Trickle Down

by Russ Roberts on October 6, 2011

in Standard of Living, Taxes, The Hollow Middle

Jared Bernstein writes (HT: Mark Thoma and Brad DeLong)

As I mentioned earlier, I’ve been collecting stuff on kids and their economic well-being.  Here are a couple of figures that provide an intersection of a number of points I’ve tried to stress a lot in recent weeks.

It’s just a simple plot of real median income for families with kids, 1989-2010, followed by two bars showing the trough to peak of income growth in the two recovery periods.

The difference between how middle-income families fared in these two periods is really quite remarkable.  I mean, when it comes to income growth, there are always lots of moving parts, but at first blush, if you’re a middle-income family with kids, you might want to keep these pictures in your mind when listening to the economic agendas of those who would be President.

That is, it’s hard to take seriously those who claim that “supply-side” tax cuts, as in the Bush years—large breaks tilted toward the top that are supposed to trickle down to the middle—will deliver for the middle class, compared to the more progressive tax regime of the Clinton years.  It’s even harder to imagine how “shuddering the EPA” will make the difference.

There were important, real differences between these periods: the job market was much tighter in the former decade, job growth was about four times as fast on an annualized basis—importantly, the 1990s recovery lasted longer than that of the 2000s, in part because the only way for many families to get ahead amidst the flat income growth of the latter period was through cheap, easy credit.  (In other words, there’s a linkage here between flat middle class incomes, the debt bubble, and the big crash.)

And then there’s a graph showing that the median family income fell between 1989 and 1992, grew steadily between 1992 and 2000, then fell or slumped between 2000 and 2010.

Aha! Trickle-down doesn’t work! When Republicans are in power, the middle class suffers! Democrats with high tax rates are good for the middle class!

There is a name for this kind of thinking: post hoc, ergo propter hoc–after this, therefore because of this. Understanding that this is a fallacy, that more than one thing is happening in the world is part of the economic way of thinking. Bernstein mentions this (“there are lots of moving parts”) but he keeps going anyway.

He also wants to sell this idea that we’re going to hear incessantly for the next 13 months that the middle class had to borrow a lot of money because they weren’t getting richer. This is a convenient story that removes any responsibility for the crisis from those who relentlessly encouraged government policies that encouraged debt artificially.

Another way to understand Bernstein’s mistake is remember that correlation is not causation.

I have an even better argument against tax cuts for the rich. According to Bernstein’s logic, they don’t even work for the rich.

If you look at the mean income for the top 20% of all families, it also shrinks between 1989 and 1992, grows between 1992 and 2000 and falls between 2000 and 2010. So those tax cuts for the rich didn’t even help the rich. Kind of ruins the class warfare story, doesn’t it? (I hope to get some graphs up on this in a later post.) The same results hold for the top 5%. Data are here–use the numbers corrected for inflation.

Maybe, just maybe, other factors than tax policy explain our financial well-being.

 

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{ 57 comments }

rbd October 6, 2011 at 8:33 am

“…as in the Bush years—large breaks tilted toward the top…”

I thought rates were reduced across all income brackets? And wasn’t the 10% rate introduced under the Bush watch?

In 2008, only 47% of all Americans paid income tax. That means the bottom 50% were subsidized by the top 50%. Half of all Americans have “no skin in the game”. Is this fair?

Let’s abolish the income tax, and replace it with a consumption based tax or flat tax. This would go a long way in reducing the “tax gap” anyway.

Observer October 6, 2011 at 9:06 am

rbd

actually, the poor subsidize the rich. You leave out the bigger income tax: FICA

the poor have plenty in the game

Why don’t we abolish all taxes on income, including FICA, and replace with a progressive consumption taxes (like special taxes on property and casualty insurance) and progressive estate and gift taxes.

Randy October 6, 2011 at 11:48 am

I would prefer a visible system to the current system of invisible taxes. Hard to develop the concept in a few short lines, but consider that it isn’t really a “tax” if I’m paying for something that I want. The powerful may pay enormous amounts to the political organization providing the service, but it isn’t a tax unless they’re paying for something they don’t want. The non-powerful, on the other hand, are frequently forced to pay for things they wouldn’t buy if they were not forced to buy from and by the political organization. A visible system would be a market based system in which people paid directly for only the specific services they wanted. That is, its not really a “tax” system at all. It is a productive organization providing services that are really services.

vikingvista October 6, 2011 at 2:56 pm

“actually, the poor subsidize the rich. You leave out the bigger income tax: FICA”

