Wednesday, March 1, 2017

Why Facts Don't Change Our Minds

Read this.
As everyone who’s followed the research—or even occasionally picked up a copy of Psychology Today—knows, any graduate student with a clipboard can demonstrate that reasonable-seeming people are often totally irrational. Rarely has this insight seemed more relevant than it does right now. Still, an essential puzzle remains: How did we come to be this way?

Dean Baker is Clueless On Productivity Growth

Dean Baker's screed, Bill Gates Is Clueless On The Economy, keeps getting recycled, from Beat the Press to Truthout to Real-World Economics Review to The Huffington Post. Dean waves aside the real problem with Gates's suggestion, which is the difficulty of defining what a robot is, and focuses instead on what seems to him to be the knock-down argument:
Gates is worried that productivity growth is moving along too rapidly and that it will lead to large scale unemployment. 
There are two problems with this story: First productivity growth has actually been very slow in recent years. The second problem is that if it were faster, there is no reason it should lead to mass unemployment.
There are two HUGE problem with Dean's story. First, aggregate productivity growth is a "statistical flimflam," according to Harry Magdoff, who pioneered productivity measurement in the 1930s. In the 1980s, Magdoff co-authored a Monthly Review article with Paul Sweezy, "The Uses and Abuses of Measuring Productivity," detailing the methodological problems of aggregate productivity measurement. After discussing "phantom statistics" in the reporting of construction industry productivity, and the technical problems of aggregating productivity statistics, Magdoff and Sweezy explained why "there is no such thing... as a 'true' measure of productivity":
One reason for including this somewhat technical discussion is to drive home the point that there is no such thing as straightforward or "true" measure of productivity. And if this is so even in the realm of commodities where a reasonable, limited, meaning can be given to the concept, what can said about the productivity of service workers? There are of course service jobs that consist of routine, repetitive operations -- e.g., in typing pools -- where productivity measures may have some meaning. But how would one go about measuring the productivity of a fireman, an undertaker, a teacher, a nurse, a cashier in a supermarket, a short-order cook, a waiter, a receptionist in a lawyer's office? It is in the very nature of the case that in most services qualitative changes are intertwined with quantitative changes; hence there is no continuity in the "output" from one period to another with which changes in employment can be compared. Moreover, it is typical of many of the service areas that the "output" cannot be separated from the labor engaged in the performance of the service; for that reason too there is no sensible way of comparing changes in output and labor. In other words, the notion of a productivity measure for most service occupations is nonsensical and self-contradictory.  
Unfortunately, such considerations of elementary logic have not prevented statisticians and economists from producing a whole array of productivity measures, applicable not only to the private economy (combining commodity-production and services) but in some cases to government as well, useful for ideological and policy-making purposes. And by dint of endless repetition and selective emphasis, these statistical phantoms (to use Business Week's apt expression) have attained the status of indisputable facts and have entered into the realm of scientific discourse. What is in reality nothing but a crude fetish has thus become one of the most potent weapons in capital's struggle against labor and in support of an increasingly irrational and destructive social system. 
Fred Block and Gene Burns took up the critique of productivity statistics six years later in "Productivity as a Social Problem: The Uses and Misuses of Social Indicators." Their analysis specifically addressed the second problem with Dean's story, his contention that productivity growth is totally benign:
In short, there is no reason that productivity growth should ever be viewed as the enemy of workers. We just need the right set of policies to ensure that they share in the gains.
Leaving aside the benefits and risks of technological advances themselves, Block and Burns chronicled how the concept of productivity growth -- and its faux measurement -- has been used as a political weapon against workers, unions and collective bargaining. The use of productivity data had initially gained prestige for its role in providing a "rational and objective" basis for wage negotiations, but in the late 1970s, business and political leaders,
...seized on declining rates of productivity growth as proof of the need for national policies to restrain wages and limit the growth of state spending. The decline of productivity growth was attributed to inadequate levels of investment and it was argued that only measures that increased the flow of resources to business and the rich could possibly facilitate adequate levels of new investment. It was simultaneously argued that excessive government regulation was also responsible for the slowing of productivity growth leading to stronger demands for deregulation of the business community. The culmination of these efforts was the Reagan Administration's dramatic reversals of long standing tax and regulatory policies which were justified as providing solutions to the productivity crisis. 
While the productivity concept had initially been elaborated by the WPA's National Research Project to provide justification for more generous wage settlements and government public works programs, by the late 1970s, it provided a critical justification for getting tough with labor and for dismantling key parts of the American welfare state. The process of institutionalization had resulted in a reversal of the political implications of this particular indicator.
In short, flimflam productivity measures were used by the enemies of workers to justify enacting a set of policies that ensured that workers wouldn't share in the gains of technological advance.

