Michael:

I don’t know about you, but I keep reading articles and op-ed pieces that earnestly suggest that taxation has no particular effect on the amount of work or the amount of risk taking in an economy. (The authors of these articles seem quite happy about this disconnect. It seems to promise them that we can raise taxes through the roof without, er, killing the goose laying the golden eggs.)

As an extremely lazy individual, this notion has always struck me as dubious. I find my own motivation to work very much affected by how much I expect to earn and keep. Hence I noted with interest a research paper published by Edward C. Prescott of the University of Minnesota and the Federal Reserve Bank of Minneapolis, “Why Do Americans Work So Much More Than Europeans?” (You can read Professor Prescott’s paper here.)

Professor Prescott notes that in 1993-1996, Americans aged 15-64 racked up 50% more hours working in the market sector than did their French counterparts. He also notes that this was not true in the 1970s, when the French worked more hours than did Americans. In fact, the number of work hours per individual in many of the G7 countries changed markedly over that same stretch. The good professor was puzzled by the size of these shifts, but noticed that there had also been significant increases in the tax rates in Germany, France, Italy, Japan and Canada over those same two decades. To see if the tax increases were the cause of the labor market fluctuations, Professor Prescott built what he terms a “standard” macro-economic model to investigate the impacts of these tax changes on household decisions to choose work or leisure time. A model of this nature involves, of course, a significant number of simplifications over the real world; one of these simplifications is a way of representing all marginal taxes on labor with a single number. As Professor Prescott explains:

The labor and consumption tax rates can be combined into a single tax rate [T], which I call the effective marginal tax rate on labor income. It is the fraction of additional labor income that is taken in the form of taxes holding investment, or equivalently savings, fixed.

But even such an economics-challenged individual as I didn’t find it too hard to see a relationship between the professor’s [T] tax rates and hours worked between the various G7 economies in the 1993-1996 period. The relationship, in fact, appears to be virtually linear:

For the curious, the dots on the graph from left to right are Japan, the U.S., the U.K., Canada, Germany (above), France (below) and Italy.

So much, in short for the op-ed writers’ notion that higher marginal (i.e., “next-dollar”) tax rates have no impact on the amount of time and energy the population puts into productive labor…or, as Professor Prescott notes, into labor in the taxed “white-market.” (He notes that what is termed “leisure” in the OECD accounts often amounts to untaxed “black market” or “off-the-books” work.) The impacts are clearly significant.

The professor’s model suggests, by the way, that very high tax rates (like those observed in Italy, Germany and France) aren’t even necessary to fund the welfare states of those countries, and, in fact, by reducing labor market participation, impoverish their citizens. He explains:

If France were to reduce its effective tax rate on labor income from 60 percent to the U.S. 40 percent rate, the welfare of the French people would increase by 19 percent in terms of lifetime consumption equivalents. This is a large number for a welfare gain. This estimate of the welfare gain takes into consideration the reduction in leisure associated with the change in the tax system and the cost of accumulating capital associated with the higher balanced growth path. The reduction in leisure is from 81.2 hours a week to 75.8 hours, which is a 6.6 percent decline in leisure. I was surprised to find that this large tax rate decrease did not lower tax revenues. [emphasis added]

Hopefully a lesson for the U.S. as a generational crisis of public finance approaches.

Cheers,

Friedrich

My goodness, I didn't even know such a debate existed!! Although in a way I am surprised at the relationship between "hours worked" and "tax rates" as opposed to "capital put at risk" and "tax rates." I mean, if the huge tax rates in Germany and France are used to support a lot of public sector services for employees---health care, housing subsidies, gasoline subsidies, cheaper car insurance--then the amount a French worker bee gets to "keep" is inaccurately portrayed simply by looking at after-tax income as reported by dollars (of Francs) on a paycheck. They get much more than that. But, if, to get those services, a worker bee simply doesn't have to work that many hours, and if, working more hours, they get NO MORE services, then I can understand the relationship.

This gets back to Michael Blowhard's hated concept---marginal value and marginal cost. If working more hours just means I have fewer hours free (and if "free time" is important to me), and get nothing more in terms of "value" as I define it, then of course that is the point at which I stop working.

