A Liberty Classic Book Review of The Foundations of Modern Austrian Economics, edited by Edwin Dolan.1 What’s so Austrian about “Austrian economics?” The label was originally a pejorative, coined by Gustav Schmoller, a harsh critic of Carl Menger’s work. It was an attempt to attach Menger’s ideas to a “provincial” or unsophisticated area. If he were writing today, Schmoller might have called Menger’s theory “Cleveland economics.” But by the time of Ludwig von Mises and Friedrich Hayek, the label was a historical one. Mises writes in 1969: But after some years all the essential ideas of the Austrian School were by and large accepted as an integral part of economic theory. About the time of Menger’s demise (1921), one no longer distinguished between an Austrian School and other economics. The appellation “Austrian School” became the name given to an important chapter of the history of economic thought; it was no longer the name of a specific sect with doctrines different from those held by other economists. (Mises 1969, p. 19)2 This view from 1921 proved to be overly optimistic. In the coming decades, the profession at large sided with Oskar Lange and Abba Lerner over Mises and Hayek in the socialist calculation debate, sided with John Maynard Keynes over Hayek about the causes and remedies of the Great Depression, and came to view the work of Austrian economists as an ideological carryover from an older age. If mainstream economists saw something of value in the work of Menger and his intellectual heirs, they thought it had been incorporated or surpassed in the further development of economic theory. By the early 1950s, the reigning paradigm was Paul Samuelson’s neoclassical synthesis, which combined neoclassical price theory on the micro-level with Keynesian aggregate expenditure theory on the macro-level. Economics was heavily mathematized, not only as a lens for understanding but also as a tool of social engineering. This approach to economics dominated both academics and public policy for the next several decades. Deviations from perfectly competitive outcomes were to be corrected by regulation, and deviations from full employment were to be “fine-tuned” out of existence through fiscal and monetary policy. This is the intellectual context in which the Institute for Humane Studies, in 1974, hosted a conference at South Royalton, Vermont on Austrian economics. The primary lectures at the program were given by Israel Kirzner, Ludwig Lachmann, and Murray Rothbard. The Foundations of Modern Austrian Economics, edited by Edwin Dolan, collects these lectures in written form along with an introduction by Dolan and a chapter by Gerald O’Driscoll and Sudha Shenoy on stagflation. Foundations aims to introduce readers to what makes the modern Austrian school distinctive from Samuelson’s neoclassical synthesis (Dolan, p. viii). Though the “Austrian” moniker had been used informally by younger economists inspired by the work of Menger, Mises, and Hayek, around this time it started appearing as a label for a distinctive school of thought. Combined with Hayek’s 1974 Nobel prize win, this period is sometimes marked as the “Austrian Revival.”3 At the conference, participants debated whether to consciously adopt the label to distinguish their approach from the Samuelsonian mainstream. Famously, Milton Friedman stopped by the conference and counseled the participants, “there is no Austrian economics—only good economics, and bad economics” (quoted by Dolan, p. 4). Let’s set aside the question of whether the “Austrian” label is useful. Like all labels, it is good for some purposes and bad for others. Rather, I would like to explore whether the comparisons between Austrian and mainstream economics scattered throughout this volume hold up. Foundations is very much a product of its time. After decades of government aggregate demand management, the 1970s saw both high inflation and high unemployment (stagflation). The conventional models said this combination should be impossible. The younger Austrians saw an opportunity to challenge Samuelson’s reign. But the mainstream economics of the 21st century is not the same as it was in 1974. While many elements remain similar, especially in undergraduate education, how relevant are the comparisons in Foundations today? Kirzner, Lachmann, and Rothbard all argue that the distinctive task of Austrian economics is to render social phenomena intelligible as the result of individual plans and purposes. They each have a different focus, but all of them are concerned with this basic idea. Rothbard is concerned with distinguishing economic reasoning, which proceeds from the “fundamental axiom of action,” from mathematical and econometric approaches to understanding social phenomena. The axioms on which economics is built are “true and meaningful” from the outset of analysis (p. 22, emphasis added), in contrast to physics for which the axioms only become meaningful via prediction and control. Lachmann distinguishes between two tasks of economics (pp. 215-216): making the world intelligible and tracing the unintended consequences of action.4 He argues that Austrian school has always had more affinity with the former task. “What does it mean to make the social world intelligible? How is this different from the way most economists understand their task?” What does it mean to make the social world intelligible? How is this different from the way most economists understand their task? Kirzner offers a helpful parable of a man from Mars (p. 45). The observer, Marvin-the-Martian-style, looks down in his telescope and sees bodies entering and exiting boxes at certain times of day. This activity is repeated with certain regularity, with pronounced bursts of activity twice a day. The observer develops complex statistical models that effectively predict the flow of bodies into and out of boxes. But what the observer does not know is that these are people getting onto and off of buses headed to and from work in the morning and evening. Kirzner’s example highlights a distinction that James Buchanan would later make between explanation and prediction.5 Prediction as most economists understand it is usually “retrodiction.” It means accounting for historical relationships between observable phenomena and usually does not involve forecasting the future. But as the parable of the Martian observer illustrates, successful prediction is not the only form of knowledge we can have about the social world. We can also understand the why of social phenomena, their explanations. This, the Austrians argue, is what is missing from a mathematical approach to economics. A related point, mentioned by Lachmann (p. 219) and elaborated on later by Buchanan, is that explanation involves appeal to purposeful human action while prediction reduces action to reaction. To predict social behavior, the theorist must make assumptions about how individuals will choose. The mere fact that they will choose purposefully is not enough. Individual choosers in a predictive, mathematical model respond to changes in circumstances according to a script that is already written by their utility functions or scales of values. According to Mises and Buchanan, these scripts are fictions—but they are necessary fictions for making predictions or grasping certain principles. With this in mind, it is easy to see what the Austrian critiques of mainstream economics throughout this book get right and what they get