Confused by the Confusion
I’ve been busy with traveling (including the super duper awesome Contra Cruise II), and so I am just now catching up on all of the controversy surrounding the economics of a corporate income tax cut. As you can imagine, some conservative/libertarian economists said good things about it, and then DeLong and Krugman pointed out that the assumptions used in these blog posts were false, and furthermore said (quite explicitly) that only their hackery could have led such smart economists to say such stupid things.
But beyond that stuff (which goes without saying), there is something else weird going on here. After Steve Landsburg tried to give the intuition for a result that surprised Mankiw (when he–Mankiw–derived it), I wrote in the comments to Steve’s post:
Steve,
I’m a little bit confused by all of this. And I *don’t* mean by the competing/complementary blog posts, rather, I mean that leading economists seem like they’ve just been presented with the notion of a corporate tax cut for the first time 3 weeks ago. How is it that big shots are arguing over something so basic?
I feel like one of the bestselling textbook physicists just wrote a post saying, “Wow, it turns out, under certain assumptions (such as no air friction), that the mass of an object has nothing to do with its acceleration near the earth’s surface!”
Then another physicist chimes in on his blog, “I spent all morning trying to understand this result, but I think I see it now…”
I hope you understand, I’m not criticizing you or Mankiw. *I* hadn’t thought of any of this stuff before. But am I missing something? How can it be that the economics profession is grappling with the notion of, “How should we even conceptualize a corporate income tax cut?”
I really think mainstream economists are fooling themselves when they imagine that they are sitting atop a body of solid empirical knowledge. Look: Two teams of economists can look at LITERALLY THE SAME RECENT DATA regarding Seattle’s minimum wage, yet reach opposite conclusions–and neither team is lying!
Imagine President Trump said he wanted to send a man to Mars. And then leading rocket engineers started arguing on their blogs about whether you should point the rocket toward Mars or away from it. That is almost where we are, when it comes to economists arguing about the corporate tax right now.
Sure, you can say, “Oh it’s all political,” but the rocket scientists trying to get funding for their plan wouldn’t be able to say rocket thrust goes in the wrong direction.
All of this tells me that Ludwig von Mises was right when he argued that economic science is a logical, deductive science, and that aping physics was foolish.
Super Mega Plus One !
Here is a verbatim cut-and-paste of my response to your comment about this on my blog:
Bob Murphy: I think there are two answers.
1) Economists have thought long and hard about natural questions like “how does a cut in capital taxes affect economic welfare?”. Politicians recently started asking a different question: When capital taxes are cut, what is the ratio of wage increases to government revenue losses? This is, to an economist, an unnatural and largely uninteresting question, and there’s no reason anybody should have thought about it before. Now that the politicians have brought it up, economists have answered it. There was a little initial confusion while everyone tried to figure out how to think about this strange question we’d never had any reason to think about before, but the confusion quickly dissipated. Nobody that I know of doubts that Mankiw’s calculation is correct, or that my post gives the correct intuition for it.
It’s not uncommon for someone to ask a weird physics question that no physicist has ever had occasion to think about, and for the physicists to take a few days getting it right. (I’ve been the asker a few times in this scenario.)
2) The tax code is very, very complicated. We have a pretty good idea of what happens when you cut capital taxes, or when you cut wage taxes. What we’re less sure of is this: If you cut corporate taxes, how will people restructure their affairs in order to take advantage of the new tax code, and in the end, when all is said and done, what will have happened to the rates at which capital and wages are now taxed? Answer: People will be very very clever, and it’s not reasonable for economists, especially economists who have no reason to be familiar with all the twists and turns of the federal tax code, to predict all that cleverness. Therefore we’re left guessing about what the adjustments will be.
Those are my answers. But let me also add this: When you drop a pebble in a pond, it creates ripples. Those ripples are partly a solution to the usual two-dimensional linear wave equation and partly a result of nonlinear disturbances below the surface. I’ve been asking physicists for years whether the ripples we see are primarily the first or the second. I’ve gotten a lot of different answers, many of them backed up by a lot of math, and I’ve watched a lot of physicists argue with each other and reach no conclusion. So maybe your physics analogy is at least imperfect.
Thanks Steve. My follow-up here, for those interested.
Dr. Murphy, I think you overstate the level of the disagreement. Both sides at agree or at least acknowledge that cutting corporate taxes will increase the quantity of capital demanded in the long run. Both sides agree that in the very short run capital sill not change much and capital owners will see a windfall paid for by a loss in government revenue. Both sides at agree or at least acknowledge that in the long run the increase in the quantity of capital demanded will tend to increase wages. The disagreement is over the relative magnitudes of the effects and timing of long run vs short run. So, I agree with the second part of Dr. Landsberg’s reply to your comment that the real world effect of the policy change can be difficult to model. The first part of Dr. Landsberg’s reply stating that the problem was “unnatural and uninteresting” seemed off.