Tuesday, February 28, 2017

Gates & Reuther v. Baker & Bernstein on Robot Productivity

In a comment on Nineteen Ninety-Six: The Robot/Productivity Paradox, Jeff points out a much simpler rebuttal to Dean Baker's and Jared Bernstein's uncritical reliance on the decline of measured "productivity growth":
Let's use a pizza shop as an example. If the owner spends capital money and makes the line more efficient so that they can make twice as many pizzas per hour at peak, then physical productivity has improved. If the dining room sits empty because the tax burden was shifted from the wealthy to the poor, then the restaurant's BLS productivity has decreased. BLS productivity and physical productivity are simply unrelated in a right-wing country like the U.S.
Jeff's point brings to mind Walter Reuther's 1955 testimony before the Joint Congressional Subcommittee Hearings on Automation and Technological Chang:
Every tool on every operation has a green light, a yellow light, and a red light; and when all the green lights are on, it means that all the tools at each work station are operating up to standard. When a yellow light comes on, on tool No. 38, it means that the tool is still performing, but the tool is becoming fatigued and that is a warning sign, so that the operator sitting there looking at these panels will know that he has to get a replacement tool for tool No. 38. He stands by at that position on the automated machine, and at the point the red light would kick on, on the board, he walks over — the machine automatically stops — he puts the new tool in the place of the tool that is worn out, and automatically the green light comes on and the machine goes on.  
When I went through this plant the first time I was told by a top official of the Ford Motor Co.: 'Mr. Reuther, you are going to have trouble collecting union dues from all of these machines.
And I said: 'You know that is not bothering me. What is bothering me is that you are going to have more trouble selling them automobiles.' That is the real significance. We have mastered the know-how of mass production, and what we need to do is to develop comparable distribution know-how so that we will have markets for the tremendous volume of production that automation now makes possible.

Saturday, February 25, 2017

BMW Transfer Pricing and Trump Trade Accounting

The Tax Justice Blog features a critique of the Destination Based Cash Flow Tax (DBCFT) by the Institute on Taxation and Economic Policy (ITEP):
the border adjustment likely would make the corporate income tax substantially more regressive ... One of the major arguments that proponents of the border adjustment tax make is that it would stop corporate tax avoidance. It is certainly true that the border adjustment would remove companies’ incentive to use certain existing loopholes in our current system, but it would create numerous new opportunities for tax avoidance through the shifting around of sales. For example, Microsoft could avoid the tax by selling its software to consumers in the United States directly from servers in Ireland or another tax haven. At this point there is no reason to believe that following a tumultuous transition to a border adjusted tax that our tax system would end up less prone to tax avoidance than our current system.
The list of people realizing that will create new opportunities to game transfer pricing is growing. Permit me to address a somewhat related transfer pricing issue with respect to the proposed Trump Trade Accounting idea:
Let’s take an example based on Ford selling its cars to Canadian customers and having them manufactured in Mexico. Suppose Ford Canada sold a car for $20,000 that cost Ford Mexico $16,000 to produce and cost Ford Canada $2000 to distribute. Ford worldwide made $2000 in profits off of that car. The balance of trade statistics currently would take Ford’s transfer pricing as given so let’s speculate on how this might work. Suppose Ford US paid Ford Mexico cost plus 5% or $16,800 but then charged Ford Canada $17,600 on the premise that the Canadian distributor deserved a 12% gross margin as its operating expenses were 10% of sales. Ford US would retain $800 per car in profits for effectively doing nothing. Of course Ford might argue that this represents the value of Ford’s intangibles. I can see the tax authorities of Canada and Mexico disagreeing on this allocation of income. My simple point, however, is that current balance of trade accounting relies on the intercompany pricing of multinationals which at times can be suspect.
Dean Baker prefers to talk about BMWs:
The classic example would be if we offloaded 100 BMWs on a ship in New York and then 20 were immediately sent up to Canada to be sold there. The way we currently count exports and imports, we would count the 20 BMWs as exports to Canada and also as imports from Germany. These re-exports have zero impact on our aggregate trade balance, but they do exaggerate out exports to Canada and our imports from Germany.
I’m not sure why this is the “classic” example but I suspect there is a very different supply chain envisioned in this BMW example versus my example. I will admit that automobile multinationals would prefer not to have taxable income in the U.S. but they are also aware that the IRS and other tax authorities in places like Canada, Germany, Japan, and Mexico have extensive knowledge of the transfer pricing aspects for their sector. While Ford might want Ford Canada to pay only $16,800 as income tax rates in Canada are lower than they are in the U.S. currently, Ford has to let this $800 remain in the U.S. if that represents the value of the Ford intangible assets owned in the U.S. So the Trump proposal would have something other than a “zero impact” in my example. So what is Dean’s example about? Let’s assume that these BMWs are sold in Canada and the U.S for $30,000 (all figures U.S. dollars), cost Germany $21,000 to design and manufacture, and incur $4500 in local selling and marketing costs. Consolidated profits are therefore $4500 per car. Through negotiations with the IRS, the Canadian tax authorities, and the German tax authorities, the U.S. and Canadian distribution affiliates will receive a 20 percent gross margin – that is Germany receives $24,000 per car which leaves them with $3000 in profits and $1500 in profits for the local distribution affiliate. Now if a ship landed in New York with 100 BMWs where 20 of them would be re-rerouted to Canada, then Dean is likely right – BMW Canada will pay $24,000 per car. But would this have to be first invoiced to BMW U.S. as he assumes? Not necessarily as doing so could cause all sorts of confusion for our customs agents. But let’s grant Dean this narrow example under the current tax law. But what would likely happen under DBCFT? Karl Keller, George Korenko, and Lori Hellkamp note:
rather than eliminating transfer pricing, the border adjustments will likely shift its focus, incentivizing multinationals to minimize the cost of imports by U.S. affiliates (because such costs would no longer be deductible expenses) and maximize U.S. affiliates’ revenue from exports (because such income would escape U.S. taxation and possibly even result in tax rebates)
They and ITEP talk about multinationals altering their supply sides. In our BMW example, imagine if BMW US took over the selling and marketing efforts in Canada eliminating BMW Canada as the U.S. has become an effective tax haven. In this case, they would import the 20 BMWs for $24,000 per car and export them for $30,000. Now you might say this is not the current U.S. tax system which is true. But consider nations like Hong Kong, Ireland, and Switzerland that are tax havens. This kind of transfer pricing activity is widespread and the implications for balance of trade accounting is considerable.

