The Hidden Increase in Capital Taxation

The taxation of business income is now increasing significantly, without any action from Congress.  The increase can be understood as two forces acting through one simple formula.

For tax purposes, depreciation is a statutory time path of deductions from a business' taxable income for each dollar invested in a real asset.  The path is called "depreciation" because the undiscounted present value of that time path is equal to one.  That is, 100 percent of every dollar invested will someday be available as a deduction.

One simple formula representing two shocks: D/(D+R)

An important reason that business-income taxation distorts investment is that business owners  evaluate time paths at a discount rate R > 0.  Therefore, in present value, only a fraction (z, in the usual notation) of investment is deductible from taxable income.

With constant depreciation (D) and discount (R) rates, z = D/(D+R) <= 1.  This simple formula captures two things going on right now in the U.S.: the sunsetting of TCJA's bonus depreciation and inflation.  (The former is specific to the U.S. but the latter is relevant for those nations that also tax business income while allowing depreciation deductions).

TCJA allowed the expensing of some investment, which makes z = 1 (think of expensing either as R = 0 or infinite D).  Expiration of expensing pushes z below one.

The depreciation schedule is a nominal time path; depreciation allowances are not indexed for inflation.  Therefore the appropriate discount rate R is a nominal interest rate.  Clearly nominal interest rates have increased over the past year and a half (inflation!), which reduces z in all but the expensing case.  Indeed we can ignore the expensing case if we take the sunsetting first and then add in inflation.

Quantitative results

In order to translate reductions in z into increases in the effective real price of investment, I use a special case of the Hall-Jorgenson formula, where the pre-tax real price is inflated by the tax factor (1-tz)/(1-t) <= 1, were t is the statutory rate of taxation of business income (Cohen, Hassett, and Hubbard consider the more realistic, but also more complicated, cases).  The equality holds only when z = 1 (i.e., expensing).

The chart below shows the relation between the nominal interest rate R and the tax factor.  We start close to the origin with low inflation and bonus depreciation.  Sunsetting by itself moves off the origin to (pre-inflation) R of, say, 2-3%/yr.  That is about a 7 percent increase in the real price of investment.

Next inflation increases R.  So far annualized R appears to have increased about 2 percentage points although there are concerns that it could increase more (presumably it would increase close to 1-for-1 with inflation if inflation were expected to be permanent).  That increases the real price of investment another 4 percent or so.

Inflation further increases the real price of investment due to personal income taxation, especially to the extent that personal income is taxed at higher personal rates than business income is.  On the other hand, the sunsetting of expensing is not relevant for structures because they did not get bonus depreciation.  So perhaps all three effects combined increase the price of investment 15 percent, with about half specific to TCJA.

Oil and gas

Oil and gas extraction is particularly capital intensive.  Using a capital share of 71 percent, that suggests an 11 percent shift (upward) in the marginal cost for that industry, with about half due to TCJA subset and therefore not shared by foreign producers of oil and gas.

Comparing the period of the Biden presidency (Feb 2021 - Feb 2022, which is latest available) to 2018-19, inflation-adjusted world oil prices have increased 20-25 percent while US O&G industry marginal cost has shifted up 11 percent.  That by itself would blunt much of the supply response.  Then add:

• new threats of federal energy and banking regulation,
• threats to increase the statutory rate on business income, and
• the effects of ESG investing that increasingly stigmatizes investment in fossil fuels,

and it should be no surprise that U.S. supply hardly responded in 2021 to high oil prices while suppliers in Canada, Russia, China, Norway, and even OPEC did.

3rd release of Build Back Better: 7 million less employment

Last night a third release of BBB was shown to the public.  Both in pages and overall economics, it is in between the 1st and 2nd editions.

First-release items resurrected yesterday

• Repeal of Trump's terrible rebate rule (Section 139301).  It is likely illegal so repealing it does nothing but CBO probably will credit Dems with cutting about spending by about $200B with this provision.
• Drug "Price Negotiation Program" (Section 139001).
• Rx "Drug Inflation Rebates" (Section 139101).
• Favors to labor unions such as allowing union dues to be tax deductible (Section 138514) and giving the National Labor Relations Board new authority to levy hefty penalties on employers (Section 21006, which was also in previous releases).  
• E-cigarette and tobacco taxes (Section 138520).
• Federal family leave (Section 130001).