Which is why the latest move in Congress to limit "overtime pay" seems so shocking to me. The reason people put in overtime (rather than just making the employer hire another body, whether he/she really needs another whole body or not) is BECAUSE THEY GET PAID FOR IT. And how could Congress or the White House think they can decide better than the employer at what point it works more efficiently to pay overtime rather than not?

Posted by: annette on October 24, 2003 9:34 AM

Annette:

Professor Prescott's model appears, as best I can tell, to incorporate public sector expenditures and their ability to substitute for private wages. I note, in passing, however, that the existence of such benefits is not contingent on working in the "white market" (i.e., taxed) market, or working at all. Hence, people facing high marginal rates are given a strong incentive to free ride.

As for overtime pay, I think the dispute is about at how many hours of work over what period of time constitutes "overtime," thus making it mandatory to pay people overtime wages. Under some definitions overtime is anytime over 8 hours in one day; under others overtime is any time over 40 hours per week. Irregular work patterns will yield different results under these definitions. I, however, like you, wonder what national legislators are doing grappling with such issues.

Posted by: Friedrich von Blowhard on October 24, 2003 10:28 AM

One question that was not asked (as far as I could tell) is whether more hours worked=good for economy. Do the economies of France et al suffer--ie, does quality of life for its citizens suffer-- for the lower numbers of hours worked? Or is that a debated issue?

I am assuming that US productivity is higher than the countries in question---but is productivity an unmitigated good? Given that resources/sustainable population do have ultimate limits (whatever they may be), at what point does an economy's "productivity" begin to have negative effects?

Posted by: emjaybee on October 24, 2003 12:11 PM

I will admit to being somewhat confused. What is meant by the following?

the welfare of the French people would increase by 19 percent in terms of lifetime consumption equivalents.

As far as I can tell, it would mean that the French would work more hours so that they could consume 19% more stuff. By this measure, I assume that if we all worked 160 hours a week, we'd be in utopia...

The trouble (as with much of economics), is that money is the only metric that is measurable. Human happiness has nothing to do with it, although we generally assume that consumption = happiness. This is true to a certain extent, but eventually falls down.

I don't know, I tend to look at the far end of the scale and wonder: "Life is certainly acceptable in those places. How do they do it while having so much more time for family and friends?"

Posted by: Tom West on October 24, 2003 12:19 PM

Mr. West:

I would agree with you, but the good Professor's theory strongly suggests that (1) those people aren't enjoying family and friends, they're probably working off the books, and (2) that they would work more (in the taxed, "white" market), in order to consume more, but they are being discouraged from doing so by high taxes. In essence, stupidly high marginal taxes are preventing people from working, which is an odd way to promote a gracious lifestyle. Moreover, note the tradeoff Professor Prescott proposes: a lot more consumption for a little less leisure...and NO reduction in public sector goodies. Sounds like a tradeoff a lot of Frenchmen and women would make IF GIVEN A CHANCE.

Posted by: Friedrich von Blowhard on October 24, 2003 2:03 PM

Emjaybee:

Actually, French productivity is higher than in the U.S., so if productivity is inherently a sin, the French are more guilty of it than the Americans.

And I don't understand your distinction between "good for the economy" and "quality of life." Where do you think the consumable part of a high quality life comes from?

As I mentioned above, I'm also not telling Frenchmen they should work more. I am pointing out that high marginal tax rates effectively make a good deal of work that Frenchmen might otherwise choose (on their own hook, no coercion) to perform, irrational, because it doesn't pay. In short, high taxes are a distinct infringement on the freedom of Frenchmen, and others, to choose how to spend their time. Do you have something against French people being free to make such choices?

Posted by: Friedrich von Blowhard on October 24, 2003 2:10 PM

"I was surprised to find that this large tax rate decrease did not lower tax revenues."

Dude, where's my Laffer Curve? Now the funny thing about the oft-mocked Laffer Curve is that everyone, if pressed, will agree that it exists; clearly 100% taxation does not optimize tax revenue. The only quarrel is about its shape. Does Professor Prescott realize what kind of ammo he's providing to these discredited supply-side zealots?

Posted by: Aaron Haspel on October 24, 2003 3:21 PM

Mr. Haspel:

I actually tried to think of a title that referenced the Laffer Curve for this, but couldn't get there late last night. Prof. Prescott absolutely seems to be suggesting that the French are way past the optimal point, tax-wise.

