If the tax reform proposal of Rubio and Lee were to pass it would easily be the best thing the Federal government has done since the civil rights laws of the 1960s.  And yet we see the usual suspects like Jonathan Chait trashing the bill.  Instead Chait should have said that with one tweak the bill would be awesome, and Dems like Elizabeth Warren should be racing to support the general idea.  I’ll get to the minor tweak in a moment, but first some of the good things it does:

1.  Ends the marriage penalty.

2.  Ends the taxation of capital income.

3.  The corporate tax becomes based on income earned in the US, (which is the approach used by most other countries.)  The rate would be similar to European tax rates.  Interest would no longer be expensed.  (Recall that interest income is no longer taxed (point #2), so it balances out.)

4.  Capital investments are expensed, no depreciation schedules.

5.  Ends most itemized deductions.

6.  AMT eliminated.

I haven’t been this excited since I was single!

Is it perfect?  No, there’d still be deductions for health insurance and mortgage interest and charitable deductions. However their statement says those issues also need to be addressed.  They should also treat everyone as single, to end the marriage bonus.

Under Rubio/Lee, someone like me with no mortgage would have the following 1040:

Wage income minus charitable contributions = taxable income.

That’s it.

The tax code would no longer hammer savers and married people.  It basically turns the income tax into a progressive consumption tax.  Isn’t a progressive consumption tax what liberals have been calling for?

Now for the supposed flaws.

1.  It’s not progressive enough.

2.  It doesn’t raise enough revenue.

There’s a very simple fix for both problems—add a third bracket!  The proposal calls for a 15% rate up to $75,000, and 35% above that level (or above $150,000 for couples.)  Simple solution—add a 50% rate for income above $250,000 (or $500,000 for married people.)

A note on progressivity:

Liberal arguments on the progressivity of various tax changes are basically worthless. Ignore everything you read, as they are using “income” as the benchmark of economic well-being.  Thus suppose I earn $100,000 a year for 20 years, and then sell my house for a capital gain of $500,000.  (I live in a two family, so I must pay taxes on the gain.) Liberals would have you believe I am suddenly “rich” in the year of the sale, with an income of $600,000.  That’s nonsense for two reasons.  The actual gain occurred gradually over 20 years.  And adding wage and capital income is as nonsensical as adding blueberries and apples, and calling it the number of “fruit.”  Taxes on capital income are double taxing the same earnings.

Conservatives might complain that a 50% top rate is too high.  The current top rate is 43.4% (don’t believe the liars who claim it’s 39.6%.)  But that is the top rate for an income tax system.  Rubio and Lee are proposing that we switch to a consumption tax system.  Consumption is less than income, especially for the rich, or should I say the “rich.” (How much will I consume the year I finally sell my house?  Not $600,000.)  So the top rate should be higher with any switch to a consumption tax.  Indeed you can argue that people with consumption levels in the $100s of millions per year should face an even higher tax rate.  And don’t tell me they “deserve” the 500 yachts earned through legal barriers to entry like intellectual property laws, there is no such thing as “deserve” in a cold heartless universe composed of nothing but subatomic particles, where most people are born into peasant families in places like Nigeria and Bangladesh.  If conservatives won’t be hardheaded realists, who will be?

Yes, I’d prefer a lower set of tax rates.  I wish our total government spending were 20% of GDP, like the 4 Asian tiger economies, not the 35% to 40% we seem stuck with.  I wish we’d eliminate the tax deductibility of mortgage interest and health insurance, which would allow for lower rates than what I’m proposing.  Ideally the government would simply withhold income taxes, like they do with the payroll tax.   No 1040 forms to fill out.

The other potential flaw in Rubio and Lee is business/self-employed income, and especially preventing tax avoidance.  An alternative way to a progressive consumption tax would be to treat all savings and investment in a 401k-type structure, taxing income only when it is consumed.  That would make it much harder for the hedge fund guys and the self-employed to avoid taxes.

PS.  I have a new post on inequality at Econlog.

HT:  TravisV

Jared Pincin directed me to a new example of long and variable leads, from the Wall Street Journal:

The European Central Bank begins its much-anticipated purchases of sovereign bonds on Monday, and ECB President Mario Draghi says the program known as quantitative easing is working before it has even begun. He’s right about that, as strange as it sounds, and therein lies the paradox of Europe’s dive into QE: It may already have had the most effect it is going to have through Mr. Draghi’s salesmanship and Europe’s will to believe.