I know what you think you are claiming. You think that the ratio of SS benefits to taxes paid increases with income–a dubious claim. It is probably more correlated with year of birth. But the fact of the matter is, with SS/MC, the young subsidize the old. The old, having a lifetime of income behind them, tend to be richer than the young. So while you are wrong about *how* the “poor subsidize the rich” (it is duration, not level, of income), the intergenerational transfer makes the subsidy claim roughly true.

brotio October 8, 2011 at 9:19 pm

And to add to your post:

FICA taxes are capped because benefits are capped. Socialists want to lift the cap on the tax (but not on the benefit) in order to make SS even more of a welfare system.

yet another Dave October 6, 2011 at 3:10 pm

actually, the poor subsidize the rich. You leave out the bigger income tax: FICA
the poor have plenty in the game

Observer, you are completely wrong.

From the CBO report titles “Average Federal Tax Rates in 2007” published in June 2010, the data including all federal taxes absolutely refutes your statement.

Data by quintile (in columns separated by “ _ _ “) all numbers are % (I attempted to get the columns to line up, hopefully it works)
- Column 1 = quintile number (Q1 = lowest)
- Column 2 = share of pre-tax income
- Column 3 = share of tax liabilities (all federal taxes)
- Column 4 = total effective tax rate (all federal taxes)

2006:
Q5: _ _ 55.7 _ _ 69.3 _ _ 25.8
Q4: _ _ 19.5 _ _ 16.5 _ _ 17.5
Q3: _ _ 13.2 _ __ 9.0 _ _ 14.2
Q2: _ __ 8.3 _ __ 4.1 _ _ 10.2
Q1: _ __ 3.9 _ __ 0.8 _ __ 4.5

2007:
Q5: _ _ 55.9 _ _ 68.9 _ _ 25.1
Q4: _ _ 19.3 _ _ 16.5 _ _ 17.4
Q3: _ _ 13.1 _ __ 9.2 _ _ 14.3
Q2: _ __ 8.4 _ __ 4.4 _ _ 10.6
Q1: _ __ 4.0 _ __ 0.8 _ __ 4.0

Methinks1776 October 6, 2011 at 5:08 pm

YaDave,

It’s clear that facts are of no interest to this idiot. He hasn’t the capacity to process them.

Observer October 6, 2011 at 6:58 pm

add in the employer match on FICA and deduct all the federal subsidies to the rich

Methinks1776 October 6, 2011 at 8:23 pm

Like I said, YaDave.

rhhardin October 6, 2011 at 8:33 am

The ditch digger with heavy equipment earns a lot more than the ditch digger with a shovel.

The difference is capital. A rich guy buys the heavy equipment to suport the job.

That’s trickle-down, not dimes falling from the pockets of the rich.

Observer October 6, 2011 at 9:01 am

Your sentence should read:

The ditch digger with heavy equipment earns a lot more than the ditch digger with a shovel . . . if he is a member of an effective union.

Sans some form or leverage they earn the same.

rhhardin October 6, 2011 at 10:14 am

That theory would make the industry very very profitable.

What happens then? An economics question.

It’s why returns in investment tend to be the same all over, and the profits to worker and investor tend to share pretty well after things have been running for a while.

It’s also why unionized businesses tend to go out of business, except for public unions of course, which can’t fail.

Observer October 6, 2011 at 10:20 am

go out of business–so what—there is no long run—ask Kramer on Mad Money

Anotherphil October 6, 2011 at 11:15 am

“ask Kramer on Mad Money”

No, don’t ask him anything.

Methinks1776 October 6, 2011 at 5:09 pm

I don’t know. What kind of “leverage” will that give me? I only want leverage. Leverage is the thing. It’s all about leverage.

Emil October 6, 2011 at 4:07 pm

Sorry, but that is BS. Productivity raises wages in the long-run and across industries, unions only tilt them towards their favoured in the short-run and depress them for all in the long-run.

One of my university professors one said “engineers create value, the others just move it around” While I think he was somewhat partisan (I was in engineering school) it still remains one of the wiser things I’ve heard

Anotherphil October 7, 2011 at 11:31 am

Its worse. Unions enforce restrictive and often contrived craft lines, complicated work rules, and regulation and discipline of employees through quasi-judicial processes that are as much or more designed to impose excessive effort and cost on the employer as assure the employee fair and consistent treatment.

Everwhere unions were allowed to run wild, automobiles, textle and garment manufacturing, railroads, steelmaking, footwear manufacturing, the result has been the same-ruin and if possible-massive outsourcing.