wrong. What they get right is that explanation is a legitimate goal for social science, and that it is not reducible to making tractable predictions. Attention to the human concepts of meaning and purpose pays dividends when we try to understand the social world around us. In the words of Fritz Machlup, “if matter could talk” physicists would be foolish not to listen. Economists study subjects that can think, act, and speak purposefully, so we should listen as well. Paying attention to human purposefulness is, moreover, a necessary task when explaining the origins of social phenomena. Rothbard touches on this in his lecture on the Austrian theory of money when he references Mises’s “regression theorem” (pp. 168-9). Mises’s attempt to explain the origins of money confronts a dilemma: the demand to hold money depends on its purchasing power, but its purchasing power depends on existing money prices. Prior to the existence of money, those prices do not exist, so how can a monetary economy get off the ground? Mathematical models will not solve this problem, because such models rely on the timeless logic of mutual determination.6 The price of one good, including money, depends on the prices of all others. The regression theorem solves this problem by recognizing that whatever good becomes money would have had a set of barter prices prior to it becoming money, thus giving it an initial level of purchasing power. The substantive contributions of Austrian economics to social science have typically focused on these sorts of origin stories: the origins of money, price formation (as opposed to price determination), the causes of business cycles, the dynamics of interventionism, etc. Some of these origin stories not only offer distinct claims about how the world works but are also policy relevant. Kirzner’s theory of the market process (pp. 115-125) has strong implications for antitrust policy. Rather than assuming that producers know the least-cost method of production, Kirzner argues that these methods are only discovered when entrepreneurs compete for profits. (Note that this requires a conception of humans as creative, not merely reactive.) If Kirzner is right, we cannot determine whether a market is competitive simply by counting the number of firms. Rather, we need to focus on potential barriers to entrepreneurial entry into the market.7 Perhaps some or all of these Austrian theories are mistaken. But they are concretely distinct from mainstream economics. They offer substantive contributions or challenges to the way that economics is typically done. But there are a number of complaints about mainstream economics in Foundations that fail to meet this bar by misunderstanding the claims that most economists would make about their own arguments. Rothbard (pp. 32-33) argues against the use of econometrics primarily on the grounds that historical events are heterogenous. Statistics apply to homogenous entities that can be grouped and counted. Econometrics not only attempts to ape the natural sciences by using complex heterogeneous historical facts as if they were repeatable homogeneous laboratory facts; it also squeezes the qualitative complexity of each event into a quantitative number and then compounds the fallacy by acting as if these quantitative relations remain constant in human history. (p. 33) My colleagues in the Department of Agricultural and Applied Economics at Texas Tech would be surprised to learn that they treat the quantities they measure—such as the elasticity of demand for cotton—as historical constants. If this were the case, it is not obvious why the department would continue to exist after the first estimates were produced. Applied economists know perfectly well that they are not measuring historical constants. They understand that they are either making measurements regarding particular historical episodes or that the results of their work are rough generalities. They are sensitive to the heterogeneity of the objects of their studies. They know that they rely on imperfect proxy variables. And many, if not most, understand that econometrics should not be divorced from economic theory. Dolan, in his introduction, echoes Rothbard’s sentiments, arguing that “[a]cceptance of the Austrian paradigm entails a radical rejection of econometrics as a tool of economic theory” (p. 7). But he allows, later on, that this view “leaves open the possibility that econometrics could be a legitimate tool of technology and history” (p. 15). This concession brings his view closer to that of Mises, which Rothbard quotes in his lecture on methodology (p. 34). So what we really have here is a semantic issue. Econometricians know perfectly well that they are not doing economic theory. But does “economics proper” only include theory, or does it also include economic history, business administration, or the other tasks that economists perform? As long as the distinctiveness of the economic way of thinking is maintained, it is not clear what is at stake in answering this question. The basic error that several of these essays make is to treat the explanation and prediction as substitute tasks rather than complementary ones. Some social scientific questions are about relationships between observable variables. Some are about the origins of social phenomena. Neither task can be reduced to the other, but a sound approach to social science uses each to reinforce the other. Austrians are perfectly comfortable using empirical generalities as part of the basis of theorizing (for example, the idea that more leisure is ceteris paribus preferred to less). These empirical generalities are typically said to come from common sense or everyday observation, but there is no reason they cannot be supplied by statistical studies. And while understanding human purposiveness underpins explanations of historical episodes, oftentimes there are multiple theoretically plausible explanations of those episodes. Econometrics can help figure out which explanation best accounts for a particular event. The Austrians in Foundations were right to raise the alarm that the concepts that allow economists to analyze the origins of complex phenomena were (and probably still are) underemphasized by most economists. But they were also wrong to try to force a once-and-for-all choice between explanation and prediction. The same can be said for their rejection of mathematical economics. Yes, math has limitations and is not always necessary. No, individuals do not have utility functions that are differentiable (p. 24). But nor do they have an ordinal scale of values of the sort that Austrians appeal to. Mises makes clear that the scale of values is a mental tool of theorizing and does not exist in reality. While there is great value in the verbal and strict approach that Austrians take to discussing diminishing marginal utility (it offers an explanation for why utility diminishes on the margin), it is not clear why it is only acceptable to use a verbal imaginary construct rather than a mathematical one. Supply and demand is, after all, a mathematical construct. One concern that Austrians might have with taking a more conciliatory attitude toward math and metrics is that these are the tools of social engineering. That was certainly part of the intellectual climate of the early 1970s. Gerald O’Driscoll and Sudha Shenoy document a number of famous economists (including Milton Friedman) declaring that aggregate demand management