Posts Tagged ‘Politics’

Adele Morris co-authored this post.

A US carbon tax could raise $1 trillion or more in new revenue over the next decade. There is no shortage of ways to use it.

Tax reformers want to cut business and personal taxes. Budget hawks want to reduce future deficits. Environmental advocates want to invest in clean energy. Progressives want to expand the social safety net. And so on.

How should we make sense of these competing ideas? In a new policy brief, we suggest a framework for thinking through these options. We identify four basic uses of carbon tax revenues:

  1. Offset the new burdens that a carbon tax places on consumers, producers, communities, and the broader economy;
  2. Support further efforts to reduce greenhouse gas emissions;
  3. Ameliorate the harms of climate disruption; or
  4. Fund public priorities unrelated to climate.

Each has merit, especially as part of an effort to build a political coalition to enact and maintain a carbon tax. But some ideas have more merit than others.

On both policy and political grounds, it makes sense to use carbon tax revenue to soften the blow on lower-income households and coal workers and their communities. Doing so will require only a small fraction (15 percent or so) of carbon tax revenue, leaving substantial resources for other purposes.

Recycling revenue into broader cuts in personal and business taxes also has particular merit. It can help offset the economic burden of the carbon tax and facilitate pro-growth tax reforms. By assuaging concerns that a carbon tax is just another way to expand government, moreover, revenue recycling may be essential to enacting a tax. However, requiring strict revenue neutrality also has downsides. Some policy goals, such as assistance to displaced coal workers, could be better pursued by spending the money directly, rather than indirectly through the tax system.

Policymakers should approach other uses of carbon tax revenue with more caution.
For instance, they should be careful in using revenues to try to cut emissions further. A well-designed carbon tax would do a good job reducing greenhouse gas emissions, so additional policy initiatives should focus on filling in gaps—reducing emissions the tax may miss. Merely duplicating efforts—e.g., supporting clean electricity facilities—would not be cost effective. Indeed, policymakers could roll back tax credits for solar and wind power and other subsidies and mandates that a sizable carbon tax would make redundant. That would free up resources to pursue other, more beneficial goals.

Policymakers should be similarly cautious about tightly linking revenue to specific new spending, whether climate-related (e.g., coastal protection) or not (e.g., new highways). Earmarking risks overspending on any one line item, deploying resources inefficiently, and fueling concerns that the tax would become a slush fund for politicians’ pet projects.

Decarbonizing the economy requires long-term solutions. Many emissions-reducing investments involve large expenditures on long-lived capital, such as power plants and industrial facilities. A carbon tax package that businesses and people believe will endure will be more environmentally successful than one that people think may not survive the next election.

In Australia, for instance, a carbon tax that took effect in 2012 was repealed just two years later, an object lesson in how highly partisan climate policies can be rescinded by future governments. Policymakers should thus give special attention to identifying revenue uses that build ongoing support for a carbon tax.

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What do indoor tanning, shopping bags, junk food, alcoholic beverages, tobacco, “gas guzzling” cars, ozone-depleting chemicals, sugary drinks, marijuana, gasoline, coal, carbon-containing fuels, and financial transactions have in common? Taxes that discourage them. The United States taxes indoor tanning to reduce skin cancer, for example, while Washington DC taxes shopping bags to cut litter, and Mexico taxes junk food to fight obesity.

Governments hope these “corrective taxes” will reduce harms from pollution, unhealthy consumption, and other risky behaviors. But taxing “bads” can also bring in big money. A US carbon tax could easily raise more than $100 billion annually, for example, and a tax on sugary drinks could raise $10 billion.

How should governments use that money? As you might expect, policymakers, advocates, and analysts have proposed myriad ways to use the revenue to pay for new spending, to cut taxes, or, in a few cases, to reduce borrowing. In a new paper, however, Adele Morris and I argue that all these options boil down to four basic approaches:

Revenue Use Table 2

Advocates often suggest that revenue be put toward the same goal as the tax. Carbon tax revenues might subsidize energy efficiency or clean energy, for example, and sugary drink revenues might subsidize healthier food or nutrition information programs. Using revenue that way may make sense if you believe the tax won’t sufficiently change business and consumer choices. But there are downsides. A successful tax will typically reduce the potential benefits from other policies aimed at the same goal. As a result, it may make sense to roll back other policies, rather than expand them, when a substantial corrective tax is implemented. Directing revenues to the same goal may also limit lawmakers’ ability to build a coalition for a corrective tax, while other uses may attract supporters with other priorities.

