Discussion Tuesday

Let us talk about New Zealand again.  Another “important question”:

New Zealand needs capital-deepening.

Good, now give your answer.

Is it consistent with the recommendations you gave last week?

  • Blair

    I’m gonna take the bait and say yes, it could increase productivity as part of an overall program of development. Look at Taranaki, with it’s GDP of $74,000 per capita, it’s all capital. This begs the question, why should capital deepening work in a developed market economy? That is a big question, but essentially I think it’s because New Zealand never went through all the stages of economic development in the Rostow sense. Therefore some aspects of development economics might still apply here. We’re now trying to innovate ourselves to prosperity in a capital-lite framework, i.e. cloud computing and apps, and it’s starting to work but it’s going to be very slow and potentially inegalitarian.

    • The key reason I asked in this post is what I noted at the end. You are supporting tax on capital income going forward and saying we need capital deepening going forward – but the two are, in many ways, mutually inconsistent.

      I’d note that the Piketty book, which I’ll eventually have a review up about, is selling the idea of taxation of capital income as it is against capital deepening! Piketty is explicitly saying we should have a situation with lower GDP per capita, but with less variance in final incomes.

      I merely note this as many of the people I hear saying we should have a capital tax also say we should capital deepen, and also say we should have more ICT, and that we should have higher wages. There are trade-offs here that we have to be a touch careful with 😉

      • Blair

        Interesting point, but another way to look at it is to ask where capital deepening has happened in the modern world. Good examples of this have been Europe 1950-70 and East Asian 1950-present. I don’t think capital deepening was ultimately tax-driven in either of those cases, although the Irish corporate tax reform of 1981 is a rare example where reducing corporate income tax (not wealth) seems to have played a key role.

        The present government seems to be focused on running a tight ship fiscally, and removing regulatory barriers to resource harvesting, both of which seem legitimate ways to capital deepen.

        • Capital deepening is just another name for a higher K/L ratio – the primary argument for higher capital income taxes is to lower the K/L ratio (due to distributional concerns). The primary argument about pulling away from tax (or implicitly subsidising savings/investment) is to increase the K/L ratio and push up average wages (given that higher levels of capital increase the marginal product of labour).

          Individual countries differ on the K/L ratio they’ll experience due to different industry makeups, comparative advantages, distance to market, as well as policy – so that is fine.

          My preference is, of course, to look at the trade-offs of individual policies before discussing anything – however, I think the fact that capital income taxes may be justifiable for some (not saying I’ve come down on that side) indicates that justifying things on the basis of capital deepening (through K/L ratios) may miss important things. And of course this holds the other way around as well!

  • In Caselli and Feyrer’s (2007) revised cost of capital estimates, the cost of capital is significantly lower in New Zealand than in Australia and elsewhere such as the USA, Japan and UK.

    Caselli and Feyrer (2007) correct for an overestimation of the cost of capital that is prevalent for countries such as New Zealand where the value of land and natural resources are high.

    Capital intensity is lower in New Zealand largely as a by-product of lower MFP in New Zealand.

    • I had not seen that paper – that very much sounds like something that should be more widely read. Cheers, I’ll hunt down a copy next week.

  • from http://ideas.repec.org/a/tpr/qjecon/v122y2007i2p535-568.html The Marginal Product of Capital’s abstract

    Whether or not the marginal product of capital differs across countries is a question that keeps coming up in discussions of comparative economic development and patterns of capital flows.

    Using easily accessible macroeconomic data we find that MPKs are remarkably similar across countries.

    Hence, there is no prima facie support for the view that international credit frictions play a major role in preventing capital flows from rich to poor countries.

    Lower capital ratios in these countries are instead attributable to lower endowments of complementary factors and lower efficiency, as well as to lower prices of output goods relative to capital.

    We also show that properly accounting for the share of income accruing to reproducible capital is critical to reach these conclusions. One implication of our findings is that increased aid flows to developing countries will not significantly increase these countries’ capital stocks and incomes.