A VAT for the US? A very bad idea!

Somewhat surprisingly, Paul Krugman has been stomping for the "value added tax" (VAT) recently, as an allegedly better way of reducing the deficit. But among left leaning economists, there shouldn't be any argument about the negative impact of this national sales tax on the low and middle income households. The only VAT liberals should like is Vat69, really! And the history of the VAT in Europe, where it became the main source of income for many governments, and resulted in rising inequality and lower domestic demand, isn't especially inspiring. So, WHY, for heaven's sake, does a good guy like Krugman support THAT?

The Prof now, finally, came up with explanations for his stance:

There’s a lot of backlash against the new Rivlin-Domenici proposal for suggesting a significant VAT — and people are right, sales taxes are regressive taxes. But while I haven’t had time to evaluate the whole thing, the sales tax itself isn’t a killing point in my view.
Why? Because we know that countries with strong social safety nets generally rely a lot on consumption taxes:
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More generally, it does seem that countries with strong welfare states have less progressive tax systems than those with weak safety nets; see this, from the Luxembourg Income Study (pdf).
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All of which says that if I can trade a somewhat regressive VAT for guarantees of decent retirement and universal health care, I’ll take it.

Well, color me unconvinced. I've never been a fan of the "millions of flies can't be wrong" kind of argument, imho the discussion should always center on the pros and cons, and that a certain misguided policy is widely used still doesn't make it more reasonable. In the case of the VAT, imho the negative side vastly outweighs the positive one, and Krugman fails to weigh this honestly.

Firstly, he totally underestimates the danger. Once you open the box of Pandorra, it's impossible to get the beast back into it. Not a single European government, no matter how far left, managed to do it. And the beast will only become bigger and bigger over time, as experience shows. With serious consequences on domestic demand, which Krugman doesn't mention at all.

Secondly, imho the REAL reason why the VAT is used by so many nations all around the world is that it's so CONVENIENT for politicians! The small percentages (at first) added to sales don't look like a big deal to the voters, but they flush VAST amounts of money into the coffins of the treasury. And it's even easier to raise the percentage by one point, instead of trying other, more difficult and controversial, measures to get a deficit under control. Consequentially, the VAT only goes up and up and up.

And lastly, as even Krugman points out, the VAT only is tolerable for the low and middle class incomes if it's counterbalanced by a strong social net. But how likely is it that a VAT for the US will be coupled with such measures to reduce the impact on the poorer half of the population? Imho that's just wishful thinking! And that's why I think Krugman is irresponsible with his lightheaded, not really thought through (he admits that) stomping for the VAT. This will most probably result in the US combining policies that are the worst of both worlds, more taxes for the lower 90% of incomes without any compensation for the hardship! That's madness, and Krugman should be ashamed of advocating such a dangerous "solution" to the US deficit problems in such a frivolous manner.

Even more so since his own prefered paper, the NYT, recently showed that it's possible to put the US finances on a solid footing again by simply going back to the Clinton era taxes and cutting some other budget points, without hurting the vast majority of US households. Everybody who recently played with the interactive "fix the budget" feature should have noticed that actually it's very easy to close the gap until 2015, and get the 2030 outlook into reasonable (=controllable) regions. Without any VAT involved! So, really, why should anyone, especially a good guy like Krugman, advocate yet another new tax that will hurt the lower and middle class incomes now? I don't get it.

(Based on comments at Brad DeLong's blog)

Krugman hit by boomerang

In a blog post today, Krugman tries to refute commenters who pointed to Germany's positive economical performance as alleged evidence for the advantages of reducing the deficit. Sadly, the good Prof seeked refuge to onesidedly using a GDP growth chart as a way to fight back, deliberately omitting the unemployment numbers which show a totally different picture. Just more of his usual badmouthing of Germany. He should have pointed to all the differences between Germany and the US instead, and argued that America can't simply copy single policies, but would have to copy the whole system to get into the same situation. That would have been more fair towards us, and the better argument, too. However, I already wrote about this, and I want to focus on another point now.

And that is that it actually was Krugman who played a most prominent role in providing this ammunition for the austerity advocates! Since the start of the year, he has been picking on Germany, complaining about us not doing enough for stimulus, and painting a picture of doom and gloom about the consequences of our (mostly cosmetic) austerity measures. During all those months, his readers waited for the bad news from Germany to show up in the headlines. But all they found were reports about a positive development month after month after month. Can he honestly blame them now for believing that apparently the rebound can be accomplished without much stimulus, and despite austerity policies? He distorted the situation in Germany for months, and now this turned out to be a boomerang that came back to hit him. Serves him well!

