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Capital Punishment: Why a Global Tax on Wealth Won't End Inequality

Tyler Cowen — Wed, 23 Apr 2014 14:29:16 -0400

Expert Commentary

Every now and then, the field of economics produces an important book; this is one of them. Thomas Piketty’s tome will put capitalist wealth back at the center of public debate, resurrect interest in the subject of wealth distribution, and revolutionize how people view the history of income inequality. On top of that, although the book’s prose (translated from the original French) might not qualify as scintillating, any educated person will be able to understand it -- which sets the book apart from the vast majority of works by high-level economic theorists.

Piketty is best known for his collaborations during the past decade with his fellow French economist Emmanuel Saez, in which they used historical census data and archival tax records to demonstrate that present levels of income inequality in the United States resemble those of the era before World War II. Their revelations concerning the wealth concentrated among the richest one percent of Americans -- and, perhaps even more striking, among the richest 0.1 percent -- have provided statistical and intellectual ammunition to the left in recent years, especially during the debates sparked by the 2011 Occupy Wall Street protests and the 2012 U.S. presidential election.

In this book, Piketty keeps his focus on inequality but attempts something grander than a mere diagnosis of capitalism’s ill effects. The book presents a general theory of capitalism intended to answer a basic but profoundly important question. As Piketty puts it:

"Do the dynamics of private capital accumulation inevitably lead to the concentration of wealth in ever fewer hands, as Karl Marx believed in the nineteenth century? Or do the balancing forces of growth, competition, and technological progress lead in later stages of development to reduced inequality and greater harmony among the classes, as Simon Kuznets thought in the twentieth century?"

Although he stops short of embracing Marx’s baleful vision, Piketty ultimately lands on the pessimistic end of the spectrum. He believes that in capitalist systems, powerful forces can push at various times toward either equality or inequality and that, therefore, “one should be wary of any economic determinism.” But in the end, he concludes that, contrary to the arguments of Kuznets and other mainstream thinkers, “there is no natural, spontaneous process to prevent destabilizing, inegalitarian forces from prevailing permanently.” To forestall such an outcome, Piketty proposes, among other things, a far-fetched plan for the global taxation of wealth -- a call to radically redistribute the fruits of capitalism to ensure the system’s survival. This is an unsatisfying conclusion to a groundbreaking work of analysis that is frequently brilliant -- but flawed, as well.

Access the full article at ForeignAffairs.com

A Bad Report Card for a Security-Righteous SEC

Hester Peirce — Wed, 23 Apr 2014 11:03:31 -0400

Expert Commentary

Last week, the Government Accountability Office issued a report on information security lapses at the Securities and Exchange Commission. The report, an elaboration on problems identified in GAO's December 2013 audit report, warned that these problems created risks to "the confidentiality, integrity, and availability of a key financial system" at the SEC. In short, "information security weaknesses placed SEC financial data at risk" and the commission needs to work harder to fix them. That's not a great report card for an agency that is supposed to be keeping tabs on information security in the financial sector.

The GAO identified a number of specific problems with respect to the SEC's protection of a key financial system. For example, the SEC did not properly employ password protection, firewall settings, or encryption. The SEC also put the key financial system at risk by using outdated software products, failing properly to log potential security events, and not adequately controlling physical access to computer systems. The commission also failed to ensure that its contingency and disaster recovery plans were current and functioning properly. In connection with moving the financial system, the SEC "did not have timely awareness of potential security vulnerabilities, which resulted in pervasive control weaknesses in the system when the new production environment went live." The GAO concluded with the warning that until the SEC addresses its information security lapses, "it will continue to be at risk of ongoing deficiencies in the security controls over its financial and support systems and the information they contain."

Even without the GAO's warning, the SEC is keenly aware of the importance of information technology, the risks associated with employing it, and the need for strong security measures. In March, the SEC held a cybersecurity roundtable. Last week, the SEC's Office of Compliance Inspections and Examinations announced a mass cybersecurity examinationplan for broker-dealers and investment advisers. Ironically, compliance staffers will be examining for many of the same weaknesses that the GAO identified in its report.

In addition, the SEC is working on finalizing proposed Regulation Systems Compliance and Integrity ("Regulation SCI"), which would replace voluntary information technology standards for financial industry self-regulatory organizations (SROs)-such as the stock exchanges-with mandatory standards. The goal is to ensure that SROs' computer systems "have levels of capacity, integrity, resiliency, availability, and security, adequate to maintain the SCI entity's operational capability and promote the maintenance of fair and orderly markets." Among the concerns the SEC raised in its proposal was the degree to which vulnerabilities in the SROs' financial and accounting systems could put the SROs' core operations at risk. Proposed Regulation SCI would require SROs to give SEC personnel access to key systems, including their security systems.

In light of the SEC's own problems, SROs could not be faulted for questioning the wisdom of granting the SEC access to their systems. Adding to concerns raised in the GAO's report are problems identified by the SEC's Office of Inspector General. An August 2012 reportlooked at the SEC office charged with overseeing SROs' information security. The report identified a number of troubling security lapses by that office, including the use of unencrypted laptops and unfiltered internet access. More recently, a March 2014 inspector general report on the SEC's information security found that the Office of Information Technology had not corrected certain previously identified problems and "needs to enhance its efforts regarding contractor systems, multi-factor authentication, user accounts, and configuration management."

Information security is challenging for the government and private sector alike, but these challenges weigh even more heavily on the SEC given its role in monitoring regulated entities. The SEC will be in a better position to set, inspect for compliance with, and enforce information technology standards if it takes the GAO's warnings and recommendations to heart.