Important items maintained from the 2nd release

• Affordable housing (still $150B across various sections such as 40001ff).
• Expanded ACA premium tax credits (Sections 137301ff).
• New federal childcare (Section 23001) and preK programs (Section 23002), including massive hidden taxes on marriage.
• Child Tax Credit expansion (Section 137101ff).
• Partial launch of the Green New Deal (various sections such as 136001ff).
• Medicaid expansions (various sections).
• Privacy regulation (Section 31501).

New item: Increase annual cap for deduction of State and Local Taxes (SALT) from $10K to $72.5K (Section 137601).  About 8 percent of filers are affected by this.  I guess that about 6 percent of filers are workers who would go from a binding cap to a nonbinding cap.   For such people, IF the federal and SALT rates remain constant, the overall marginal tax rate on labor income falls.  This is my assumption for the table below, but I note that lifting the SALT cap encourages states to increase SALT rates (for everyone, not just the 8 percent) and discourages states from cutting rates.  Moreover, the additional SALT revenues from those rate changes may well be spent on programs that pay people not to work.

This table shows 14 BBB provisions with significant hidden effects on incentives to work.  (My earlier post provides more detail on those incentives).  The final column of the table shows an estimated impact of these hidden incentives on FTE employment, allocated among the 14 provisions.  This does not include any employment effects of funding BBB with income taxes on households (Sections 138201ff) and businesses (Sections 138101ff).

Revised Build Back Better: Cliffnotes

Hidden Work Disincentives

I had been tracking 13 types.  Three disappeared from today's revised bill.  The Medicaid expansions appear to be less.  Affordable housing was cut in half (still at $150B).  Dems once aspired to allow union dues to be tax deductible but that was cut.  Many other pro-union provisions remain.

The new childcare program has now replaced an income phaseout above 250% median income with a cliff.  This change from last month's bill to lastest draft has little effect on the average marginal tax rate because the same funds are being phased out over a narrower range.  I.e., a few people see very large additions to their marginal tax rate while others disincentivized with a phaseout now see no addition.

The "green energy" provisions have a lot of producer-protectionist elements in them, which add to the labor wedge much like excise taxes do.  However, the green energy provisions were scaled back in today's revision.

The Obamacare expansion (pp. 1458ff) is a bit more aggressive than last month's BBB bill.  The revision stops indexing -- ie health insurance gets more expensive over time and it is 100% taxpayer problem rather than plan members'.

My summary of marginal-tax-rate and employment effects are shown in the table below.  More derivations are available in my report although that report refers to last-month version.

Hidden Marriage Disincentives

Replacing the childcare phaseout with a cliff increases the (already remarkably large) marriage disincentive because even a father with moderate earnings will, if he joins the family, push them beyond the range of eligibility.  I.e., the family with married parents will likely be paying full price.  The various, and extreme, provisions to inflate the full price of childcare remain in the revised bill.

Pharma scores two wins

The news came out early that this bill would not have prescription-drug price controls.  But it also allows Trump's terrible rebate rule to continue.  Even Biden was expecting the revised bill to contain a repeal, with much savings in corporate welfare that could be put toward "transforming America."  Should I start calling it "Biden's terrible rebate rule"?

Employers are still the enemy

The revision maintains the directive for OSHA to increase employer fines by at least 10X (Section 21004).  Among other things, a private-sector employer with an unvaccinated employee on the payroll will be punishable by a fine of up to $1,365,320 PLUS up to $136,532 per day that employment continues (yes, $51 million per employee per year; note that the statute dictates specific amounts and that the amounts be annually indexed).  This far exceeds the social cost, if any, of employing such a person.

However, revised bill does not mandate employers to provide retirement accounts.  I am expecting this onerous mandate to show up in the new retirement bills introduced this week in House and Senate, but for now this element of freedom remains in employer-employee relations.

Childcare in "Build Back Better"

Because childcare is said to be a highlight of the “Build Back Better” bill, I read through the bill and made notes here as to childcare provisions and some of their economic incentives, aside from the obvious that new spending must someday be financed with taxes.  You will be surprised at the disparity between what the bill incentivizes and what we're told it will do.

