Prof. Mankiw observes:
This hypothesized channel seems broadly consistent with the empirical findings of Blanchard and Perotti, Mountford and Uhlig, Alesina and Ardagna, and Alesina, Ardagna, Perotti, and Schiantarelli.
He refers to his own hypothesis, of course, but it is equally true of my elaboration on equity and debt market multipliers, and probably applies to a broad variety of tax cuts (and regulatory relief) that effect the value of investments. This hypothesis could be further verified if research shows the following: (a) that corporate tax cuts lead to rising stock markets; and (b) that rising stock markets lead to rising consumer spending.

To correct the spending stimulus fallacy, future economics textbook should say that every dollar of federal spending is either spent or misspent, but every dollar of tax cut is not only invested, but attracts many more dollars of additional investment by raising underlying valuations.

Addendum: So why post this here on a blog about green energy tax cuts? Because not only is the proposed stimulus worth writing about, but all the above bolsters the case for supply-side green tax cuts, which should also boost GDP by $3 for every dollar of tax cut, according to the empirical research cited above. I can't help noticing that Mankiw is the founder of The Pigou Club, arguing for Pigouvian tax adjustments to take into account market externalities. Now this may come as a surprise, but I am applying for admission to the club on the grounds that green tax cuts are indeed a legitimate Pigouvian tax adjustment to account for positive and negative externalities of various energy technologies. That I oppose carbon or gas taxes on account of the $3 of GDP loss they create for every dollar of tax, or believe Pigouvian tax cuts are superior to Pigouvian tax hikes is merely a matter for thought-provoking internal debate among club members, and should not bar me from admission, or full enjoyment of club facilities...

†Prof. Mankiw points to other empirical evidence of low spending and high tax cut multipliers here, here and here. Christina Romer is President Obama's appointee as chairwoman of the Council of Economic Advisors.

††Mankiw's hypothesis is similar to the explanation offered by supply-side economics: tax cuts make it more rewarding to work and invest, and less rewarding to employ accountants and tax shelters: therefore a tax cut gets us more work and investment. But supply-siders go one step further by suggesting that the highest tax multipliers are associated with cuts at the highest marginal rates, that since the highest rates create the severest disincentives to work and invest, the magnitude of the economic benefit for a cut at these rates will be greatest, as will the likelihood that such cuts will be revenue positive or neutral.

Thursday, January 15, 2009

Apostle to Cato III: Epilogue (and Prologue)

Jerry Taylor has withdrawn from this debate. For now, at least.

You may each judge for yourselves†, but it seems to me, and apparently to some of my readers, that Jerry left standing my three central points: that cutting taxes on green energy, vehicles, infrastructure and efficiency appears to be 1) much like the broad tax cuts proposed by Cato's supply-siders, and hence, better for the economy than doing nothing; 2) far better than the tax and spend energy initiatives currently on the table (carbon tax-or-trade, subsidy, mandates) which were initially preferred by Jerry over tax cuts; and 3) similar to Cato's tuition tax credit and tax free health saving account proposals, as tax cutting strategies designed to strategically avert a big-gov disaster.

If I am right about these points, then Cato – and many other think tanks on the right as well – should adopt the green energy tax cut proposal because it is philosophically consistent, economically beneficial, can help avert a big-gov disaster, and can help convince progressives (whose identity is evolving) to appreciate the benefits of tax cuts, and draw them away from pitfalls of tax and spend policies.

So I issue an invitation, and a challenge – to Cato, AEI, Heritage, Americans for Tax Reform, Manhattan Institute, Atlas and many others. Let's build this proposal together. Let's use our time in the wilderness to save the wilderness, and capitalism too.

But if you think I am wrong, then let's debate. If you think you can make a better case, then make it. But the truth is, as we have seen here in this debate, that just as cutting taxes beats doing nothing (or tax hikes) on the macro level, it does so on the sector level as well. If you disagree, bring it on.

If you have courage in your convictions, that is.

Now, excuse me, but I need to go talk to some progressives. Let me leave the final word on this debate (for now, at least) to one of my readers, Rachel from Seattle:
"Both you and Jerry Taylor make many wonderful points. I think Taylor is right that doing nothing is better than tax credits, subsidy, carbon tax. But it seems to me that he has misread your proposal, and much of this debate is a misunderstanding. He is reading it as a tax credit proposal, but it is not. Your point is a persuasive insight that I have not heard before, that tax cuts are entirely different from tax credits (or subsidy) in that government is simply getting out of the way vs throwing money at failure. Subsidy probably isn't even the right word for what you are describing. More an unburdening. And you probably are right that it could benefit the whole economy.

Jerry is also right that more debt should be avoided, so if your proposal is to work, it will be critical how it is designed, so that it is at least revenue neutral.

Nice to read a really good debate like this between libertarians."
†Readers may find part I of the debate here, and part II here.

Friday, January 9, 2009

Apostle to Cato II

So continues my debate with Jerry Taylor of the Cato Institute, and with it, my apostolic ministry of reason, to rededicate the hearts and minds of the Cato community to the cause of reduced taxes and government – for the sake of the general prosperity – wherever and whenever we can do this; specifically, through green energy tax cuts, here and now.

I note that now, while Obama spends the weekend pondering the need to replace portions of his stimulus package with tax cuts, we have an opportune moment to start. There is much unproductive green energy stimulus being considered that would be well to replace with a productive green energy tax cut.

Round one of this debate can be found here. The comments on round one include a fine exchange with Cato's Randal O'Toole that gets to the heart of the carbon tax. Without further ado, here is...

The Second Reply of Cato Senior Fellow Jerry Taylor:

I am in favor of the smallest government possible consistent with the job that government is charged with (protecting my right to life, liberty, and the pursuit of happiness). The size of government is defined by how much it spends and how much it regulates. Not by how much it taxes.