NYU Law Digital Currency Conference: The Legal and Policy Issues

Jerry Brito — Wed, 23 Apr 2014 10:51:26 -0400

Video

In recent years, digital currencies have emerged as an innovative and potentially disruptive technology. They have generated interest and debate, and are increasingly a focus of mainstream press coverage and everyday discussion. Chief among these digital currencies is Bitcoin, which has drawn the attention of regulators, lawmakers, businessmen, and entrepreneurs. We are delighted to invite you to NYU Law for an evening with some of the key individuals involved in the study and use of virtual currencies.

In recent years, digital currencies have emerged as an innovative and potentially disruptive technology. They have generated interest and debate, and are increasingly a focus of mainstream press coverage and everyday discussion. Chief among these digital currencies is Bitcoin, which has drawn the attention of regulators, lawmakers, businessmen, and entrepreneurs. In an NYU Law event, Jerry Brito and other key individuals involved in the study and use of virtual currencies discussed these issues.

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Mercatus' Blahous to Serve on BPC's Personal Savings Initiative

Charles Blahous — Wed, 23 Apr 2014 09:32:20 -0400

Expert Commentary

The Mercatus Center’s Charles Blahous will serve as a co-commissioner on the Bipartisan Policy Center’s (BPC) newly established Personal Savings Initiative, which aims to examine “whether savings rates and available savings vehicles are meeting the retirement goals of Americans and the nation's investment needs.”

Blahous, Mercatus’ director of Spending and Budget Initiative and a public trustee for Social Security and Medicare, will join: Initiative co-chairs, former Deputy Commissioner and Chief Operating Officer of the Social Security Administration James B. Lockhart III; and former United States Senator and Budget Committee Chairman Kent Conrad (D-ND); among others.

The Personal Savings Initiative will be introduced on:

Wednesday, April 23, 2014
9:30 to 10:30 AM
Bipartisan Policy Center
For more information and to register for the event, please click here.

Blahous specializes in domestic economic policy and retirement security (with an emphasis on Social Security), as well as federal fiscal policy, entitlements, demographic change, and health-care reform. He is the author of two books on retirement security—Social Security:The Unfinished Work and Pension Wise: Confronting Employer Pension Underfunding and Sparing Taxpayers the Next Bailout, as well several studies on retirement security.

Blahous also served as the deputy director of President Bush’s National Economic Council, special assistant to the president for economic policy, and executive director of the bipartisan President’s Commission to Strengthen Social Security.

Questions of Transparency Heading into NetMundial Internet Governance Meeting

Eli Dourado — Mon, 21 Apr 2014 10:37:16 -0400

Expert Commentary

With Congress debating the Commerce Department’s plans to gradually relinquish its administrative control of the Internet’s domain name system, policymakers and stakeholders from around the world are headed to Brazil’s NetMundial conference to discuss the future of Internet governance.

Mercatus Center research fellow Eli Dourado will attend the meeting and wrote the following blog post previewing the event on Friday:

This is the first meeting of its kind, so it’s difficult to know what to expect, in part because it’s not clear what others’ expectations are. There is a draft outcome document, but no one knows how significant it will be or what weight it will carry in other fora.
The draft outcome document is available here. The web-based tool for commenting on individual paragraphs is quite nice. Anyone in the world can submit comments on a paragraph-by-paragraph basis. I think this is a good way to lower the barriers to participation and get a lot of feedback.
I worry that we won’t have enough time to give due consideration to the feedback being gathered. The meeting is only two days long. If you’ve ever participated in a drafting conference, you know that this is not a lot of time. What this means, unfortunately, is that the draft document may be something of a fait accompli. Undoubtedly it will change a little, but the amount of changes that can be contemplated will be limited due to sheer time constraints.
Time will be even more constrained by the absurd amount of time allocated to opening ceremonies and welcome remarks. The opening ceremony begins at 9:30 am and the welcome remarks are not scheduled to conclude until 1 pm on the first day. This is followed by a lunch break, and then a short panel on setting goals for NETmundial, so that the first drafting session doesn’t begin until 2:30 pm. This seems like a mistake.
Speaking of the agenda, it was not released until yesterday. While NETmundial has indeed been open to participation by all, it has not been very transparent. An earlier draft outcome document had to be leaked by WikiLeaks on April 8. Not releasing an agenda until a few days before the event is also not very transparent. In addition, the processes by which decisions have been made have not been transparent to outsiders.

Are the Markets Really Rigged?

Holly A. Bell — Mon, 21 Apr 2014 10:10:19 -0400

Expert Commentary

Perched atop the New York Times best-seller list for hardcover nonfiction, a new book is igniting a firestorm of debate. Michael Lewis' "Flash Boys: A Wall Street Revolt" explores the relatively obscure phenomenon known as high-frequency trading (HFT), leading some to believe that the markets are rigged. But markets are not rigged, and Lewis' book itself actually demonstrates why. Despite widespread media attention, average investors should not be concerned about the HFT hullabaloo.

The first thing to understand about HFT is that it occurs primarily between large firms and does not compete directly with individual investors. It is within these large firms that Lewis' book is set. He tells his readers how HFT and the computer programs behind it - called algorithms - are much better at finding trading opportunities than human traders. That should come as no surprise; computers make most of the things we do faster and more efficient. Financial markets are no exception, and it would be a mistake to ignore the potential economic benefits that HFT can provide.