had made recessions and/or depressions a thing of the past (p. 203). Clearly the prediction did not hold up well. But while some modern economists still hold onto the view that the job of economists is to manage or control the economy, this attitude appears far less prevalent today. And it would be foolish to reject the usefulness of a tool because it can be misused. Verbal logic can also underwrite terrible policies, but few call for getting rid of it. I have only touched on one of the main themes running through this volume: the relationship between Austrian and mainstream economics. There are several other fascinating threads for those either interested in Austrian ideas or the history of economic thought more generally. Rothbard and Kirzner each have lectures exploring the relationship between moral philosophy and Austrian economics. The volume presages internal debates that Austrian would have over the coming decades, such as the Kirzner-Lachmann debate over the tendency towards equilibrium and the fight between free bankers and those hostile to fractional reserve banking. Not all of these debates were particularly productive, but it is interesting to see the seeds being sown here. In particular, Kirzner’s chapters on methodology and the market process remain an excellent introduction to some key Austrian ideas. For more on these topics, see Austrian School of Economics, by Pete Boettke. Concise Encyclopedia of Economics. “150 Years of the Austrian School of Economics,” by Caleb Fuller. Econlib, Aug. 2, 2021. “The Tensions in Austrian Economics,” by Arnold Kling. Econlib, Oct. 3, 2016. Paul Samuelson’s specter still looms large in the economics profession. But most economists are not committed philosophical Samuelsonians. This is progress that should be celebrated. The relationship between Austrian and mainstream economics has changed over the past five decades because economics has changed. While I am entirely on board with the broad contours of the intellectual project laid out here, not all of the arguments have held up well. The more important point of contention in the present day is whether economic theory will continue to underwrite academic research at all or whether economics will devolve into data science on top of a theoretical blank slate. In this, committed neoclassical economists and Austrians probably have more in common than they do in dispute. Austrians should follow their own advice: neoclassical economists can talk. We should listen. Footnotes [1] Dolan, Edwin G. (ed), The Foundations of Modern Austrian Economics. Sheed and Ward 1976. Available online at the Library of Economics and Liberty. [2] Ludwig von Mises, The Historical Setting of the Austrian School of Economics. Available online at mises.org. [3] Karen I. Vaughn, “The Mengerian Roots of the Austrian Revival,” History of Political Economy. 22(1). PDF file. [4] It may surprise contemporary readers that “spontaneous order” appears nowhere in this volume. Hayek’s Law, Legislation, and Liberty was still hot off the press. [5] James Buchanan (1982), “The Domain of Subjective Economics: Between Predictive Science and Moral Philosophy,” in Method, Process, and Austrian Economics, ed. Israel Kirzner. Lexington, MA: Heath. [6] This is not necessarily true of modern agent-based models. [7] These implications are not spelled out in the Dolan text, which focuses on advertising. They are discussed in Kirzner’s 1973 Competition and Entrepreneurship (Chicago: University of Chicago Press.) *Adam Martin is Political Economy Research Fellow at the Free Market Institute and an assistant professor of agricultural and applied economics in the College of Agricultural Sciences and Natural Resources at Texas Tech University. For more articles by Adam Martin, see the Archive. (0 COMMENTS)

A Book Review of Rebellion, Rascals, and Revenue: Tax Follies and Wisdom through the Ages, by Michael Keen and Joel Slemrod.1 Introduction What do you think would happen if suddenly beards and bachelorhood were taxed? Ridiculous, you say? Not so! In the later 17th century, Tsar Peter the Great instituted a beard tax to change the unkempt behavior of boyars, low-ranked Russian aristocrats. Did more men shave? Absolutely. And a tax on bachelorhood? Of course, that will increase marriages, right? Maybe. But it might also create a market for “professional refusers” like it did in Argentina around 1900 as young men wanted to “prove” an offer had been rejected so they could avoid the tax. As these examples illustrate, a tax system is not just about raising revenue in efficient ways (as much as some public finance economists wish it was!). It’s used in all kinds of ways, for all kinds of reasons. Rebellion, Rascals, and Revenue: Tax Follies and Wisdom through the Ages by Michael Keen and Joel Slemrod delivers a book on taxation that is part history, part primer, and full of surprises—even for those familiar with both topics. The few missteps don’t detract too much from their larger success, although this reviewer certainly hopes they are corrected in future work. The Window Tax I’ll start, as the authors do, with the “window tax.” For the many of you already familiar with this, feel free to skip the rest of this paragraph. It’s a well-known and often used example in writings about strange taxes. Even today, you can find pictures of homes with boarded up windows in London, a century and half after the tax was ended. The window tax existed in Britain from 1697 to 1851. It is exactly what it sounds like: a tax on property based on the number of windows that it had (though with different rates depending on the number of windows, see below). Keen and Slemrod use this example to illustrate the conflict and tradeoff between different tax principles like fairness, ease of administration, and their favorite, the excess burden (the non-revenue costs of the tax, when people change their behavior in ways that make them worse off). Fairness: From a fairness perspective, the window tax seems like a good one. In general, richer people will have bigger houses, which will have more windows, so the window tax could be a way of implementing a progressive tax, consistent with the ability-to-pay principle (which says that those with a great ability to pay taxes should pay more). This fact may not always hold though, as Adam Smith keenly observed (see below). Ease of Administration: Prior to the window tax, Britain had a tax on fireplaces (the “hearth tax”), which was in place from 1662 to 1689. Compared with the later window tax, the hearth tax was difficult to administer, since the number of fireplaces in a house could not be easily observed from outside the home. You had to enter the home, which, not surprisingly, many Brits found intrusive. Relatively speaking, the window tax was easier to administer, as it could be observed without entering the home (and without trying to assess the market value of the home, as with a property tax). The tax assessor can just count the windows, and move on to the next house. Excess Burden: But there is also the potential for a huge excess burden from the tax. If households respond to the tax by boarding up windows, or if new homes built have fewer windows, people are worse off. They don’t have to pay the tax, true, but they also miss out on the benefits of the sunshine that would otherwise stream through their windows. Economists call this loss of benefits a “deadweight loss,” or more precisely in the context