Friday, February 24, 2017

The "Cutz & Putz" Bezzle, Graphed by FRED

anne at Economist's View has retrieved a FRED graph that perfectly illustrates the divergence, since the mid-1990s of net worth from GDP:

The empty spaces between the red line and the blue line that open up after around 1995 is what John Kenneth Galbraith called "the bezzle" -- summarized by John Kay as "that increment to wealth that occurs during the magic interval when a confidence trickster knows he has the money he has appropriated but the victim does not yet understand that he has lost it."

In Chapter 8 of The Great Crash, 1929, Galbraith wrote:
"In many ways the effect of the crash on embezzlement was more significant than on suicide. To the economist embezzlement is the most interesting of crimes. Alone among the various forms of larceny it has a time parameter. Weeks, months or years may elapse between the commission of the crime and its discovery. (This is a period, incidentally, when the embezzler has his gain and the man who has been embezzled, oddly enough, feels no loss. There is a net increase in psychic wealth.) At any given time there exists an inventory of undiscovered embezzlement in – or more precisely not in – the country’s business and banks. This inventory – it should perhaps be called the bezzle – amounts at any moment to many millions of dollars. It also varies in size with the business cycle. In good times people are relaxed, trusting, and money is plentiful. But even though money is plentiful, there are always many people who need more. Under these circumstances the rate of embezzlement grows, the rate of discovery falls off, and the bezzle increases rapidly. In depression all this is reversed. Money is watched with a narrow, suspicious eye. The man who handles it is assumed to be dishonest until he proves himself otherwise. Audits are penetrating and meticulous. Commercial morality is enormously improved. The bezzle shrinks."
In the present case, the bezzle has resulted from an economic policy two step: tax cuts and Greenspan puts: cuts and puts.



Thursday, February 23, 2017

Ponzilocks and the Twenty-Four Trillion Dollar Question

Twenty-three and a half trillion, actually. But what's a few hundred billion? Here today, gone tomorrow, as they say.

At the beginning of 2007, net worth of households and non-profit organizations exceeded its 1947-1996 historical average, relative to GDP, by some $16 trillion. It took 24 months to wipe out eighty percent, or $13 trillion, of that colossal but ephemeral slush fund. In mid-2016, net worth stood at a multiple of 4.83 times GDP, compared with the multiple of 4.72 on the eve of the Great Unworthing.

When I look at the ragged end of the chart I posted yesterday, it screams "Ponzi!" "Ponzi!" "Ponz..."


To make a long story short, let's think of wealth as capital. The value of capital is determined by the present value of an expected future income stream. The value of capital fluctuates with changing expectations but when the nominal value of capital diverges persistently and significantly from net revenues, something's got to give. Either economic growth is going to suddenly gush forth "like nobody has ever seen before" or net worth is going to have to come back down to earth.

Somewhere between 20 and 30 TRILLION dollars of net worth will evaporate within the span of perhaps two years.

When will that happen? Who knows? There is one notable regularity in the data, though -- the one that screams "Ponzi!"

When the net worth bubble stops going up...
...it goes down.

