Just the Facts, Ma’am 2 11 February 2019.

Second, three tax proposals have been offered to raise more revenue from the rich.[1]  Congresswoman Alexandria Ocasio-Cortez has suggested raising the tax on incomes above $10 million from the current 37 percent to 60 or 70 percent.  This would return upper-income tax rates to the level that prevailed during the 1970s.  In the regime of the 1970s, many deductions and exemptions existed which do not exist today.  The effective tax rate on high incomes under the Ocasio-Cortez proposal would be much higher than the one of the 1970s.  However, the top rate in the 1970s applied to the contemporary equivalent of $800,000.

Senator Elizabeth Warren has proposed a “wealth tax,” not merely an income tax.[2]  People with a net worth between $50 million and $1 billion would pay 2 percent per year[3]; people worth more than $1 billion would pay 3 percent per year.[4]  According to the calculations underlying Senator Warren’s proposal, this tax would generate $2.75 trillion over ten years.

The Warren proposal may not be constitutional.  The 16th Amendment to the Constitution created a tax on income, not a tax on all assets.  Apparently, the courts have held that taxes on estates and gifts are excise taxes on the transfer of assets, rather than a tax on the assets themselves.  The tax also might be a logistical nightmare to apply.

Senator Bernie Sanders has proposed revising the estate tax.  Until 2009, the tax applied to estates of more than $3.5 million.  A 2017 tax change raised the threshold for individuals to about $11 million and the threshold for couples to about $22 million, with a standard tax rate of 40 percent.  Senator Sanders would return to the 2009 level of $3.5 million.  In addition, he replaces a single tax rate with multiple rates.  From $3.5 million to $10 million, the rate would be 45 percent; on estates of $1 billion or more, the rate would be 77 percent.

[1] Paul Sullivan, “Taxing the Rich Sounds Easy.  But It’s Not,” NYT, 2 February 2019; Sydney Ember, “Sanders Unveils a Plan To Increase Estate Taxes,” NYT, 1 February 2019.

[2] Senator Bernie Sanders also supports the idea of a wealth tax, if not necessarily Senator Warren’s version of such a tax.

[3] Apparently, there are 39,735 people worth between $50 million and $1 billion in the United States today.

[4] Apparently, there are 680 billionaires in the United States today.

Just the facts, Ma’am 1 11 February 2019.

The Congressional Budget Office (CBO) reports that spending on people aged 65 and older[1] has increased as a share of federal spending from 35 percent (2005) to 40 percent (2018) and is projected to rise to 50 percent (2029).  The federal budget deficit is projected to exceed $1 trillion a year from 2022 to 2029.  Proposals recently offered by Democrats intending to run for President in 2020 or to shape the party’s policy for that race may have an effect on this situation.  None of the proposals claim to aim at deficit reduction.  Instead, they target reducing income inequality and/or financing expanded programs.

First, it is proposed to reform Social Security.[2]  As originally designed, Social Security enhanced private preparation for retirement by adding the resources from a tax on currently working people to individual savings and/or pensions.  Today, however, there appears to be a savings crisis among working people.

There is also a financing crisis for Social Security.  The actuaries at the Social Security Administration report that outlays (payments) will soon exceed income (withholding tax revenues).  Thereafter the payments will be paid from an accumulated surplus held in the form of U.S. treasury bonds.  When that trust fund is exhausted by 2034, benefits will have to be reduced.  Currently, about 63 million people receive Social Security benefits.  The number is expected to rise to 89 million by 2030.  The total current cost is about $1 trillion.  The maximum amount of income subject to Social Security tax is $132,900; the current withholding tax on payrolls is 12.4 percent.

Democrats propose to increase the minimum benefit to help lower-income people who have saved less than have higher income people; increase benefits by an average of about two percent; raise the annual cost-of-living adjustment to payments to respond to the reality that retirees consume goods and services in a different pattern than do still-working people; cut the tax on benefits for middle-income recipients while increasing them on upper-income recipients; and increase the payroll tax rate from the current to 14.8 percent by 2040, and the payroll tax would be imposed on incomes above $400,000 a year, while incomes between $132,900 a year and $400,000 a year would not be subject to taxation.

This proposal would permanently fix the financing problem.  It would also increase benefits paid out to some Social Security recipients.  An estimated three-quarters of the extra income would go to covering the looming deficit; the rest would go to increased benefits for lower-income recipients.

[1] Social Security, Medicare, Medicaid.

[2] Robert Pear, “Democrats Push First Major Social Security Expansion Since 1972,” NYT, 4 February 2019.

Campaign Issues 2016 1.

Currently, Social Security faces two fundamental problems.[1]  One fundamental problem is that Social Security is based on a “pay-as-you-go” model: withholding taxes from people who are working pay for the retirement of people who are no longer working.  Fine.  If there are a lot of people working and a smaller number not working, then the system functions smoothly.  What if the number of people working declines relative to the number of those who are not working?  That’s more of a problem.  Taxes on those still working will have to rise to pay for those no longer working.  That is the situation in which Americans find themselves as the “Baby Boom” generation passes out of the work force and into the work-for-me force.