Posted by: Friedrich von Blowhard on October 24, 2003 3:26 PM

Per Friedrich:

"Actually, French productivity is higher than in the U.S., so if productivity is inherently a sin, the French are more guilty of it than the Americans."

So your point is not about productivity, but profit, I assume? Just to clarify...the French want to work more so as to make more money/be able to purchase more goods, and high taxes discourage this, correct?

"And I don't understand your distinction between "good for the economy" and "quality of life." Where do you think the consumable part of a high quality life comes from? "

My apologies for being unclear. What I meant was, is the high-tax situation in France making its economy sluggish and preventing its citizens from doing work they wish to do and making a decent living at it? I am no economist, so I don't know how the economic situation in France compares to that in the US, overall. You answer part of that below...

"As I mentioned above, I'm also not telling Frenchmen they should work more. I am pointing out that high marginal tax rates effectively make a good deal of work that Frenchmen might otherwise choose (on their own hook, no coercion) to perform, irrational, because it doesn't pay. In short, high taxes are a distinct infringement on the freedom of Frenchmen, and others, to choose how to spend their time. Do you have something against French people being free to make such choices?"

I have nothing against anyone being free to make such choices. Please don't put such assumptions on me! I would not even argue that reducing the tax rate down could benefit French citizens without endangering the services they depend on. If that's possible, then it should be done.

But the post originally seemed to be making the point that more hours worked was a good thing, not that the *freedom* to work more hours was a good thing.

I guess I'm not really sure that the issue is "hours worked" at all, but money retained. If the French could just keep more of their earnings, why would it matter how many hours they worked?

I think we work *too many* hours here in the US, not because we want to, but because we have to; I think our quality of life suffers quite a bit. There is plenty of middle ground between an overtaxed French economy and an overworked American one, and I was concerned that there seemed to be a false "either/or" being set up here. Thus my questions.

Posted by: emjaybee on October 24, 2003 4:33 PM

emjaybee:

Sorry if I was unclear. This subject matter of this post radiates out in so many different directions that I'm having trouble keeping track of them.

Posted by: Friedrich von Blowhard on October 24, 2003 5:47 PM

I think we work *too many* hours here in the US, not because we want to, but because we have to; I think our quality of life suffers quite a bit.

As many people have pointed out, happiness with our worldly goods is pretty much a function of what's around us. None of us are mooning about not having a 3-D TV, but once our neighbours have one, we'll be less happy if we don't have one.

What if lowering the tax rate makes the French work more (because now they keep more of their money) and get more goods. But because everybody has the new goods, nobody is happier for it.

Instead, they have less free time (and are thus unhappier) and the goods don't increase happiness as they thought they would. Even worse, going back to your old schedule also makes you less happy (because everyone has goods but you). Strange, this started out as a near joke, but now I'm not so certain...

Posted by: Tom West on October 24, 2003 6:53 PM

Happiness may not be a good reason to pursue material wealth, but health, longevity and the ability to successfully raise children sure seem to be aided by it. Discussions of "happiness" are, ahem, rather fuzzy and difficult to conduct to any purpose, as what everyone is talking about varies. As you may have noticed, this 'blog often takes an evo-bio approach to the world, and as far as I have observed, evolution has never attempted, for obvious reasons, to create a surpremely happy creature. You may not share this point of view, but at least Darwinian theory can be discussed with a high degree of logic. Until we come up with a widely shared and tightly defined "goal" which we can associate with happiness, I suspect people will continue to pursue goals which are capable of such concrete definition. Hence, they will continue to devote the bulk of their waking hours to piling up wealth, pursuing sexual partners, raising kids and reading 'blogs on the Internet.

Posted by: Friedrich von Blowhard on October 24, 2003 7:25 PM

Does evolutionary fitness increase with increasing wealth after you hit middle class? It's certainly not good for your health or your children's well-being to be poor (statistically speaking), but I can see a number of factors that might make being quite wealthy correlate negatively with health and children.

Great, now I'm curious. Where the heck would I find statistics on that?

Anyway, this leads to the next question. What if the push to earn more stuff even if it makes us less happy *is* a biological imperative? Is it a bad thing if the government has enacted policies that (probably unintentionally) make the populace happier?

Is such a policy much different from the government discouraging the natural evolutionary impulse for boys and girls to have children at 16? And what about policies that discourage people from eating high-fat foods?