Lewis goes on to recount the story of Brad Katsuyama, a former Royal Bank of Canada trader, who became frustrated by his inability to beat high-frequency traders to a particular stock price. He developed his own algorithm to resolve this problem, which timed his orders in such a way that he could purchase the stock before the faster high-frequency trader did. Katsuyama accomplished this by slowing down the speed of his trades and changing the way they were routed through the various exchanges.

While the actual process is complicated and difficult for most people to understand, the fact that Katsuyama was able to do it at all demonstrates that markets are not rigged. If they were, no one would be able to create an algorithm that could effectively compete with a high-frequency trader. In other words, markets are simply competitive, and traders just need to find the right strategies to compete.

A second indication that financial markets are not rigged is that Katsuyama was able to establish a competing trading venue - IEX - that has its own set of trading rules designed to take away any speed advantage HFTs might have on other venues. By creating IEX, Katsuyama found an additional opportunity to compete, again indicating markets are not fixed.

So, if markets are not "rigged" as Lewis suggests, why should HFT competition concern the average investor? It shouldn't. HFTs are only responsible for about 48.5 percent of daily trading volume, so the majority of trading volume is, in part, controlled by individuals like you.

While markets have gotten faster and more competitive between large investment firms, they aren't trying to compete with people sitting at their kitchen table, buying and selling stock through their online trading account. The reason you can make a stock trade for less than $10 is because the competition created by HFT drives transaction costs down. Most investors continue to buy and hold long-term mutual funds in retirement accounts, and there is no reason to change that strategy. The microsecond activity of high-frequency traders won't harm your long-term investments. In fact, HFT helps you by ensuring there is a buyer available when you are ready to sell.

It is easy to understand how people could be lulled into believing markets are rigged. Someone always seems to have more or better information about investments than you, and markets are prone to ups and downs. However, for individual investors in a competitive market, HFT will have very little impact on your bottom line. Instead of concerning yourself with HFT, create a long-term investment strategy and stick to it, don't try to time the market, and invest with a firm that charges low management fees. Handling these factors poorly will cause more harm to your portfolio than HFT ever will.

The Unfolding Fiscal Disaster Behind ACA Enrollment Figures

Charles Blahous — Mon, 21 Apr 2014 22:50:51 -0400

Expert Commentary

Earlier this month there was tremendous press attention to new data indicating that enrollment in the Affordable Care Act (ACA)’s health insurance exchanges had surpassed 7 million. The White House took a victory lap while much of the press, desperate to write something positive after months of reporting on website glitches and insurance plan cancellations, characterized the milestone as good political news for ACA supporters. Our national discussion, however, is missing the truly significant story here; what is unfolding before our eyes is a colossal fiscal disaster, poised to haunt legislators and taxpayers for decades to come.

It is quite possible that the ACA is shaping up as the greatest act of fiscal irresponsibility ever committed by federal legislators. Nothing immediately comes to mind as comparable to it. Certainly no tax legislation is, because tax rates rise and fall frequently, such that one Congress’s tax cut can be (and often is) undone by a later tax increase. The same is true for legislation affecting appropriated spending programs. But the ACA is a commitment to permanently subsidize comprehensive health insurance for millions who could not otherwise afford it, which the federal government has no viable plan to finance. Moreover, experience shows that it is very difficult to scale back such spending once large numbers of Americans have been made dependent on it.

Let’s walk through the salient features of this unfolding fiscal disaster:

An Expansion of Spending Commitments Comparable to Enacting Social Security, Medicare or Medicaid: Our biggest fiscal problems today stem from Medicare, Medicaid and Social Security costs rising well beyond original projections. The ACA was enacted even though these longstanding financing challenges have still not been met, and represents an additional expansion of federal commitments comparable to these other programs’ creations. CBO now estimates that the gross costs of the ACA’s coverage expansion will be $92 billion in FY2015, or about 0.5% of our total GDP of roughly $18 trillion. This far exceeds, even relative to today’s larger economy, the initial costs associated with the entirety of Social Security and Medicaid, and is comparable to the startup costs for all original parts of Medicare combined. Consider this: just five years after enactment the ACA will absorb more of our total economic output than Social Security did fully sixteen years after it was enacted.

Of course, after these initial rollouts, Social Security, Medicare and Medicaid costs grew far faster than originally envisioned, sometimes due to subsequent legislation, sometimes due to unanticipated healthcare cost growth. It wouldn’t be surprising for either factor to affect the ACA, which would be even more problematic for reasons given below.

A Worse Fiscal Environment: The ACA was enacted when legislators knew, or should have known, that they inhabited a fiscal environment in which such extravagance was unaffordable. Deficits (and debt) are far higher today than when the other major entitlement programs were created; millions of baby boomer retirements are swelling expenditures arising from previously-enacted Social Security and Medicare law. Someday historians will puzzle over the thinking that induced legislators to embark on a vast new spending program at the very moment it could least be afforded.

Unraveling Finances: Where will the money come from to finance the ACA’s health exchange subsidies and Medicaid expansion? No one knows. We do know that the ACA’s financing mechanisms are already falling apart. The ACA’s much-reported website glitches and enrollment shortfalls had actually suggested an upside; if enrollment continued to fall short of previous projections, it was possible that some of the fiscal damage could be contained. But if enrollment has picked up as the law’s financing mechanisms disintegrate, the fiscal damage will be worse than anticipated. Consider the following:

CLASS: The ACA’s “CLASS” long-term care provisions were originally projected to generate $37 billion in net premiums through 2015 ($86 billion over ten years). CLASS was later suspended due to its long-term financial unworkability, meaning these revenues have not materialized and will not.

