Obama Fail on Gov't Investment

Krugman on government investment during a recession. 

For future reference. In a depressed economy, with the government able to borrow at very low interest rates, we should be increasing public investment — the true cost of the resources is negligible, so the rate of return is very high, not to mention the desirability of creating jobs.

Here’s what has actually happened, as measured by the sum of state, local, and federal nondefense investment:

Understanding Marginal Taxes

The Bush administration passed temporary income tax cuts that automatically expire at the end of 2012 by law and return to the levels of the Clinton administration.  The Obama administration wants to let the tax cuts expire only on couples who make more than $250,000 and cut taxes income below $250,000.  Obama's proposal would allow the Bush administration law to raise the marginal income tax rate only on income over $250,000 from 35% back to 39.6%. 
1. Approximately how much would Obama's new law raise taxes on someone making $250,111 compared with Bush's tax rates before they automatically expire?  

1. $0
2. $5
3.  $100
4. $12,000
5. $100,000

2.  Suppose you are earning $250,111 which is $111 over the threshold for the Obama proposal.  Could you increase your take-home (after-tax) income by earning $112 less?
3. When Bush's tax cut expires, millionaires will see a huge tax increase when the top rate goes from 35% to 39.6%.  Would Obama's new law cut taxes on millionaires relative to current law which brings back Clinton's rates?

The answers are extremely simple, but the issue confuses nearly everyone:

Here I went and wrote a whole column about House Republicans exploiting public ignorance of how marginal tax rates work to bamboozle people about the impact on small businesses and I read (via Jon Chait) that Democratic Senators don't understand this either:

ANSWERS:
1. $5
2. No!  You always keep more income by earning more.  That is why we call them MARGINAL tax rates.  They only affect additional income. 
3.  Millionaires get a larger tax cut under the Obama plan than anyone else as you can see in the above graph.  This is because they get the full tax cut on their first $250,000 of earnings and only pay the higher tax on income above $250,000.  The Obama plan cuts taxes on all Americans by more than the GOP plan except for the richest 4% of Americans.

Tax History: Record Largest Peacetime Income Tax Hike

 Americans used to be completely comfortable with making the rich pay high taxes.  in 1944 the top income tax rate was 94% and it mostly remained at 91% for two decades until the (liberal Democrat) Kennedy tax cut of 1964 whereupon it dropped to 70% for the next two decades!  Culture changed. 
Alex Raskolnikov gives another historical example of tax culture in the US:

Alex Raskolnikov: [Conservative Republican] Herbert Hoover presided over the largest tax increase in peace time history of the United States. For top earners the rate went up from 25 percent to 63 percent. But not everyone in top 1 percent was paying 63 percent. In fact after the Hoover tax increase, there was a very wide range in rates between people who just barely made the top 1 percent and people who were like Andrew Mellon, like really, really the richest Americans. The range was from 8 to 63 percent. So people who just made it into the top 1 percent were facing the 8 percent rate -- that was not particularly high. The wealthiest of the wealthy of the wealthy were facing 63 percent. And this is 1931!
Paul Solman: Do you read anything into this? I mean, that perhaps the Great Depression continued for another nine years because rates were jacked up that high?
Alex Raskolnikov: Well, as always my answer is going to be that we're not entirely sure, and it's complicated, and there were many factors going into Depression. Tax policy was only one of them, so it's hard to know. But I would say that this range of rates for top 1 percent from 8 to 63 percent is kind of illuminating about the debates that are going on now. When you think about Warren Buffett, who says that he thinks we should raise taxes to top 400 taxpayers, and the debates in Congress about raising taxes on those with an income over a million dollars, that's about 400,000 to some arguments that the top rate should go up for the top 1 percent, that's over a million taxpayers. To Obama's points that we should let Bush tax cuts expire for people with income of $200,000 that's well below, quite below top 1 percent. That's the kind of differentiation that we don't have now that we used to have and that was very profound when Hoover raised the rates.
In 1944 the average rate paid by the top 1 percent of households was 60 percent -- meaning that these people paid 60 percent of their income in taxes. But that's not all. [President Franklin D. Roosevelt] actually wanted more. So in 1942 he suggested capping incomes at $25,000. Today that would be $350,000. That's a little under where today's top marginal rate starts. And it wasn't kind of a backroom discussion in the White House, he made this suggestion to a Joint Session of Congress in 1942.
Paul Solman: That's literally unimaginable today, right? I mean a totally different ethos.
Alex Raskolnikov: I agree, and that wasn't the only suggestion. At some point FDR considered switching to taxation of gross income. It probably would be unconstitutional, but that was sort of on the table. His Treasury Secretary, Henry Morgenthau, proposed capping corporate profits at 6 percent -- meaning taxing away everything above 6 percent. That didn't go through and capping ordinary income didn't go through, but these were the things that were being considered at the time.