It seems that governments are already steering the public away from biologically imperatives. Maybe France is on to something.

Posted by: Tom West on October 24, 2003 8:53 PM

I took macroeconomics this summer, and as I understand it, the theory goes something like this: the Europeans get a higher portion of their incomes taken away in taxes - but their incomes are much more evenly distributed. That 19% the prof talks about is NOT evenly distributed across the entire working population. In the US, we have a lower tax rate (although the very rich here pay a much, much higher percentage rate of taxes than anywhere else) but our incomes are nowhere near as evenly distributed.

Not having read the article, I wonder what the good professor thought about laws in countries like Germany where constant unemployment is a problem - there, as in many other European countries, laws exist limit the work week, so as to force employers to hire more people. In fact, US companies are often shocked at the difficulties found in firing workers in the EU. EU employes have enviable job security - even in the private market.

In addition, I see no mention of the fact that the US economy grows substantially faster than most EU economies, and those effects are compounded over decades.

BTW, the book was Economics: Principles and Policy, Ninth Edition by William J. Baumol, Alan S. Blinder - who seem to have some pretty impressive creds. http://www.econ.nyu.edu/dept/vitae/baumol.htm
http://www.nber.org/vitae/vita096.htm

Now, granted the textbook industry is embarassing, but I figure seeing as how it's a college textbook, and there are only two authors listed, and it's in the 9th edition, it must reflect the authors ok.

Posted by: Courtney on October 24, 2003 10:00 PM

Courtney, the difficulty in firing in bad times is the direct reason why EU companies don't hire more in good times, and hence why their economies grow at a slower rate than in the US. The compounding you mention is a large part of why in the US we have things like 6.2% unemployment during a recession, a rate that the EU nations would be lucky to have in good times (ah the glorious effects of the dole!)

Posted by: David Mercer on October 25, 2003 3:24 AM

If you could legally work in whatever country you wanted, figuring out whether France or the US had the system associated with the highest utility for the most people would be pretty simple - look at whether people are on net moving from France to the US, or vice-versa. (Yes, there are fixed costs, such as family ties, that prevent many people taking advantage of slight differences in utility, but on the margin people shift).

Unfortunately not every American and French person can immigrate freely, but some can. So, if there is a net flow from the US to France that should up our assessment of how likely it is that the French system meets human needs better, and vice-versa.

So does anyone know some statistics on immigration flows?

Posted by: Tracy on October 25, 2003 6:43 AM

look at whether people are on net moving from France to the US, or vice-versa

An interesting idea, but not likely accurate. One, I suspect (no data here) that

• proportionaly far more French speak English than Americans speak French


• the US is economically and population-wise the dominant place for French emigrees to go


• exposure to the existence of the outside world is far smaller in the US than in France.

Canada faces an emigration drain to the US as well. Of course the right-wing blamed it on taxes, but interviews with the emigres made it clear that it was about opportunities. A country the size of the US simply had jobs that did not, and would never, exist in Canada. They emigrated for the same reason that people in Nebraska head to New York.

Posted by: Tom West on October 25, 2003 7:32 AM

Mr. West:

Of course the right-wing blamed it on taxes, but interviews with the emigres made it clear that it was about opportunities. A country the size of the US simply had jobs that did not, and would never, exist in Canada.

Are you sure the sole reason for people to move from Canada was to become left-handed widget handlers, or some other job category that Canada is too small to support? Did you see any solid data on what jobs the emigrants were taking in the U.S.? If I interviewed people emigrating and they said it was to pursue greater opportunity, I wouldn't automatically rule out the notion of lower taxes in their destination country. Moreover, perhaps the lower tax rates have a causal connection with the greater opportunity being sought.

Posted by: Friedrich von Blowhard on October 25, 2003 5:34 PM

"the direct reason why EU companies don't hire more in good times, and hence why their economies grow at a slower rate than in the US. The compounding you mention is a large part of why in the US we have things like 6.2% unemployment during a recession, a rate that the EU nations would be lucky to have in good times (ah the glorious effects of the dole!)"

Actually, I didn't find that economic growth depended on the number of people hired anywhere that I recalled in my textbook. And I'm fairly sure that the compounding rate of economic growth has no direct affect upon our unemployment rate. At least according to the textbook authors.

If I felt better this evening, I'd go dig out the book. Maybe tomorrow.

