“There’s one for you, nineteen for me.”

Jokes about economics do exist. Here goes the second one:

Three business owners sit in prison. They ask each other what they’re in for. First guy: “I charged higher prices than my competitors did. I’m in for price-gouging.” Second guy: “I charged lower prices than my competitors did. I’m in for predatory pricing.” Third guy: “I charged the same prices that my competitors did. I’m in for collusion.”

Classic, I know. This kneeslapper is of indeterminate origin. It shows up on several econ-related websites, once as a cartoon, and these websites generally referred to it as an older joke.

I finally found three minutes during which I had absolutely nothing better to do and therefore watched Robert Reich’s “The Truth About the Economy.” It’s worth watching; in less than two minutes and fifteen seconds he puts on a remarkable demonstration of flawed premises, faulty reasoning, and demagoguery. Anyhow, he briefly mentions marginal income tax rates, namely that until 1981 the top marginal income tax rate was 70%, but now it’s 35%. That triggered a thought:

You’ll hear every so often that we had decent economic growth during times when the top marginal rate was 70% (as it was from the mid-1960s until 1981) and when the top marginal rate was around 90% (as it was from the early 1940s to the mid-1960s). You’ll also hear that we had poor economic growth during times when the top marginal rates were much lower, ranging between 28% and 39.6% since 1981.

Both statements are true, but it’s also true that we’ve had poor growth under high top marginal rates and strong growth under low top marginal rates. During the Depression, Hoover and Congress raised the top rate from 25% to 63%, and the economy got worse. When FDR got elected, the economy improved for about three years under the same 63% top rate, then FDR and Congress raised the top rate to 79%– and then the economy tanked again. We had strong growth under Reagan’s 28% top marginal rate and under Clinton’s 39.6% top marginal rate, and we had weak growth under Papa Bush’s 31% and Baby Bush’s and Obama’s 35%. (Figures come from here.)

Those top marginal rates are just one factor among bazillions affecting the economy. I would like to know how much they actually matter, because something I’ve left out of this discussion, and Robert Reich left out of his, and a great many folks leave out when discussing tax rates, is how much income actually gets taxed at those rates. For instance, let’s say that President Obama and Congress raise the top marginal income tax rate to 99%, but it only applies to personal income over $100 billion per year. In other words, the “99% bracket” starts at $100 billion. Nobody makes that much money in a year (yet), therefore nobody is going to pay 99% of any dollar they earn. Nothing whatsoever is affected by that 99% top marginal tax rate. Now let’s say they drop the 99% bracket all the way down to $1 million per year. Now it’s going to start affecting actual workers and businesses, and Obama and all 535 congressmen will be leaving office shortly.

I would like to read a study that examines the history of marginal income tax rates and how much income those rates actually affected. I wonder whether that would clarify or obfuscate arguments about the relationship between taxation and growth, or about the relationship between tax rates and tax revenues. If such a study hasn’t been written yet, then congratulations, somebody now has an idea for a thesis.

3 comments

  1. And that “somebody” would be you. Go get that master’s!

    Or is this Ph.D. worthy in the economics world? I haven’t hung out enough with those types to know.

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  2. Sounds like something Feldstein would write: http://ideas.repec.org/e/pfe112.html

    This one is my favorite:
    Three econometricians went out hunting, and came across a large deer. The first econometrician fired, but missed, by a meter to the left. The second econometrician fired, but also missed, by a meter to the right. The third econometrician didn’t fire, but shouted in triumph, “We got it! We got it!”

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