Recall how the ECB got here. Demands have grown for years for an ECB program to match the bond purchases by central banks in the U.S., U.K. and Japan. Mr. Draghi started hinting at a willingness to play along in his August speech at the global central banking conference at Jackson Hole, Wyo. By the time Mr. Draghi in September announced a plan to buy private securities, investors viewed it as a stepping-stone to buying sovereign debt too.

As investors came to view QE as inevitable, prices responded, especially the price of the euro. As a result of Mr. Draghi’s open-mouth operations to talk down the euro””coupled with an expectation that interest rates might rise soon in the U.S.””the euro has declined steadily against the dollar and other currencies. On Thursday it hit an 11-year low of $1.10, compared to about $1.40 last summer.

In other news, the rapid improvement in the labor market, which began in early 2013 with fiscal austerity and accelerated in 2014 with the end of extended unemployment insurance benefits, continues into 2015.  Unemployment is now down to 5.5%, from 10% in October 2009 and 8% in early 2013.  Job growth continues at a rate far faster that the growth of the working age population.  Conservative structuralists and inflation fearmongers were wrong, as were liberal austerity fearmongers and those who denied extended UI insurance affected unemployment.  Who was right?  The same group that’s been right about almost everything else since 2008.

Monetary policy drives NGDP, which drives the business cycle.  When you pay people not to work, you get less work.  What a pity that Keynesian economics emerged from the 1930s, instead of Hawtreynomics.

Evan Soltas has a very good post on the surprisingly low interest rates observed in several European countries.  He points out that there are significant costs of holding currency:

But nobody really seems to have a good handle on what the new, negative lower bound might be. So how much would it actually cost, I wondered, to store $10,000 in currency for a year?

This seems to me a decent, and admittedly entertaining, way of getting a rough estimate of a lower bound. I picked $10,000 because it’s about twice the average balance of a savings account in the U.S., giving me a conservative estimate of the average percentage cost.

A safe deposit box at a bank seems to cost around $100 a yearafter insurance. Then the average cost of storing currency is about 1 percent annually — maybe a bit more if you buy a safe.

Yet, rather obviously, having $10,000 in a deposit box is not the same thing as having $10,000 in a bank account. You can spend from your bank account using a credit card, or you can go to an ATM and withdraw cash. You can’t do the same with a safety deposit box.

How much is that convenience worth? It seems like a hard question, but we have a decent proxy for that: credit card fees, counting both those to merchants and to cardholders. That’s because the credit-card company is making exactly the same calculus as we are trying to make — how much can we charge before we make people indifferent between currency and credit cards? The data here suggest a conservative estimate is 2 percent annually.

So my rough guess is that the average depositor is probably better off keeping their money at a bank up to a nominal interest rate of -3 percent annually. (This is also what other people said, in an extremely informal poll, would be the most they would accept.) But, from an economic perspective, what we really care about is the marginal depositor — that is, who has the lowest cost of currency storage?

And here, I am at a loss. Are there are efficiencies of scale in currency storage? What does the marginal cost curve for currency storage look like?

I’ve only seen safety deposit boxes in pictures, but I’d guess they could hold considerably more than $10,000, in packets of crisp $100 bills.  Maybe $100,000. On the other hand there are risks such as fire and theft, which don’t occur with T-bills.  But even those risks may be fairly low.  So I think Evan is correct to emphasize the convenience factor.  However, Paul Krugman raises some other good points:

In normal times, we invoke the convenience of money “” its extra liquidity “” to explain why people hold money at zero or at any rate low interest rates when there are other safe assets offering higher yields. We think of money demand as determined by people increasing their holdings up to the point where the opportunity cost of holding money, the interest rate on other safe assets, equals its utility from increased liquidity.

Once interest rates on safe assets are zero or lower, however, liquidity has no opportunity cost; people will saturate themselves with it. That’s why we call it a liquidity trap! And what this means is that the marginal dollar of money holdings is being held solely as a store of value “” the medium of exchange utility is irrelevant.

I like this argument, but I have a nagging feeling that Soltas must be right about the convenience factor.  I just can’t think of any other reason for the surprisingly large negative rates in Europe.  So let me throw out one other way of thinking about the vague term “convenience.”  Here are some things you should know about currency:

1.  Bringing more than $10,000 in cash into the US triggers alarm bells at the border.

2.  Taking more than $10,000 in cash out of a bank triggers alarm bells.  Indeed frequent cash transactions of $5000 can be enough to trigger a report to the government, under the “know your customer” rules.

