Copyright (c) 2009 All rights reserved. http://works.bepress.com/edward_mccaffery Recent documents in Edward J McCaffery en-us Thu, 06 Aug 2009 12:44:31 PDT 3600 http://works.bepress.com/edward_mccaffery/21 http://works.bepress.com/edward_mccaffery/21 Tue, 04 Aug 2009 15:35:00 PDT This brief article summarizes an argument that the estate tax reform or repeal debate has always been about money: not the government's money from the tax, which is modest at best, but the politicians money from campaign contributions elicited to retain or repeal the tax. The article uses that theory to predict likely short term legislative developments. Edward J. McCaffery Taxation Politics Public Law and Legal Theory http://works.bepress.com/edward_mccaffery/20 http://works.bepress.com/edward_mccaffery/20 Thu, 30 Apr 2009 16:13:39 PDT We argue that a spending tax, as opposed to an income or wage tax, is the "last best hope" for a return to significantly more progressive marginal tax rates than obtain today. The simple explanation for this central claim looks to incentive effects, especially for "rich people," as both economists and commentators are inclined to focus. High marginal tax rates under an income tax fall on and hence deter the socially productive activities of work and savings. High marginal rates under a wage tax fall on and hence deter the socially productive activity of work alone. But high marginal rates under a spending tax fall on and hence deter high-end spending, which is arguably a social "bad," and do not necessarily deter the social goods of work and savings. This is a possible empirical result. In this Article, we present the analytic arguments for it and sketch out a research agenda that might verify it. The idea is that because one can escape or defer paying taxes under a progressive spending tax by saving, an activity with positive social externalities, the efficiency costs of high marginal rates under a spending tax can be mitigated. Unless people work only in order to be able to spend on themselves, and even then only if they fully internalize in their present labor supply decisions the ultimate tax they will pay - and we argue that each of these assumptions is unlikely to hold in the extreme - a spending tax can bear more steeply progressive rates with less cost in efficiency or social wealth than can an income or wage tax. A progressive spending tax also holds out the possibility of sorting the rich or high ability into two groups, elastic savers and inelastic spenders, which could yield welfare gains unavailable under income or wage taxes, which under current technologies can only sort the high ability into workers and non-workers. Progressive spending taxes also fall on consumption financed by windfall gains, as to which unexpected good fortune ex ante incentive effects are likely to be weak.Most of the Article sets out analytic possibilities. In the final Section, we add a sketch of a welfarist and a fairness-based argument for progressive spending taxes, and conclude with a call for a major new research agenda. Edward J. McCaffery Economics Law and Economics Taxation http://works.bepress.com/edward_mccaffery/19 http://works.bepress.com/edward_mccaffery/19 Thu, 30 Apr 2009 16:13:38 PDT These are powerpoint slides from a presentation at a joint UCLA-Tax Policy Center Conference on Tax Policy in the Obama Era. The basic insight is that it will be difficult to raise significant revenue through the current tax system. Behavioral perspectives suggest that a series of small (or large) cuts, aiming towards a flattened rate structure - as we have seen in the Ronald Reagan and George W. Bush Administrations - are likely to be extremely popular. Undoing them with tax increases will be disproportionately psychically hard. Given that President Obama faces the perceived need for short term stimulus, likely meaning more small tax cuts, meeting his ultimate goals of reducing deficits and restoring more progression to the tax system will be difficult, if not impossible. Ultimately, the insights of behavioral economics may be most important in reconsidering the institutional mechanisms that produce tax and spending policy. Edward J. McCaffery Economics Law and Economics Public Law and Legal Theory Taxation http://works.bepress.com/edward_mccaffery/18 http://works.bepress.com/edward_mccaffery/18 Thu, 31 Jul 2008 17:32:08 PDT This is a written version of testimony given to the Joint Economic Committee in November, 2003, subsequently published in Tax Notes. Meaningful simplification is possible, but depends on fundamental tax reform. Fundamental tax reform must start with the tax base, logically distinct from tax rates. Under progressive marginal rates, the two standard forms of consumption tax, prepaid, yield-exempt or (all equivalently) wage, and postpaid, cash-flow or (all equivalently) spending, are not equivalent. Actual tax policy today is drifting towards a flat wage tax, which never includes the yield to capital in the base. A more liberal answer is a progressive spending tax, which does tax the yield to capital, under just the right conditions: when but only when this yield facilitates higher material lifestyles. Hence such a tax stands between an income tax, which double taxes all savings, and a wage tax, which taxes none. A consistent progressive spending tax also generates great simplification, because all further taxes on capital, such as the corporate income or gift and estate taxes, can be reduced or repealed, and all rules about