My New Running Shoes and the Auerbach Tax

I’m in the market for a new pair of running shoes and am considering the latest from both Adidas and Nike. I will use my next shopping trip to explain the transfer pricing aspects of a devastating critique of the Destination Based Cash Flow Tax (DBCFT) from Karl Keller, George Korenko, and Lori Hellkamp (KKH):
Like others who have addressed the DBCFT in general, and border adjustments in particular, we have to make certain assumptions about how the border adjustments would work because the details in the proposal are so scant. Indeed, the description of the DBCFT occupies less than two pages of the proposal, and only a few sentences describe the border adjustments ... Likewise, rather than eliminating transfer pricing, the border adjustments will likely shift its focus, incentivizing multinationals to minimize the cost of imports by U.S. affiliates (because such costs would no longer be deductible expenses) and maximize U.S. affiliates’ revenue from exports (because such income would escape U.S. taxation and possibly even result in tax rebates) ... Consider an example to illustrate this point: A U.S. distributor acquires a product from a foreign manufacturer (FM) for $100 and resells it to U.S. customers for $160. (For purposes of this and the next example, we disregard currency adjustments in the figures, as the principle remains the same and, as seen above, perfect and immediate currency adjustments offering universal relief are unlikely.) The U.S. distributor can’t deduct the $100 paid to FM, meaning the distributor has taxable income of $160, with tax of $32 (at the proposed 20 percent rate). Without the border adjustment (and assuming the same 20 percent rate), the distributor’s tax would be only $12. Inevitably the U.S. distributor will try to push at least some of the economic burden of this additional tax cost onto FM.
Both Adidas and Nike are selling my perfect pair of shoes for $160. Each pay $80 per pair (50% of sales) for the design as well as the cost of hiring a Chinese manufacturer. Each incurs $48 per pair (30% of sales) for local sales and marketing expenses. Profits are $32 per pair or 20% of sales, which is divided between the parent corporation and the local distributor depending on the transfer pricing policy. Adidas Germany has established a U.S. distributor – Adidas America – to incur the sales and marketing expenses and in the KKH example, receives a 37.5% gross margin which equates to a 7.5% operating margin or $12 in U.S. profits on my pair of shoes. At a 35% U.S. tax rate, U.S. profits taxes are $4.20. Since the German profits tax rate is only 30%, the CFO of Adidas once wondered why they don’t raise the intercompany price from $100 to $110 but his tax director told him that the IRS team is insisting on their 7.5% operating margin. If DBCFT is adopted, the incentives change as a lower transfer price would eliminate German profits but not change the U.S. tax bill. This was the point of my Trump Toaster Oven example. So yea – transfer pricing manipulation could still exist but now this becomes a German problem. I suspect the German authorities might object if the intercompany price was reduced to $80. But at least the U.S. gets its $22.40 in sales tax – right? That might be true under a retail sales tax arrangement but not necessarily under a VAT. KKH also note that Adidas might scheme DBCFT by asking me to buy my shoes via the internet:
If, instead, FM, which otherwise has no nexus with the U.S., sells directly to the U.S. consumer for $160, it bears no U.S. tax. Without the imposition of a standalone import tax, FM can increase its profit—and even undercut the retail price relative to what U.S. distributors must now charge, while still making a higher profit. In short order, virtually all sales of foreign goods into the U.S. would be made direct to the end consumer, cutting out the tax-costly U.S. middleman.
Nike might look at this scheme and lament that the otherwise conservative folks at Adidas had outdone them in terms of transfer pricing aggression. Nike is known for sourcing some of its foreign based profits in Bermuda but credit the IRS on currently insisting that Nike pay the U.S. some of the intangible profits. DBCFT, however, would give Nike a huge tax break on its foreign sourced income. But Nike also realizes that half of its approximately $30 billion in sales per year are to U.S. customers like me. KKH note that Nike could pull the same trick:
Taking this example one step further, a U.S. seller into the domestic market will also have a strong incentive to adopt this same strategy. Assume a U.S. manufacturer sells the same product as in the above example, with a cost of production of $80. It will sell to a U.S. customer at the market price of $160, and would be subject to tax of $16, resulting in an after-tax profit of $64 ($80 – $16). But if it established a foreign distributor (FD) and sold the product to FD for $150, followed by FD’s resale to the U.S. customer for $160, the U.S. seller would have $70 of profit, subject to no U.S. tax—plus the $10 of profit residing in FD, also subject to no U.S. tax (assuming FD otherwise has no U.S. taxing nexus; for that matter, FD need not be related—U.S. sellers would probably find little difficulty locating foreign companies willing to earn modest profits for acting as a go-between).
Daniel Hemel noted something similar with respect to Microsoft tax planning. KKH also state:
A more traditional VAT would also be expected to withstand a WTO challenge, be compatible with the U.S.’s existing network of income tax treaties, and enjoy the benefit of other countries’ experiences, which could provide guidance for a VAT’s adoption and implementation. This conclusion may seem obvious, but only if one ignores political realities—there is no appetite in Congress for enacting a ‘‘new tax,’’ particularly one that would ultimately fall on American consumers.
Indeed there are simpler ways of accomplishing what Alan Auerbach wants to do but Paul Ryan does not a clear and honest debate over tax policy. Paul Ryan is also making a lot of wonderful sounding claims about DBCFT but then when has Ryan ever been honest about tax policy? Oh well – time to go shopping.