Should Government Spending Go Up or Down During a Recession?

Kevin Drum:
The federal government can currently borrow money for free. In fact, better than free: inflation-adjusted rates on treasury bonds are negative for maturities of ten years or less, and damn close to negative even for longer-term bills:

Negative! The market will literally pay us a small premium to take their money and keep it safe for them for five, seven or 10 years. We could use that money to rebuild our roads and water filtration systems. We could use that money to cut taxes for any business that adds to its payrolls. We could use that to hire back the 600,000 state and local workers we’ve laid off in the last few years.
Or, as Larry Summers has written, we could simply accelerate payments we know we’ll need to make anyway. We could move up maintenance projects, replace our military equipment or buy space we’re currently leasing. All of that would leave the government in a better fiscal position going forward, not to mention help the economy.
The fact that we’re not doing any of this isn’t just a lost opportunity. It’s financial mismanagement on an epic scale.

Yep. It's worth noting that this money isn't literally free. We still have to pay it back eventually. But we'd have to pay back less than we borrowed in the first place. So we could borrow a billion dollars to build a water filtration system, get the use of that system for ten years, and then pay back $900 million. It's an incredible bargain.
This logic applies to pretty much any project we think we're going to need eventually. If we'll need it someday, the best time to build it is now, when the rest of the world will help finance it for us. This would put people to work, build some critical infrastructure, and effectively do it for less than market prices. What's not to like?
If you're curious, real treasury yields since 2011 are shown in the chart below. 5-year rates went negative in February 2011; 7-year rates went negative in July; 10-year rates went negative in December; and 20-year rates went to zero today. Only 30-year rates are still positive, but just barely.

Multiple Levels of Privitization

There are at least three kinds of privatization
1. The government can sell off an asset and have nothing to do with the activities involved with managing that asset.  The British government once owned British Airways, but they sold it off and it became completely private.  There are no further ties with the government that differ from any other private business. 
2. Government-income-generating privatization: The government can rent out the asset.  For example, the government can own a tollway and hire a private company to operate it on behalf of the government.
3. Government-expenditure-generating privatization: The government can sell off an asset, but remain as the sole funder for the activity without any private-spending.  The private prison system is an example.  Military contractors are often in this category. 

Yglesias notes that only the first category is really a true privatization.  The other categories are  hardly reducing the government involvement in the economy at all.  But there is a big political difference:

...nothing has been privatized in "prison privatization." The government's just handed out a contract. What you do with the contracting is that instead of handing money over to unionized public sector workers who hand some of the money back to Democratic Party politicians, you hand the money over to a contracting firm that hands some of the money back to Republican Party politicians. From the perspective of partisan politics, these are very different scenarios. From the perspective of prison management, both contract prison operators and prison guard unions lobby for mass incarceration policies. Unions—as membership organizations of middle class people—will also do some lobbying for Social Security while contract prison operators, run by rich businessmen, will also do some lobbying for income tax cuts. But there's no private marketplace in prison management and there never will be.

Private prison management is a more concentrated interest group than prison worker unions and that should make them a more effective lobby for additional government spending on incarceration.  It is also harder to track the activities of more concentrated interest groups because there are fewer people to potentially leak information. 