I suspect that you don't agree. If not, ask yourself this - if we zeroed-out taxes for 2009 and found a way to borrow all the money necessary to meet current federal spending plans, would we have reduced the size of government to zero? No. Would we have reduced the size of government at all? No again. To argue to the contrary is to argue that putting your grocery bill on your credit card reduces your effective grocery bill to zero. The reality, of course, is that you simply decided to pay for today's groceries tomorrow ... but with interest. If you pay interest on your credit card, the size of your total bill went up, not down, by putting those groceries on the credit card.

Why exactly do some libertarians believe that paying for your groceries with a credit card is somehow more "freedom enhancing" than paying with cash? Beats me. A stronger argument would be to pay with cash. At least you avoid paying the interest on the borrowed money.

The inescapable reality is that - unless interest rates on Treasury Bills are zero - borrowing to pay for current spending increases the size of government relative to levying taxes to pay for current spending. Because my fundamental aim is to reduce the size of government, I prefer the latter to the former.

Now, you are certainly correct that taxes harm economic growth. But borrowing to pay for spending programs simply transfers the economic harm of the taxes avoided from the present to the future. Hence, tax cuts are in a very real sense "borrowing" economic growth from the future. We are temporarily wealthier for it but we will later be poorer for it ... or future generations will be poorer for it if we die before the bills come due.

Again, the only way to reduce the economic harm caused by taxation is to reduce spending. Borrowing will not do the trick.

As far as economic stimulus is concerned, I don't think the best stimulus is a tax cut for the simple reason that a tax cut may not be used to purchase goods or services ... it might instead be saved. Now, that's fine with me (I'm not sold on the Keynesian stimulus argument anyway), but if government-induced stimulus is the objective, I don't think tax cuts will do the job as well as spending might. Again, however, I am not in favor of government-induced stimulus, so that's neither here nor there.

So let's focus specifically on your green tax credit idea.

First, since the tax cut you propose takes place in an era of deficit spending, you are by definition increasing the size of government with your tax cut.

Second, your claim that tax credits do not entail deadweight losses is risible. The federal ethanol program is largely (but not entirely) founded upon the 51¢ blenders' tax credit and economists Harry de Gorter and David Just at Cornell find that the deadweight losses from that tax credit will total $28-49 billion by 2022. Deadweight losses likewise follow from the existing tax credits afforded the renewable energy industry, but how large they might be is unclear.

Third, many of the energy sources you hope to favor with these tax cuts will not actually be helped because, as Tufts economist Gilbert Metcalf points out, their net tax burden at present is actually negative!

Fourth, by using the tax code to favor some energy investments over others, you are again, by definition, expanding the size of government (hastening back to Friedman's definition that the size of government is defined by how much it spends AND how much it regulates). You are of course welcome to argue for market rigging exercises, but please, don't lecture me for being ideologically impure in the course of doing so.

Fifth and finally, you may be right that your green energy tax cut idea is better than the Obama alternatives, but it is not Cato's job to figure out how best to maneuver on the existing political terrain and to use that insight to inform our arguments for second-best policy change. Our job is to argue for what policy OUGHT to be and let the political chips fall where they may. There are plenty of people in Washington who engage in this "argue for the best deal (or least bad deal) that we can get this year" approach. And there's nothing wrong with that. But there likewise needs to be someone or some institution out there arguing for best practice.

Finally, a few points of clarification. I do not "extol the virtues" of a carbon tax. I am against a carbon tax. I do not extol the virtues of taxes in general. I prefer them to borrowing if the question is how to pay for our governmental bills (save for spending that will largely benefit future generations, in which case borrowing to some extent is defensible), but I more strongly prefer cutting spending and, correspondingly, cutting taxes as we go.

Jerry Taylor, Senior Fellow, The Cato Institute

My Second Reply:
Feeling Quite Ignored

One of the strangest features of debating you, Jerry, is the nagging feeling that you are really debating someone else. Honestly, I am feeling quite ignored. For your most devastating arguments bury nameless foes whose feckless views seem quite different from my own.

Who are these people? Please name some names, cite some articles! Who are these "libertarians" who champion debt financing? 'Cause it sure as subsidized sugar ain't me, Jerry.

Now, they may exist, but I don't know any libertarians currently arguing for debt financing. So unless I am mistaken, the real target of that remark is -- besides myself -- anyone arguing for tax cuts, including Chris Edwards, Richard Rahn, Daniel Mitchell and most of the tax policy team at Cato. Is that right? Because from what you say here, it is clear that you disagree with these gentlemen's most fundamental recommendations to cut taxes -- and not just when it comes to energy policy, as I supposed earlier.

In order to make the argument that I, or any tax cut advocate, favor debt financing, you assume that any tax cut will lead to a tax revenue decline and hence more debt. In order to make that assumption, you must ignore supply-side economics and the Laffer curve -- you never even mention either, but simply disregard these arguments as if I never raised them. But I do, often. I also specifically cite and rely on Chris Edwards' recent arguments that cutting present US corporate tax rates would boost the economy and raise overall tax revenues, in order to illustrate how a corporate green tax cut would enhance overall prosperity and could either increase overall tax revenue or be tax neutral, depending on how it is crafted.

But you never bother to refute those key arguments, so they stand. Similarly you ignore but never refute my arguments that avoiding the big-gov disaster along with the spending cuts which are integral to my proposal, would, on top of revenue neutrality, shrink the size of government. Therefore, your claim that a green tax cut would "by definition increas[e] the size of government" (by forcing debt financing, I suppose you mean) simply fails because it does not refute the contrary arguments on the table.

Jerry, if you ignore powerful, key arguments -- like supply-side theory, the Laffer curve, or your colleagues' recent tax research -- then I win the point and the debate. You must refute these arguments to prove my proposal leads to anything other than prosperity and less government. State clearly why the Laffer curve is a bunch of hooey, if that is what you think. Tell us why Chris is wrong, if you believe he is leading us to ruin. But as things stand – ignored but unrefuted – (a) your tax-cuts-lead-to-debt critique is fatally flawed in that it ignores that tax rates, if too high, may be cut while increasing tax revenue; (b) you therefore have not diminished my case that a green energy tax cut leads to general prosperity and less government.