[For provisions less related to childcare, see my earlier summary.]

Section 23001 of the "Build Back Better" bill would use the Obamacare mold to create a federal childcare program.

• Low-cost (a.k.a., "low quality") childcare would be prohibited unless the provider were to forgo all federal dollars, which would involve something like having zero children from a family at or below $200K annual income.
• Childcare workers would have to be paid as much as elementary-school teachers.
• According to the Bureau of Labor Statistics, elementary school teachers earned an average of $63,930 annually in 2019.
• The same BLS data show childcare workers earning an average of $25,510.  I.e., under BBB childcare would have to pay them 151% more.
• A 151% increase is similar to the increase in individual health insurance premiums that occurred when Obamacare came into effect.
• See also Section 132002f (which appears to be eliminated in the Nov 3 revision).  Complying with all of these statutes, certifications, and the implementing final rules will add administrative costs to childcare.  E.g., just as physicians today complain about paperwork taking away from their real job, so will childcare providers under BBB.
• Much of the extant supply of childcare is provided at a church or other faith-based location, but federal funds for expanding supply cannot be used there (this prohibition is about 80% of the way through the long Section 23001).  The result will be creating supply at locations that could not otherwise pass the market test because they are too costly or offer insufficient quality (by parents' assessment).    
• When quality regulation was tried in Quebec, the results were opposite of advertized intentions:
• there were “increases in early childhood anxiety and aggression”
• “there was a large, significant, negative shock to the preschool, noncognitive development and health of children exposed to the new program, with little measured impact on cognitive skills.”
• “worse health, lower life satisfaction, and higher crime rates later in life.”
• HT Ryan Bourne
• Families would pay on a sliding scale.  i.e., earning more means paying more for the same childcare.
• Above 150% median family income ($102K annually), the implicit marginal tax rate would be 7% until the benefit is exhausted.
• For a family with two children, they would face the 7 percent rate until income was beyond $400K
• Between 75% and 150% median, the implicit marginal tax rate is about 14 percent.
• The sliding scale is based on HOUSEHOLD income: the implicit marriage tax could easily be $20K per year that a couple has children under age 5.  [this is not the only marriage tax in BBB]
• The unintended (?) consequences do not stop there.  Adding to the pool of "deadbeat dads" further discourages work because of the "overhang" (an economics term) of mounting child support debt.  As a UWisconsin study put it, "greater debt has a substantial negative effect on both fathers’ formal employment and child support payments."  See also this article.  
• For most families, the childcare costs of having additional children 0-4 would be zero.  This will affect the number and spacing of births , and by this channel could reduce employment of mothers.  Also incentives to keep cousins in the household.
• Although there are loopholes, child eligibility requires a parent to be employed (part-time is OK), self-employed, engaged in job search, job training, school, or on medical leave.  It’s OK if a second parent does no work (but see the marriage tax above).

Section 23002 creates a universal public pre-school program

• no tuition charged to parents
• applies to exactly two cohorts of children (age 3 and age 4).

Section 132001: Federal funding for childcare information services (i.e., finding childcare).  Less than 1/1000th of the funds spent in Sections 23001 and 23002.

Sections 137102f: Expanded Child Tax Credit (CTC).  See here for a detailed analysis of how the expansions discourage work, especially among single mothers.

Section 137201: Expanded Child and Dependent Care Tax Credit (CDCTC, not to be confused with the CTC).  This credit is tied to employment.  On the other hand, it is phaseout with income.  Therefore its net effect on national employment (not counting the tax increases that will eventually be needed to pay for it) will be less than the effects cited above.  Section 137202 is a similar provision administered on the employer side, but is not phased out with income and therefore expanding it is more likely to encourage work.  However, this provision is apparently rarely used by employers: see CBO's revenue score from the American Rescue Plan, which had the same provision except on a temporary basis.

Section 137301: a per-employee business credit of up to $5,000 annually is available for operators of childcare facilities (I don't think a household employing a nanny would count).  This might, to a small degree, offset the higher wages that such facilities would be required to pay (recall the 151% increase cited above).   [This was eliminated from later drafts]

Build Back Better's Hidden but Hefty Penalties on Work

Largely by stepping toward an economy in which workers bear the burden of distributing healthcare and housing with little regard to ability or willingness to pay, the Build Back Better bill (BBB) would implement the single largest permanent increase in work disincentives since the income tax came into its own during World War II.