Employer/individual mandate penalties: These were supposed to have brought in $12 billion through 2015, $101 billion over the first ten years. Because the Obama Administration has repeatedly delayed their enforcement, to date they haven’t brought in much of anything. Some ACA advocates are even beginning to downplay the significance of possibly ditching these mandates altogether, though they were central to the law’s financing scheme.

Medicare Advantage: The ACA was supposed to be financed in part by cuts to Medicare Advantage (MA) totaling $31 billion through FY2015, $128 billion over the first ten years. The White House recently announced that planned MA cuts will not go into effect after all.

Other controversial provisions: The ACA’s most controversial savings provisions – among them its ambitious Medicare provider payment reductions, the tax on so-called “Cadillac” health plans, and cost-saving decisions of the Independent Payment Advisory Board– have yet to be tested. Given that less-controversial provisions have failed to meet their savings targets, there is little basis for confidence that these more controversial ones will do so.

Worsening the Deficit: As I wrote previously, the ACA stood to add approximately $340 billion to federal deficits over its first ten years, assuming its provisions were all fully enforced. This is still misunderstood by those unfamiliar with federal budget processes, but can be explained as follows: the ACA unambiguously adds to federal deficits in that it authorizes more additional spending than it generates in additional tax revenues. However, Congressional scorekeeping rules direct CBO to assume that some of these spending increases would have happened anyway, although this additional spending would have required substantial changes in law and departures from historical practice. CBO is always explicit that its scores reflect Congress’s scorekeeping rules rather than the operations of actual law, but not everyone reads or understands these explanations.

In 2012 I calculated that the ACA would add over $500 billion to federal deficits if instead of fully maintaining the law as written, lawmakers thereafter handled its most controversial savings provisions according to historical precedent. I did not anticipate that several of the law’s other cost-savings provisions would also be suspended, delayed, or remain unenforced, a pattern which if continued will result in the ACA having still worse fiscal consequences.

CBO has been periodically updating its estimates of the gross costs of the law, but these re-estimates do not disclose how much the law’s net fiscal effects have worsened as its savings provisions have been discarded one by one. And lawmakers still have not received an official score of the law’s net effects relative to prior Medicare law, as opposed to the higher-spending baseline CBO is required to use.

When new enrollment figures were released last week, the national discussion focused on whether the ACA is fulfilling its coverage expansion goals. The largely unwritten and more important story, however, is that the ACA is rapidly becoming a colossal fiscal disaster as enrollment proceeds heedless of the concurrent collapse of the law’s financing structure.

Department of Cronyism

Veronique de Rugy — Wed, 16 Apr 2014 18:46:17 -0400

Expert Commentary

This article appears in the May 2014 edition of Reason

What's the point of the Department of Commerce? If not for the Census and the Patent Office, the department would function as little more than a one-stop shop for special interests. Don't believe me? Look at its record.

In Fiscal Year 2013, the Department of Commerce spent about $10 billion and employed 42,829 bureaucrats. A breakdown of the budget by function shows that some 30 percent goes to paying salaries, while 40 percent subsidizes private businesses and local development projects.

Commerce is best thought of as a clearinghouse for an assortment of business subsidies and economic data collection programs. Former Commerce Secretary Robert Mosbacher is unusually candid about the purpose of his old department. In a 1995 Washington Times article titled "Trade Will Go On, Even without Commerce," the onetime administrator called the agency "nothing more than a hall closet where you throw in everything that you don't know what to do with."

The man has a point. Created in the early 20th century, Commerce's largest initial activity was managing the nation's lighthouses. Out of its humble original mandates grew a massive hodgepodge that includes the National Weather Service, the National Marine Fisheries Service, the Bureau of Economic Analysis, the Minority Business Development Agency, the International Trade Administration, the Office of Travel and Tourism Industries, the Manufacturing Extension Partnership, and the Economic Development Administration (EDA).

Elsewhere in this issue, Sonny Bunch discusses the way this sprawling department grew and makes the case for killing it off. (See "Stifling Commerce.") The U.S. has enough debt problems without funding Commerce-style corporate welfare. American businesses managed to prosper and grow long before the department was created. In fact, Commerce's cronyist subsidies are a net drag on the economy because they undermine competition and drain productive resources.

Consider the EDA. Created in 1961 as the Area Redevelopment Administration, this program opened the gates of federal intervention into local affairs. Using the misguided justification that public money was needed to revitalize broken communities, EDA programs rapidly expanded to include more areas and looser eligibility standards. By 2013, the EDA was spending roughly $260 million annually on grants and loans to state and local governments, nonprofit groups, and businesses in "economically distressed regions." Somehow, well-connected corporations and interest groups keep falling into "economic distress."

Intellectual Privilege: Copyright, Common Law, and the Common Good

Tom W. Bell — Tue, 15 Apr 2014 19:19:03 -0400

Events

Free and prosperous societies respect property rights. But do copyrights really qualify for the same respect afforded to houses, cars, and computers? Recent legislative trends suggest that lawmakers have been mislead by the rhetoric of property to make copyright more and more powerful. This trend has thrown public policy out of balance, discouraged innovation, and harmed consumers. Rather than a form of property, lawmakers should regard copyrights as government-granted privileges that threaten our natural and common law rights and that, when taken too far, make worthy targets for reform.

The Mercatus Center at George Mason University invites you to attend a Capitol Hill Campus in conjunction with the release of a new book, Intellectual Privilege: Copyright, Common Law, and the Common Good, written by Professor Tom W. Bell and published by the Mercatus Center.

This presentation will:

Explore key ideas to keep in mind when considering changes to the 1976 Copyright Act;
Explain how the Founders and authors of the Constitution regarded copyrights; and
Discuss how regarding copyright as a privilege rather than a form of property can improve public policy.