Debatable Points

That big picture is echoed in flaws in your specific points:

1) Government size is defined by extent of spending and regulation, not taxation. Nonsense. First, taxes are regulations, often called IRS or Treasury regulations. Second, if taking our property under threat of violence is not the quintessential and second most potentially objectionable act of government, I don't know what is. You even define your libertarianism by quoting the Declaration of Independence, which ironically is the world's most famous complaint against tyrannical taxation. So I'll stand with Jefferson and the Continental Congress on this one, thank you. Taxes are government encroaching, and tax cuts removes that government encroachment -- possibly even permanently, without transferring it, depending on the shape of the applicable Laffer curve. I suspect many if not most libertarians would agree with this traditional American view.

Your illustrative zero taxation thought experiment is fun but flawed. Just turn it on its head to see why: imagine a world with no (non-tax) regulations, with spending set at zero, but also with taxation at 100% of not only income, but any and all assets you own. According to you, government has then vanished. But destitute and homeless, I doubt you would feel government had shrunk much or developed a lighter touch. Taxation is just as much a measure of the burden of government as spending, regulation, debt or collective force.

The application of this idea to the green tax cut debate is that carbon taxes, subsidies, mandates all increase government. A green tax cut is fundamentally different from these interferences, in that it actually reduces government and removes it from a particular endeavor, and so has fundamentally different economic characteristics (reduction of dead-weight loss, etc.).

Revisiting your related claim that I am "by definition, expanding the size of government," I further reply that I am rather removing and shrinking government both by cutting taxes, and by displacing much more onerous big-gov tax and spend programs like carbon taxes, subsidies, and mandates. However, I am somewhat put out by the thought that you will probably just ignore this argument as you have the others.

2) "[T]he only way to reduce the economic harm caused by taxation is to reduce spending." Again, you are denying the Laffer curve here, which says that the harm caused by excessive taxation may be reduced by reducing rates, without reducing revenues. You are right that only spending cuts solve excessive spending -- we agree there -- but the reason is that no matter how much you tax, there is a maximum revenue that can be raised, period. Since we can't tax our way out of debt, we must ween the progressives away from spending policies, which is precisely what my proposal accomplishes. In other words, my proposal is a path to the spending reductions you yourself say are essential.

3) A tax cut is not the best stimulus because "a tax cut may not be used to purchase goods or services ... it might instead be saved." That possibility is really only true of personal income and property taxes and personal savings. The business tax cuts that are part of a green energy tax cut (sales, corporate income and capital gains tax cuts) are not subject to this objection and are well documented to encourage consumption, investment and general prosperity.

4) "[L]et's focus specifically on your green tax credit idea" ... "your claim that tax credits do not entail dead-weight losses is risible." Please, Jerry, read the title of my blog. It says tax cuts, not tax credits. Again you are ignoring what I actually say in order to set up a strawman. As I argued in my original remarks, these are NOT the same thing, and it makes a big difference.† Tax credits are a form of direct subsidy, a federal expenditure that allows a buyer to pay more for something than it is worth. This allows an unprofitable business to seem profitable. It allows the subsidization of failure. This is what YOU said is better than tax cuts: direct subsidy. I said politically directed subsidies, including tax credits, entail higher dead-weight loss. You are not attacking my argument here: you are attacking yours!! You are confirming that my argument is correct!

No actual tax cut will allow this subsidization of failure. If you cut a sales tax or a corporate income tax, any products sold must still turn a profit on their own merit for the business to be viable. Tax cuts come into play only after a sale is made and a profit logged. In my proposal, there is no cash payment offered up front (i.e., tax credit/subsidy) that boosts the product above its true price. Only the green energy businesses that are profitable on their own merits will survive under my proposal, and the most profitable business models will receive the most in total tax cuts. Tax cuts promote success, while all other forms of subsidy, including tax credits, often subsidize failure.

I fully expect corn ethanol will NOT survive in the Green Energy Tax Cut environment – including the elimination of existing subsidy tax credits – because the basic business model is unprofitable without subsidy, and the fuel requires more energy to produce than it yields. But that is a good thing, because the green technologies that thrive will be viable and productive.

A related point is that the negative net tax burden that Prof. Metcalf reports is another way of describing the subsidization of failure through tax credit subsidies. Zero or low tax burden indicates a successful approach, but prolonged negative tax burden indicates an approach mired in failure. Which is in fact the direct subsidy approach you say is superior to green energy tax cuts.

5) As to your remark that I favor market rigging, my reply is I do not, that rather I favor lowering taxes where both possible and most likely to pass along the benefit to the whole economy. I favor eliminating tax-spend-regulate approaches, if externalities need to be taken into account, and replacing these with the most economically beneficial alternative: tax cuts. That is actually an effort to minimize market rigging. Since the public has clearly decided that such externalities exist and warrant support for alternative energy, it is arguably a form of market rigging on your part to insist there be no price adjustment. I believe in the face of a clear public decision such as the above, it is Cato's responsibility to promote the most economically beneficial option that meets the public's goals.

This speaks to your point that Cato should promote best practice. A green energy tax cut is better practice than doing nothing, because it is more conducive to prosperity, because it shrinks government and better avoids the big-gov disaster, because it sets up an environment conducive to future broad tax and spending cuts. It is just as much best practice as tuition tax credits or tax-free health savings accounts, as tax cutting proposals designed to reduce overall government interference. Contrary to your tax cut critique, Cato's supply-siders are also pushing best practice, and there is no reason to think their recommendations would not work best for the green energy sector as well. If you think Cato is wrong to push these proposals, that Cato should limit itself to calling for the end to public schooling, for example, you should say so boldly. But I think Cato is on the right track in promoting strategic tax cuts as the best policy to promote prosperity and reduce harmful government interference in these areas. Cato needs to merely get on an intellectually consistent track with respect to energy policy in order to hit the best practice sweet spot.