capital gains, losses, realization, recognition and so on become moot. Even further simplification can obtain by substituting another form of spending tax, such as a VAT or a national retail sales tax, plus a rebate for the two lowest brackets of the progressive spending tax, leaving a supplemental spending tax only for the wealthy, such as households spending over $100,000 per year. Edward J. McCaffery Economics Law and Economics Taxation http://works.bepress.com/edward_mccaffery/17 http://works.bepress.com/edward_mccaffery/17 Thu, 31 Jul 2008 17:32:03 PDT Ever since Mancur Olson's The Logic Of Collective Action was published in 1965, if not before, the traditional conception of politics in Western democracies has given pride of place to special interests -- small groups with high stakes -- seeking favors from legislators. These groups are able to solve the coordination and free-rider problems that plague larger group interests, and get their way in Congress and other legislative bodies by doling out campaign contributions and other benefits. The groups are the predator, legislators the prey. In this article we argue that in an important range of cases, the traditional conception gets it backward. Legislators who desire money will act rationally to set the conditions under which small groups with high stakes can form, in order to "shake them down" for contributions. We call this a "reverse Mancur Olson" or "ex ante rent extraction" phenomenon. Legislators become the predators, individuals and groups the prey. We illustrate it with an extended case study of estate tax repeal/non repeal, and suggest several extensions. The new conception changes our understanding of the political process. Edward J. McCaffery Politics http://works.bepress.com/edward_mccaffery/16 http://works.bepress.com/edward_mccaffery/16 Thu, 31 Jul 2008 17:31:57 PDT These are slides from a presentation to the President's Advisory Panel on Tax Reform, given in Washington D.C. on May 11, 2005, updated, with additional slides, and sources at the end. The principal goal is to summarize the mechanics and analytics of a consumed or cash-flow income tax, a progressive spending tax, based on a rearrangement of the Haig Simons identity, Income = Consumption + Savings, to generate Consumption = Income - Savings. A consistent spending tax simply features unlimited deductions for savings, along the lines of traditional Individual Retirement Accounts (IRAs), plus the inclusion of debt as a cash-flow input (the fatal flaw of the 1990s USA Tax Plan was its failure to include debt in the tax base). Progressive rates can be maintained, even increased.The critical point is that such a progressive postpaid consumption, cash-flow or (all equivalently) spending tax is not equivalent to a wage tax, and does not systematically exempt the yield to savings from the tax base. Instead, a consistent progressive spending tax stands between an income tax, which double taxes all savings, and a prepaid consumption, yield exempt, or (all equivalently) wage tax, which never taxes any savings. A consistent progressive spending tax taxes the yield to capital when (but only when) it is used to elevate material lifestyles, not when capital transactions (savings, investing, borrowing) are used to smooth out, in time, a taxpayer's labor market earnings. This is an attractive ideal, as argued at greater length in McCaffery 2005a.It is also noted that such a progressive spending tax is a normatively attractive "hybrid," in that it taxes some but not all savings, and in a principled and appealing way, in contrast to the flawed practice of engrafting consumption tax elements (of either sort, pre or post paid) onto an income tax base. See McCaffery 2005b. Edward McCaffery Banking and Finance Economics Public Law and Legal Theory Taxation http://works.bepress.com/edward_mccaffery/15 http://works.bepress.com/edward_mccaffery/15 Thu, 31 Jul 2008 17:31:51 PDT These are slides from a presentation to the Gruter Institute for Law and Behavioral Research, Squaw Valley Conference, May, 2008 (at which event Michael Jensen got me to agree to post these slides as a pdf on SSRN . . . ). The task is to give an overview of what I hope to be an emerging field of behavioral public finance. Behavioral finance, as per Barberis and Thaler 2003 (and others), consists of two parts: (1) individual level heuristics and biases, which can lead to sub-optimal (inconsistent) judgment and decision-making, and (2) institutional arbitrage mechanisms. In private finance and economics, these latter, most importantly competition and markets, act to reduce and perhaps eliminate the "harms" from the former. Hence we get the relatively modest policy recommendations characteristic of Sunstien and Thaler's Nudge (among many other examples), such as for default rules that set participation in 401(k) plans. In public finance, in contrast--and arguably in all sectors of the economy where there are not flourishing markets (such as among the poor?)