Wednesday, February 22, 2017

Nineteen Ninety-Six: The Robot/Productivity Paradox

For nearly a half a century, from 1947 to 1996, real GDP and real Net Worth of Households and Non-profit Organizations (in 2009 dollars) both increased at a compound annual rate of a bit over 3.5%. GDP growth, in fact, was just a smidgen faster -- 0.016% -- than  growth of Net Household Worth.

From 1996 to 2015, GDP grew at a compound annual rate of 2.3% while Net Worth increased at the rate of 3.6%.

Responding to an editorial in the New York TimesJared Bernstein reprised a theme that Dean Baker has been stressing for a while -- that productivity and investment measures don't support the "robots are stealing jobs" story. I agree with Jared and Dean that it is policy, not robots that are stealing the jobs. But I am skeptical about using productivity numbers as evidence against the role of labor-saving technology in displacing people from employment.

The reason for my skepticism is that labor productivity is a ratio between two very broad aggregates -- GDP and hours worked -- that lump together a myriad of disparate economic factors. Here is the argument I made to Dean back in December. He was not persuaded:
The difficulty I have with the evidence you [Dean] use for your argument has to do with the changing composition of the aggregate measures that make up the productivity calculation and the possibility that confounding variables in each of those aggregates may be "compounding the confounding" when used for year-to-year comparison. 
As Block and Burns pointed out, the National Research Project that developed the original productivity estimates argued that "no such thing exists in reality" as the productivity of a group of diverse products. Instead they presented two calculations of productivity, using different weighting, to show that the "measurement" depended in part on the weighting of the variables. 
The shift from physical output to GDP measures obscured the fact that there is "no such thing" as the productivity of a diverse collection of products. Monetary value converts those diverse products into so much "leets" -- to use Joan Robinson's sarcastic term. Obviously the mix of goods and services that make up the GDP differs from year to year. The GDP deflator is intended to adjust for price changes and quality improvements but doesn't deal with distributional changes and product substitution. 
The government services component of national income has been a particular issue, the critique of which goes back to Kuznets's 1947 criticism of the Commerce Department's GNP and Kaldor's statistical appendix to Wm. Beveridge's Full Employment in a Free Society. Kuznets argued that much of government services should be treated as intermediate goods rather than final consumption goods. Kaldor considered the inflationary affects of government deficit spending, arguing that some of that "inflation" simply reflected the increased share of collective consumption. Warsh and Minard offered a critique of "inflation" in the 1970s that could easily have referenced Kuznets'sand Kaldor's arguments. Their idea was basically that as government expenditure increases as a percentage of GDP, much of the taxation to pay for it is passed on to the consumer in the form of higher prices. It is an argument about the incidence of taxation. 
Finally, there is the question of the "productivity" of hours of work themselves. Presumably there is an optimal length (or innumerable optimal lengths) of the working day, workweek or year and variation above or below that optimum will result in lower output per hour. Aggregate hours of work and average annual or weekly hours do not reflect changes in the dispersion of hours of work that may in turn be affecting the productivity of hours. Computationally, this injects a circular reference into the measurement of productivity. If you tried to do this on an Excel spreadsheet you would get an error message. It is only by ignoring the feedback effect of changes in hours and changes in dispersal of hours that productivity can be calculated as GDP/Hours. 
By definition, new technology introduces changes in product mix and changes in work arrangements. But also, by definition, the two components of the productivity calculation assume "no change" in product mix or work arrangements. So I'm having trouble seeing how a ratio that relies on an assumption of no change could be adequate to measure the effects of change.
When Jared posted his commentary, I wanted a quantitative illustration of the point I was trying to make. I had already been wondering about the question raised by Bill Gates about taxing robots and the idea that wealth creation might be "bypassing" income, so I looked up the net worth statistics.

After a bit of number crunching, I am astonished at what I see in the numbers. It is not just the discrepancy between GDP and net worth that impresses me but also the long period prior to 1996 during which the two numbers grew at a very similar rate. In the chart below, I have indexed both series to 100, with 1996 as the reference date. The smooth curve is actually two trend lines based on the 1947 to 1996 trend for each series:


Logically speaking, and using the plain language meaning of the terms, wealth is something that is produced. So increases in wealth presumably are predicated on increases in production. It makes intuitive sense that over the long run there would some sort of stable relationship between the growth rates of GDP and of wealth. I was not anticipating, however, such a close fit between the two series from 1947 to 1996. It only accentuates the disjuncture between GDP growth and growth of Net Worth after 1996.