Lastly, if you say that Cato has no business arguing for second-best policy, why oh why then are your articles freighted with an elaborate hierarchy of second, third and fourth best policy choices – all far worse than tax cuts? In my view, your hierarchy not only is wrong, but gives aid and comfort to tax and spend advocates, for whose policies you should have not a single kind word. Looking at Patrick J. Michaels bang-on evisceration of the carbon tax (video on Cato home page today) I can't fathom why any Cato scholar would say that it is an effective price adjustment tool, when empirically it simply does not work and causes great harm.

Points Ignored and Lost

In addition to the unchallenged arguments noted above, you seem to have wisely conceded the point – and all underlying arguments – that green energy tax cuts are superior to a carbon tax, cap-and-trade or subsidy. Perhaps your argument about the dead-weight loss of tax credit subsidies for ethanol was an attempt to refute my arguments, but I trust you can see now how it rather refutes yours.

Further, beyond your flawed tax cuts = debt critique, your response does not directly challenged my central arguments that green energy tax cuts, like all tax cuts, would tend to enhance prosperity more than doing nothing;†† would help reduce spending by avoiding a big-gov disaster (i.e., the tax-and-spend approach you preferred and have apparently abandoned); and would create conditions conducive to future spending and tax cuts, as we ween progressives away from the big-gov trough. Nor do you challenge the idea that strategic tax cuts in the energy sector would act like a broad tax cut for the whole economy, as the benefit of the cut is passed on in reduced energy prices.

I very much appreciate the exchange of ideas with thoughtful individuals like yourself and Randal. I don't mind sharp, challenging arguments, I enjoy a tough debate, and hope you feel the same. I sincerely hope you are able to respond, and fill in the gaps in your argument – or even better, are ready to concede a few points, and make some changes for the better in Cato's energy policy. I am also very curious to hear from the Cato scholars whose views you directly contradict: the supply-siders, Edwards, Rahn, Mitchell, et al., and the health and education reform advocates. Do they see the contradictions? Do they agree with your tax-cuts-lead-to-debt critique? Do they agree with me that tax cuts remove government, and so are economically different and superior to any of the tax-and-spend interventions you initially preferred? Do they think that the approaching big-gov energy disaster is somehow different from the education and health care disasters, and so requires a different logic and response?

I'm all ears.

R. Randolph Richardson, Green Energy Tax Cuts Beta Blog

†As I said in my original remarks: "Most subsidies, even tax credits, can allow unprofitable companies to seem profitable. Tax cuts, however, cannot make the unprofitable profitable, so only real solutions will survive. [I]f broadly applied, tax [cuts] will allow the market, not the government, to pick the specific winners among clean technologies."
†† You at least partially admit green energy tax cuts would promote prosperity when you agree that taxes harm prosperity.

Thursday, January 1, 2009

Apostle to Cato

What follows is an utterly bizarre philosophical tango between myself and Jerry Taylor, Senior Fellow at the Cato Institute. Bizarre, because it features a reportedly libertarian Cato scholar arguing that tax hikes and government spending make for better policy than tax cuts, at least when it comes to alternative energy. This is strange, because when it comes to anything else, Cato scholars invariably – and rightly – prefer tax cuts to tax hikes, spending, or just about any other big government approach one might name. But here is Jerry, openly flirting with at least elements of the Big Government Disaster.†

Jerry goes on at some length about what he sees as the failings of the "libertarian faith" concerning tax cuts. So be it. As an apostle of reason, then, and not faith, I reach out to Jerry and all the Cato brethren to say: Re-examine your reason; be wary of contradictions lest ye stumble into disaster and miss the way forward out of the wilderness.

Some Cato scholars will, I am sure, instantly see as much and more. May they strive to spread the grace of reason. For Jerry's approach – inconsistent with the best reasoning to be found at Cato concerning taxes, spending, tuition tax credits, tax free health savings accounts, and much else – will undoubtedly leave us defenseless to the approaching Big Government Disaster that will hit the energy sector (and economy with it) within months. Just as it damaged our health care system and destroyed American education decades ago. Cato can only play valiant catch-up in these areas with innovative tax cut proposals. But now, before the storm hits, if Cato heeds the apostolic call, armed with the sound reason of a new innovative green tax cut proposal, there is a chance to avert a new and similar disaster completely, before it ravages our energy sector and economy.

So forget the distracting controversies of global warming and oil dependency. Let us rather keep the following firmly in mind. If, as many Cato scholars argue, cutting taxes is the best thing to do right now to stimulate the economy, then cutting some taxes is the next best thing. If avoiding mandates, tax hikes and federal investment schemes is also good, then let's do even better by substituting tax cuts instead. You do what is possible. Right now, the progressive agenda gives us the opening, because we can show progressives how to accomplish their most cherished green goals better than they can themselves – and in doing so, we can lift the economy and demonstrate the power of smart tax cuts to help America prosper and shift green. Who knows? Tree huggers and progressives may even come to love tax cuts.

All this continues a fascinating Google Knol debate which asks whether alternative energy deserves government support. Jerry, and Peter Van Doren of Cato, argue no; Joseph Romm, editor of the blog at the Center for American Progress, says yes. And I, in comment, offer up a compromise for libertarians and progressives alike: broad supply-and-demand-side tax cuts on green energy, vehicles, infrastructure and efficiency, in order to supercharge green energy investment, entrepreneurship and employment, reduce energy prices, and boost the overall economy (and, as a bonus, save the auto industry without a bailout).

In his reply, I note that Jerry never once disputes the benefits resulting from a green tax cut, contenting himself with some theoretical objections, and surprising un-Cato-like preferences for taxes and subsidies. So those benefits stand as yet unchallenged. Well and good. Let's talk about Jerry's concerns, and he can respond as he likes. I welcome comments from all my readers, and on this post, especially from anyone at Cato or the Center for American Progress. Maybe we'll hear from Joe. Readers can find here below, slightly redacted, my knol comment first, Jerry's reply next, and my current response below that.