Really, with a lot of respect (and I'm still a fan), but Krugman's picking on Germany was unfair, misguided and strategically wrong. During the time he wasted trying to talk our folks into more of a stimulus, when the development showed them this wasn't necessary, the situation in the US deteriorated. I know, hindsight is 20/20, but didn't he ever have second thoughts that he may be flogging the wrong a**, uh, donkey? D'oh.

(based on a comment at Krugman's blog)

"Anti-Krugmanism" in Germany?

"Anti-Krugmanism is working right now in Germany."
That's what commenter "Samuel" from Orlando wrote at Krugman's blog today, and it's utter nonsense. Yes, we Germans disagree with Mr. Krugman about the need for more stimulus for our economy right now. And we have good reason for this, since everybody can see that our industries are already working near full capacity, and our domestic demand has increased recently, too. The influential German weekly Der Spiegel even speaks of a "Keynesian Success Story"! So, as we see it, Krugman simply didn't pay enough attention to the different conditions here, where our still strong social net automagically stabilizes demand, and dampens recessions. Also, while our government had to come up with some austerity plans, to reduce our budget deficit to the EU standard of below 3%, and because of foreign relation reasons, too (we can't lecture the Greek when we ourselves live beyond our means), in reality the effect of these measures is miniscule. It's more PR than a serious reduction of governmental services.

So, no Anti-Krugmanism here, but actually policies in place that are much more in line with Keynes, and Krugman's advices, than everything in the US! That the good Prof himself somehow still tried to talk us into even more stimulus, despite the data showing this is unnecessary, and despite the political problems attached to this, is only evidence of a temporary disagreement, not of a general rift.

The situation in the US, on the other hand, is totally different. You don't have the same kind of social net working as a safeguard against economic downturn. So, America does need an additional stimulus to boost domestic demand. The horrible employment numbers show the necessity. And to say that the US should act like Germany, even though the conditions are totally different, is really a fundamental misunderstanding. If the US would firstly copy the German social net, then this would be debatable. But I guess if the WH would really try to implement our kind of social market economy in the states, "Samuel" would be among the first to cry "COMMUNISM"!

(Based on a comment at Krugman's blog)

Some points about the US trade imbalance

Paul Krugman today agreed with yesterday's NYT editorial which blamed China and Germany for the trade imbalance of the US. He correctly points out that lecturing the Chinese isn't likely to bring any positive results. Actually, I'm sure this can only backfire, since the Asians have been subject to such selfish interference by the West, including military intervention, for too long of their modern history, and with their newfound power and self-assurance won't react positively on more of the same old. You have to take their national pride and sore points of the past into account when dealing with them. So, I totally agree with Krugman on this.

However, I also think that this important issue merits a deeper look into the issues, especially when a world renowned expert on the field of international trade weighs in. Firstly, I would really like Krugman, of all people, to stop talking about the trade balance, and instead use the current account numbers. He should really know better than to use numbers that provide only part of the picture, excluding import and export of services and other income payments! OK, I have to admit, I have good reason for emphasizing this, since Germany had a negative current account during all of the 90s, which should be mentioned when talking about the positive numbers of the last years. But, regardless, the current account is really more important than the trade balance, that's economics 101!

Then, what about the fact that the US had a positive current account (and trade balance) from 1946 to 1976? That's 30 years where the US made huge profits by trading with the rest of the world. That was a period of national wealth. Isn't it a bit hypocritical for Americans now to blame China, a developing country, for having the same era of success? Where there concerns in the US during that time about the imbalance? Did the WH react positively when trade partners where disturbed about the outflow of money from their countries? Can the US reasonably expect China to be more sensitive than this precedent?

Also, as some other commenters to Krugman's posting have pointed out, shouldn't we also look at the other side of the imbalance? The US not only import too much, they also don't export enough. The export numbers of the current account have been stagnating for many years, for instance 2002 was almost the same as 1999, and 2009 was shockingly worse than 2008. So, shouldn't there also be stronger incentives for producing goods that are competive on the global market, and for encouraging exports? A good friend of mine worked for a US corporation for decades, and told me about a disturbing disregard for exports in the management. Almost all of the attention went into the domestic market, where the most profits came from, and nobody invested much work into exporting goods. The managers obviously thought the more complicated foreign business wasn't that rewarding. That mindset has to change for the US to get back to more balanced numbers again!

All in all, imho the problems has more facets that the shallow reporting in the media doesn't mention at all. I hope that at least Krugman will soon find the time to provide a more wholesome analysis here. This is a delicate issue, and false decisions can lead to a trade war and increased tensions, so much more care should be taken to discuss all aspects of the problem. Simply pointing at this year's trade balance is misleading and hypocritical!

(Blog post based on a comment to Krugman's story at his blog)