That’s why unions have taken to the public sector-taxes, unlike sales can be extracted from the unwilling by force, without the limits of market discipline.

David Clayton October 6, 2011 at 8:33 am

Hi Russ –

If your subsequent posting on this doesn’t break down the top 20% further, you’ll be as incomplete and potentially misleading as those you criticize. To be complete, pull out as many groups as the data allows; the top 0.1%, the next 0.9%, the next 4%, etc.

Russ Roberts October 6, 2011 at 8:45 am

Just added the top 5%–that’s all you get from the Census data I saw. But the Bush tax cuts weren’t pointed at the top 0.1% in Bernstein’s story. So while it might be interesting, it doesn’t change my critique of Bernstein’s logic.

Listen to EconTalk. I’ll be doing some stuff on the so-called super-rich very soon.

David Clayton October 6, 2011 at 9:23 am

Any change in capital taxation is pointed quite squarely at the top 0.1%.

Russ Roberts October 6, 2011 at 10:03 am

Yes, that is the direct effect. But more capital (correctly incentivized) is good for most of us.

steve October 6, 2011 at 10:15 pm

Some of us are more equal than others. Go pull out that top 0.1%. It is out there. If you cannot find it, we will help.

Steve

muirgeo October 6, 2011 at 10:40 am

“so-called super-rich ”

Come on Russ. They are not “so-called super rich”. These people have over a trillion dollars among the top 400… That is rich beyond anything you can imagine and beyond and necessary reason EXCEPT to exert power and control over the rest of the population… to bring back Kings that we thought we were rid of. Either way whatever you believe the merits they are NOT so-called super rich. They are the incredibly, unimaginably, horrendously ridiculously SUPER DUPER rich. And I still think I understated it.

They could divide their money and make 4,000,000 millionaires. There is NO ONE in the government that has anywhere’s near that amount of power.

It’s amazing to me that this is even a serious discussion and that we can’t just all agree there is no reason for anyone to have that much wealth… and to simply say that is somehow blasphemous or inciting warfare or taboo…really? Come on…

matt October 6, 2011 at 10:59 am

a trillion can only make a million millionaires. god, i hope you’re not this stupid when you’re prescribing drugs. let’s see, hmm, 400ml, no wait, 100ml! yeah 100! 100? no 600!

oh, and you wanna agree on there being no reason for “that much” wealth? do you realize that you’re just as “rich” compared to at least half the world as these “rich” people are to you?

idiot.

no, you’re an idot. you don’t need another i.

Fred October 6, 2011 at 12:45 pm

These people have over a trillion dollars…

No they don’t. Wealth is not the same thing as money.

The Other Eric October 6, 2011 at 1:03 pm

Muir,

If you really can’t think of any reason “for anyone to have that much wealth” then have no imagination and no understanding of the distinctions between wealth, income, and capital investment.

You seem to be an angry, cynical, envious little man.

muirgeo October 6, 2011 at 9:39 pm

TOC,

There is NO reason. Only one of them or a dupe like you who is happy to pay their rent would defend it. They own the other 99 % of the population gaining ever more power as they auction off our government. You are clearly the hoodwinked fool. There is no consistency to your position. Crying about governent rent yet defending the rent-seekers.

I ‘m not envious but I am angry. I can’t stand criminals. My life is great…I am just reflective of how it came to be great.

Randy October 6, 2011 at 4:27 pm

The rich aren’t the problem. The poor are.

The rich didn’t get rich by taking from the poor, who afterall, have nothing to take.

It isn’t that hard to make a comfortable living in this country, and anyone who isn’t is either mentally challenged or not trying very hard.

So forget the rich. Its not their fault. If you must focus your energy on a problem, focus it on the real problems of stupidity and laziness.

Methinks1776 October 6, 2011 at 5:32 pm

They could divide their money and make 4,000,000 millionaires.

Walter Williams goes through this thought experiment as well, so I won’t pick on you too badly for that.

But, in fact, you won’t be able to make anyone even a hundredaire by liquidating anyone.

These people’s money isn’t just sitting around. Their net worth consists of investments in companies. The only way to monetize that wealth is to force the sale of the assets of the company. If it’s a public company, you will have to sell the stock. To whom? What happens when you dump millions of shares of stock?

The value of the assets of the company is the cash flow these people can generate with the assets organized in this particular way (besides a negligible book value, that is). Worse, for businesses like Microsoft, Apple and many others, the biggest and most important asset is people. And there’s just no ethical way for you dirty little Bolsheviks to monetize that asset.