The bill would also reduce work by limiting competition in the labor market, imposing employer mandates, and increasing consumer prices for telecommunications, energy, and other products.   All of these disincentives go on top of those already in the baseline due to a continuing portfolio of federal, state, and local tax, spending, and regulatory policies.

The implicit employment and income taxes in BBB would increase marginal tax rates on work by about 7 percentage points.  I expect that such a change in the disincentive would reduce full-time equivalent employment by about 4.5%, or about 7 million jobs. 

Penalizing Work and Hiring

The disincentives are delivered through two fundamental economic mechanisms.  First and foremost is the creation and expansion of employment-tested benefits.  Full-time employment is a major barrier to participating in the programs, even if that employment does not produce much income.  Especially, BBB allows even America’s highest-income households to participate in subsidized “Obamacare” insurance plans as long as they are not engaged in any job that offers health insurance.  For most full-time workers, their employment status by itself excludes them and their family from the additional Obamacare subsidies delivered through BBB, especially its sections 137501 and 137502.

[Some employers will respond to BBB by dropping their coverage, but from an employment-incentive perspective this only changes the form of the full-time employment tax to the Affordable Care Act’s (ACA’s) employer penalty for not offering coverage.  The salary equivalent of that penalty is almost $4,000 per full-time employee per year].

Family medical leave is another benefit tied to not working.  Section 130001 is quite explicit that eligibility requires a caregiving activity “in lieu of work, other than for monetary compensation.”   Family medical leave is a cash benefit paid in proportion to the number of hours of such caregiving.  [Presumably the beneficiary could not both engage in a normal work schedule and claim such caregiving activities, but the details would be the subject of future executive-branch rulemaking.  If double-dipping were rampant, this would raise expenditure on the program thereby requiring additional taxation that would itself discourage work.]

BBB also creates and expands employer mandates, with compliance enforced with penalties that are proportional to employment, regardless of how rich or poor the employees may be.  An example of a proportional employer-penalty scheme is BBB’s new requirement to administer IRA deductions from employee paychecks, with all employees enrolled by default.  The penalty for non-compliance is $10 per employee per day (Section 131101), which is similar in magnitude to the ACA’s penalty for failing to provide health insurance.

Section 21004 increases penalties on employers for failure to comply with federal occupational safety, health, and labor-standards requirements.  The increases are tenfold or more.  For example, the penalty for a large (100+) employer to employ an unvaccinated person is between $50,000 and $700,000 per violation and an additional $70,000 per day, all rescaled for the inflation adjustment prescribed in the statute.  This could amount to $51 million (sic) for every year that each unvaccinated person remains on the payroll.

These and other parts of BBB further reduce employment by suppressing competition in the labor market.  Such provisions seek to prevent non-union workplaces, which are almost 95 percent of all private employment, from distinguishing themselves from unionized workplaces.  Others put nonunion workplaces at an outright disadvantage.  [The labor union movement, of course, is an attempt to restrict or monopolize the supply of labor in order to extract higher employee compensation.]  Section 138514 would allow union dues to be deductible from federal income tax, putting about $400 million per year on the union side of the economic scale.  Other sections, such as 132002, target “infrastructure grants” to “labor unions and other employers … that pay the prevailing wage.”  Section 136401 creates a credit for the purchase of an electric vehicle that “satisfies the domestic assembly qualifications” (that is, unionized).

 

Penalizing income

The second mechanism is income-tested benefits, which discourage the earning of income by withholding benefits as a household’s income rises.  For example, Section 136407 creates a tax credit for 15 percent of the price of the purchase of an electric bicycle, but the credit is reduced $0.20 per additional dollar earned by the household.  More important, from an aggregate perspective, are the various additions to major income-tested programs such as Medicaid, “affordable housing” and the Child Tax Credit.  By my count, the various new affordable housing subsidies in BBB exceed $220 billion over ten years [two days after I wrote this, CBO estimated $312 billion].