Thank you, Jerry, for your thoughtful reply to my comment. As an apostle of reason, I offer new wine for the new year to you and the brethren of Cato. Perhaps if we libertarians use our time in the wilderness wisely, we can save ourselves, the wilderness and capitalism too.
†We should note up front that I am in no way calling for a litmus test for Cato scholars. I am saying that internal contradictions could be a sign of a flawed argument, and so deserve to be carefully noted and considered. I am also saying that Cato should consider and adopt new ideas consistent with and building on existing Cato models.

My Knol Comment:
Why not tax cut our way to a greener future?

Jerry/Peter and Joe may seem poles apart, but perhaps they have simply failed to realize that not all incentives are equal. There is at least one undiscovered option that should work far better than anything Joe has proposed, and should appeal to any serious follower of Milton Friedman.

Try this on for size: total tax freedom for all green energy sources, infrastructure and vehicles. Zero sales or income tax (or capital gains tax on stocks and dividends) in proportion to the percentage of a company's revenue that comes from green energy sources.

Now, I'm not going to make all possible arguments about this here and now. But I will say this. Tax freedom is utterly unlike any subsidy or incentive that has been discussed in this debate so far, in several critical respects. Most subsidies, even tax credits, can allow unprofitable companies to seem profitable. Tax cuts, however, cannot make the unprofitable profitable, so only real solutions will survive. And, if broadly applied, tax freedom will allow the market, not the government, to pick the specific winners among clean technologies.

There can be no doubt that tax freedom or even sharp tax cuts for green energy will supercharge investment in this vital area of entrepreneurship well beyond anything Joe or the President-elect has proposed, creating millions of new jobs. Obama's proposed $150 billion direct investment over ten years simply cannot compete with what the private sector can do if unleashed and properly motivated with low-or-no taxes. ExxonMobil itself would shift green in order to become tax free. And, by the way, this proposal would swiftly bring massive new debt and equity investment to a green-shifting auto industry, obviating the need for bailout, bankruptcy or socialist takeover.

Why Joe should love this is obvious. It is massively more effective than the incentives he has proposed, and does not cost a dime of federal spending upfront.

Why Jerry and Peter should love this goes to the heart of what Cato is about. Milton Friedman once said "I am in favor of cutting taxes under any circumstances and for any excuse, for any reason, whenever it's possible." There are plenty of other arguments I could make about putting downward pressure on energy prices, etc. But this one is the clincher: it is a TAX CUT. As such, the net benefit to the economy from cutting taxes will be positive. Forget global warming, forget foreign oil dependency. If, as many Cato scholars argue, cutting taxes is the best thing to do right now to stimulate the economy, then cutting some taxes is the next best thing. You do what you can.

Tax cuts are fundamentally different from most tax-funded subsidies: federal spending or "investment," mandates, bold new initiatives to pick this or that particular winner, even tax credits. All of those create economic drag and have other negative blow-back, none have the pro-growth benefits of a broad tax cut.

One last thing. As a Cato donor for decades, I can't begin to express my dismay that a Cato Fellow would extol the virtues of a carbon tax (or any tax hike). Or the unenforceable boondoggle that is cap-and-trade, a carbon tax by another name. Our economy is reeling from the 500% oil price rise over the last five years -- which may likely return if the economy attempts recovery -- and you want to make oil cost more? Do you want to bring on a depression?

But at least I am glad that you like the principle behind the carbon tax, which is that the best thing to do, if anything, is to adjust any price discrepancy between fossil fuels and clean energy. Because a green energy tax cut really amounts to the double negative of a carbon tax: it is a no-carbon tax cut. Same price adjustment, superior result. Why? Tax cut, not tax hike.

Think tanks like Cato need to wrap their head around the notion that green energy incentives are coming, like it or not. Many of those incentives could do major damage. Cato and it friends should champion the one incentive that won't do that kind of harm and that will actually do a great deal of good: a green energy tax cut.

R. Randolph Richardson
The Green Energy Tax Cuts Beta Blog

Reply of Jerry Taylor, Senior Fellow, Cato Institute:

There is no universal consensus on the matter of tax cuts here at the
Cato Institute, so the opinion I am about to express should not be taken
as a reflection of the opinions you might find elsewhere in this
building. My take, however, is that the tax code should not be used to
encourage this or discourage that because I do not believe in having the
government direct capital flows in the economy and favor some
investments relative to others. Tax cuts are simply an indirect way of
doing this and are in one sense worse than more direct interventions
because tax preferences are less visible to third parties. Tax
preferences increase the cost of tax collection, decrease otherwise
desirable economic activity, create dead-weight losses, and produce less
economic efficiency as a consequence.

Nor do I buy the argument that tax cuts are always a good idea. Why is
it a matter of libertarian faith that it's better to pay for government
spending with a metaphorical credit card than with cash? The former
must be paid for in cash eventually ... with interest. That is, it will
cost society MORE to pay for government via debt than via taxes. All
that changes is the time in which the taxes are collected. Deficits
simply borrow tax receipts from the future ... which, in a sense, is the
same as borrowing economic growth from the future. It is not obvious to
me that a political system that forces people in some distant future to
pay for my government services today is somehow more libertarian than
one that forces recipients of government help to pay the bills to some
extent for that help.

Moreover, to the extent that taxes are reflections of the marginal cost
of government to the average voter, cutting taxes while increasing
spending reduces the marginal cost of government. It's no wonder, then,
that public appetite for government spending goes up whenever taxes are
cut. Do you doubt, for instance, that the $700 billion bail-out of Wall
Street or the likely $125 billion bail-out of Detroit would never get
off the ground if those programs had to actually be paid for by
taxpayers in the here-and-now?