Since the market for the assets is the people you’re liquidating, you’ll be selling buildings and copier machines for scrap.

The only thing you will achieve in the attempt is the destruction of that wealth. You will never redistribute it. You will, however, throw millions of people out of work and impoverish the entire country.

You will not make anyone a millionaire.

gregworrel October 6, 2011 at 6:16 pm

The market process is thus seen to be a leveling process. In a market economy a process of redistribution of wealth is taking place all the time before which those outwardly similar processes which modern politicians are in the habit of instituting, pale into comparative insignificance, if for no other reason than that the market gives wealth to those who can hold it, while politicians give it to their constituents who, as a rule, cannot.

The Market Economy and the Distribution of Wealth – Ludwig M. Lachmann, Capital, Expectations, and the Market Process [1940]

http://oll.libertyfund.org/?option=com_staticxt&staticfile=show.php%3Ftitle=97&chapter=3326&layout=html&Itemid=27

Methinks1776 October 6, 2011 at 6:19 pm

Thanks, Gregworrel. I love that essay.

muirgeo October 6, 2011 at 9:44 pm

My scut monkey said,

“You will, however, throw millions of people out of work and impoverish the entire country.”

Uh dude… that already happened…. after the wealth became so concentrated.

ps: again since you don’t serve the boards need for sound reason and arguments…please check my spelling and grammar. Much appreciated.

mcwop October 6, 2011 at 8:33 am

1992-2000 massive technology infrastructure spend, new companies created from almost nothing overnight. Nope nothing to see here.

Don October 6, 2011 at 11:31 am

mcwop,

The growth in the 90′s comes directly from a war dividend. There was a massive release of investment (capital, people, and resources – e.g. technology) that came to market following the fall of the Berlin Wall and subsequent collapse of the USSR.

If Bush had won reelection, we would call him the greatest president in history, but since Clinton won, he get’s that title.

It’s easy to lead the parade, when you jump in front and start waving your arms. Clinton almost couldn’t screw it up (although he certainly tried at the beginning of his term, and the people put a stop to it by switching control of the House).

Dude, be a LITTLE more observant and a LOT more critical in your thinking.

The Other Eric October 6, 2011 at 1:07 pm

A company created from almost nothing, overnight?

What are you, 12 years old?

Name any three of these miraculous companies, please.

Don October 6, 2011 at 10:00 pm

Hah! I’ll give him a head start by naming one: Enron! :^)

The Other Eric October 7, 2011 at 4:04 pm

Sorry, no. Enron was formed in 1979 as part of a reorganization of a utility company founded in 1932. As a utilities trading firm it worked as a profitable concern before the leadership of the company embarked on a series of unethical and illegal activities. These activities were discovered and several of the key players were prosecuted.

The same cannot be said for the Social Security Administration which parallels Enron (in many, many ways).

Observer October 6, 2011 at 8:57 am

Robert Dugger explains why the Bush tax cuts hurt the rich:

Rising debt hurts economic growth by causing companies to take protective actions against inevitable government spending cuts and tax increases – fiscal adjustment costs. As the US fiscal gap increased, company CEOs increased cash holdings and reduced domestic US investment.

http://www.hanoverinvest.com/pdf/HHIGComment110525_Paul_Krugman.pdf

the key metric, the only metric, is whether a policy increases US investment

trade deficits that do not increase us investment

tax cuts do not increase us investment

Sam Grove October 6, 2011 at 10:05 am

inevitable government spending cuts

What government spending cuts?
Do you mean cuts in the rate of growth?

Observer October 6, 2011 at 10:36 am

read Drugger–he is very explicit about what cuts (discretionary domestic, for starters), when they will happen, and why

Anotherphil October 6, 2011 at 11:13 am

Anything that has “krugman” in it is self-invalidating and a giant buzzkill.

Observer October 6, 2011 at 1:26 pm

agree

that’s why I disregard all those Krugman is wrong about ya ya essays

Ken October 6, 2011 at 12:39 pm

Observer,

“Robert Dugger explains why the Bush tax cuts hurt the rich:

Rising debt hurts economic growth…”

The “Bush tax cuts” were not and are not the reason for rising public debt. The reason for rising public debt is that politicians spend other people’s money like crazy. The federal government spending doubled (going from $1.7T to $3.5T) from 2000 to 2010, while the GDP grew by only 46% (going from $9.9T to $14T).

“tax cuts do not increase us investment”

tax increases do not increase US investments.