of taxation, what we call the “excess burden.” Adam Smith, Prominent “Window Tax” Critic: As Keen and Slemrod note, Adam Smith complained about the window tax in the Wealth of Nations.2 Specifically, Smith said it was unfair, even though progressivity was one of the goals. Smith gives the example of a poor person living in the country, compared with a rich person in an urban area. The poor person might actually have a house with more windows, given how cheap land is in rural areas, and thus will shoulder a larger burden of the tax. Perhaps it wasn’t such a fair tax after all. But What Happened? Here is where this book really shines. The authors not only know the history of taxes, they are also well-versed in the best current research on taxes. On the window tax, they do an excellent job of summarizing research published in 2015 that examined microdata on the window tax.3 Initially, the window tax didn’t apply to dwellings with fewer than ten windows. Guess what the microdata Oates and Schwab examined shows? Lots of houses with exactly nine windows. Whether this means new houses were built with exactly nine windows, or whether houses with ten or eleven windows boarded up a few, we can’t say from the data. Moreover, when the threshold for taxation was lowered to eight windows in 1761, suddenly there were a lot of houses with exactly seven windows. The “excess burden” of the tax is implicit in the shrinking number of windows in these houses. The authors found that for every dollar of taxes collected from the tax, there was an excess burden of 23 cents, a very inefficient tax. And for those who reduced their number of windows below the exemption threshold, all their behavior is excess burden, since the tax raises no revenue on those with nine windows (in the original version of the tax). The story Keen and Slemrod tell of the window tax is well done in that it takes a familiar tale of tax lore, talks clearly about the incentives to change behavior under the tax, and then shows us what the best current research says about this tax, which we can then use to compare with other taxes. Follies in the History of Economic Thought The authors gave their book the subtitle “tax follies and wisdom throughout the ages,” but they do commit a few follis of their own. These follies do not detract from the book overall, but they are so glaring that they need to be briefly corrected. Keen and Slemrod’s discussion of the history of economic thought goes astray when they say that Thomas Robert Malthus’s “views of population dynamics prompted Thomas Carlyle to label economics as the ‘dismal science'” (page 155). This is the standard story, often repeated by critics of economics, but economists should know their own history better. As David Levy and Sandra Peart have carefully explained, Carlyle called economics “the dismal science” because “economics assumed that people were basically all the same, and thus all entitled to liberty.”4 Carlyle and other progressives argued in favor of a racial hierarchy and questioned the abolition of slavery in the British Empire. The authors also do an injustice to more recent history of economic thought in their discussion of Geoffrey Brennan and James Buchanan’s work on taxation. According to Keen and Slemrod, Brennan and Buchanan “thought of government as a ‘leviathan’ (a biblical sea monster) concerned not with citizens’ welfare but only with maximizing its own size.” In this context, Leviathan is clearly a reference to Hobbes, and surely the authors know this. Most uncharitably, for a reader interested in learning about Brennan and Buchanan’s theory, the authors give no references to the relevant papers in the Journal of Public Economics and later book The Power to Tax.5 After quickly dismissing the leviathan model, Keen and Slemrod go on in the next paragraph to say, “An alternative way to limit government size… is through constitutional restrictions.” But this is exactly what Brennan and Buchanan propose, as would be clear by just reading the title of their 1977 paper “Towards a tax constitution for Leviathan.”6 What’s Next for Taxes? In the final chapter of the book, Keen and Slemrod look to the future. Given all the history they have shared with us, what might future tax changes look like? What should they look like? As the authors acknowledge, good tax reform is hard. They quote United States Treasury Secretary William Simons saying in the late 1970s that the United States “should have a tax system which looks like someone designed it on purpose.” This sentiment is nice, but it’s not realistic. Even major tax reforms in the United States, such as in 1986, didn’t truly start over from scratch and design a tax system of which economists would approve. Instead, tax reforms usually try to chip away at bad tax policy, often add new (hopefully better, by some criteria) revenue raising devices, but most tax changes take place at the margin. A rate adjustment here, and an exemption added or subtracted there. Taxes are the outcome of an outgoing political debate and negotiation, not some that is designed fresh from whole cloth. For example, it’s widely acknowledged in tax policy discussions that the United States is a tax outlier in two clear ways compared to other developed countries. First, we don’t have a value-added tax, a fairly new taxing device in the history of taxation, but one that is now universally adopted in the developed world, and much of the developing world too. In brief, a value-added tax (VAT) is a tax on consumption, but it works very differently from a sales tax, with taxes collected at each stage in the production process (only on the “value added” at each stage, hence the name). Second, the United States generally has much lower taxes as a percent of our national economy than our peers. These two facts are related: with a VAT, the United States would be much closer to, say, the average level of taxation in Europe. Will the United States have a VAT in the near future? The authors do think it’s plausible, especially since recent Republican (Ron Paul and Ted Cruz in 2016) and Democratic (Andrew Yang in 2020) presidential candidates have proposed VAT-like taxes, even if they didn’t always call it that. But whether it will be a replacement for an existing tax (the Republicans’ preferred path) or a new revenue stream to fund new programs (the Democratic preference), it will inevitably be messy and uniquely American. For example, how would the VAT interact with our existing large consumption tax in the United States: the state and local retail sales tax? Would it tax the same “base” of consumer goods (warning: every state has a different tax base for its retail sales tax)? Would the retail sales tax be applied on top of the federal VAT, since the VAT is baked into the price of the goods on the shelf? “The fact that we’ve mostly gotten through the COVID pandemic without any new major tax instruments at the federal level suggests that the moment for a major new tax may have passed in the United States.” The possibility of a VAT in the United States demonstrates that reform is possible, but it is almost always likely to be more incremental than revolutionary. And major expansions of taxation in the United States and elsewhere usually require a war or some other crisis. For example, while the United States federal income tax was established during peacetime, the rates were lower until a few years later when the United States entered World