Hi Chris,

“A few points, firstly, I think that the reason the media has not focused on on framing the issue in this was is that is sounds awefully like “trickle down effect”, which has rightfully become a dirty word over the past 25 years.”

It is nothing like trickle down though – and it is also an accurate representation of how a tax works.

The problem is that, they talk about a tax cut like they are giving individuals money – but they ignore the fact that a tax cut is just the reverse of a tax increase, and we should use the same tools and logic to understand them. It is a framing problem.

“Here you’re arguing that this will have major flow-on effects to the market”

My main point was that, by lowering input costs some of this surplus will go on to consumers – not that therre would be significant indirect effects. In essence, the firm combines with labour to sell things to consumers – so if we change taxes in one part of this, the outcomes change for all groups.

“Here you’re arguing that this will have major flow-on effects to the market, but previously you’ve argued that “whatever investment turns up on the basis of a slight cut in corporate taxes will only be a very marginally profitable investment opportunity”. How do you reconcile these two positions?”

Firstly, corporate tax is on profits – income tax is on all income revenue, so corporate tax changes are a lot more marginal.

Secondly, when I stated “marginal” I was actually discussing the attractiveness of NZ as a destination for capital, not the end change in domestic investment resulting from the tax change – my argument was against us need to change the capital tax to meet the Aussies, not against a lower capital tax persee.

I do agree that a lower capital tax will lead to higher investment and the such – but this justification is one we should use for lowering the tax because we want higher investment NOT because we feel we have to follow Australia around.

“Thirdly, “successful wage demands will change IMMEDIATELY, leading to a significant impact within a year. Previous changes to the tax system have shown this.””

Ask firms what sort of wage increases they are willing to give following a tax cut – ask workers if they can understand why the firm will give them a lower increase in wages following a tax cut. I can say that talking to firms has illustrated that they aim to give lower wage increases on this basis for sure.

Furthermore, during the 1980s one of the justification for tax cuts was that they were disinflationary – given that higher post-tax wages would lead to lower wage demands. I can’t see to find a wage series that goes back far enough to test this – but it was a common view at the time when major tax changes were being put in place.

Secondly, you’re arguing that much of the drop in the top tax bracket will be absorbed by the employing company, therefore, presumably lowering the total tax burden on said company. Here you’re arguing that this will have major flow-on effects to the market, but previously you’ve argued that “whatever investment turns up on the basis of a slight cut in corporate taxes will only be a very marginally profitable investment opportunity”. How do you reconcile these two positions?

Thirdly, “successful wage demands will change IMMEDIATELY, leading to a significant impact within a year. Previous changes to the tax system have shown this.”
I’d be really interested to see the evidence for this.

cheers

“Them’s fighting words!”

😀

That is how I roll 😉

“But if they don’t understand this stuff there at the moment, it is kinda hard to expect the media and general public to be on top of it all”

I think Treasury completely understands it – I just don’t think that these matters are appropriately discussed in public discourse and so the issue has been framed in a poor way 🙁

“And I stand by my comments that “Y per week” will more or less be a good rough approximation. Of course, within 2-3 years macro effects etc will come into play taking on a bigger and bigger role, but by then the average dompost reader just isn’t that interested”

While I do not disagree that the immediate impact will be on the wage of those currently working, wage negotiations and the movement between jobs will happen such that the incidence argument will become essential in a much smaller time frame. I guess with this specific point we are just attributing different beliefs to the level of wage stickiness in the economy.

“So I don’t think that it is worth it for the average reader, sadly. It wouldn’t sell newspapers.”

Yar, hence why I wanted to raise the point here – even though no-one will read it 😉

“However, tax policy IS a major structural issue. In order to determine what is good policy we SHOULD create large models and accurate simulations to understand the trade-offs inherent in the policies.”
– I absolutely agree. That is why you SHOULD go and work at the Treasury and kick some arse :-P. But if they don’t understand this stuff there at the moment, it is kinda hard to expect the media and general public to be on top of it all. That isn’t to say that it is right that things are this way, but until you go there and clean their house up don’t expect any better from the media.