You’re also missing the important understanding that the citizens of the US don’t exist to fund the US government. The US government exists to ensure the freedoms and liberties of the citizens of the US. Taking from citizens to use on government boondoggles is a breaking of faith by politicians.

Regards,
Ken

Todd October 6, 2011 at 9:57 am

Bernstein is unwittingly presenting a case for reducing (or at least reducing the growth of) Federal spending.

Average annual real growth in Federal Outlays:
GHW Bush years 1989-1992: 2.5%
Clinton years 1992 – 2000: 0.6%
GW Bush years 2000-2008: 3.5 %

http://www.whitehouse.gov/omb/budget/Historicals

muirgeo October 6, 2011 at 10:24 am

“Kind of ruins the class warfare story, doesn’t it? ”
Russ

That’s because it is NOT about class warfare Russ. It’s about what is most efficient economically. That happens to be policies that get more money flowing through the economy enriching everyone rather than policies that concentrate wealth and stagnate demand and thus the economy. That’s the big point. These policies aren’t even good for the rich ultimately.

Larry Bartels has shown in his book Unequal Democracy that trickle down policies are less efficient at growing incomes at ALL levels.

http://us-nl.com/bartel3.jpg

The current economy underscores the failure of trickle down. Massive accumulations of profits but no investment because as all surveys show there are no sales…which is consistent with decreased wages and indebtedness. The best the supply siders can do to prop their theory is to talk about regime uncertainty

Anotherphil October 6, 2011 at 11:12 am

Trickle down is leftist invective and sloganeering. It has no effect good or bad, because it is a vacant construct, the regurgitant of the morally deficient and intellectually deprived-who constantly mistake the gnawing and grinding of their viscera as deep insight.

Methinks1776 October 6, 2011 at 5:36 pm

Trickle down is leftist invective and sloganeering.

It has become that. However, apparently it wasn’t the left that dreamed up this nonsense. George H. Bush made that up to attack Reagan’s economic policies during the primaries. Yet another bit of idiocy we have to “thank” a Bush for.

vikingvista October 6, 2011 at 5:43 pm

“Voodoo economics” was another lasting Bush derision. Maybe GHWB would’ve served a second term if he had employed a little voodoo economics himself.

Anotherphil October 6, 2011 at 11:07 am

it’s hard to take seriously Jared Bernstein.

Mesa Econoguy October 6, 2011 at 1:08 pm

Precisely.

kyle8 October 6, 2011 at 11:35 am

Does he completely ignore the effect of the massive cut in capital gains tax rates in the middle of the Clinton period?

It would seem to me that is a major factor.

Observer October 6, 2011 at 11:59 am

McKinsey just published a great article that includes this observation:

The second economy will certainly be the engine of growth and the provider of prosperity for the rest of this century and beyond, but it may not provide jobs, so there may be prosperity without full access for many. This suggests to me that the main challenge of the economy is shifting from producing prosperity to distributing prosperity. The second economy will produce wealth no matter what we do; distributing that wealth has become the main problem. For centuries, wealth has traditionally been apportioned in the West through jobs, and jobs have always been forthcoming. When farm jobs disappeared, we still had manufacturing jobs, and when these disappeared we migrated to service jobs. With this digital transformation, this last repository of jobs is shrinking—fewer of us in the future may have white-collar business process jobs—and we face a problem.

Emil October 6, 2011 at 4:13 pm

Jobs are not something that appears out of the blue.

Randy October 6, 2011 at 7:15 pm

I think that for the most part “jobs” have already vanished. That is, I think we are living in a luxury economy – one in which most of what is produced is luxury and not necessity. But that’s no reason to turn it all over to a central planner. Central planning is limited by the basic nature of those who desire to exercise control over others. In a free society, human creativity is limitless. You say we face a problem. I agree – but the problem is an excess of central planning, not a deficiency.

Mike Rulle October 6, 2011 at 3:33 pm

I don’t understand the change in current dollars versus the change in 2010 dollars. Shouldn’t the percent change be similar in both? They are considerably different. If they are different, what does that mean, assuming the calculations are correct (which I do)? What else is happening?

Becky Hargrove October 6, 2011 at 3:58 pm

The greatest trickle down of all is the knowledge of our times. If we can validate the knowledge resource base that lies in each of us we can finally regain growth and set our skills free.

steve October 6, 2011 at 10:18 pm

“Maybe, just maybe, other factors than tax policy explain our financial well-being.”

Wish we could convince conservative pundits/politicians that this is true.

Steve

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