Space is limited. Please register online for this event.

This event is free and open to all congressional and federal agency staff. This event is not open to the general public. Food will be provided. Due to space constraints, please no interns. Questions? Please contact Caitlyn Van Orden, Event Associate, at cvanorden@mercatus.gmu.edu or (703) 993-4925.

Share and Share Alike: Regulatory Burdens Threaten to Overwhelm Sharing Services Like Uber and Airbnb

Matthew Mitchell — Wed, 16 Apr 2014 11:30:17 -0400

Expert Commentary

Everywhere, traditional firms are leading the charge for tighter regulation of their sharing economy competitors. Many of these firms feel that if they must comply with burdensome regulations so should their new competitors. But sometimes this leads to ludicrous rules. Washington, D.C., regulations, for example, require all cabs to have credit card readers on board and cab companies want this rule to apply to ride share firms like Uber as well. In this case, however, the card readers are redundant since Uber payments run through customers’ smartphones (which is part of the appeal of the product).

A more sensible way to achieve equity is to deregulate traditional industries rather than to regulate the sharing economy. There are some signs that policymakers are moving in this direction. Two D.C. council members have just introduced legislation to allow cabs dispatched from smartphones to operate in much the same way as Uber or Lyft.

Why the Cybersecurity Framework Will Make Us Less Secure

Eli Dourado, Andrea Castillo — Wed, 23 Apr 2014 10:58:05 -0400

Publication

Amid the twin dramas of international cyber spying and mass domestic surveillance, policymakers and analysts are attempting to develop solutions to perceived cybersecurity vulnerabilities. The current lack of centrally designed and centrally enforced standards has prompted some policymakers and commentators to conclude that adequate cybersecurity protections do not exist.[1] They worry that barriers to adopting such protections prevent key stakeholders of our “critical digital infrastructure” from widely sharing the best existing cybersecurity practices.[2] Building on the Clinton and Bush administrations’ early steps in identifying and prioritizing this perceived vulnerability,[3] President Obama initiated a voluntary national cybersecurity program, originally titled the “Cybersecurity Framework,” through Executive Order 13636.[4]

Contrary to these officials’ concerns,[5] the lack of a single, central cybersecurity standard does not automatically imply a lack of adequate cybersecurity. In fact, private actors already have intrinsic incentives to develop cybersecurity solutions in the absence of a central plan. Although harder to detect than codified standards, emergent market- and norm-based standards are more robust, effective, and affordable than state-directed alternatives. Contrary to Director of National Intelligence James Clapper’s contentions that these cyber threats “cannot be overstated,”[6] the likelihood of feared “cyber doom” scenarios is also much lower than policymakers believe.[7] Although popular tracts have played upon fears to justify expanded government control of the Internet, many of the threats presented are hypothetical, spurious, and often poorly substantiated. Dramatic cyber doom scenarios easily capture the public’s attention, but private and public resources should focus on realistic problems, like data breaches and cyber espionage.

Proposed policy solutions for this problem, such as the Cybersecurity Framework, trade emergent resilience of the Internet for opaque control of it. Policymakers run the risk of undermining the spontaneous, creative sources of experimentation and feedback that drive Internet innovation. This paper will describe the current dynamic provision of cybersecurity and explain how a technocratic solution like the Cybersecurity Framework could weaken this process and ultimately undermine cybersecurity.

Trends in After-Tax Income by Household Position in the Income Distribution

Veronique de Rugy — Thu, 17 Apr 2014 13:19:48 -0400

Publication

Income equality and social mobility are important issues for many Americans. While many have been pessimistic about income distribution trends in recent years, arguing that the rich have gotten richer while low- and middle-incomes have been stagnating, the data reveal a more nuanced story.

This week’s charts use data from the Congressional Budget Office (CBO) assembled by Gary Burtless of the Brookings Institution to display trends in after-tax income changes by household income distribution in the medium and long terms. The first chart shows average cumulative after-tax income changes by income distribution from 2000 to 2010.

The CBO measures after-tax income as “the sum of market income and government transfers, minus federal tax liabilities.” The first four income quintiles, as determined by household position in before-tax income distribution, are displayed intact on the left side of the horizontal axis and the highest quintile in before-tax income distribution is separated into granular percentiles to the right side of the horizontal axis. The vertical axis measures the average percent cumulative change in real after-tax income for the decade analyzed.

The chart above shows that, contrary to popular belief, the richest 1 percent of Americans have not gotten richer during the past decade. In fact, the richest 1 percent of Americans are the only group whose incomes have truly shrunk, falling by an average of 4 percent. The incomes of all other groups have grown during this same period, and in fact the incomes of the lowest quintile have actually grown the most at 20 percent. All other income quintiles or percentiles grew by 8 to 13 percent during the first decade of the new millennium.

Burtless suggests that part of this trend can be explained by the 2008 recession. While all Americans were affected by the downturn, the richest 1 percent of Americans derived a larger share of their incomes from financial gains than other income groups and therefore stood to lose more in the downturn. Indeed, the CBO reports that incomes of Americans in the top percentile contracted by more than one third during the years of the recession. On the other hand, the top 1 percent of Americans also earned the highest portion of the income gains in 2010 as financial markets slowly recovered. In general, the highest earners in America were the only group who saw their after-tax incomes shrink on average in the past decade.

