The United States spends far more on education than any other nation, with paltry results. It spends far more on health care, again, with paltry results. It spends so much on poverty programs that if we just took that money and handed poor people checks, we would virtually eliminate poverty overnight. In the progressive era, the task was to build programs; today the task is to reform existing ones. [Emphasis added]

I’m not exactly sure what David Brooks is saying here. My best guess is that he’s pointing out that the government spends a lot of money on in-kind (non-cash) benefits to the poor, but virtually none of these programs (think Medicaid or food stamps) are counted as income by the Census for the purposes of calculating the official poverty rate (though the new Supplemental Poverty Measure does incorporate some of them). Brooks implies that if we just converted these benefits into checks, poverty would be history.

The first problem with this perspective is that it’s purely definitional. We can define “poverty” and “income” however we want: if “poverty” were decreed to be any income under $1 a week I dare say the U.S. would be free of it. It just so happens that the Census defines income in a way that includes wages and unemployment compensation, but excludes realized capital gains and the earned-income tax credit. Converting in-kind programs into cash programs as a way of addressing poverty is essentially just redefining the income measure without fundamentally making people better off (and I emphasize “fundamentally” because of the important economic point that if you assume people are rational decision makers, then they’ll be happier on the margin if they receive cash instead of in-kind benefits).

The second problem with Brooks’ argument is that it’s wrong on the merits. The Census has a nifty tool that allows you to play around with its definitions of poverty and income and see how they affect the resulting poverty rate (hat tip to Scott Winship for pointing me to this oh-so-many moons ago). You can include as income the fungible values of all the in-kind government programs that the government normally excludes. It turns out that even counting as income all of the major in-kind and cash transfers aimed at the poor would only reduce the poverty rate by about a third, far from eliminating it as Brooks implies:

And expanding the definition of income ignores the strong arguments for adding in expenses that the Census currently excludes, among which are taxes and out-of-pocket medical bills.

While there’s a robust discussion among social policy experts about the best definitions of poverty and income, the bottom line is that under the most plausible definitions, we would need additional resources devoted to anti-poverty programs to see significant reductions in the poverty rate.

Perhaps even more surprising, federal transfer payments have done much more to increase income inequality than federal taxes. That’s because, in Ryan’s words, “the distribution of government transfers has moved away from households in the lower part of the income scale”… In effect, Social Security and Medicare have been transferring money from low-earning young people (who don’t pay income but are hit by the payroll tax) to increasingly affluent old people.

That’s from this Michael Barone piece summarizing Rep. Paul Ryan’s response to CBO’s now-famous inequality report.

Barone’s piece was confusing, because one could easily walk away with the conclusion that Ryan (or Barone misinterpreting Ryan’s argument) believes that federal taxes and transfers are actively raising inequality. But that’s not what CBO found. Rather, they found that the tax code and federal transfers have been lowering inequality at a decreasing rate since 1979:

Now it’s true that some features of the federal tax code, such as tax expenditures, are regressive. Social Security, however, is interesting in that it’s a progressive transfer funded by a regressive dedicated source (payroll taxes). That made me wonder whether Social Security was a net “equalizer.”

Luckily, the Current Population Survey has a few recent years of household income and tax data that allow answering this very question. These numbers aren’t completely apples-to-apples with CBO’s (mine, for example, take out state income taxes as well), but they give a decent first approximation of how Social Security has affected inequality since 2004. The bottom line is that Social Security has been a significant equalizer, lowering income inequality as measured by the Gini index by between 7 – 8% in the 2004 – 2008 period:

This doesn’t answer the question of Social Security’s relative effect on inequality over a longer period (say, since 1979… sorry, the public data don’t go back that far), but it does show that in an absolute sense, Social Security significantly reduces household income inequality.

There’s one catch, though: right now, there’s no law limiting our overseas troops. No legislation passed with a timetable. No schedule in the U.S. Code. Certainly, the Pentagon takes the president’s decision very, very seriously, and has been working hard to figure out the logistics of a drawdown. But CBO’s baseline budget projections—the ones the super committee must work off of—use enacted laws as their basis. From their perspective, then, the troop drawdown is just a verbal policy announcement by the commander-in-chief, and so its savings are not reflected in their baseline.

That creates an easy opportunity for the super committee. If Congress just passed a law committing ourselves to the troop reductions already announced by the president (again, months ago), then CBO would have to incorporate the $1.3 trillion in savings into their baseline. And since $1.2 trillion is the number the committee needs to reach to avoid automatic across-the-board spending cuts, it’s a near perfect political solution: no tough choices (the president already made them) and no dire consequences!

Of course, such a move would at a minimum violate the spirit of the committee’s charge. Many budget experts have called it a “gimmick,” and it sure does meet the smell test of one.

There’s one silver lining from counting war savings, however. Congress would most likely do so by passing a law capping war spending each year through 2021 (when Harry Reid tried to count war savings in his debt ceiling proposal, that’s how he did it). Capping war spending would actually reduce the risk of shenanigans elsewhere in the budget.