Another approach is to use the revenue to offset the burdens that a corrective tax creates. New taxes on food, energy, and other products can squeeze household budgets, particularly for families with lower incomes. Shrinking the market for targeted products may disproportionately burden specific workers, industries, and communities. If a tax is large enough, moreover, it may slow overall economic activity. Tax cuts, expansions in transfer programs, or other spending increases may offset some of these harms while leaving the incentives intact. This is particularly important when taxes are intended to help people who suffer from internalities—health risks and other costs they unintentionally impose on themselves. In those cases, rebating revenue to affected consumers can help ensure that a tax actually helps the people who pay it.

A third approach is to use revenues to offset costs of the taxed activity. If an activity imposes costs on an identifiable group of people, it may make sense to compensate them for the harm. A US tax on coal does this, for example, by funding assistance to workers who develop black lung disease. Revenues can also cover some costs of providing public services that support the taxed activity. Fuel taxes paid by drivers, airplane passengers, and maritime shippers , for example, help fund the creation and maintenance of the associated infrastructure.

Finally, governments could treat corrective taxes like any revenue source, with receipts used to reduce borrowing, boost spending, or cut taxes in ways unrelated to the goal of the tax. Governments could allocate the money using ordinary budget processes, as Berkeley, California does with its soda tax revenue, or could earmark revenues to specific efforts, as France does by directing some financial transactions tax revenue to international aid.

Policymakers must consider a host of factors when deciding what mix of these options to pursue. Complete flexibility may allow them to put revenue to its best use over time. But surveys suggest that the public is often skeptical of corrective taxes if they don’t know how the revenue will be used. Many worry, for example, that the corrective intent of a tax may just be a cover story for policymakers’ real goal of expanding government.

Recycling corrective tax revenue into offsetting tax cuts can assuage that concern. But revenue neutrality has downsides as well. Matching incoming revenues and offsetting tax cuts may be difficult, given uncertainties in future revenues from a corrective tax and any offsetting tax cuts. In addition, it may be easier to achieve some distributional goals through spending than tax reductions. For example, a new spending program may be a more straightforward way to help coal miners hurt by a carbon tax than some kludgy tax credit. People who generally oppose wholesale revenue increases from corrective taxes should thus be open to modest deviations from revenue neutrality that provide a more effective way to accomplish policy goals.

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Behavioral “nudges” can increase college enrollment by low-income students, boost health insurance take up, encourage federal workers to save for retirement, cut delinquencies on student loans, reduce vendor fraud, and save paper, according to the first annual report of the White House’s “nudge” unit.

President Obama established the unit—officially known as the Social and Behavioral Sciences Team (SBST)—to use insights from psychology, behavioral economics, and other decision sciences to improve federal programs and operations. Those social sciences increasingly appreciate what regular folks have long known: people are imperfect. We procrastinate. We avoid making choices. We get confused and discouraged by complex forms. We forget to do things. We sometimes lack the energy to weigh decisions thoroughly, so we act based on what we think our peers do or how choices are framed. And we sometimes cut corners when we think no one is looking.

Changing how people engage with the choices they face—“nudging” them—can reduce those imperfections and substantially affect their decisions. The SBST is exploring how that insight can improve government activities. To date, it’s completed more than 15 pilots exploring such questions as:

  • Can prompted choice and sending reminders increase service-member participation in employee retirement plans? Yes.
  • Can personalized text messages reduce “summer melt,” the failure to enroll of low-income students accepted to colleges? Yes.
  • Can reminder emails reduce student loan delinquencies? Yes, modestly.
  • Can a simple change to a form reduce vendor low-balling of the fees they owe the government? Yes, a bit.
  • Can redesigning a collection letter increase debt recovery? No, at least not the letter that SBST tested.
  • Can notifying doctors that they are especially high prescribers of controlled substances reduce inappropriate prescriptions in Medicare? No, but SBST is trying new notifications.
  • Can a pop-up box get employees to print double-sided rather than single-sided? Yes.

These examples run the gamut from the life-changing to the almost trivial. But they illustrate a common theme: details matter. Policy debates usually focus on high-level issues. Should health insurance be offered on exchanges? Should student loan repayments be limited as a share of a borrower’s income? But after such issues are settled, their impact depends on how policies are implemented. The nitty-gritty of designing forms, deciding how and when to prompt people, and framing and communicating options really matter.