3.  If you are pulled over for a missing taillight and have an envelope with lots of cash in your car, the police in the US can seize the money.  If you’ve committed no crime and are willing to spend a lot of money on attorneys and many months of your time, you can eventually get the money back.  But it’s very costly to do so.

Just to be clear, there is no law against holding large amounts of cash in the US. But the government considers it to be a sort of quasi-crime, evidence of wrongdoing.  They strongly dislike people who deal in large amounts of currency.

Why should it matter if the government is very hostile to your behavior, as long as you’ve committed no crime?  It shouldn’t matter, but let’s not be naive.  If you are a wealthy person or a business, it’s almost impossible to go through life without breaking laws.  The tax code and other regulations are so complex that wealthy people and businesses are easy pickings for any prosecutor that wants to make his name nailing the next Michael Milken.  (Disclosure: I’ve gone through life with just one email account, and today I find out that you aren’t supposed to use your job email for personal use.  Hillary, I feel your pain.)

I may be totally off base on this, but I’d like to hear from people that work in the investment banking world.  How would your boss feel if you suddenly suggested investing billions of dollars or euros or francs in currency, and then storing this currency in hundreds of safety deposit boxes?  And suppose you justified this investment on the basis that the return would be higher than you’d earn on government debt?  I suspect the idea of all that currency would give most big institutions a queasy feeling, and would make wealthy individuals worry that the government might begin to take a very close look at their books  . . .  if you know what I mean.

What do you think?

PS.  Back in the old days it was acceptable to hold large amounts of currency, indeed banks held $100,000 currency notes.  That was before the US government criminalized all sorts of business behavior that used to be acceptable.   Perhaps that’s why even during the worst of the Great Depression, the interest rate never went more than one or two basis points negative, if my memory is correct.

PPS.  I also recommend Alex Tabarrok’s post on the police in Ferguson, which shows that innocent low-income blacks and Hispanics also have plenty to fear from the police.  The people with the least to fear are academics, government bureaucrats, and others of that type.  No wonder they are so naive about the downside of big and powerful governments.

David Henderson has a post discussing a Henry Farrell piece on the Silk Road. Farrell shows that when markets like drugs are made illegal lots of nasty side effects can occur.  He concludes that this is an argument against libertarianism:

The libertarian hope that markets could sustain themselves through free association and choice is a chimera with a toxic sting in its tail. Without state enforcement, the secret drug markets of Tor hidden services are coming to resemble an anarchic state of nature in which self-help dominates.

Paul Krugman agrees:

a truly brilliant essay . . . an awesome read.

OK everyone, take a deep breath.  Let’s keep the comment section civil.  Krugman is a distinguished Nobel Prize winner.  This is the world we are condemned to live in.  I think Deirdre McCloskey best expressed my frustration.

I don’t care how one defines capitalism, as long as it’s not defined as evil incarnate.

Unfortunately, everyone from the Pope to Paul Krugman increasingly seem to prefer exactly that definition.

Paul Krugman has a column discussing the plight of America’s workers:

The point is that extreme inequality and the falling fortunes of America’s workers are a choice, not a destiny imposed by the gods of the market. And we can change that choice if we want to.

We all know that workers have done very poorly in recent decades, but exactly how do we know this?  Michael Darda sent me an email pointing out that real wages have been rising since about 1994 (ironically when NAFTA was enacted), after falling during previous decades.  Here’s a graph showing hourly real wages, where I use the wage series excluding the higher paid managers.  I presume that’s the series people are discussing. I use the PCE price index, which the Fed seems to think is best (I find all price indices to be equally arbitrary.)

Obviously I must have made some sort of mistake.  Which data series are the Democrats using to get so hysterical about real wages in America?

PS.  Or maybe I misunderstood the complaint.  Maybe the left thinks average real wages are fine and that inequality is the problem.  In that case workers making more than average (more than $20.80/hour) should see their wages cut while those making less than average should see their pay increase.  Good luck with that platform, given that a sizable chunk of low wage workers are non-voting teens and immigrants.

PS.  Evan Soltas is back blogging, and has some very interesting new posts, including one on wage compression.  Soon I’ll discuss his post on the cost of holding currency.