War I, and it only became a tax that applied to most households during World War II. Similarly, the payroll tax in the United States was established to fund the Social Security program during the crisis of the Great Depression. The fact that we’ve mostly gotten through the COVID pandemic without any new major tax instruments at the federal level suggests that the moment for a major new tax may have passed in the United States. To Conclude, a Personal Anecdote Twenty years ago as an undergraduate student, I saw Joel Slemrod give two public lectures at my university. These two lectures nicely encapsulated two of the main objectives of Slemrod’s recent book with Michael Keen, titled Rebellion, Rascals, and Revenue. First, how do taxes impact people’s behavior and, second, how can taxes be made simpler, fairer, and more efficient? The first talk by Slemrod was based on his paper with Wojciech Kopczuk, which investigated whether or not people responded to changes in estate tax rates by dying earlier or later (for example, the United States estate tax was temporarily repealed in 2010).7 In the case of estate taxes, they do find some adjustment of behavior—the alteration of death dates close to the end of the year. That’s the first lesson of their book: taxes change people’s behavior, they don’t just raise revenue. The second of Slemrod’s talks I witnessed was “Which is the Simplest Federal Tax System of Them All?” In that talk Slemrod discussed various options for tax reform, such as consumption taxes, a flat income tax, and others. Here we have the second major theme of the book: how can we reform the tax system, including ways to make it simpler, but also ways to make it “fairer” (and what that means exactly), and finally how to make the tax system more efficient. For more on these topics, see Taxation, by Joseph J. Minarik. Concise Encyclopedia of Economics. Fiscal Policy, by David N. Weil. Concise Encyclopedia of Economics. Tammy Frisby on Tax Reform. EconTalk. Vanessa Williamson on Taxes and Read My Lips. EconTalk. The authors are humble throughout the book, as they never try to claim they have “the” answer to how to fix our tax system. As one of the section titles in the last chapter of the book puts it: “Fair Taxation, Whatever That Is, Is Hard to Achieve.” This stance is a refreshing one, since most authors that set out to write a 400-page book on taxes would usually have One Big Idea about how to fix the tax system. Not Keen and Slemrod. They are content to give us an interesting history, connect it to principles of taxation, and offer some suggestions, but they leave it up to the reader to make use of all this information in shaping their own ideas about the future of taxes in the modern world. Footnotes [1] Michael Keen and Joel Slemrod, Rebellion, Rascals, and Revenue: Tax Follies and Wisdom through the Ages. Princeton University Press, 2021. [2] Adam Smith, An Inquiry Into the Nature and Causes of the Wealth of Nations. Book V, Chapter 2, “Of the Source of the General or Public Revenue of the Society.” Library of Economics and Liberty [3] Wallace E. Oates and Robert M. Schwab, “The Window Tax: A Case Study in Excess Burden.” Journal of Economic Perspectives, 29(1), 2015. [4] David Levy and Sandra Peart, “The Secret History of the Dismal Science: Economics, Religion, and Race in the 19th Century.” Library of Economics and Liberty, January 22, 2001. [5] Geoffrey Brennan and James Buchanan, The Power to Tax. Library of Economics and Liberty. [6] Geoffrey Brennan and James Buchanan, “Towards a tax constitution for Leviathan.” Journal of Public Economics. 8(3), 1977. [7] Wojciech Kopczuk and Joel Slemrod, “Dying to Save Taxes: Evidence from Estate Tax Returns on the Death Elasticity.” The Review of Economics and Statistics. 85(2), 2003. *Jeremy Horpedahl is Associate Professor of Economics at the University of Central Arkansas. He blogs at Economist Writing Every Day. As an Amazon Associate, Econlib earns from qualifying purchases. (0 COMMENTS)

“But for some reason, the Dutch started to reject that traditional view of society in the sixteenth century. They entertained the idea that it was perfectly fine to trade and make profits. That new, liberal way of looking at life resulted in a rising standard of living in the Netherlands. It freed up human energy and ingenuity to pursue commercial gains, rather than confining them to furthering the interests of the rulers. Liberalism spread to England, then slowly, often incompletely, to other parts of Europe. The scholar you should consult if you really want to understand this is Professor Deirdre McCloskey.” —Spoken by Alexander Oistrakh, a character in The Awakening of Jennifer Van Arsdale: A Political Fable of Our Time, by George Leef.1 George Leef, a scholar and pundit known as an advocate for traditional standards of excellence and viewpoint diversity within higher education, recently published a novel called The Awakening of Jennifer Van Arsdale. The main character is a young progressive journalist, Jennifer Van Arsdale, who gets mugged by reality. As the novel begins, she feels smugly assured that progressive policies that expand government and stifle opposition are noble causes. Meanwhile, other characters in the novel reveal the devastating consequences of these policies for the people they are supposed to help. The Awakening depicts a dystopia in which progressives have undermined economic liberty, freedom of speech, rule of law, and fair elections. It is perhaps inevitable that readers will see it as a much shorter and more contemporary Atlas Shrugged. The equivalent of Ayn Rand’s Wesley Mouch character can be found in The Awakening as Patricia Farnsworth, a recent President whose biography Van Arsdale is solicited to write. The equivalent of John Galt may be found in Will Collier, an African-American who once served in the Navy and who helped start a group called Free People of Laguna Beach. In her term of office, Farnsworth has succeeded in enacting most of the radical progressive agenda: policies that hamstring the labor market, including high minimum wages and laws against “gig work;” a focus on equity in education, at the expense of standards or rigor; gun confiscation; strict laws against hate speech; wasteful public works projects; regulatory strangulation of small business. The libertarian/conservative Collier surprises the young progressive journalist Van Arsdale with his opposition to Farnsworth’s policies. He points out how they have resulted in increased poverty, crime, and social disarray. Collier sees the progressive icon Farnsworth as nasty and hypocritical. He says, “This may sound cynical, but I think most politicians would have us remain poor and angry rather than successful and independent.” Author Leef portrays progressive journalists as deliberately twisting the truth to promote progressive causes while progressive politicians deliberately commit fraud to win elections. His fictional progressives even admit to doing so. “Leef depicts political culture in black-and-white terms. Progressives are smug, ambitious, power-seeking, and blind to the adverse consequences of their policies. The conservatives and libertarians are good souls who are grounded in reality.” Like Ayn Rand, Leef depicts political culture in black-and-white terms. Progressives are smug, ambitious, power-seeking, and blind to the adverse consequences of their policies. The conservatives and libertarians are good souls