The usual defense, however, is that tax cuts starve government of
revenues and thus, eventually, will starve-out government spending.
Unfortunately, there seems to be no functional limit on the federal
credit card and, thus, no empirical evidence that tax cuts = less
spending. In fact, in-house regression analyses that we've performed on
the matter show no clear relationship between the two ... an observation
that we shared with Milton Friedman before he passed away and a finding
that convinced him (in correspondence with us) that his "starve the
beast" hypothesis was likely wrong.

Regardless, there are less economically disruptive ways of promoting
renewable energy. Direct subsidy from the Treasury is preferable
because it avoids the inefficiency associated with a distorted tax code.
Cap and trade or a carbon tax would be even better. But do not confuse
that with a support for either policy. I do not favor a carbon tax or
cap and trade programs in the energy sector because I am convinced (for
the time being anyway) that focused adaptation is a less costly and more
effective means of dealing with climate change than emissions

Jerry Taylor, Cato

My Response:
The Remarkable Tango Keynesio

Jerry, I am very relieved to hear that your opinion on tax cuts is not universally shared at Cato. For when you suddenly shift from strict libertarian non-interventionism to argue that tax hikes (!) and direct federal spending are better policies than tax cuts to boost the green energy sector, the auto industry and the economy, you do-si-do right off the honest libertarian ranch only to fling yourself in the foul embrace of the old Tango Keynesio. Perhaps urbane types like Mr. Romm would not notice or care. But no, as a longtime Cato supporter and friend, I can't let you be led astray by this duplicitous gancho two-stepper.

So shaken was I by your fall into Keynesian ways that, after grabbing my smelling salts, I had to rush to check, and yes, your position is shockingly at odds with most of your Cato colleagues. For instance, just last month in the Washington Times, Cato senior fellow Richard W. Rahn demolished the notion that direct federal investment or subsidy (which you prefer to tax cuts) has any net beneficial effects, and proposed a broad array of, yes, tax cuts instead. Cato's Chris Edwards, in a essay called "Not Keen on Keynes," said much the same, and in contradiction to your argument that tax cuts increase government deficits, offers global evidence that various tax cuts do in fact boost tax revenues by strengthening the economy.

But it is not just the Keynesian bits, the tax-and-spend footwork, that is out of sync. It is the whole remarkable tango. Stepping back, we see your seemingly strong laissez-faire entrance is really a sort of unrealistic utopian libertarianism that is also out of step with Cato's usual realism. You take the position that "the tax code should not be used to encourage this or discourage that because I do not believe in having the government direct capital flows in the economy and favor some investments relative to others." But your position is at odds with some of the best real world campaigns in progress at Cato. Posted dead-center on Cato's home page in December we find Adam B. Schaeffer's excellent article, "School Tax Credit Can Help Kids and the State," arguing that the tax code should be used to encourage private schooling. Elsewhere, we find Michael F. Cannon proposing tax-free health savings accounts, which again use the tax code to encourage saving for medical expenditure, at the expense everything else from dry-cleaning to ExxonMobil.

Keeping it Real

Cato's real world libertarianism regarding strategic tax cuts seems to be nuanced as follows: Let's not use the tax code to favor this or that... unless the alternative is socialism or some other disastrous government boondoggle. Then in that case, a well-crafted tax cut to favor a popular social goal is absolutely the preferred way to go, because tax cuts foster growth, entrepreneurship and competition, and avoid the pitfalls of big government. If, as it seems, that is the larger Cato view, then, Hallelujah, praise the board! But your position ignores the looming big government disaster, spurning realistic tax cut alternatives in favor of unrealistic, no-win do-nothingism.

Fortunately, the Cato board apparently disagrees with the no-win do-nothing approach in education and health care. Sadly, Cato was not in the game back when public education and health programs were first created. Otherwise, we might now enjoy education tax credits, vouchers or tax-free health savings accounts, instead of playing catch up with a host of big-gov disasters in place, all very difficult to reform or remove.

Clearly, the same situation is now at hand with green energy. As with education and health care, the public has determined overwhelmingly that it wants some kind of government support for renewable, cleaner, more efficient energy technology. That is not just evident in the polls: it is here, now, a clear fact that the new administration will certainly enact extensive new forms of public support for alternative energy and energy efficiency in mere months. Many of these (cap and trade, Federal "investment" subsidy) could be damaging to the economy and impossible to remove... unless good people, like you folks at Cato, get in the game NOW, stop with the do-nothing rhetoric that earns only scorn, and champion tax-cutting, pro-growth, market oriented strategies like green energy tax cuts. Otherwise, you are going to be playing catch up in 5, 10, 20 years, facing entrenched big-gov programs, proposing exactly these kinds of alternatives then, and wishing you had acted earlier.

Not only is your utopian do-nothingism out of step with the above ongoing campaigns at Cato, that you ignore negative externalities makes it out of sync with basic economics. Sure, in a perfect world, government should not intervene in the markets to favor one group or another. But it is also well accepted among economists of all stripes that if one industry (say fossil fuels) is creating a mess for which everyone else must pay ("negative externalities"), then price adjustments through taxes or other means may be warranted. This is ultimately decided not by economists, but subjectively by an annoyed public, for – never mind the complex climate and security controversies – how do we really price the bulldozing of our purple mountain majesties, or oil slicks on either shining sea? You are ignoring the 800 pound gorilla: the public has determined that big negative externalities exists, whether we agree, or not.

The Only Question That Matters

Since massive government intervention is on its way, like it or not, doing nothing is a lost argument, hence nearly irrelevant. The only real question becomes, what would be the least damaging, most beneficial intervention?

(I am setting aside "focused adaptation" because it does not address the various negative externalities beyond climate change; the policy is also extremely unlikely to be adopted in the near future; and the policy serves simply as a subsidiary argument supporting your basic proposal that we do nothing right now – which, again, is not going to happen.)