The above chart only goes to the end of 2015, so it doesn't include the recent stock market boom. Nevertheless, it presents an unsettling picture.

Returning to the puzzle of productivity, the point that I was trying to illustrate is that the comparability of the productivity measure requires a good deal of faith in the proportional stability of the economic relationships over time. If there are significant shifts in employment by sector, technology, resource availability, trade arrangements and/or consumption tastes, then comparing productivity between periods is futile. There is too much noise in the component aggregates to begin with -- but using a ratio between them amplifies the noise.

Tuesday, February 21, 2017

Trump Trade Deficit Accounting

Reuters reports:
U.S. President Donald Trump's administration is mulling changes to how it calculates U.S. trade deficits in a way that would likely help bolster political arguments to renegotiate key trade deals, the Wall Street Journal reported on Sunday, citing people involved in the discussions….If the government adopted the new method, the deficit with Mexico would be nearly twice as high. The Journal reported that career government employees at the U.S. Trade Representative's (USTR) office objected to a request to prepare data using the new methodology.
The Wall Street Journal story can be found here if you can get past the fire wall. Tyler Durden appears to be unhappy with this idea and reports:
According to WSJ sources, the White House is considering not counting re-exports from the US trade balance: i.e., excluding from U.S. exports any goods first imported into the country, such as cars, and then transferred to a third country like Canada or Mexico unchanged. Such an approach would inflate trade deficit numbers because it would typically count goods as imports when they come into the country but not count the same goods when they go back out.
That does seem odd. Let’s take an example based on Ford selling its cars to Canadian customers and having them manufactured in Mexico. Suppose Ford Canada sold a car for $20,000 that cost Ford Mexico $16,000 to produce and cost Ford Canada $2000 to distribute. Ford worldwide made $2000 in profits off of that car. The balance of trade statistics currently would take Ford’s transfer pricing as given so let’s speculate on how this might work. Suppose Ford US paid Ford Mexico cost plus 5% or $16,800 but then charged Ford Canada $17,600 on the premise that the Canadian distributor deserved a 12% gross margin as its operating expenses were 10% of sales. Ford US would retain $800 per car in profits for effectively doing nothing. Of course Ford might argue that this represents the value of Ford’s intangibles. I can see the tax authorities of Canada and Mexico disagreeing on this allocation of income. My simple point, however, is that current balance of trade accounting relies on the intercompany pricing of multinationals which at times can be suspect.

Monday, February 20, 2017

Border Taxes and the Maquiladora Program

While the House Republicans are pushing that Destination Based Cash Flow Tax, President Trump has other ideas as do the Senate Republicans. Trump wants to encourage U.S. net exports by simply placing a 20% tariff on goods from Mexico while some in the Senate want to simply reduce our corporate profits tax rate to 20% (Mexico’s corporate profits tax rate is 30%). Suppose we do both – keep the corporate profits tax but at a lower rate and impose tariffs on imports from Mexico. Not that I’m endorsing either but this GAO document was interesting with its title:
International Taxation: IRS' Administration of Tax-Customs Valuation Rules in Tax Code Section 1059A (Letter Report, 02/04/94, GAO/GGD-94-61).
What is section 1059A?
Congress enacted section 1059A in 1986 to improve IRS' enforcement of transfer pricing regulations. Section 1059A was designed to prevent the federal government from being whipsawed by an importer, on property acquired from a related party, who claims a low valuation for customs purposes and a higher valuation for tax purposes ... The legislative history of the section indicates that the section was intended to address the Tax Court holding of Brittingham v. Commissioner. In this case, IRS determined that a U.S. importer paid more than an arm's length price for ceramic tile imported from a related party in Mexico. The purchase price exceeded the value reported for customs duty purposes.
This case dates back to intercompany pricing when John Kennedy happened to be President. Imagine you were a homeowner way back then and you purchased $100 in ceramic tile that cost the Mexican affiliate of a multinational $60 to produce and $20 for the U.S. affiliate to distribute. The $20 in profits would have been taxable partly in Mexico and partly in the U.S. depending on the transfer pricing policy, which we was set at $66 for Mexican income tax purposes and U.S. customs purposes. But somehow this multinational got away with telling the IRS that the intercompany price was $80 for U.S. income tax purposes. So it got away with a low customs duty charge and having about 70% of its profits tax-free for income tax purposes. Nice trick I guess. So yea – section 1059A was sort of a good idea. But here is where this gets weird:
According to IRS officials, since 1986 IRS has raised section 1059A issues in nine audits. Furthermore, when raised in audits, its application has been primarily directed at taxpayers operating under the maquiladora program--U.S.-owned manufacturing and assembly operations in Mexico (maquiladoras) that export their products back to the United States. About 2,100 maquiladoras exported products to the United States in 1991 ... In response to our inquiry on legislative options, IRS' Office of Chief Counsel concluded in a January 7, 1993, letter that the issue addressed in the technical advice memorandum is not a tax problem. Rather, it believed that the problem is with customs valuation that results from a loophole in customs legislation. The letter concluded the issue should be resolved by amending customs law.
So the remedy is to ask any multinational declaring inconsistent transfer pricing to pay more customs duties? And the focus was on Mexican maquiladoras? I bet you caught the irony of the fact that this document was issued in 1994 just as NAFTA kicked in eliminating most tariffs on imports from Mexico. One should also remember that even before NAFTA that the entire point of the maquiladora program was to allow U.S. multinationals to import goods manufactured in Mexico duty free.