This problem has been around for a long time and people in authority have been trying to devise a solution for a long time.   In 1983 a bi-partisan commission investigated solutions.  Congress followed the commission’s recommendations by raising taxes and extending the age of full eligibility. That fixed the problem for a while, but—of course–“I’m back!”  In a report of 2015, the trustees reported that the Social Security trust fund will go broke in 2034, with the Social Security Administration able to pay less than 79 cents on the dollar of benefits.  In 2011-2012, President Barack Obama sketched a budget compromise agreement in which Social Security would be continually eroded by inflation.  The Republicans weren’t buying this idea.  Another solution, which could be combined with de-coupling Social Security benefits from the inflation index, would be to raise the cap on with-holding taxes.  Currently, only income below about $134,000 a year is subject to with-holding.  Raising that ceiling would generate a lot of revenue.  Taken together, these proposals probably offer a manageable means to solve the Social Security problem for the immediate future.

A second fundamental problem is that Social Security was never designed to be a full retirement pension.  It was meant to provide a basic income for retirees, who were expected to save from current income to pay for the bulk of their future retirement needs.  However, many members of the “Baby Boom” did not do any significant saving for their retirement.

Now, under the influence of the Bernie Sanders campaign, the Democrats have come out for expanding Social Security to make its benefits more generous.  Hillary Clinton has pledged to increase benefits for widows and for those who stop working to be care providers for children or sick family members; to resist reduction of cost-of-living increases; and to resist increasing the age for full eligibility.  She would pay for these increased benefits through higher taxes on the wealthy.  Still, even these proposals don’t go as far as the left wing of the party wants.  President Obama has remarked that “a lot of Americans don’t have retirement savings [and] fewer people have pensions they can really count on.”  How to make up for this lifetime lack of thrift?

Current proposals include increasing the benefits for all recipients while providing additional benefits for the uncertain number of the “most vulnerable”; and/or increasing cost-of-living adjustments to include medical costs.

Several questions arise out of these problems.  First, which “Baby Boomers” did not save and why did they not save?  Moral recriminations are going to be a part of this debate.  Second, what are these proposals likely to cost?  Third, how large a share of the well-off will have to be taxed more heavily?  Just the “1 percent” or the “5 percent” or anyone who did manage to save?  Fourth, do Americans want to transition Social Security from the current partial pension system to a full-blown national retirement system?   What would a long-term system require?

[1] Robert Pear, “Driven by Campaign Populism, Democrats Unite on Social Security Plan,” NYT, 19 June 2016.

Whistling past the graveyard?

Simon Nixon holds that in the years before the financial crisis broke, Greece was flush with money. The Greek governments of the time did the popular thing by increasing pensions and wages for public employees well beyond the level that the feeble Greek economy could sustain in normal times. Then the slump dried up the river of money. Greece faced a crisis; a Greek financial collapse could spread to the rest of the Eurozone; and the European Central Bank, the Eurozone countries, and the International Monetary Fund stepped in with a bailout.[1]

In return for this bail-out, the creditors demanded that Greece make reforms of its unsustainable public-sector and pension systems to reduce spending to a level that the Greek economy could support in normal times. Instead of pursuing this politically unpopular course, Greece laid its main effort on enhanced tax collection and on a reform of the pension system that did not address the real problem. Thus, the number of bureaucrats fell as they were transferred to early retirement. This increased the burden of pensions in the budget rather than reducing it.

The Syriza government argues that budget cuts will just push Greece deeper into recession. They have been asking for an expansionary budget policy combined with more money from the European Union for “investment.”

There is a consensus on the need to “restructure” (greatly reduce) Greece’s debt. There is a consensus among the creditors on the need for serious reforms of Greece’s public sector and pension systems. A deal should be easy to reach. However, the Greeks want the debt reduction to come at the same time as the promise to implement reforms in the future.[2] The creditors don’t trust the Greeks to implement the reforms once they have the money in hand. As a result, they insist that the reforms have to precede any debt restructuring.

Anatole Kaletsky argues that, between the outbreak of the Greek financial crisis in 2009 and the end of 2014, there existed a real danger that a Greek default would be the first domino in a chain that ran through Portugal, Spain, and Italy before crashing down on Germany.[3] In January 2015, however, Mario Draghi, the head of the European Central Bank, won approval for a massive program of bond-buying on the part of the ECB. In essence, the ECB now can print all the money it needs to drown the fires of a financial crisis. Euro-zone countries agreed to this measure in order to build a fire-wall between Greece and the rest of the Eurozone. Now, the dangers of a Greek default are chiefly to the Greeks themselves: default will block access to foreign credits, end ECB support for the Greek banking system, lead to a run on the banks that will leave many people empty handed, and the government will be unable to pay the pensioners and public employees on whose behalf it has been engaged in this game of chicken.

Then there is the collateral damage. A “Grexit” may not do serious damage to the European economy. It will harm the reputation of the IMF. IMF rules bar it from lending to countries that are unlikely to be able to sustain the debt. The Eurozone lured the IMF into participating in the Greek bail-out by warnings of a “financial contagion.” Well, the current level of Greek debt is not sustainable. A Greek default will gore the IMF, which prime minister Tsipras has just denounced as ‘criminal.” That will affect IMF lending programs in several ways for the foreseeable future.

The level of emotional engagement here reminds us that politics isn’t always rational.

[1] Simon Nixon, “Athens and Its Creditors Head for the Brink,” WSJ, 8 June 2015.

[2] See: “I’ll gladly pay you Tuesday for a hamburger today.”

[3] Anatole Kaletsky, “Greek crisis: Europe has nothing to fear from Greek belligerence,” The Guardian, 16 June 2015.