So let's focus on the policy alternatives that will likely become legislation very soon: various tax hikes on carbon, fossil fuels or oil company profits; pay-to-play cap-and-trade; various clean energy mandates; massive Federal "investment" (i.e., subsidy). Because of their likelihood, these are the only alternatives that really matter when evaluating green energy tax cuts. Half of the benefit of the Green Energy Tax Cut proposal lies in avoiding exactly this disaster. And here you are preferring it. I tell you, Jerry, I feel like Alice in Wonderland when I have to defend tax cuts to a Cato scholar who prefers big government programs.

It should not surprise us that when you start down the path of favoring tax and spend policies over tax cuts, not only do you contradict your fellows at Cato, you contradict yourself. For instance, you say:

"Direct subsidy from the Treasury is preferable because it avoids the inefficiency associated with a distorted tax code. Cap and trade or a carbon tax would be even better."
You say you don't like "a distorted tax code," then say you prefer a carbon tax. Hello Jerry. This makes no sense. A carbon tax is itself a tax code distortion, actually a far worse one than a green tax cut, as you yourself explain and we shall see. But first, let's notice that you also contradict yourself in the first part of your statement: "subsidy... avoids the inefficiency associated with a distorted tax code." Not so, as you explain at length to Joseph Romm. To pull out just one of your many anti-subsidy remarks from the debate, you said:

"Subsidies... re-direct investment flows from more profitable to less profitable activities and thus will impoverish the economy."
That sounds like a pretty bad distortion, Jerry. In fact subsidies can create a worse economic distortions than broad based tax cuts, especially if these take the form of the Federal "venture capital" investments promised by the Obama campaign. These will only train green entrepreneurs to shower donations on politicians in hopes of preferment. If history is our guide, subsidies and "investments" will often be handed out for political reasons, and the resulting inefficiency and corruption of American entrepreneurship will be enormous.

But you already know all about this kind of distortion, because (in another example of the same self-contradiction) you yourself brilliantly list for Joe the long history of failed and politically motivated bad government "investments" in the alternative energy industry. By contrast, an across the board green energy tax cut does not favor one particular green company over another, but lets the market pick the winners -- without any of the massive distortions from politically determined subsidies that you describe.

To Tax, Or Not To Tax?

Now, going back to carbon taxes, how do we know that distortion from a carbon tax hike would be economically worse than from a green energy tax cut? You point the way when you argue that: "Tax preferences... create dead-weight losses, and produce less economic efficiency as a consequence..." Both options are tax preferences, so equal on that score. The difference is, tax hike versus tax cut. We know that a carbon tax would entail more dead-weight loss because economics 101 says that tax hikes create dead-weight losses, but tax cuts eliminate them. For anyone who is wondering what a dead-weight loss is, here is a nice little description that sums it up. Any tax prices out some consumers who can't afford it, creating losses for both those consumers and the producers, who sell less. Eliminate the tax, and you eliminate the loss.

This dead-weight loss analysis is a technical way of saying that tax hikes depress economic activity and tax cuts boost economic activity. So if you need to adjust a price in the market, the better way to do it is with a tax cut, not a tax hike.

And by the way, lest anyone be misled by jargon, the distortion caused by the politically determined subsidies Jerry favors is ALSO a dead-weight loss, and as noted, far more damaging than a broad tax cut. Contrary to what Jerry implies, subsidies do not have any dead-weight loss advantage over tax cuts, rather the reverse.

Thus far, your arguments for favoring subsidy and carbon tax hikes are self-contradictory. You have not advanced any logical, non-contradictory arguments to support these preferences. This is the predictable result of doing the Keynesian Tango. Those sly sacada steps will trip you up every time.

Paths of Error

The rest of your arguments may or may not be self-contradictory (I have not read everything you have written). They are, however, wrong:

1) "Tax cuts are... worse than more direct interventions because [they] are less visible to third parties." Not so. As I am sure all your Cato fellows are keenly aware, no third party can see any of the $2 trillion dollars of entirely invisible direct investment that the Fed has recently doled out to God knows which banks, because they aren't telling. By contrast, tax cuts are extremely visible to market participants, featuring prominently in any sales or investment pitch when relevant. Tax cuts in fact must be visible if they are to work as planned. It is the back room deals to subsidize in this or that particular company, the approach you prefer, that are truly invisible and pernicious to boot.

2) "Tax preferences increase the cost of tax collection." T'ain't necessarily so. Tax cuts, as your Cato colleagues will tell you, increase tax compliance, so decrease the cost of tax enforcement. Besides, a carbon tax would have the same objection (oh, hey, there's a self-contradiction!) only the enforcement costs would be even greater, because compliance would be worse. Cap-and-trade would require the cost of a huge bureaucracy to give the illusion that the program is enforceable and not running off the rails. All "direct interventions" you favor would have similarly huge administrative costs. Indeed it is safe to say that the administrative costs for each of these tax and spend options would be far larger than for green energy tax cuts, which could possibly lower tax collection costs through better compliance.

3) "Tax preferences... decrease otherwise desirable economic activity." OK, well, this is part of the same self-contradiction again. For the above merely tweaks the dead-weight loss argument a bit, so the same objection applies to both carbon tax and subsidies, only more so. But the formulation is noteworthy.

Let's be clear, the economic activity that is principally decreased here -- oil and coal consumption -- is not really all that desirable in the eyes of the American public. All the policies we are discussing are supposed to do just that. The key difference is that tax and spend policies drag the entire economy down in the process, while green tax cuts, like any tax cut, will help boost not only the entire economy, but can also help the oil and coal companies profitably diversify in clean green ways, becoming increasingly tax free the greener they get. So everybody benefits.

In fact, strategic tax cuts or hikes, focussed on the energy sector, will have a 2X effect, positive or negative, for a cumulative 4X difference in outcome. Energy is such a key input in the economy, like taxes or interest rates, that energy price changes can have a big impact on economic health. A tax cut in the energy sector will have all the benefits of a normal tax cut (benefits for the energy sector, etc.) plus the added benefit of lower energy prices stimulating the entire economy. A carbon tax, would have a double negative effect: all the dead-weight harm to the industry from a fossil fuel tax hike, plus the harm of higher energy prices for all.