Posted by: Courtney on October 25, 2003 6:01 PM

Well, in the Canadian (and I would presume the French) case, it's generally called a "brain drain" for a reason. It's not that you are necessarily looking for an exact match ("left-handed widget handlers" indeed :-)), but there are more matches of what you are looking for. If I want to be an investment banker in the US, I strongly consider a move to New York. (Besides, statistically speaking, it's better to be poor in Canada.)

It's exactly the same phenomena as the rural to urban shift.

Lower taxes may make some difference to possible emigrants, but I will have to say that I am beginning to believe that the Americans are the most tax-obsessed people in the world. They seem to take taxes personally on a level I've never seen anywhere else, and they are more convinced than any other population that the money spent on taxes is all being wasted. Of course, this is all entirely personal observation.

(I also suspect this is related to the lack of a national health care in the US - it's one big thing that every Canadian knows is paid for by taxes, and most can't imagine living without. No taxes = no health care)

[Canadian stereotyping ahead] And yes, I know Americans aren't without health care, but Canadians are a pessimistic lot. Lose one's job, major illness, and it's game over. Far too scary for us conservative Canadians.

Posted by: Tom West on October 26, 2003 8:39 AM

I think it's in the genes, Tom. Remember, taxes are the principal reason we booted the Brits out. To have come to America and fought the revolutionary war, you pretty much had to hate taxes. It may be the one common ingredient in the "melting pot."

Posted by: annette on October 26, 2003 9:48 AM

I'm no economist (didn't even take macro), but seems to me that, despite high unemployment and high taxes, Western Europe may have a better quality of life than the U.S. If we can't measure happiness (sorry Mr. Bentham), surely we can measure health. Thanks to socialized medicine, those folks (and the Japanese) live longer, healthier lives. Another measure (for good measure): education. Personally speaking, I'd trade a bit of U.S.-style B.S. "freedom" and "opportunity" for some good old euro-style equality, economic security, and quality of life (think long summer vacations, folks). The culture Megamillions is a sick joke.

Posted by: Tim on October 27, 2003 1:26 PM

Tim:
"Thanks to socialized medicine, those folks (and the Japanese) live longer, healthier lives. Another measure (for good measure): education"

That's two strange sentences. For one, I seriously doubt that people live longer thanks to *socialized* medicine. They may live longer because they eat better, or rest more, or something else, but certainly not because of socialized medicine. China, USSR, and other countries also have socialized medicine so that seems a pretty weak argument.

As far as education goes, far more Americans have college degrees than Europeans. So I am not sure what kind of education you refer to, but you would have to provide some more meaningful numbers on that to make any kind of argument.

Finally, there is nothing stopping you from looking for a job in Europe and moving there. Really. This is not a rant on "you do not like it here - get out, just an observation. I know some folks who have done just that and are happier for it. And I know folks who have moved here because they feel there *is* a lot more opportunity for *them* here. Why not give it a try if you really think it would be better.

ps. You can also have long vacations in the US. All you have to do is start a successful business and manage it well. Or work for the government long enough. :)

Posted by: Con Tendem on October 28, 2003 10:16 AM

You can also have long vacations in the US. All you have to do is start a successful business and manage it well.

Really? My experience is that the only person who takes less vacation than an unsuccessful business owner is a successful business owner. I've known a few people who've sold their successful businesses just so that (after 10 years or so) they *could* take a vacation :-) (I suspect what often makes a small business person successful is also what makes them unable to trust someone else with their business...)

Posted by: Tom West on October 28, 2003 10:48 AM

Tom:

I was semi-joking, hence the smiley at the end. On a more serious note: in the end they did take a vacation after 10 years. and a long one. and one with all the trimmings, right? In my opinion the chance, the ability to make something like that happen, is what economic freedom and opportunity is all about. Ideally, one would be able to choose between safe jobs with good benefits and zero chance of real income growth and high-risk self-employed strategies. As it is, US offers more of the latter and France (let's say) more of the former. Both offer primarily dead-end jobs with not-such-greats benefits.

I imagine that if nice cushy jobs were widely available in the US (and risk was better rewarded in France) people would do a lot more moving around, spending a couple of years trying to build a business or work in a start-up then rotate out to take a breezer for a few years. Repeat as needed.

Posted by: Con Tendem on October 30, 2003 2:58 PM






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