What Taxes Can Tell Us

Federal tax revenues are surging, while state tax revenues are stagnating. In the NY Times, Daniel Gross examines the differences between state and federal taxes, and what the disparity in revenue growth tells us about the economy.

Is there such a thing as a healthy lunch?

Tyler Cowen's "Economic Scene" column in the NY Times makes the argument that we're actually getting something for the high administrative costs of the US health care system. He concludes:

Middlemen and marketing costs have long been viewed with suspicion by critics of commerce. But these practices are usually signs of market sophistication, not waste. The gains from abolishing private insurance and its overhead costs are an illusion. TANSTAAFL, or “There Ain’t No Such Thing as a Free Lunch.”

Economist's view says there is such a thing as a wasted lunch and presents some counter-arguments from the writings of Paul Krugman, who wrote:

I'm not an opponent of markets. ... I've spent a lot of my career defending their virtues. But the fact is that the free market doesn't work for health insurance, and never did. All we ever had was a patchwork, semi-private system supported by large government subsidies. That system is now failing. And a rigid belief that markets are always superior to government programs - a belief that ignores basic economics as well as experience - stands in the way of rational thinking about what should replace it.

We've got Enron, China has...

Is China catching up to the US in white-collar crime?

The Washington Post reports on a Chinese fraud scheme involving ant farms:

The company's advertisements called out to investors with an enticing offer: Invest the equivalent of about $1,300. Get two boxes of "rare" ants. Raise them for the company, and 10 times a year get $52 for your work. In one year, a participant would make about $520, a whopping 40 percent return.

People did get paid, at first, but it turned out that those high returns were being financed not by profits from real economic activity but by money flowing in from subsequent investors. The term doesn't exist in China, but in the United States, that would be called a Ponzi scheme, after Charles Ponzi, a Boston scammer who briefly became a millionaire in 1920 by using such a fraud.

If China is moving towards a "capitalist" economy, they definitely need to come up for a word for Ponzi scheme.

The authorities are taking it seriously - the perpetrator has been sentenced to death.

As China moves fitfully from a planned economy to a free-market system, cracking down on fraud, embezzlement and other financial schemes has become a major priority for the government. Among the cases taken most seriously are ones that harmed common people.

"This crime has seriously disrupted the financial order, social environment and the interests of ordinary people," said Wang Xinquan, vice director of financial affairs for the province.

In China, where more than 60 types of crimes -- including economic ones like tax fraud and bribery -- are punishable by death, the government has been criticized for its broad application of the death penalty. Some estimates put the number of court-ordered executions at as high as 10,000 a year. In 2005, Amnesty International logged 1,770 executions, or about 80 percent of the known total worldwide.

And you thought Sarbanes-Oxley was tough!

China Plans To Go Shopping

China's intervention in the foreign exchange markets - selling yuan for dollars to keep the yuan cheap - has resulted in a massive pile (over $1 trillion) of dollar reserves. Hitherto, China has mainly invested its dollars in US Treasury bonds, but the New York Times reports:

China will create a new agency to invest the country’s immense reserves of foreign currency, now totaling more than $1 trillion, the country’s finance minister announced today...
The new agency will be able to invest some of the money more diversely and aggressively, analysts said, with the possibility of hundreds of billions of dollars put into acquiring “strategic assets” — mines, oil fields, whole companies — around world, especially in developing countries in Africa and Latin America...

$1 trillion goes a long way - in fact, it exceeds the market capitalization of Wal-Mart ($197bn) , Exxon ($409bn) and General Electric ($355bn) combined. Hmm... That would be pretty good "vertical integration" if China bought Wal-Mart!

Back in the 1980's, many Americans were rattled when the Japanese purchased Rockefeller Center, but that's peanuts compared to what China could do with its reserves. Fortunately for our national nerves, they are expected to start small:

Andy Rothman, a strategist at CLSA Asia-Pacific Markets, said the government was likely to proceed cautiously and give the agency only a relatively small part of the reserves to work with at first, perhaps $20 billion. “It’s not going all of a sudden going to change the world,” Mr. Rothman said. “I think they are going to move very, very slowly in diversify what they are doing. Nobody should expect that suddenly they are going to invest $1 trillion.”

$20 billion will only get you, say, a General Motors ($17.5 bn) or a Ford ($15.1bn).

Economic Possibilities for our Grandchildren, Revisited

In his essay "Economic Possibilities for our Grandchildren," John Maynard Keynes made the case for optimism (definitely a daring view in 1930!)

The prevailing world depression, the enormous anomaly of unemployment in a world full of wants, the disastrous mistakes we have made, blind us to what is going on under the surface - to the true interpretation of the trend of things. For I predict that both of the two errors of pessimism which now make so much noise in the world will be proved wrong in our own time - the pessimism of the revolutionaries who think that things are so bad that nothing can save us but violent change, and the pessimism of the reactionaries who consider the balance of our economic and social life so precarious that we must risk no experiments.