who are grounded in reality. As the novel unfolds, Van Arsdale comes to see the world through their eyes. Leef has succeeded in meeting the challenges involved in writing a novel. Several years ago, I attempted a novel myself. My pacing was slow and ponderous. In about the same number of words that are in The Awakening, my novel was about one-quarter complete. Leef’s writing makes you want to turn the pages. Mine didn’t. For more on these topics, see Arnold Kling on the Three Languages of Politics, Revisited. EconTalk. “Liberalism and Its Enemies,” by Arnold Kling. Econlib, Jun. 6, 2016. “Progressives’ Desires to Help the Poor Will End Up Hurting Them Instead,” by Craig J. Richardson and Richard B. McKenzie. Econlib, Sep. 6, 2021. My slow pacing was in part deliberate. I wanted the evil of my progressive villains to emerge gradually. As it turned out, reality moved faster. My novel had campus progressives come up with a speech-suppression tactic in which a person whose views they did not like would be “branded.” A few years after I wrote my draft, the real world came up with cancel culture. My novel had a group of extremists starting to engage in violence. The real world came up with Antifa. Let us hope that Leef’s fiction does not suffer a similar fate. At one point in The Awakening, the journalist notes that “prices are now increasing by fifty percent each year.” It would be tragic for the real world to turn out similarly. Footnotes [1]. The Awakening of Jennifer Van Arsdale, by George Leef *Arnold Kling has a Ph.D. in economics from the Massachusetts Institute of Technology. He is the author of several books, including Crisis of Abundance: Rethinking How We Pay for Health Care; Invisible Wealth: The Hidden Story of How Markets Work; Unchecked and Unbalanced: How the Discrepancy Between Knowledge and Power Caused the Financial Crisis and Threatens Democracy; and Specialization and Trade: A Re-introduction to Economics. He contributed to EconLog from January 2003 through August 2012. Read more of what Arnold Kling’s been reading. For more book reviews and articles by Arnold Kling, see the Archive. As an Amazon Associate, Econlib earns from qualifying purchases. (0 COMMENTS)

In his memoir of his time in Auschwitz, Primo Levi describes Jewish prisoners bathing in freezing water without soap–not because they thought it would make them cleaner, but because it helped them hold on to their dignity. For poet and author Dwayne Betts, Levi’s description of his fellow inmates’ suffering, much like the novelist Ralph […] The post Dwayne Betts on Ellison, Levi, and Human Suffering appeared first on Econlib.

Last Thursday, Cecilia Rouse, chair of President Biden’s Council of Economic Advisers, gave a Zoom talk to the Stanford Institute for Economic Policy Research (SIEPR). I “attended” for the first 20 minutes, but then signed off to “attend” another Zoom talk out of Stanford presented by Scott Atlas. But I circled back, as Jen Psaki would say, to watch the rest of the talk, which you can find here. I wondered particularly whether and how Rouse would deal with the graph on declines in black and Hispanic poverty that I highlighted and discussed here, which, incidentally, the Wall Street Journal used as a “Notable and Quotable” in their April 28, 2022 print issue (April 27 on line.) Here’s the relevant part, at the 24:50 point: Rouse shows the graph that I commented on. Notice the little gray bar at the end. There are two things interesting here. First, she introduces the issue by talking about inequality. But then she talks about the decline in poverty. That’s what she should talk about. I don’t care, and I bet most poor people don’t care, if inequality is increasing if the worst off are becoming substantially better off, as the graph shows. Notice the speed up in the drop in poverty for black and Hispanic people from 2017 to 2020. Rouse seems to care about black and Hispanic people. But what does she focus on? The little gray part at the end: the drop in poverty from 2019 to 2020, which occurred, as she stated correctly, because of the huge child care tax credit in the CARES Act of March 2020. Is she so uncurious not to wonder why poverty among black and Hispanic households plummeted from 2017 to 2019, without the increased child care tax credit? If someone cares about reducing poverty, isn’t it important to look into why those reductions happened before the increased child tax credit. This, to me, was the most disappointing part of her talk. The gatekeeper for questions was the host, economist Mark Duggan. I don’t know if anyone submitted a question on this. If so, Duggan didn’t ask them. Much later, at about 46:08, when she discusses the 2017 tax bill, she focuses on some tax breaks it created for the very wealthy, without mentioning what they are. She has to be aware of the tax break for the wealthy that the bill reduced substantially, namely the restriction of the deductions for state and local taxes for those who itemize. Rouse says it’s “not obvious at all” that the tax cut had good effects. We haven’t seen big good effects of the tax bill. Really? One of her predecessors, Trump’s CEA chair Kevin Hassett had some pretty careful analysis of the the effects on growth of the tax cut. His analysis helps us understand how the tax cut could indeed be behind the large drop in poverty. It’s much more careful than anything that Rouse and her colleagues did on the same issue in their 2022 Report. Is this just bad propaganda or does she know something we don’t? In Part II, I’ll highlight some other parts of her talk, including some parts I liked, particularly on immigration and on the FDA. (0 COMMENTS)

The Wall Street Journal story on the GDP drop in the first quarter of 2022 echoes at least three false or misleading ideas that have passed into conventional wisdom. Some are offspring of John Maynard Keynes who, although an elitist dilettante, was not unintelligent and was certainly a genius (a rather evil genius, it turned out) in creating the new conventional wisdom under which we labor (See “U.S. Economy Shrank 1.4% in Weakest Quarter Since 2020,” April 28.) First, the story says (reducing the claim to its logical essentials): The labor market is a key source of economic strength right now … as employers cling to employees amid a shortage of available workers. The reader is invited to believe that economic strength comes from a shortage (of labor). The solution of the enigma is that there is no shortage of labor but simply an increasing price of labor, that is, increasing wages or benefits. A shortage, as microeconomic theory understands it, would be a situation where nobody can hire more labor even by bidding up its price along with other employers. There is a shortage of labor as much as there is a shortage of diamonds: you can always get some if you are willing to pay the market-clearing price. The second false, or at least misleading, idea is, Consumer spending [is] the economy’s main driver. This is misleading because consumers are not the main driver of the economy, they are the only driver. It is only because people want to consume that they are motivated to work and produce. At least, such is the case in a free economy where consumers are sovereign. If businesses can also be called a “driver,” it is only because they try to satisfy consumer demand or other businesses who try to satisfy consumer demand. The idea underlying the quoted claim seems to be that if people