That is why the energy sector is the best possible area to target for a strategic tax cut, because the benefit of that tax cut is immediately passed on to the rest of the economy through reduced energy prices. That is also why a gas or carbon tax would be an economic disaster at this time, because that tax hike is also passed on. So it is clear that a carbon tax would "decrease otherwise desirable economic activity" to a huge degree, while a green energy tax cut would actually benefit the whole economy, net of net.

Indeed, the net economic benefit is even greater than that, for if we include tax cuts on energy efficiency, we get an additional multiplier effect by factoring in those gains. If our cars and refrigerators use less energy, not only do we consume and pay less, but that reduced demand puts even more downward pressure on energy prices. Those combined saving are also passed on to the entire economy, like a broad tax cut.

Like a broad tax cut? Actually, it really is a broad tax cut, because the benefits of a strategic green energy tax cut flow through so easily via energy prices, because the double multiplier effect magnifies the benefit to all. Since Cato stands no hope of getting a broad across-the-board tax cut passed in the next several years, this is certainly the next best thing.

What is in it for Oil and Coal?

Now, you may argue, why should the oil or coal industries suffer? I would agree. They should not. But they would definitely suffer a great deal under the punitive anti-fossil-fuel tax-and-spend policies you and the Democrats currently prefer. By contrast, under the green energy tax cut proposal, those industries are offered a massive opportunity to simultaneously diversify and reduce all corporate taxes (sales, income, interest income, even shareholder's capital gains taxes) by shifting green. Think of it. Companies like ExxonMobil are currently sitting on mountains of cash that the Democrats would like to take away from them. Now we all know they will have to diversify someday. Why not now? How about instead of the punishing policies you prefer and the Democrats will likely enact, we let them keep all that cash and even reduce their taxes by diversifying into the most promising green energy investment available? How would ExxonMobil feel about becoming the leader in not just oil, but in every clean, green energy source... which they could certainly do with their piles of cash. How would they feel about becoming increasingly tax free? And then, when fuel competition has increased to the public's satisfaction through strategic tax cuts, we will have an object lesson in the power of tax cuts, and an excellent case for across the board tax cuts to decrease dead-weight loss, boost the economy and raise revenue.

But Wait: Jerry Hates Tax Cuts!

Oh right. To me, this is the most puzzling part of your footwork, the pro-tax anti-deficit interlude. For in this passage, you may not be contradicting yourself, but you are not exactly contradicting me either. I am not sure who it is you are debating with here, or who you think believes in the "libertarian faith." Not me. I like my libertarianism grounded in reality and reason. I don't know who put the jam in your jelly with the "starve the beast" hypothesis. Wasn't me. I don't know who is calling for debt financing. Not me.

For the record, the Green Energy Tax Cut proposal pays for itself as follows: the elimination of all direct subsidies for energy ($16.6 billion for oil, coal, nuclear, renewables, biofuels, etc.), agriculture ($20 billion), and vehicles; elimination of all proposed and existing federal programs to invest directly in alternative energy including nuclear ($30 billion); elimination of mandate programs; elimination of all proposed cap and trade programs; legalization and taxation of hemp. Total saving: about $66 billion per year, minimum.

In addition, if your colleague Chris Edwards is right that reducing US corporate taxes by 14% would maximize tax revenues, then if the revenue curve is bell shaped, reducing them by 28% would most likely be revenue neutral. (These numbers serve only to illustrate; other economist might offer other figures.) That means green energy corporate taxes can likely be cut by up to these amounts and pay for themselves with no offsets. (Very likely green energy corporate taxes can be cut by more than these amounts because tax cuts in the energy sector flow through easily, with multiplier effects, to the rest of the economy, producing more economy wide growth and tax revenue than your average corporate tax cut.) A well designed Green Energy Tax Cut plan could produce both a textbook Laffer curve revenue increase, and a spending reduction by replacing wasteful programs.

The only pro-tax argument you make that addresses my proposal is your notion that tax cuts should be avoided because they encourage over spending by reducing its marginal cost to the tax payer. But deliberately raising taxes in hopes that spending will decline strikes me as a rather backwards policy, not supported by evidence. Cato's in house regression analysis found "no clear relationship" between tax cuts and spending. That implies that while tax cuts do not "starve the beast," you actually have no evidence that tax hikes reduce spending either. Tax rates seem not to affect spending, apparently. So better to tackle the spending directly, and impose balanced budget requirements or debt limits, as many states do. The pro-growth, Laffer curve benefits of tax cuts should not be lost because doing so will not reduce spending, according to your evidence.

The Bottom Line

Analysis of your principle arguments reveals the following. Relative to green energy tax cuts, carbon taxes and politically distributed subsidies would have higher administrative costs, decrease desirable economic activity to a far greater degree, create more dead-weight loss, and produce less economic efficiency as a consequence. Political subsidies and carbon trades would also be less visible to third parties, so more liable to misbehavior. Green energy tax cuts would improve compliance, pass on tax cut benefits to the entire economy, and eliminate dead-weight loss. As such strategic green energy tax cuts are preferable because they avoid the greater economic inefficiency of the other alternatives, and actually confer a net benefit, acting in effect like a broad tax cut for the whole economy.

Indeed, a successful green energy tax cut today becomes an excellent argument for an actual economy-wide tax cut tomorrow. If we can point to a revived and greener auto industry, a strong stable US economy, US world leadership in the burgeoning green energy sector, the majority of global green energy investment passing through US capital markets, massive advances in energy efficiency and emissions reduction, increased energy competition and supply, lower, more stable energy prices, millions more jobs, increased tax revenues, cleaner, more diversified energy companies, and finally, the Big Government Energy Disaster averted, this can all become a teachable moment. Cato would look like a champion, with a great new argument for eliminating tax and spend social policies and slashing taxes across the board.