The second chart displays the same information over a long-term time horizon. From 1979 to 2010, the top 1 percent did indeed enjoy massive gains in average after-tax income growth, but the average incomes of all other quintiles grew considerably as well. The average income of the top 1 percent grew 202 percent. The average incomes of the bottom four quintiles also grew more modestly, but still substantially, ranging from 36 to 49 percent between 1979 and 2010. The average incomes of the second and middle quintiles grew at rates of 37 percent and 36 percent, respectively—slightly lower than average income growth of the bottom and fourth quintiles. Average incomes of Americans in the 81st through 99th percentiles grew at a slightly higher range of 54 to 79 percent.

One reason why so many Americans believe that the average incomes of middle- and low-income Americans have stagnated and that the average incomes of the top 1 percent always rise is that the commonly cited income statistics from the Census Bureau only consider before-tax income. This approach understates the well-being of Americans who receive income tax subsidies and overstates the well-being of Americans whose incomes are heavily taxed. Analyzing after-tax income levels provides a clearer picture of income trends in the United States, particularly as the tax code is frequently employed to redistribute income as a matter of policy.

Updated: Average Effective Federal Tax Rates

Veronique de Rugy — Thu, 17 Apr 2014 13:13:55 -0400

Publication

This week’s chart uses data from the Urban-Brookings Tax Policy Center to update a chart on average effective federal rates. The chart compares the average effective rate at which earners in different income quintiles are taxed by the federal government using newly available numbers for 2011.

These averages, however, fail to disclose the true scope of the problem caused by the increasingly convoluted tax code since the income tax was instituted in 1913. One of the more troubling features of our present tax system is that two individuals who earn the same level of income and who fall in the same income tax bracket may end up paying significantly different taxes on their incomes on tax day. This is, as economist Jeremy Horpedahl points out in his Mercatus Research paper, “A Trillion Little Subsidies,” the consequence of the US’s complicated tax code, which contains a host of deductions, credits, and offsets that apply to some individuals and not others.

An accurate picture of the true average tax rate facing different income quintiles, must include consideration of the impact of these disparate tax subsidies. The effective federal income tax rate does this by documenting the level of taxation that individuals pay after all other tax offsets and deductions are applied.

The chart shows a pattern of steadily increasing average effective tax rates moving from the lowest to the highest income quintiles. In 2011, the lowest income quintile faced an average effective tax rate of 0.8 percent, while the top quintile faced an average effective tax rate of 24.5 percent. The average effective federal tax rate faced by different income quintiles are inarguably progressive, once tax offsets are factored in. On average, wealthy Americans pay more in taxes than members of any other income group, even when deductions and write-offs are taken into account. Across the board, the rate of taxation increases with the level of earnings.

Whether one thinks that the current system is fair, unfair, or just right, there can be little debate that federal income taxes are indeed progressive.

Identifying the Problem: The First Step in the Regulatory Process

Jerry Ellig — Mon, 14 Apr 2014 12:09:09 -0400

Video

The regulatory process consists of many stages, but the essential first step is answering the question "what's the problem?" A thorough regulatory impact analysis should provide evidence that the regulation addresses a significant, systemic problem and trace that problem back to its root cause. A cursory or faulty analysis of the problem prevents regulators from devising an effective solution and considering realistic alternatives.

http://mercatus.org/events/identifying-problem-first-step-regulatory-process

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We Can Find Consensus on Health Care Cost Reforms

Marc Joffe — Mon, 14 Apr 2014 12:01:19 -0400

Expert Commentary

With the Affordable Care Act’s open enrollment period now closed, perhaps there is an opportunity for constructive, bipartisan policy discussion on health care reform. One thing that both Obamacare supporters and opponents can agree on is that our health care system remains inefficient. And, although health care inflation slowed in recent years, informed observers from across the political spectrum realize that population aging will produce a new bout of cost escalation – unless something else is done.

Although most progressive and market-oriented analysts agree that U.S. health care is too expensive, their approaches to control costs fundamentally differ. Progressives prefer mechanisms that promote equal access to health services, such as single-payer insurance. Market advocates focus on maximizing consumer choice and thus prefer greater competition.

In an era of divided government and routine filibusters, neither side will likely have the opportunity to push through a major reform any time soon. Rather than accept gridlock, we need to identify and implement reforms that appeal to both sides of the debate. There are smaller reforms that, while market oriented, may be attractive to progressives.

Prescription drugs – which account for 10 percent of the nation’s health care costs – are generally more expensive in the United States than elsewhere. Other countries use price controls or their exclusive buying power to hold down prices. While such measures are unattractive to market advocates, alternative reforms could reduce drug prices within a market context. These prices are often high because the government grants manufacturers a monopoly over their sales for periods of up to 20 years, through pharmaceutical patents and exclusivity periods. If we reduce the number and length of these monopoly grants, we can open up the pharmaceutical market to competition from generic drugs and bring down prices.

Patent protections are often justified as a way to compensate pharmaceutical companies for the benefits their inventions create and for the development costs they incur. But this argument doesn’t always apply. Many of today’s blockbuster medications, like Nexium, Crestor and Cialis, are “me too” drugs – pills that have similar effects to drugs that are already available – e.g. Prilosec, Lipitor and Viagra, respectively. Studies show that Nexium, AstraZeneca’s remedy for acid reflux, has similar effects to Prilosec, an over-the-counter medication that contains the same active ingredient and is sold by the same company for a small fraction of the price. If Nexium hadn’t been patented, the vast majority of acid reflux patients would have achieved similar benefits with Prilosec – at an annual savings of over $4 billion.

Limiting pharmaceutical patents to only those drugs that provide major unique benefits would reduce drug company profits and make medicines more affordable – developments that should be attractive to those on the left.