Other provisions are, legally or economically, new excise taxes.  These discourage work by reducing real wages, especially to the extent these policies raise consumer prices by protecting incumbent producers.  A major example is section 31501, which directs the FTC to further enforce “privacy” rules that are effectively prohibitions on lower cost internet plans.  When President Trump and the 115th Congress repealed such prohibitions, the cost of internet service dropped so sharply and immediately that the consumer savings drew the attention of then Federal Reserve Chair Janet Yellen due to its visible effect on the overall Consumer Price Index.  This shows why we can expect higher prices for internet plans under BBB.

A plethora of “green policies” have a similar effect on prices of transportation and energy, such as taxes on methane emissions (Section 30114), subsidies to rural utilities (Section 12007), and green electricity programs (Sections 30411, 136101).  Undoubtably the BBB will be sold as a windfall for the poor, but all of the bill's explicit and implicit excise taxes are particularly regressive.

 

Projected Employment Effects

The magnitude of BBB’s disincentives for work and hiring varies across households and firms.  They also vary by margin of response, such as adjusting work schedules, the duration of employment, or the duration of nonemployment.  Properly measured disincentives also reflect the reality that benefit takeup is typically well below one hundred percent.  I estimate that, on average, BBB implicit employment and income taxes would add almost seven percentage points to the marginal tax rate on labor income.  At least another two percentage points would someday be required to finance its projected $220 billion contribution to the annual federal budget deficit.

These disincentives are on top of the many other taxes on income, payroll, and sales; other implicit and explicit employment taxes; and longstanding income-tested benefits.  Even ignoring the additional financing, the disincentives would reduce the share of marginal product kept by the average worker from about 0.52 to 0.45, which is a reduction of about 13 percent.  I expect that such a change in the disincentive would reduce full-time equivalent employment by about 4.5%, or about 7 million jobs.  Perhaps employment would prove to be more sensitive to incentives, as it did during the 1990s welfare reform (see also the update below), or less sensitive, but 7 million is a good point estimate.

I estimated the 7 percentage points by aggregating the disincentives in the various sections of BBB.  The largest is the expansion of subsidies for Obamacare exchange plans.  Using the same methods as Mulligan (2015), I estimate that these subsidies by themselves add almost three percentage points.

For the employer IRA mandate, I estimate 0.5 percentage points, which is the average result from two methods.  One method is from Council of Economic Advisers (2019) analysis of the removal of an IRA mandate.  The second method is, based on the Harberger triangle method, to take half of the penalty and apply it to the 33 percent of workers who do not currently have pension coverage through an employer.

Although the BBB’s expanded Child Tax Credit (CTC) has received much attention, I do not find that it adds much to the marginal tax rate on labor income.  The CTC expansion removes a negative tax on labor income, but that applies only below the poverty line and is offset to some degree by expansions in the Earned Income Tax Credit.  The CTC creates a new five percent phaseout range, but my estimates from the Current Population Survey suggest that less than five percent of nonelderly persons aged 21-64 are in a household that with 2019 incomes that would be in that range.  I therefore estimate the expanded CTC’s contribution to the marginal tax rate increase to be only 0.24 percentage points.

For several other provisions, such as the Medicaid expansion in states that opted out of the original ACA expansion, the new Medicaid home and community-based programs, and affordable housing, I assume that each dollar budgeted in BBB translates into the same contribution to disincentives as each dollar expected to be spent on the expanded subsidies for exchange plans.

I assume that the effects on restraining competition in labor markets are the same as Council of Economic Advisers (2019) found for four Obama-era regulations intended to bolster unions (the Fiduciary rule, the Persuader rule, and two joint-employer rules).  I assume that the Green Energy components of BBB contribute one-fifth to the labor wedge of what Fitzgerald, Hassett, Kallen and Mulligan estimated for Biden’s campaign promises regarding renewable energy.

Many of the details of the BBB programs will remain unknown until it becomes law and executive agencies issue their rules for administering them.  Although I assume that benefit takeup is well under 100 percent, I may still have overestimated it in which case BBB would be more of an adverse productivity shock and less of a work disincentive.

[Adverse productivity shocks tend to have comparatively small employment effects and large adverse effects on wages, capital investment, and living standards.  As such, they have a lot in common with BBB’s prescriptions for higher marginal tax rates on corporate and noncorporate businesses, which are not analyzed here.  I have also not yet quantified the disincentive effects of various unemployment-benefit sweeteners in BBB, such as the Section 137507 that makes exchange plans essentially free during any calendar year in which a person has unemployment compensation.]