The basis for his optimism: continuously compounding growth in the capital stock - "the power of compound interest over two hundred years is such as to stagger the imagination," he wrote.

I draw the conclusion that, assuming no important wars, and no important increase in popluation, the economic problem may be solved, or at least within sight of solution, within a hundred years. This means that the economic problem is not - if we look into the future - the permanent problem of the human race.

Why, you may ask is this so startling? It is startling because - if, instead of looking into the future, we look into the past - we find that the economic problem, the struggle for subsistence, always has been hitherto the primary, most pressing problem of the human race - not only of the human race, but of the whole of the biological kingdom from the beginnings of life in its most primitive forms.

Thus we have been expressly evolved by nature - with all our impulses and deepest insticnts - for the purpose of solvingsolving the eocnomic problem. If the economic problem is solved, mankind will be deprived of its traditional purpose....

Thus for the first time since his creation man will be faced with his real, his permanent problem - how to use his freedom from pressing economic cares, how to occupy the leisure, which science and compound interest have won for him, to live wisely and agreeably and well.

Seventy-seven years later, how are we doing?
Two of the New York Times "Economic Scene" columnists have revisited Keynes' essay. Today, Hal Varian discusses trends (0r lack thereof) in leisure time:

When you account for the much longer time in school, the more or less constant amount of time spent on housework, and make a few other adjustments, hours spent on purely enjoyable activities haven’t changed that much in the last century. Keynes may have been right that future generations will have a lot of time on their hands, but I wouldn’t bet on that happening anytime soon.

Last year, Robert Frank argued that Keynes missed the importance of the desire for higher quality goods, which he says is insatiable since we always care about relative quality:

Decisions to spend are also driven by perceptions of quality, the desire for which knows no bounds. But quality is an inherently relative concept. The same car that would have been deemed as having brisk acceleration and sure handling by drivers in Keynes’s day, for example, would be much less charitably evaluated by today’s drivers — even those with no desire to outdo their neighbors.

China's Bad Investment?

By intervening in the market to keep its currency undervalued, China is lowering the purchasing power of its own consumers. Its trade surplus means that China is accumulating large amounts of foreign assets (what they're getting in return for all that stuff they're sending us), like US Treasury bonds. These assets will depreciate (in Yuan terms) when the Yuan is allowed to rise, so the Chinese government is setting itself up for a huge financial loss. Therefore, Brad Setser asks "Why is China's government trying so hard to hold down China's current living standard?"

The government of China, by contrast, seems determined to keep China poorer than it needs for to be. After all, the government of China, not the government of the US, actively intervenes in the market every day to hold China’s living standards down – or, if not China’s living standard, certainly the external purchasing power of all those paid in RMB.

....China’s policy of buying dollars (and to a smaller degree euros) also means that China is sinking a growing share of its national wealth into a set of assets that are almost certain to depreciate over time...

China – counting likely flows from Chinese banks as well as flows from the PBoC almost certainly bought about $200b of US debt in 2006. It paid – in RMB terms – a lot for those assets as well: China effectively has a policy of under-pricing its labor and overpaying for its external assets.

His worry is that when the Chinese government realizes the losses on its Dollar-denominated assets a new source of tension with the US will arise:

When the time comes for China to realize the losses that are now accumulating quietly on the PBoC’s balance sheet (and soon on the balance sheet of the state foreign investment company), I doubt China’s leaders will say, “you know, these losses were really incurred years ago, when we decided to sink a lot of Chinese savings into depreciating dollars in order to encourage our export sector and make it attractive for foreign firms to locate investment in China. We shouldn’t blame the US for the fact that China’s investments in the US haven’t done well. We were the ones who over-paid for US assets."

N.B.: "Yuan" and "Renminbi" (RMB) both refer to the same thing - the renminbi is China's currency, and the Yuan is the unit of account; and PBoC is the "People's Bank of China", their central bank.

Interesting answers to exam questions

These are answers, but....(hat tip to econbrowser)

The Gdp revision

Jim Hamilton reviews the revision and doesn't seem that worried, or at least more worried than was.

The Bureau of Economic Analysis reported today that U.S. real GDP grew at a 2.2%annual rate in the fourth quarter of last year, rather than the 3.5% originally reported. Of the 1.3% lost output growth, about half is due to a downward revision of the end-of-quarter inventories.

So, although a revision of reported GDP growth from 3.5% to 2.2% sounds worrisome, the details don't bother me that much. 2.2% is closer to what I was expecting for 2006:Q4 anyway, so essentially all this does is put us back where many of us thought we were in November.