further: We should tax the use of all kinds of carbon-based fuels, such as coal, oil, and gasoline. Such a tax would raise revenue from a broad base while creating an incentive to conserve nonrenewable resources and curtail the CO 2 emissions that cause global warming.
Sadly, this thought process does not lead us to the optimal tax. We have merely swapped one problem for another. A tax on red sports cars would be paid only by the rich. A carbon tax would be paid by rich and poor alike, but it would probably cost the poor a larger fraction of their income. Taxes that fall more heavily on the poor than the rich, so-called regressive taxes, often offend our sense of justice. (Progressive taxes, such as the income tax, fall more heavily on the rich than the poor.) Here, as elsewhere, economics does not give us a “right answer”—only an analytical framework for thinking about important questions. Indeed the most efficient tax of all—one that is perfectly broad, simple, and fair (in the narrow, tax-related sense of the word)—is a lump-sum tax, which is imposed uniformly on every individual in a jurisdiction. Former British Prime Minister Margaret Thatcher actually tried it in 1989 with the community charge, or “poll tax.” What happened? Britons rioted in the streets at the prospect of every adult paying the same tax for local community services regardless of income or property wealth (though there were some reductions for students, the poor, and the unemployed). Obviously good economics is not always good politics.
Meanwhile, not all benefits are created equal either. One of the biggest poverty-fighting tools in recent years has been the earned income tax credit (EITC), an idea that economists have pushed for decades because it creates a far better set of incentives than traditional social welfare programs. Most social programs offer benefits to individuals who are not working. The EITC does just the opposite; it uses the income tax system to subsidize low-wage workers so that their total income is raised above the poverty line. A worker who earns $11,000 and is supporting a family of four might get an additional $8,000 through the EITC and matching state programs. The idea was to “make work pay.” Indeed, the system provides a powerful incentive for individuals to get into the labor force, where it is hoped they can learn skills and advance to higher-paying jobs. Of course, the program has an obvious problem, too. Unlike welfare, the EITC does not help individuals who cannot find work at all; in reality, those are the folks who are likely to be most desperate.
When I applied to graduate school many years ago, I wrote an essay expressing my puzzlement at how a country that could put a man on the moon could still have people sleeping on the streets. Part of that problem is political will; we could take a lot of people off the streets tomorrow if we made it a national priority. But I have also come to realize that NASA had it easy. Rockets conform to the unchanging laws of physics. We know where the moon will be at a given time; we know precisely how fast a spacecraft will enter or exit the earth’s orbit. If we get the equations right, the rocket will land where it is supposed to—always. Human beings are more complex than that. A recovering drug addict does not behave as predictably as a rocket in orbit. We don’t have a formula for persuading a sixteen-year-old not to drop out of school. But we do have a powerful tool: We know that people seek to make themselves better off, however they may define that. Our best hope for improving the human condition is to understand why we act the way we do and then plan accordingly. Programs, organizations, and systems work better when they get the incentives right. It is like rowing downstream.
CHAPTER 3
Government and the Economy:
Government is your friend (and a round of applause for all those lawyers)
T he first car I ever owned was a Honda Civic.
Sadly, this thought process does not lead us to the optimal tax. We have merely swapped one problem for another. A tax on red sports cars would be paid only by the rich. A carbon tax would be paid by rich and poor alike, but it would probably cost the poor a larger fraction of their income. Taxes that fall more heavily on the poor than the rich, so-called regressive taxes, often offend our sense of justice. (Progressive taxes, such as the income tax, fall more heavily on the rich than the poor.) Here, as elsewhere, economics does not give us a “right answer”—only an analytical framework for thinking about important questions. Indeed the most efficient tax of all—one that is perfectly broad, simple, and fair (in the narrow, tax-related sense of the word)—is a lump-sum tax, which is imposed uniformly on every individual in a jurisdiction. Former British Prime Minister Margaret Thatcher actually tried it in 1989 with the community charge, or “poll tax.” What happened? Britons rioted in the streets at the prospect of every adult paying the same tax for local community services regardless of income or property wealth (though there were some reductions for students, the poor, and the unemployed). Obviously good economics is not always good politics.
Meanwhile, not all benefits are created equal either. One of the biggest poverty-fighting tools in recent years has been the earned income tax credit (EITC), an idea that economists have pushed for decades because it creates a far better set of incentives than traditional social welfare programs. Most social programs offer benefits to individuals who are not working. The EITC does just the opposite; it uses the income tax system to subsidize low-wage workers so that their total income is raised above the poverty line. A worker who earns $11,000 and is supporting a family of four might get an additional $8,000 through the EITC and matching state programs. The idea was to “make work pay.” Indeed, the system provides a powerful incentive for individuals to get into the labor force, where it is hoped they can learn skills and advance to higher-paying jobs. Of course, the program has an obvious problem, too. Unlike welfare, the EITC does not help individuals who cannot find work at all; in reality, those are the folks who are likely to be most desperate.
When I applied to graduate school many years ago, I wrote an essay expressing my puzzlement at how a country that could put a man on the moon could still have people sleeping on the streets. Part of that problem is political will; we could take a lot of people off the streets tomorrow if we made it a national priority. But I have also come to realize that NASA had it easy. Rockets conform to the unchanging laws of physics. We know where the moon will be at a given time; we know precisely how fast a spacecraft will enter or exit the earth’s orbit. If we get the equations right, the rocket will land where it is supposed to—always. Human beings are more complex than that. A recovering drug addict does not behave as predictably as a rocket in orbit. We don’t have a formula for persuading a sixteen-year-old not to drop out of school. But we do have a powerful tool: We know that people seek to make themselves better off, however they may define that. Our best hope for improving the human condition is to understand why we act the way we do and then plan accordingly. Programs, organizations, and systems work better when they get the incentives right. It is like rowing downstream.
CHAPTER 3
Government and the Economy:
Government is your friend (and a round of applause for all those lawyers)
T he first car I ever owned was a Honda Civic.
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