[Update: Many economists studying the EITC and CTC give a lot of attention to the option of having zero earnings during a full calendar year.  It is a fact that BBB gives almost every parent a significant bonus for choosing that option.  I find this option to be hardly relevant for a large majority of adults, but another approach would be to conclude from welfare reform and EITC changes that low-skill single mothers will be very responsive to the BBB's new subsidies for zero work.  If so, perhaps I underestimate the national employment effect by a million or so.  Thanks to Kevin Corinth, Bruce Meyer, Matthew Stadnicki, and Derek Wu]

[2nd update: BBB reduces childcare costs for some families and increases it for others.  Most important for these purposes, the bill's new childcare subsidies introduce a new set of income phaseouts much like Obamacare did in 2014.  Including the various childcare/credit programs, I now project BBB's employment impact to be -9 million.]

As a younger Barack Obama put it (watch for about 80 seconds), "I am absolutely convinced ... we have to have work as the centerpiece of any social policy."]

Shoddy Executive Order Bears Fingerprints of Navarro and Krugman

An immigration Executive Order was issued two days ago.  I read it yesterday and gathered my thoughts and relevant memories over the subsequent 24 hours.

The EO contains immigration regulations and purported economic justifications for the regulations.

The EO’s economic justification is essentially that it is good to suppress labor supply during a recession.  I disagreed with such a conclusion when it was offered years ago by Krugman, Eggertson, and others.  The conclusion is just as wrong when it comes from President Donald Trump.

The empirical fact, which is not a surprise from a theoretical point of view, is that labor supply and demand matter just as much at the margin during a recession as they do during an expansion.  See Chapter 8 “Recession-era Effects of Factor Supply and Demand” of my 2012 book (a more recent JPE paper confirmed these results but I cannot find the link right now).  A recession is not an economic excuse for suppressing labor supply.

The faulty economic analysis I see in the EO sounds to me like Peter Navarro talking.  Hearing his voice now catches me a bit by surprise because, although he is a part of the populist story, his “rudeness, ignorance, and dishonesty” are well known from the President on down.  [I believe that Hassett, Mnuchin, Mulvaney, and Kudlow shot down such Navarro initiatives in the past, although I was not present at those meetings or even much involved with the prep.]

Suppressing labor supply is also poor public relations.  The employment and productivity numbers will come in lower than they would with a more market-oriented recovery.  (Only a couple of the Navarro stories were included in my 2020 book because they were a small fraction of my experience, and the President is a lot more interesting.  But a hilarious one – in the reader-spits-out-coffee category – is about another time that Navarro flunked marketing.)

The justification for the EO’s regulations, if there is any, would have to be that it somehow begins a path to fixing the broken status quo system that was in place before Monday.  That system was full of special-interest favors, which the President should be removing as he has removed them in many other regulatory areas.  I am pessimistic (i.e., optimistic for the entrenched special interests) that there is any such path in the immigration area, though.

Gary Becker’s immigration plan should be given serious consideration.  President Trump agrees with that on purely economic grounds (Chapter 6 of my book), although he sees that as a political nonstarter (“radical” as Becker put it).  Perhaps the immigration plan Trump proposed in May 2019 (essentially the Canadian and Australian systems) is a more politically correct approximation to the Becker plan.

Part of this EO pertains to foreign-born scholars working in the U.S., which saddens me personally.  My closest friends are squarely in that category.  The value they add is so great that policy will likely change so that they continue to work in the U.S. 

A little known fact is that President Trump is a very good listener (my book is filled with examples; that’s how he became a populist president).  So speak up!  He may decide in your favor.  After listening, he may articulate your position better you do.  In that case, I’m sorry because that is a strong indication that he is deciding against you (e.g., here) and wants you to at least know that you were heard.

Notes on 2020 CARES Act, in reading order

Note that this law is just one of multiple new COVID-19 relief laws.  These are my notes on the labor market provisions in the law, which are all of Titles I and II, and parts of Title III.