A similar point of agreement is possible when considering the role of midwives, nurse practitioners and other so-called “mid-level” providers in our health system. Many states limit the activities of these professionals or require them to work in a physician’s practice. As Barbara Ehrenreich and Deirdre English have observed, limitations on these traditionally female-dominated medical professions has its roots in the male chauvinism of the medical establishment. Eliminating restrictions on “mid-level providers” is consistent with both feminist objectives and free market principles. Expectant mothers and patients should have the right to choose the practitioners who provide their care. Allowing the choice of lower cost providers, creates opportunities for healthcare cost savings.

Finally, tort reform is often seen as a right-wing approach to health care cost reform. But, as Michelle Mello and her colleagues find, some of the strictest limitations on malpractice awards exist in New Zealand, Denmark and Sweden – three nations not known for their right-wing orientations. These countries use administrative law systems instead of adversarial court procedures and lottery-sized damage awards. As a result, they make a much larger number of smaller sized payments to patients injured during the health care process.

By eliminating the need to demonstrate liability, these countries can identify and potentially remedy many more errors than our confrontational system turns up. Under our system, medical providers have a strong incentive to obstruct fact finding procedures; in New Zealand, Sweden and Denmark, they have much greater reason to cooperate.

These are just a few reforms that can become part of a bipartisan dialogue around ideologically feasible reforms. If, instead, policy analysts continue shouting each other across the chasm of the equal access/patient choice divide, we face years of stagnation on the healthcare policy front. By finding measures that further both sides’ objectives, we can take incremental steps toward reigning in health costs and promote long-term fiscal sustainability.

Medicaid Expansion Is Expensive for Both States and the Poor

Veronique de Rugy — Sat, 12 Apr 2014 13:39:38 -0400

Expert Commentary

Following the Supreme Court ruling two years ago that made the Affordable Care Act's Medicaid expansion basically optional, several states around the country are still in the process of deciding whether they will expand the program or not.

Although Florida, Utah and Virginia have signaled their interest in a full Medicaid expansion, governors in Pennsylvania, Tennessee, Indianaand Missouri are exploring different approaches using waivers or so-called “private option” type plans modeled after Arkansas recent expansion. Either way, it would be a mistake.

As it turns out, the Mercatus Center just released a new book edited by my colleague, Jason Fichtner, called The Economics of Medicaid that may prove to be an invaluable resource to states considering the expansion. It features contributions by health care experts like Jim Capretta, Joe Antos, June O'Neill and two of my other Mercatus colleagues, Chuck Blahous and Robert Graboyes.

As the book shows, Medicaid expansion is guaranteed to be an expensive endeavor. Under the ACA, states that expand Medicaid would have to expand eligibility beyond the previous subset of poor Americans, such as pregnant women, to cover all adults with incomes of up to 138 percent of the federal poverty level ($15,415 for an individual in 2012; $31,809 for a family of four). The ACA, of course, offers a sweetener. Between 2014 and 2016, federal government would pay for 100 percent of the expansion. That share would drop to at least 90 percent thereafter.

It may seem like a great deal, but states shouldn’t be fooled. As Blahous explains in the chapter called “Medicaid Under the Affordable Care Act,” states face different financial situations and different budgetary circumstances, their populations make different value judgments and they deal with very different populations. Thus, it’s only natural that we should see varying responses from the states.

However, some things will be true for every state expanding the program. First, from the get-go, states that expand will have to foot the bill for the administrative costs of covering those adults, as well as other costs related to other parts of the expansion.

Second, this almost-free lunch on paper will likely turn out to be very burdensome for the states. As Blahous explains, throughout the last decade, Medicaid has progressively become one of the biggest programs in most states' budgets, and it's still growing. Although each new beneficiary added under the expansion won't cost nearly as much to the states, it will still add to the cost of an already unsustainable situation.

In addition, states can’t be sure the federal government will stick to shouldering the extra costs of the Medicaid expansion in the future. The federal government is facing serious fiscal problems of its own, and it is very possible that future fiscal constraints at the federal level will leave the states footing the bill for the expansion.

In other words, states should be wary of the impact the expansion will have on their state budgets when the expansion is perceived as permanent, but the federal aid turns out to be temporary.

For all these reasons, he concludes: “Despite the arguments of some advocates that expanding Medicaid will reduce state costs of treating the uninsured, the available data do not appear to support the suggestion of net cost savings for states. On average, states should expect their total expenditures to rise significantly if they choose to expand Medicaid.”

As if that’s not bad news enough, the book also lays out other reasons to oppose the expansion. For instance, the authors note Medicaid is actually a bad deal for the recipients themselves. Study after study has shown that the program often provides second-class care. Poor access and poor health outcomes are often the fate that awaits Medicaid beneficiaries — including the need for greater reliance on emergency rooms and higher mortality rates.

In this context, state legislators should ask themselves whether the expansion is really worth the future cost to taxpayers in their states and whether it is really fair to throw more low-income Americans into costly substandard health care. I think the answer is clearly no.

Trends in EITC Spending and Numbers of Beneficiaries

Veronique de Rugy — Thu, 17 Apr 2014 13:21:29 -0400

Publication

The Earned Income Tax Credit (EITC), a refundable tax credit given to qualifying low-income working Americans, has been heralded as an effective anti-poverty tax incentive by commentators on both sides of the aisle since it was first introduced in 1975. Individuals or families whose incomes do not reach the minimum tax threshold receive a “negative tax,” or an income subsidy, the amount of which depends on the difference between their income and the threshold income. Supporters believe that this program delivers the security of a safety net without unduly inhibiting beneficiaries’ incentives to work.