want to consume produced goods and services, these things, that is, GDP, will fall like manna from heaven. The third idea is demonstrably false, has the most complex ramifications, and may be the most difficult to debunk in a few words. The statement is: The drop in GDP stemmed from a widening trade deficit, with the U.S. importing far more than it exports. The Economist was a bit more prudent by describing the GDP drop as “a reflection of strong imports”— the fuzzy “a reflection of” being, in this context, the usual hint at “caused by” without saying it. Similarly, the Financial Times said at first that the contraction was “reflecting growing trade imbalances,” but then lost it and squarely stated that “GDP was pulled lower by a growing trade deficit … as import volumes and prices surged.” Anybody who has looked at the national accounting even just in a good introductory macroeconomic textbook will know that this is demonstrably false from a strictly national-accounting viewpoint. GDP—gross domestic product—does not include imports by definition. Hence a drop in GDP cannot “stem from” more imports. Redefining GDP so that imports reduced it would require an altogether different national-accounting framework and new underlying theories of how the economic world works. I have tried to explain before why the idea that imports automatically reduce GDP is false. The reader might want to have a look at my few related posts and articles, perhaps starting with “Imports as a ‘Drag on the Economy,’” October 20, 2020. Scott Wolla, an economist at the St. Louis Fed, has written a good short piece explaining the same thing: “How Do Imports Affect GDP?” Page One Economics, September 2018. Instead of repeating what I and others have said before, let me try to use an analogy. In business financial accounts, the fundamental accounting identity that asset plus liabilities equals shareholder equity implies that, on the flow side, a company’s profits is equal to its (own) revenues minus its (own) expenses. We could redefine profits as its revenues minus its expenses and minus, say, the Vatican’s expenses on candles (even if latter don’t subtract more from a company’s expenses than imports from GDP, but accounting is largely a matter of conventions). This definitional change would upset the whole structure of financial accounts, but it would allow the statement that company X’s profit reduction “stems from” an increase in the Vatican’s candle expenses. To justify this new accounting, we would need a substantive theory explaining why it is useful to conceive of Vatican candle expenditures as reducing any business concern’s profits. (Perhaps executives’ wrath at a more powerful popery disturbs them mentally into wasting money?) Such a theory may not be more difficult to defend than the idea that producing GDP (and thus income) in order to have something to exchange for cheaper imports (remember that ultimately, behind the veil of money, products exchange against products) reduces GDP. The relations between accounting and substantive, non-truistic theories is a interesting topic, to which I have not done justice. (0 COMMENTS)

Back in 2008, many pundits claimed that the Great Recession showed the fallacy of a deregulated financial system. When all of the dust had settled, however, several points became clear:1. The US banking system has always been highly regulated. 2. Much of the regulation has the effect of making the banking system more unstable.3. The actual cause of the Great Recession was not free market ideology; it was a tight money policy that caused NGDP growth to fall 8% below trend during 2008-09.Back in 2020, many pundits claimed that Covid showed the folly of laissez-faire ideology.  To be sure, the free market doesn’t work perfectly when there are negative externalities, such as during the spread of an infectious disease.  But today, it looks like the net effect of government intervention was to make the problem much worse. Alex Tabarrok directed me to a study suggesting that various delays in vaccine implementation may have cost hundreds of thousands of lives in the US: Adherence to tradition, deontological commission bias, and democracy’s exclusive enforcement of Type I error led public health authorities to reject human challenge trials. Any reasonable moral calculus sees this as a tragedy. The stated reason for the rejection of human challenge trials was risk to the participants. It is of course true that volunteering to be deliberately injected with Covid-19 is volunteering for a small risk of death, but this risk is required for both HCTs and traditional trials. Traditional trials rely on hundreds of people to being infected with Covid, volunteers or not. Frontline healthcare workers also volunteer for increased risk of infection and we applaud because their sacrifice saves many more lives than it risks. Given that the public health authorities have already revealed their willingness to make these tradeoffs with human lives, the human challenge trial tradeoff is attractive. Say we run a human challenge trial with a thousand participants. Even if 10% of the thousand volunteers who receive a placebo die from their deliberate infection, a massive overestimate given Covid’s fatality rate of less than one percent, we would still save thousands of lives on net. In the weeks leading up to the FDA’s approval of the vaccines in December, more than two thousand people were dying from Covid every single day. Our estimates in section I and II predict that tens of thousands of lives could be saved if vaccine approval were accelerated by a few weeks. The four months of acceleration that human challenge trials offered would have saved hundreds of thousands of lives. Readers of this blog know that I am a frequent critic of deontological moral reasoning. I see three interrelated problems with government regulations: 1.  Delays due to regulation by the FDA. 2.  Reduced incentive to create new vaccines due to implicit or explicit price controls.  (By implicit I mean things like political threats to go after “price gougers”.) 3.  Inability to reduce liability risk by having early adopters sign away the right to sue if the vaccine produces negative side effects. Only a few people were able to evade these regulations—those scientists with enough skill to produce vaccine for themselves.         (0 COMMENTS)