---there are no obvious arbitrage mechanisms. Politicians and the political processes can even exacerbate persistent cognitive error: consider the predilection for hidden taxes, such as the corporate tax. Behavioral public finance is a hugely important subject matter.These slides, summarizing original research done with Jon Baron of Penn (see the survey piece, McCaffery and Baron 2006), explain the general setting; group together many biases under a common isolation effect, and then use Kaplow and Shavell 2002's model of optimal legal system design, tracking the two welfare theorems--i.e., set rules (including, we argue, public finance rules), so as to maximize wealth or serve efficiency, and then redistribute from the greater social pie via the tax system---to suggest the possible problems for a democracy. These include: (a), leaving wealth on the table, because the optimally psychologically pleasing policy is not the most efficient one; (b) pitting equity or redistribution against efficiency, unnecessarily, because support for redistribution depends on the purely formal aspects of public finance; and (c) allowing skilful politicians to affect preference reversals among the citizenry, by agenda setting and framing, as by getting citizens averse to deficits and in favor of government expenditures to cut taxes, today, by isolating tax cuts from spending programs. Edward J. McCaffery Banking and Finance Economics Law and Economics Public Law and Legal Theory Taxation http://works.bepress.com/edward_mccaffery/14 http://works.bepress.com/edward_mccaffery/14 Thu, 31 Jul 2008 17:31:45 PDT These are brief comments on an excellent paper by Jeffrey Liebman and Richard Zeckhauser, prepared for a conference sponsored by the Urban Institute and Brookings on tax and health care policy. Liebman and Zeckhauser summarize the complexities involved in making optimal health insurance decisions, and offer generally cautionary notes about conflating these with tax law (a theme of the conference). Most importantly, Liebman and Zeckhauser suggest a positive role for employers in health care and insurance decisions, as better setters or framers of choice sets--witness 401(k) plans. In this Commentary, I applaud Leibman and Zeckhauser's general work and particular observation, generalizing that behavioralist approaches might often lead to a search for the "best decider," akin to the search for the "least cost avoider" or "best cost spreader" in law and economics and tort law (e.g., the work of Guido Calabresi). I caution against an approach to behavioralism that simply lists "one damned bias after another," and suggest that the case against simply turning health insurance choices over to consumers is overdetermined by behavioral economics, bounded rationality, common sense and experience (cf. experience with Medicare prescription drug plan, subprime mortgage crisis, etc., etc.). I nonetheless suggest that the insights of behavioralism can be used to better guide policy-makers today. For example, lawmakers should consider the complexities of choices that their policies ask individuals to make, and take a Hippocratic Oath to "do no more complexity" (which argues strongly against the continued conflation of tax and health care policy). Competition should focus on meaningful real variables, such as the quality, range, and location of care providers, and less on financial variables, such as the levels of deductibles and co-pays, which can helpfully be standardized to prevent distracting competition along these lines. Edward J. McCaffery Banking and Finance Economics Health Law and Policy Law and Economics Public Law and Legal Theory Taxation http://works.bepress.com/edward_mccaffery/13 http://works.bepress.com/edward_mccaffery/13 Thu, 31 Jul 2008 17:31:37 PDT Tax and other fiscal policy systems inevitably affect patterns of work, marriage, household formation, child-bearing, and more. These "micro-level" concerns are important subjects for "fiscal sociology" to consider from a multidisciplinary perspective. This essay looks at some gendered aspects of taxation in a world-wide and historical perspective. It reveals surprising differences among countries, and a perhaps even more surprising open acceptance of fiscal mechanisms to shape household formation, meet natalist concerns, and affect the sexual division of labor. Amidst the diversity, three themes emerge: One, causes and effects are often hard to see in the dizzying complexity of tax and fiscal policy: there is a "fog of tax," akin to the "fog of war," making it hard even to understand what is going on. Two, in the complexity and haze, there is much room for rhetorical manipulation and even cognitive error. Three, when change does come, it more often than not favors the elite, and/or is predicated on macroeconomic concerns, such as the need for more or less female labor-force participation, or more or fewer children. Absent from the domain of fiscal politics, by and large, is a thicker substantive conception of rights or fundamental fairness, especially one looking to the dynamic effects of micro-level decisions about work and family on systemic patterns of discrimination and entrenchment. These various themes lead to a strong conclusion that more detailed work, on a country-by-country basis, is needed, simply to ascertain what is going on and why, and to a more tentative conclusion that the game may no longer be worth the candle: that there is good reason to be skeptical of complex tax and fiscal systems consciously or unconsciously aimed at "social engineering," even if we accept the inevitability of some non-neutral effects from any set of rules. Edward J. McCaffery Comparative Law Law and Economics Taxation http://works.bepress.com/edward_mccaffery/12 http://works.bepress.com/edward_mccaffery/12 Wed, 10 Jan 2007 14:49:38 PST This essay is about the intersection -- or possible intersection -- between the fields of behavioral economics and public finance, which we call behavioral public finance. Edward J. McCaffery Economics