Title I KEEPING AMERICAN WORKERS PAID AND EMPLOYED ACT

• A.k.a., 7(a) loans
• "Loans" to small businesses that maintain their payrolls
• Payroll does not include any payments to employees making $100K+ annually
• The loan amount is capped by the prorated amount of payroll for the prior year
• The loans can be forgiven in whole or part
• The forgiveness is capped by the minimum of
• $10 million;
• the sum of ongoing payroll, rent, utilities, interest;
• the loan amount (itself capped at 2.5 times average monthly in the prior year).
• The forgiveness is free from business tax.
• For this act, a small business is less than 500 employees.
• The date of this determination is crucial.  If the SBA Administrator is not careful with its guidance, it could be interpreted as the date of the loan.
• For businesses with more than 500 employees, this act would be a MASSIVE SUBSIDY TO FIRING enough people to be at 499 or less before making the loan application.
• Firing employees making more than 100K is most advantageous under this title.
• The SBA Administrator's definition will also affect expectations about how extensions of this Title will be implemented.
• Another part of this law will pay the fired employees, perhaps more than they were making as workers.
• Nonprofits are eligible too.
• Ends June 30, 2020
• Businesses with significantly less than 500 employees have a zero marginal cost of adding employees.  However, June 30 is too soon to make much profit from hiring.

Title II

• Section 2102.  PANDEMIC UNEMPLOYMENT ASSISTANCE
• A new program making payments to unemployed not covered by traditional unemployment assistance, such as someone who
• quit their job, or
• has no work experience.
• This program expands the UI-eligible pool by a factor of at least six.
• Normal pool is a subset of persons laid off from work, which should be less than 20 million.
• With Section 2102, the pool is any adult not on a full time payroll, which is at least 128 million (259 million adults minus Feb 2020 full-time employment of 131 million). 
• See Section 2104 below ("$1000 a week") and then calculate what the Treasury would spend on that section if, say, 80 million people were collecting $1000 per week.
• Program lasts through Dec 31.
• Weekly benefits last 39 weeks plus the duration of any extension of traditional UI.
• If a state were to deny UI benefits to a person failing a drug test, this program would pay them full benefits at Federal expense!
• Section 2103.  EMERGENCY UNEMPLOYMENT RELIEF FOR GOVERNMENTAL ENTITIES AND NONPROFIT ORGANIZATIONS.
• The Federal government takes over the UI "contributions" of government and nonprofit employers through Dec 31.
• Background: Normally, all employers make contributions that partially reflects their history of layoffs.  In effect, part of a UI benefit is paid by the employer who fired the person.  This is a normally a tax on making layoffs.
• By eliminating such contributions, the new program is a SUBSIDY FOR LAYOFFS by government and nonprofit employers
• Section 2104.  $1000 a week!
• Not to be outdone by the 2009 "stimulus" law, which paid a $25 weekly bonus to UI recipients, the 2020 EUC program pays a $600 weekly bonus!
• This bonus goes on top of the normal UI benefit, which averaged $378 per week at the end of 2019.  i.e., get paid $1000 per week for NOT WORKING!!
• It lasts through the end of July.
• $1000 per week is more than most full-time workers get paid for working.
• This disincentive to work and subsidy for layoffs is massive and not even close to any historical precedent.
• Section 2105.  Federal financing of the first week of unemployment.
• As with Section 2103, this is a subsidy for layoffs but for all employers.
• In contrast to Section 2103, this section only pays for one week.
• Section 2106.  Clean up of the previous coronavirus law.
• Section 2107.  Pandemic EUC
• Like the 2009 EUC program, this EUC programs provides Federal money to continuing paying UI benefits after state benefits have been exhausted.  It is limited to 13 weeks, putting the total duration of UI benefits at 52 weeks.
• Beneficiaries have to be actively seeking work.
• This will means some VERY long lines to apply for jobs, because standing in such line is both (i) proof of actively seeking and (ii) pretty safe protection against a job offer that would end UI.
• It lasts through the end of the year.
• Sections 2108-2110.  Part-time UI (a.k.a., "work share")
• Pays Federal benefits to part-time workers whose hours were reduced from full time.
• It lasts through the end of the year.
• Take a worker earning $800 per week full time.  With the CARES Act, the employer has two more options
• Lay her off so she can get $1000 per week from UI.
• Change her to half time so she can get $400 per week from the company plus another $500 week from UI, for a total of $900 per week.
• Section 2301.  Employee retention tax credit.
• Businesses with 0-100 full-time employees
• Section 2301 is a 50 percent tax credit for wages paid to any employee.
• Businesses with 101+ full-time employees
• Section 2301 is a 50 percent tax credit for wages paid to employees on the payroll but not at work due to COVID-19.
• For these employers, Section 2301 is a tax on work because employer has full payroll tax only when the employee works (as opposed to being on the payroll).
• Regardless of size, the employer must have gross receipts that are sufficiently low compared to the previous year.
• The credit applies to wages paid through the end of the calendar year, and cannot exceed $5000 per employee.
• These credits are fully refundable and administered through the payroll tax.  Nonprofits can get them too.
• Regardless of business size, Section 2301 is a step-function sales tax.  i.e., as soon as sales exceed a threshold, the payroll tax jumps discretely.
• Sections 2303-4.  Symmetric treatment of business gains and losses.
• Background: As an business' net income changes sign from year to year, so does her after-tax cost of payroll because the deduction of payroll from business income has tax value only in years with positive net income (subject to some complicated carry forward and backward provisions).  This normally gives employers an extra incentive to stop paying workers during a loss year.
• These sections by themselves, increase the incentive to have payroll during a year with negative net income, which 2020 will be for many businesses.  I don't think the sections have much effect on the incentive to have the employees actually work (as opposed to be paid without working).
• These sections also open the door to Treasury losses due to clever tax accounting, which is why gains and losses are historically treated asymmetrically.