Remember that part 1 of the debt ceiling deal that Congress passed was a cap on discretionary spending, a large chunk of which is defense. But there was a catch: the cap excluded war spending. So diligent politicians seeking to avoid real cuts to defense have been working to get some programs and procurement reclassified as war spending.  Non-war defense spending would appear to stay below the required cap, but war spending would balloon beyond projections.

Capping war spending as well eliminates this perverse incentive. Members of Congress could no longer play a shell game with their preferred spending programs. Cuts would be cuts.

Luckily, it appears as though the super committee is not going to use this move as a way to reach their $1.2 trillion goal, just to pay for some additional stimulus.That leaves open the possibility that we get new deficit reduction plus the side benefits of a war spending cap.

A mint-condition two-bedroom, described by the broker as having “a New York meets Los Angeles meets South Beach flavor,” it is also in a race against time. It has been on the market since March, and Mr. Abrams, who has relocated to Los Angeles to be closer to his son and for work, has already slashed the price three times, to $1.575 million. He is hoping to sell the apartment in part because his monthly real estate taxes are poised to surge by more than 400 percent over the next several years.

That jump is mainly due to the city’s 421a tax exemption program, which encouraged development of underused or unused land by drastically reducing property taxes for a set amount of time. Buyers got what seemed to be an unbelievable deal on taxes — but with the caveat that it was only temporary and that someday, their rates would rise to what everyone else was paying.

…

“It is utterly ridiculous,” said Mr. Abrams, a co-president of Alternative Marketing Solutions, which helps publicize films. “I have a home in Los Angeles and Palm Springs, and California is famous for high taxes, yet we don’t pay anything close to what I will be paying.”

To make a broader economic point: while there are valid arguments against fiscal stimulus in general, and the Recovery Act in particular, one also ought to be deeply skeptical of some of the assumptions used by the stimulus’ critics. If these assumptions were true, then the Times would have had a boring story indeed, about perfectly rational people who put aside what they saved in property taxes to smooth out their consumption once the (inevitable and explicit) rise in taxes occurred.

The US of course passed large fiscal stimulus measures in 2008, 2009, and to a lesser extent 2010. By contrast, the UK has for the most part avoided such massive policies, and in fact more recently under the Cameron government has enacted austerity measures.

Some have therefore held up this graph as evidence of the efficacy of US fiscal policy during and after the Great Recession, treating the paths of our two countries as a sort of “natural experiment.”

I think it’s true, given the economic evidence on the size of fiscal multipliers in a recession, that the US’s fiscal policies explain at least some of the growth in our real GDP over the past three years. However, a simple graph almost certainly doesn’t prove this, because there are too many other factors aggregated into the data. I don’t know enough about the recent UK experience to comment on how comparable the two countries are, but my knee-jerk reaction is to be skeptical. We’re talking about two different currencies, two different central banks… hell, two different continents here. All of these factors and more explain economic growth. It’s simply not true that fiscal policy is the sole difference between the US and the UK since 2006.

Still, given all the different components of GDP (and given that I wanted a good excuse to use FRED for the first time), I thought it might be helpful to breakdown the US/UK comparison further. It would at least provide an impetus for commentary from people smarter than me!

The first chart shows real government consumption, which includes government spending at the national, regional (state), and local levels.

Note that (under US definitions, at least) government consumption is essentially just the salaries and benefits of government workers. It doesn’t include social benefits like Social Security/pensions (these are “transfers”). Nor would it show tax cuts such as the 2008 stimulus or the Making Work Pay tax credit,  which would instead manifest themselves as lower revenues or as spikes in disposable personal income.

Next comes real personal consumption expenditures.

PCE is where our two countries have truly parted ways since the Great Recession. Bear in mind that even though this is called “private” consumption, we would expect most demand-side fiscal policies (tax rebates, Cash-for-Clunkers, etc.) to show up on this side of the GDP ledger, because PCE shows how much people are actually consuming, a stat which policy makers hope goes up when the government gives them more money.

Capital formation essentially shows both private and government investment. Interestingly, the UK peaked later than the US did.

Finally, here’s net exports (exports minus imports). Both the UK and the US are currently running trade deficits. Notice the sharp uptick in UK net exports in the latest quarter, essentially bringing it back to the 2009 peak. The US meanwhile is well below peak.

The quick conclusion here is that the differences in US and UK GDP have been mainly driven by a divergence in the path of real personal consumption. Fiscal policy may explain part of this difference, but there are other plausible candidates as well (such as, for example, the housing markets). I’d love it if someone pointed me to more detailed UK data that’s apples-to-apples with the US NIPAs.

I’ll concede that Congress’ record on keeping to sequesters is, well, abysmal, but  there’s a case to be a smidgen more sanguine, at least from a fiscal perspective.

The Grimm/Collender argument assumes that the Democratic dread of the automatic sequester is comparable to the Republican dead of the looming tax cut expiration. But remember that the sequester exempts most of what we think of as the American safety net: Social Security, Medicaid, food stamps, most unemployment insurance, etc. Medicare cuts are limited to 2% and must fall entirely on the provider side. Meanwhile, it cuts almost $500 billion in defense funding over the next decade.