Student loans have been decried by progressives for saddling an entire generation with debt in ways that are exploitative and fail to maximize welfare. They’ve got a point. The level of college debt has contributed to many millennials’ struggle to invest in productive businesses or start families. At the same time, students continue to be incentivized to take out loans they would otherwise not take, and prevents competitive markets from adjusting rates to risk. breathless defenses of student loan cancellation is regressive, Understanding the economic concepts of the principal-agent problem and moral hazard may help us find tools to align incentives and bringing debt down to sustainable levels. Under the current system, manyof the student loans being offered are owned by large quasi-governmental agencies such as Sallie Mae, or a third-party loan servicing company. An estimated 92% of student loans are federal, so discussions about student loans should primarily be concerned about the actions of institutions and their functions. Federal student loans are set at interest levels below market rates, are not subject to credit checks, and are not adjusted based on school attended, grades, or major. Guaranteeing loans for universities via government loans to students is a subsidy to universities, and taxpayers foot the bill. These subsidies are not offset by responsibility on behalf of the university; after all, the university does not have skin in the game. This combination of ingredients creates a situation with considerable moral hazard. First, if student loan limits are raised, ostensibly to increase opportunity for people of lower incomes, colleges absorb much of this money by increasing their rates. Second, since interest rates do not depend on the major of students, low-time-horizon students are more willing to opt for easier yet ultimately lower paying majors. One way to determine whether this is true is to look at student activities and time taken to graduate. The Heritage Foundation examined how college students use their time and found that students spend only a few hours per day on studies. Similarly, students are taking longer to graduate, suggesting that the easy money of student loans is something students are receptive to. This third-party payment system creates moral hazard and discourages an efficient use of resources. For instance, if the money given to value-neutral majors was instead allocated to business capital, our society would likely grow more than under the current system. Making college “free” would make this even worse. Everyone getting more educated sounds desirable until you realize that this further creates credential creep, disproportionately affecting those with less time and financial stability to devote to education. In this sense, education becomes more of an arms race that we all pay for, with a decreasing relationship to efficient provision of the goods. Addressing the principal-agent problem could repair this system.  Ideally, there should be incentive for universities to care more about student loans. Shifting the damages of nonpayment from taxpayers to colleges and universities would do just that. Making colleges liable for failed student loans encourages schools to accept more highly paying majors and to offer better career services. Schools have more information about students than loan agencies, and shifting the responsibility and cost towards them is one step towards encouraging more economically rewarding majors. Furthermore, this would give them a stronger interest in making sure that students are diligent and hardworking. Colleges already have intimate knowledge of student’s financial situation, grades, majors, and other important aspects. Having them service or be liable for student loans provides a stronger financial incentive than alumni donations. Doing so would solve the principal-agent problem and result in a more efficient use of resources. Isadore Johnson is a campus free speech advocate, an economics and philosophy student, and regional coordinator for Students for Liberty. (0 COMMENTS)

In this episode, Nobel Laureate Robert Shiller discusses with a somewhat skeptical Russ Roberts the extent to which narratives effect the fluctuations of the economy. Russ reminds us that we are “pattern-seeking, story-telling animals” and are prone to creating our own personal narratives as well as embracing collective stories. Shiller contends that narratives develop and shape collective behaviors that are identifiable, even when multiple economic variables are at play. Adam Smith, David Ricardo, John Maynard Keynes, Arthur Laffer, and Milton Friedman are only some of the economists discussed in this rich conversation about behavior and the shortcoming of economic models. We hope you will grapple with these questions and perhaps share your thoughts with us, including ideas about pandemic narratives.      1- Is Schiller convincing with his argument that the recent change to searchable, digitized text will provide the data needed to “find out what people are thinking”? Does Roberts’s skepticism beg the Friedman-style statement, ‘Don’t ask people why they write things’? (instead of say things)   2- Does classifying and chronicling the dynamics of multiple stories told in an economy with several hundred million people seem plausible to explain economic fluctuations? Does Schiller’s point about the globally impacted, complex macroeconomy counter his argument that “it’s really just so striking how narratives spread”?   3- Roberts describes the Great Depression narrative of falling demand for cars as partially attributed to how sensitive we are to how others perceive us. As Adam Smith described in The Theory of Moral Sentiments, we are interested in preserving our reputations. Are there current examples of these collective exhibited behaviors?    4- If Shiller’s proposition that economics is an imprecise science at capturing the narrative “that drives a human race”, what might fill this gap? How might a better understanding of the human mind, as Shiller suggests is imminent, impact the field of economics?   5- What narratives do you believe will be told about the Covid-19 pandemic five years from now? Twenty-five years from now? How will these stories shape future economic change? (Note that this podcast took place just before the global pandemic impact).   (0 COMMENTS)

In early 2021, as the pandemic entered its second year, I gave my wife a Drinkworks Home Bar for Valentine’s Day. A joint venture of Keurig, Dr. Pepper, and Anheuser-Busch, the jazzy machine combines water, CO2, and pods of drink concentrate to make cocktails, beer, and cider much like a Keurig turns out coffee. Optical codes on the pods tell the machine what temperature to chill the drink and how much carbonation to add. It is, I admit, superfluous—especially for a former bartender. But if you like variety in your alcoholic beverages and don’t want to keep a lot of beer, liquor, and mixers on-hand, it’s a nice product. And it’s a great party trick. Sadly, last winter the company announced it was discontinuing the product, and this spring it is stopping selling the pods. Sometime in the coming months, after draining our stockpile of concentrated Manhattans and mimosas, our Drinkworks will become a brick. It’s a reminder that Schumpeter’s creative destruction not only yields lost employment but abandoned ideas as well. Market success isn’t assured by hard work, clever technology, or novel ideas, but by suppliers and consumers finding mutually satisfactory exchange. As much as I like my Drinkworks, apparently not enough others did to make continuing the venture worthwhile to Keurig and A-B. Those firms are now reallocating their resources to other uses that they expect will satisfy greater consumer demand. Overall, creative destruction is good for humanity, but it does yield many individual disappointments. And it’s OK to be frustrated by that. Fortunately, the creation keeps going, along with the destruction. Though Drinkworks has given up on the home robot bartender business, others haven’t. A few years ago, Keurig also gave up on another joint venture, the soft-drink-making Keurig Kold, but other home soft drink devices seem to be thriving. As for my Drinkworks, who knows? Sometimes, abandoned ideas subsequently find market success. Maybe some clever Drinkworks redditers or other innovators will find a way to un-brick my machine. Thomas A. Firey is a Cato Institute senior fellow and managing editor of Cato’s policy journal Regulation. (0 COMMENTS)