This week’s charts use data from the Congressional Budget Office and Internal Revenue Service to display average estimated federal tax burdens in 2010 and EITC trends from 1975 to 2010. The data show that, contrary to popular belief, federal tax burdens are quite low—and sometimes negative—for the lowest quintiles of the income distribution. Trends in EITC spending and beneficiaries over the past four decades shed more light on the program’s growing prominence.

The first chart displays data from a CBO report on the distribution of federal taxes in 2010. The chart shows that the two lowest quintiles of the income distribution actually bear negative income tax burdens. The lowest quintile actually receives a benefit of 9.2 percent, while the second quintile receives a smaller benefit of 2.3 percent. This should be expected, since the EITC was designed to subsidize Americans whose incomes were too low to meet federal tax brackets. The third, fourth, and fifth brackets, on the other hand, receive no income or federal income tax subsidies on net and shoulder increased burdens as income increases.

The second chart draws data from historical IRS tax statistics and displays the total amount of EITC spending and the total number of recipients from 1975 to 2010. The program has grown considerably since its inception in terms of both funding and recipients, ballooning from a relatively modest $5.07 billion in funding and 6.2 million recipients in 1975 to $60.9 billion in funding and 27.8 million recipients in 2010. While the EITC is intended to be an anti-poverty program, recipient and funding growth do not reflect underlying poverty trends that fluctuated and broadly improved during the same time. Factors such as changes in eligibility criteria, rather than the number of people living in poverty, have been driving the broad growth of the EITC program.

It is worth noting that the EITC program suffers from a high improper payment rate. As I noted with Jason Fichtner in February, the EITC made $12.6 billion in improper payments in 2012. This means that an alarming 22.7 percent of all EITC transfers during 2012 were made in error. The premise of using the tax code to engineer social outcomes is problematic in its own right, but the EITC’s history of high improper payment rates adds another cause for concern.

The Mighty Have Fallen: Why Special Interests Almost Always Win and What We Can Learn from When They Lose

Matthew Mitchell — Fri, 11 Apr 2014 17:11:11 -0400

Events

Equally disparaged by Democrats and Republicans, Whigs and Mugwumps, special interests have long dominated American politics.

Please join the Mercatus Center at George Mason University and Senior Research Fellow Dr. Matthew Mitchell for a Capitol Hill Campus program exploring special interests in the United States.

This presentation will:

Examine both historical and contemporary definitions of “special interest”;
Explain why economists and political scientists believe special interests so often win;
Present several “exceptions to the rule,” case studies in which special interests lost and the general interest prevailed;
Explore the lessons learned from this history to understand how public policy can be made to serve the general welfare instead of the special welfare of particular groups.

Space is limited. Please register online for this event.

This event is free and open to all congressional and federal agency staff. This event is not open to the general public. Food will be provided. Due to space constraints, please no interns. Questions? Please contact Caitlyn Van Orden, Event Associate, at cvanorden@mercatus.gmu.edu or (703) 993-4925.

FDIC Community Bank Analysis Largely Ignores Impact of Regulatory Burden

Hester Peirce — Sat, 12 Apr 2014 13:52:23 -0400

Expert Commentary

The Federal Deposit Insurance Corporation recently issued a report on how banking industry consolidation has impacted community banks. While the analysis provides useful information, Mercatus Center senior research fellow Hester Peirce in a new blog post notes that the FDIC study generally fails to consider the impact of regulations on smaller banks.

"The message of the most recent report is clear--despite years of consolidation activity, community banks are here to stay. That is good news, because the diversity of the U.S. financial system--including its large number of community banks--is critical to its ability to serve the nation's diverse financial needs. The study's optimistic assessment of the future, however, largely ignores one key issue--the effects of regulatory burdens on small banks."

...

"The report mentions regulations as a positive factor; they can prevent bank failures. It does not look at the degree to which regulatory costs drive consolidation, a factor that should temper their optimistic projections. In a recent Mercatus Center survey, small banks told us that compliance costs have gone up in the wake of Dodd-Frank, the median number of compliance personnel has increased from one to two, and new regulations have affected the way community banks interact with their customers. Moreover, almost all of the surveyed banks anticipate continued consolidation in the next five years, and a quarter of them expect to be part of it. To the extent that regulatory cost considerations are driving purportedly voluntary bank consolidation, regulators owe it to small banks and their customers to think carefully about ways to reduce regulatory burdens."

FDIC Community Bank Analysis Largely Ignores Impact of Regulatory Burden

contact@mercatus.org (Mercatus.org) — Fri, 11 Apr 2014 23:32:38 -0400

Feature

"The message of the most recent report is clear--despite years of consolidation activity, community banks are here to stay. That is good news, because the diversity of the U.S. financial system--including its large number of community banks--is critical to its ability to serve the nation's diverse financial needs. The study's optimistic assessment of the future, however, largely ignores one key issue--the effects of regulatory burdens on small banks."

"The report mentions regulations as a positive factor; they can prevent bank failures. It does not look at the degree to which regulatory costs drive consolidation, a factor that should temper their optimistic projections. In a recent Mercatus Center survey, small banks told us that compliance costs have gone up in the wake of Dodd-Frank, the median number of compliance personnel has increased from one to two, and new regulations have affected the way community banks interact with their customers. Moreover, almost all of the surveyed banks anticipate continued consolidation in the next five years, and a quarter of them expect to be part of it. To the extent that regulatory cost considerations are driving purportedly voluntary bank consolidation, regulators owe it to small banks and their customers to think carefully about ways to reduce regulatory burdens."