Put another way: if Congress does nothing by January 1, 2013, then the country essentially gets a $5.7 trillion debt reduction deal that is over 80% taxes, 9% defense, less than 3% Medicare, and 0% Social Security, Medicaid, CHIP, or SNAP. Even if you added in the discretionary cuts from the first phase of the BCA, taxes would still make up 70% of overall debt reduction. That would be an unmitigated victory for the Democratic Party.

Still, there are several reasons why this wouldn’t be the Democrat’s first or even second choice. All this fiscal contraction happens beginning in January 2013, well before the economy is fully recovered even under rosy projections.

Also, letting the 2010 tax law expire means that taxes go up for everyone, not just the rich. That would violate a core Obama campaign pledge, not to mention a party principle. Of course, by January 2013 the election will be old news, so should Obama win perhaps he’ll be comfortable breaking a few promises.

Finally, the defense cuts that would result from the automatic sequester are significant: almost $500 billion in funding cut over the next 10 years. Regardless of whether you think that level is advisable or not, it could easily become a political football in an election year.

But these caveats don’t erase the fact that the Democrats have a lot of leverage over the next year to craft a deficit reduction plan that’s more on their terms than the BCA was, one that syncs deficit reduction with the recovery and raises revenue. And that should give us some hope that Congress will manage to stick with fiscal discipline.

For example, the biggest single tax expenditure is the exclusion of employer-provided health insurance, and while the employer-based system itself arose as an accident (an unintended consequence of wage caps during WWII), the exclusion of EPHI was a proactive policy choice by Congress. So too for most other tax expenditures, such as the charitable giving deduction and the EITC.

The most prominent exception might be the mortgage interest deduction, which Dennis Ventry of UC Davis argues was never intended to be a housing subsidy but rather a way to protect family farms from the nascent income tax in 1913. But members of Congress have consistently reaffirmed support for the mortgage interest deduction, long after its (perhaps) unintended consequences were crystal clear.

Where this leaves us, then, is in need of a more nuanced conversation about tax expenditures, something beyond a blanket “loophole” label. That’s something that both liberals — who generally support the social spending in the tax code — and conservatives — who often like the savings incentives that bring the system closer to a consumption tax — should be able to get behind.

Now, the U.S. tax code already has a similar feature imposing a minimum tax rate on upper-income filers. It’s called, well, the Alternative Minimum Tax or AMT. But where the “Buffet Rule” is in principle elegant and simple, the current AMT is onerous and byzantine. Also, the AMT can kick in for married filers beginning at $175,000 of AGI, and though this threshold is not supposed to grow under current law, Congress regularly scrambles to “patch” the threshold for inflation lest middle-class filers start to become subject to the AMT.

There are three plausible ways of replacing the AMT. The first is simply eliminating it with no further offsets, but that would just exacerbate the problem Buffett has been focused on. The second is obviating it by eliminating most of the deductions and exemptions in the tax code as well as the preferred rates for capital gains and dividends. The Simpson-Bowles plan proposed doing exactly this, and I consider it the first best option. The third is replacing the AMT with something simpler and more targeted, and the “Buffett Rule” definitely qualifies. While there’s no indication that the Obama administration is proposing to replace the current AMT with the “Buffett Rule”, they should seriously consider it.

One final point: economist Greg Mankiw doesn’t buy Buffett’s critique of the tax code, arguing that data on effective federal tax liability show that the system is still firmly progressive. And indeed, when you look at effective federal income tax rates by different income percentiles, he seems to be right in the aggregate:

But the rich rely more heavily on capital income than do the poor, so let’s now focus on the effective tax rate of just one type of capital income, capital gains:

While Mankiw’s right that the income tax system in the aggregate is progressive, Buffett’s probably right that there are individual circumstances—such as reliance on capital income—when this progressivity breaks down and you have a boss paying a lower effective rate than his secretary. I’ll be interested to see the CBO/JCT score of the idea, should it ever get legislative language. I doubt it would raise much revenue even if it passed, but the president is clearly betting the American people think the tax code is unfair, and that’s a bet I think he’ll win.

I sympathize with Matt’s argument, but charting only government spending on consumption and investment omits several other important budget items, not the least of which is government transfers (think Social Security, Medicare, Medicaid, etc.) which I’m guessing is where most conservative concern lies, rightly or wrongly. There’s also some other idiosyncrasies with this NIPA data, such as timing and treatment of depreciation, that make it an inappropriate substitute for budget numbers.

So why not just look at real total federal outlays?

So now the story becomes more interesting. It’s clearly true that the increase in real federal spending in 2009 was massive: almost 20% over 2008 real levels. Since this was Obama’s first budget, some of this increase was due to a continuation of Bush-era budgets, but some was undoubtedly also due to conscious policies by the White House such as the Recovery Act.

But when Charles Koch says that government spending has been uncontrolled “over the past several years”, the data contradict this.What you see instead is a small decrease in real spending in 2007, high growth in 2008 and extraordinary growth in 2009, followed by a large contraction in 2010. That’s not to say that government spending could spiral out of control in the future, if unchecked by future Congresses (more in a future post), but that’s not the point Mr. Koch was making.

Note that I’m assuming the Joint Committee/Trigger cuts are spread out evenly over 9 years.