The SBST’s first year also demonstrates the importance of testing new approaches before rolling them out at large scale. It isn’t enough to recognize that particular nudges can influence people. Where possible, agencies should test different approaches to see how they work in specific circumstances. Letters comparing your behavior to your peers’ may encourage people to conserve electricity and pay their taxes, for example, but as one pilot found, that doesn’t mean that they will get doctors to prescribe fewer opioids.

On Tuesday, President Obama signed an executive order making the SBST a permanent part of the White House and directing government agencies to use behavioral sciences to improve their programs and operations. That move is consistent with a larger, bipartisan effort to bring more evidence to bear on the design and implementation of federal programs. The government shouldn’t operate in the dark when there’s an opportunity to use evidence to make programs more efficient and effective.

That potential comes with responsibility, however. One of the most important lessons from behavioral science is that framing matters. Government nudges are a perfect case in point. I’ve been characterizing the SBST’s efforts as “pilots” and “testing new approaches” to improve government activities. Those words are innocuous or positive. As a recent headline illustrates, however, this effort can also be characterized as “President Obama Orders Behavioral Experiments on American People.” That sounds much more ominous.

That characterization reflects concern about the goals of government nudging and the oversight of experiments. Are they really trying to improve our government and lives? Or are they manipulating us to do whatever Uncle Sam wants?

The most effective response is transparency. Tell the American people about the experiments, their goals, and their results. The SBST deserves good marks on that dimension. Its first report provides a good deal of information about each of the pilot studies, both the successes and the failures. As behavioral approaches spread, the government should build on that transparency to ensure that policymakers, media, and the public have the evidence they need to judge their merits.

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Since the day of Alexander Hamilton, the United States has never defaulted on the federal debt.

That’s what we budget-watchers always say. It’s a great talking point. One that helps bolster the argument that default should not be an option in Washington’s latest debt limit showdown.

There’s just one teensy problem: it isn’t exactly true. The United States defaulted on some Treasury bills in 1979 (ht: Jason Zweig). And it paid a steep price for stiffing bondholders.

Terry Zivney and Richard Marcus describe the default in The Financial Review (sorry, I can’t find an ungated version):

Investors in T-bills maturing April 26, 1979 were told that the U.S. Treasury could not make its payments on maturing securities to individual investors. The Treasury was also late in redeeming T-bills which become due on May 3 and May 10, 1979. The Treasury blamed this delay on an unprecedented volume of participation by small investors, on failure of Congress to act in a timely fashion on the debt ceiling legislation in April, and on an unanticipated failure of word processing equipment used to prepare check schedules.

The United States thus defaulted because Treasury’s back office was on the fritz in the wake of a debt limit showdown.

This default was temporary. Treasury did pay these T-bills after a short delay. But it balked at paying additional interest to cover the period of delay. According to Zivney and Marcus, it required both legal arm twisting and new legislation before Treasury made all investors whole for that additional interest.

The United States thus did default once. It was small. It was unintentional. But it was indeed a default.

And the nation still stands. But that hardly means we should run the experiment again and at larger scale. Zivney and Marcus examined what happened to T-bill interest rates as a result of this small, temporary default. They find a surprisingly large effect. As best they can tell, T-bill interest rates increased about 60 basis points after the first default and remained elevated for at least several months thereafter. A simple way to see that is to look at daily changes in T-bill yields:

1979 Treasury Default

T-bill rates spiked upwards four times in the months around the default. In November 1978, Henry “Dr. Doom” Kaufman predicted that interest rates would rise. They did. Turn-of-the-year cash management disrupted rates as 1978 became 1979. And rates spiked and fell in October 1979 when Paul Volcker announced that the Fed would target monetary aggregates rather than interest rates (the “Saturday night special”).

The fourth big move was the day of the first default, when T-bill rates rose almost 0.6 percentage points (i.e., 60 basis points).There’s no indication this increase reversed in the days that followed (the vertical line on the chart is just a marker for the day of default). Indeed, using more sophisticated means, including comparing T-bill rates to interest on commercial paper, the authors conclude that default led to a persistent increase in T-bill rates and, therefore, higher borrowing costs for the federal government.