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Sunday, February 19, 2017

Manifesto for a Suicide Cult

In an earlier post, Peter Doman, "would sincerely appreciate intelligent arguments from the degrowth side" in response to the question of "whether declining investment is an occasion for celebration?" In Dorman's opinion, "degrowth is a suicide cult masquerading as a political position."

In a nutshell, the degrowth argument is that there are real limits to growth and that consequently an end to growth will happen whether it is desired or not, planned or unplanned. It would thus be prudent to mitigate the prospective end of growth by planning for it, to whatever extent possible.

Degrowth, is thus not a utopia but a cautionary tale. Here is how Georgescu-Roegen framed the matter in his 1975 article, "Energy and Economic Myths":
Undoubtedly, the current growth must cease, nay, be reversed. But anyone who believes that he can draw a blueprint for the ecological salvation of the human species does not understand the nature of evolution, or even of history -- which is that of permanent struggle in continuously novel forms, not that of a predictable, controllable physico-chemical process, such as boiling an egg or launching a rocket to the moon.
In conclusion, he conceded that "The most we can reasonably hope is that we may educate ourselves to refrain from 'unnecessary' harm..." and dismissed notions of "complete protection and absolute reduction of pollution" as "dangerous myths." Acknowledging the impracticality of a "complete renunciation of... industrial comfort," Georgescu-Roegen instead sketched what he termed a "minimal bioeconomic program":
First, the production of all instruments of war, not only of war itself, should be prohibited completely. It is utterly absurd (and also hypocritical) to continue growing tobacco if, avowedly, no one intends to smoke. The nations which are so developed as to be the main producers of armaments should be able to reach a consensus over this prohibition without any difficulty if, as they claim, they also possess the wisdom to lead mankind. Discontinuing the production of all instruments of war will not only do away at least with the mass killings by ingenious weapons but will also release some tremendous productive forces for international aid without lowering the standard of living in the corresponding countries. 
Second, through the use of these productive forces as well as by additional well-planned and sincerely intended measures, the underdeveloped nations must be aided to arrive as quickly as possible at a good (not luxurious) life. Both ends of the spectrum must effectively participate in the efforts required by this transformation and accept the necessity of a radical change in their polarized outlooks on life.  
Third, mankind should gradually lower its population to a level that could be adequately fed only by organic agriculture. Naturally, the nations now experiencing a very high demographic growth will have to strive hard for the most rapid possible results in that direction. 
Fourth, until either the direct use of solar energy becomes a general convenience or controlled fusion is achieved, all waste of energy -- by overheating, overcooling, overspeeding, overlighting, etc. -- should be carefully avoided, and if necessary, strictly regulated. 
Fifth, we must cure ourselves of the morbid craving for extravagant gadgetry, splendidly illustrated by such a contradictory item as the golf cart, and for such mammoth splendors as two-garage cars. Once we do so, manufacturers will have to stop manufacturing such "commodities." 
Sixth, we must also get rid of fashion, of "that disease of the human mind," as Abbot Fernando Galliani characterized it in his celebrated Della Moneta (1750). It is indeed a disease of the mind to throw away a coat or a piece of furniture while it can still perform its specific service. To get a "new" car every year and to refashion the house every other is a bioeconomic crime. Other writers have already proposed that goods be manufactured in such a way as to be more durable. But it is even more important that consumers should reeducate themselves to despise fashion. Manufacturers will then have to focus on durability. 
Seventh, and closely related to the preceding point, is the necessity that durable goods be made still more durable by being designed so as to be repairable. (To put it in a plastic analogy, in many cases nowadays, we have to throw away a pair of shoes merely because one lace has broken.)
Eighth, in a compelling harmony with all the above thoughts we should cure ourselves of what I have been calling "the circumdrome of the shaving machine," which is to shave oneself faster so as to have more time to work on a machine that shaves faster so as to have more time to work on a machine that shaves still faster, and so on ad infinitum. This change will call for a great deal of recanting on the part of all those professions which have lured man into this empty infinite regress. We must come to realize that an important prerequisite for a good life is a substantial amount of leisure spent in an intelligent manner.