In true privatization (#1), the government stops making key decisions about how the new business is run.  In the other two forms of partial 'privatization', the government continues to make key decisions because the activity continues to be a source of revenue or expenditure just as before.  In theory, partial 'privatization' could increase efficiency, but this theory is based upon the presence of market competition and there is rarely significant competition in the primary activities of government like jails and when cities privatize their parking meter operations, they usually sell their contract to a monopoly provider. 

One of the problems with government provision of limited resources like parking is that the government often charges too little for them which creates shortages.  However, privatized parking meter companies will charge too much for them which also creates inefficiency.  For example, when street parking is mostly empty on a Sunday afternoon, it is inefficient to charge anything for parking because that will cause some people to forgo parking and waste that resource.  In the case of parking in Chicago, privatized parking probably has a much smaller inefficiency loss than government parking, but this isn't always clear and the Chicago city government still calls the shots and it did not set efficient parking prices. 

All three forms of privatization make politicians look good now because they are all ways of boosting current government revenues at the cost of future revenues without raising present taxes.  The revenue from the first category is obvious: it is a form of spent savings that will be unavailable to future citizens.  The other two categories are less obvious, but both involve long-term contracts and in the case of income-generating 'privitizations', the private company can pay for the lease up front as Morgan Stanley investors did to buy the 75-year lease of the parking meters in Chicago or plans to 'privatize' the Ohio tollway. But then the government loses all future revenue from the meters in exchange for the up-front payment. 
In the case of jail privatization, the government must give the private jail operator an incentive to make the fixed investment in the jail by offering a profitable long-run contract.  That incentive allows the government can either sell a jail to the private jail corporation or save money by avoiding present expenditures by getting the private company to build a new jail rather than the government.  The corporation gets a long-term stream of profits baked into its contract in exchange for the initial outlay for the prison. 
Every kind of privatization is a tempting accounting gimmick that temporarily boosts the government budget balance at the expense of the future. 

real estate values and taxes

Moneybox:

When nobody wants to live someplace, it's cheap to buy a house there. That's why it's cheap to buy a house in Detroit. By contrast, you'll find that buying a house in Manhattan or San Francisco is extremely expensive. This seems to me to be the overwhelming reason to doubt Greg Mankiw's contention that high-tax states are bleeding high-income residents.
Mark Thoma has some empirical information on this, but I think the housing price data is really the most important thing to consider. The point is that without denying that if San Francisco somehow achieved a more optimal tax/service mix that would increase demand for San Francisco living, it takes a very outmoded view of the American landscape to say this would lead to more people living in San Francisco. What it would lead to is continuation of the trend whereby high income people displace low-income and middle-class residents. This then actually becomes a reason for voters in high-cost supply-constrained cities to deliberately select a non-optimal tax/service mix in an effort to prevent rich people from outbidding them for a limited stock of houses.
Now Mankiw's overall argument is that because of population migration we ought to favor decentralization, because decentralization will make it impossible for the government to raise the living standards of the least-fortune people. That strikes me as a morally perverse perspective, ...But I think it's fairly clear that population migration is driven by job availability and housing costs much more than by tax policy changes.

Inequality good or bad?

Moneybox:

One very interesting point that James Galbraith makes in his newish book Inequality and Instability is that if instead of looking at Finland then Spain then Germany then Greece all as separate countries but instead look at "Europe" as an integrated marketplace with perfect capital mobility and legal labor mobility then it's even more unequal than the United States:

...European inequality, taking into account the differences that exist between, let’s say, Germany and Poland or between Norway and Portugal, is actually larger in wages than it is in the United States.

...Europe the collection of separate low-inequality places has generally high taxes and generally high levels of income redistribution. But Europe the collective has extremely low taxes and almost no income redistribution. Greg Mankiw suggested in a recent New York Times column that radically decentralizing tax and redistribution policy in the United States would spur huge economic benefits. He might have cited the prevailing dynamic in the European Union as an example of his ideas being put into practice, but I think doing so would have tended to undermine the conclusion.

Edward Conard agrees with Mankiw that inequality in America is too low because of too much tax on corporations and the wealthy, but Conard is much more explicit about cheering for greater inequality and more wealth for the top 1% richest Americans.  He even wrote an entire book about it.