“Now, if someone was to say – this tax cut will lead to “such-and-such a part of the labour market increasing the value of current transactions by $Y a week” that would be an improvement. And by just doing this, we would have a better discussion on tax policy”
– Okay thats a fair point. I’m with you on that.

My difference in opinion with you mainly relates, I think, to what people actually want to know when the budget tax cuts are reported, and thus whether “$Y a week” is useful or not (now, for the record I also find it abhorrent to put things this way, but that is just my inner pedant coming through :p). Now, IF people are interested in the macro-economic effects for society generally, “$Y a week” is not useful. You explained why very well. But, despite wishing it weren’t so, it is my contention that people just want to know how much more/less goods and services they will be able to pay with their take home pay for the next year or two as a result of the tax package. And I stand by my comments that “Y per week” will more or less be a good rough approximation. Of course, within 2-3 years macro effects etc will come into play taking on a bigger and bigger role, but by then the average dompost reader just isn’t that interested. But if he was interested, there are some interesting questions for how you would do the long term modelling that you would need to explain to him. Assuming we go from a balanced budget and cut taxes, how are we going to fund that? Future tax hikes? Smaller government sector despite promises not to cut services? Big calls second guessing government policy (and in all likelihood there is no government policy on this) are needed. As the average readers eyes glaze over, I can understand why Treasury backs away from doing this (without agreeing with it).

So I don’t think that it is worth it for the average reader, sadly. It wouldn’t sell newspapers. But I agree the modelling should be done and there is a huge gap there in terms of the quality of the policy advice that is underpinning government decisions.

Hi Dan,

In this case I completely disagree. Namely with this:

“The first reason is that the GE impacts (and even the partial equilibrium impacts) are not likely to be HUGE and many will cancel out”

This is something I’ve heard, constantly, from policy analysts in the past. For some reason, many analysts have this impression that a few % points of tax won’t do anything – yet a quarter of a % point change in the OCR will have a massive impact … this is wildly inconsistent.

For example, when Labour was in power many people felt the difference between 39% and 33% was inconsequential – however, when you frame it as a choice (by moving money into trusts) and recognise that the choice of tax regime offers a risk-free rate of return (on top of other returns) of 8% it becomes obvious that it does matter a lot 😀

I wouldn’t say this type of logical has all too much to do with fancy models. It is pretty easy to think about the elasticity of supply and demand and talk about price responses with only a faint understanding of economic – hell, I can remember going over this stuff in secondary school. Even if we were to randomly assume that GE considerations were small this fundamental point makes the idea of “so-and-so gets $Y a week” patently false.

Now, if someone was to say – this tax cut will lead to “such-and-such a part of the labour market increasing the value of current transactions by $Y a week” that would be an improvement. And by just doing this, we would have a better discussion on tax policy.

However, tax policy IS a major structural issue. In order to determine what is good policy we SHOULD create large models and accurate simulations to understand the trade-offs inherent in the policies. This fact makes politics based on the “so-and-so gets $Y a week” type statements even more abhorrent IMO.

Also – I agree on the time path argument, as I mentioned it in the post under a subheading. However, the initial adjustment will be A LOT less than 5-10 years – successful wage demands will change IMMEDIATELY, leading to a significant impact within a year. Previous changes to the tax system have shown this.

“But if you Matt Nolan can’t tell us exactly what the difference will be in a paragraph, I wouldn’t expect the Treasury to have the faintest understanding of these concepts, let alone the media or general public”

So it is ok to blatantly mislead people if you can’t give them a complete model of the economy in one paragraph – this is why I don’t work for government 😀

My paragraph of explanation would only focus on the tax incidence argument (as that is the easy one, which provides a lot of understanding). I would say:

People are willing to work given their post-tax wage and people are willing to hire workers on the basis of their pre-tax wage. When we cut taxes, the gap between these two is lower – so in a specific industry if we cut taxes wages, and the amount of people hired, will change in a way that depends on the relative makeup of that industry.