Bill Gates's Robot Tax

Bill Gates wonders if we should tax robots who take jobs from people:
"Right now, the human worker who does, say, $50,000 worth of work in a factory, that income is taxed and you get income tax, social security tax, all those things. If a robot comes in to do the same thing, you’d think that we’d tax the robot at a similar level." -- Bill Gates
Gates is suggesting taxing robots as a way of financing the retraining of displaced workers -- not as a measure to inhibit their introduction. But, of course, taxes act as disincentives for the taxed activity as well as revenue generators.

Tim Worstall thinks taxing robots is a bad idea "because we don't want to tax production at all." What does Worstall propose instead of taxing robots?  "Exactly the same places we get the tax revenue from today, from some combination of everyone's incomes and or consumption." Worstall believes that since the introduction of robots will increase aggregate production, that will automatically increase tax revenues to offset the lose of tax revenues from the incomes of workers displaced by robots.

Unfortunately for Worstall's argument, he fails to distinguish between physical production and value production and as a consequence overlooks the question of distribution of the latter. There may be a larger quantity of goods and services produced, having a greater aggregate value but a larger proportion of that value may consequently be sheltered from taxes. In fact, it probably is because of tax policies that seek to encourage investment (not to mention tax havens and other loopholes).

In short, taxation is not some exogenous distortion imposed on a fine-tuned, market-based economic machine. It is part of the underlying structure. Whether or not "taxing robots" makes sense, Gates's comments address a real conundrum. Changing the income shares of capital and labor has an impact on tax revenues that is not automatically compensated by aggregate growth of GDP.


Degrowth and Disinvestment: Yea or Nay?

Hey, degrowthers!  I know you’re out there.  I’d like to get your take on a post by Tim Taylor on investment.  Taylor points out that both gross and net investment as a share of GDP have been falling in the US, net faster than gross.  (Deduct investment that replaces depreciation from the gross figure and you have nothing but net.)  Here is his key diagram, culled from FRED.


There is a lot of cyclical variability, but peak to peak or trough to trough we’re definitely headed down.

So my question for the degrowth community is whether declining investment is an occasion for celebration?  Does this mean that economic policy is actually getting something right?

Here’s one answer I won’t accept: we don’t care about growth in general, just growth of bad stuff, like fossil fuels, accumulation of waste, destruction of coastlines, etc.  That isn’t a degrowth position.  Everyone wants more of the good and less of the bad, however they define it.  I’m in favor of only toothsome pizza crusts and I’m dead set against the soggy kind, but that’s not the same as being on a diet.

This is a practical, policy-relevant question.  There are many smart economists trying to understand the investment slump so they can devise policies to turn it around.  You’ll notice this concern is prominent in the writing on increasing industrial concentration, the shareholder value obsession, globalization and outsourcing, and other topics.  The goal of these researchers is to reform corporate and market structure in order to restore a higher rate of investment, among other things.  That of course would tend to accelerate economic growth.  So what’s the degrowth position on all this?  Should economists be looking for additional measures to discourage investment?

Again, please don’t tell me that it’s just investment in “bads” that needs to be discouraged.  That’s a given across the entire spectrum of economic rationality (which is admittedly somewhat narrower than the political spectrum).  In the aggregate, is it good that investment is trending down?

My own view, as readers of this blog will know (see here and here), is that degrowth is a suicide cult masquerading as a political position.  I’m pretty sure that radically transforming our economy to make it sustainable will involve a tremendous amount of investment and new production, and it seems clear to me that boosting living standards through more and better consumption is both politically and ethically essential.  But I could be wrong.  I would sincerely appreciate intelligent arguments from the degrowth side.

Saturday, February 18, 2017

Great Moments in Academic Writing, Midnight February 17 Edition

In the course I’m currently teaching one of the required books is Gender, Work, and the Economy by Heidi Gottfried.  Reading the introduction to the second chapter I came across this gem:
To begin, the chapter elaborates on the basic tenets of feminism, arguing that women suffer discrimination due to their subordinate positions in gender systems of inequality (Delmar, 1986: 8).
Note that this profound observation comes to us with the pedigree of a citation!  In case you were wondering what systemic discrimination could possibly have to do with systems of inequality, you now have an authority to summon.

No doubt the quote rests on a fine distinction between widespread inequalities suffered by individuals belonging to a common group and the inequality of that group, and readers for whom this is important can fill me in on it.  They are the ideal audience for this book.