The financial world has changed dramatically in the intervening decades. T-bill rates hover near zero compared to the 9-10 percent range of the late 1970s; that means a temporary delay in payments would be less costly for creditors. Treasury’s IT systems are, one hopes, more reliable that 1970s vintage word processors. And one should take care not to make too much of a single data point.

But it’s the only data point we have on a U.S. default. Not surprisingly it shows that even small, temporary default is a bad idea. Our leaders shouldn’t come close to risking it.

P.S. Some observers believe the United States also defaulted in 1933 when it abrogated the gold clause. The United States made its payments on time in dollars, but eliminated the option to take payment in gold. For a quick overview of this and related issues, see this blog post by Catherine Rampell and the associated comments.

P.P.S. This post originally appeared in May 2011. This version has been slightly edited.

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Today I had the chance to testify before the Joint Economic Committee about a perennial challenge, the looming debt limit. Here are my opening remarks. You can find my full testimony here.

I’d like to make six points about the debt limit today.

First, Congress must increase the debt limit.

Failure to do so will result in severe economic harm. Treasury would have to delay billions, then tens of billions, then hundreds of billions of dollars of payments. Through no fault of their own, federal employees, contractors, program beneficiaries, and state and local governments would find themselves suddenly short of expected cash, creating a ripple effect through the economy. A prolonged delay would be a powerful “anti-stimulus” that could easily push our economy back into recession.

In addition, there’s a risk that we might default on the federal debt. I expect that Treasury will do everything it can to make debt-service payments on time, but there is a risk that it won’t succeed. Indeed, we have precedent for this. In 1979, Treasury accidentally defaulted on a small sliver of debt in the wake of a debt limit showdown. That default was narrow in scope, but financial markets reacted badly, and interest rates spiked. If a debt limit impasse forced Treasury to default today, the results would be more severe. Interest rates would spike, credit would tighten, financial institutions would scramble for cash, and savers might desert money market funds. Anyone who remembers the financial crisis should shudder at the prospect of reliving such disruptions.

Second, Treasury doesn’t have any “super-extraordinary” measures if the debt limit isn’t raised in time.

Pundits have suggested that Treasury might sidestep the debt limit by invoking the 14th Amendment, minting extremely large platinum coins, or selling gold and other federal assets. But Administration officials have said that none of those strategies would actually work.

Third, debt limit brinksmanship is costly, even if Congress raises the limit at the last minute.

As we saw in 2011, brinksmanship increases interest rates and federal borrowing costs. The Bipartisan Policy Center—building on work by the Government Accountability Office—estimates that crisis will cost taxpayers almost $19 billion in extra interest costs.

Brinksmanship also increases uncertainty, reduces confidence, and thus undermines the economy. In 2011, for example, consumer confidence and the stock market both plummeted, while measures of financial risk skyrocketed.

Finally, brinksmanship weakens America’s global image. The United States is the only major nation whose leaders talk openly about self-inflicted default. At the risk of sounding like Vladimir Putin, such exceptionalism is not healthy.

Fourth, as this Committee knows well, our economy remains fragile.

Now is not the time to hit it with unnecessary shocks.

Fifth, as the CBO confirmed yesterday, the long-run budget outlook remains challenging.

Deficits have fallen sharply in the past few years. But current budget policies would still create an unsustainable trajectory of debt in coming decades. Congress should address that problem. But the near-term fiscal priorities are funding the government and increasing the debt limit.

Finally, Congress should rethink the debt limit and the entire budget process.

Borrowing decisions cannot be made in a vacuum, separate from other fiscal choices. America borrows today because this and previous Congresses chose to spend more than we take in, sometimes with good reason, sometimes not. If Congress is concerned about debt, it needs to act when it makes those spending and revenue decisions, not months or years later when financial obligations are already in place. When the dust settles on our immediate challenges, Congress should re-examine the entire budget process, seeking ways to make it more effective and less susceptible to dangerous, after-the-fact brinksmanship.

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Remember the 47%? Well, my colleagues at the Tax Policy Center just updated the numbers. For 2013, they estimate that the fraction of Americans not paying any federal income tax is down to 43%. Why? Because the economy is recovering and tax cut stimulus has ebbed. A decade from now, they predict, it will be 34%.

Bob Williams, the Sol Price Fellow at the Urban Institute, explains the number in this video. Key point: the 43% may not pay any federal income tax, but that doesn’t mean they don’t pay taxes:

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