Title III forthcoming

Notes on Families First Coronavirus Response Act, in reading order

Note that this law is just one of multiple new COVID-19 relief laws.

Division A

• Section 1101.  Schools are incentivized to remain closed more days.
• Titles II-IV, VI.  Small amounts given to agencies to be spent at the Cabinet member's discretion.
• Title V.  $1 billion for HHS to pay COVID-19 expenses for the uninsured.

Division B

• Titles I and II.  School lunch money is now available when school is closed "due to COVID-19."
• This incentivizes to schools remain closed more days, especially those getting the most school lunch money.
• Will add the learning gap between poor and affluent schools.
• Title III.  Raise limits on the duration of time that a household can participate in SNAP/Food Stamps.

Division C

• Section 3102.  "Emergency Family and Medical Leave Expansion Act."  Employees at small businesses are entitled to be out of work with pay if they have a child at a school or day care closed due to COVID-19.  
• Here, a small business is less than 500 employees, but with certain exceptions for businesses less than 25 employees.
• The duration of leave is capped at 12 weeks.
• The pay must be at least 2/3 of normal salary, capped at $200 per day and $10,000 in the aggregate (see also here), which does not bind unless the annual salary exceeds $60K or so.
• Even an employee who has been on the payroll only 30 calendar days (as few as 20 working days) can get the full pay for 12 weeks.
• Employers get payroll tax credits for these payments (Division G).
• The provision
• sharply reduces the financial reward to work for such employees,
• and further incentivizes schools (that are responsive to parental demands) to remain closed.
• See also Division E, which covers the first 10 days of the leave and is not tied to children in school.

Division D

• Section 4102.  $1 billion for state unemployment programs.
• Section 4105.  Full Federal funding of extended benefits.  This means that employers do not have to help pay for extended benefits, and therefore amounts to an enhanced subsidy for layoffs.

Division E

• Emergency Paid Sick Leave Act
• Covers the first 10 days of the leave provided in Division C.
• The child/dependent care pathway has the same pay minimums and caps.
• Other pathways, such being in quarantine, are full salary with $511 per day cap (that is $128K annual salary).
• Children in school closed school or daycare is not the only pathway to eligibility.
• Also regulates employers:
• They cannot ask sick employees to help find a replacement during their absence
• They cannot discharge or discipline employees for either taking leave or instituting any proceeding under the Act

Division F

• Health insurance must cover COVID-19 tests.  (Short-term plans are not considered insurance for this purpose).

Division G

• Employers may claim payroll tax credits for moneys paid to employees under Divisions C and E.

Trump's economists will be missed

When the day comes (year 2029?) that a "progressive" Democrat occupies the White House, we can look with nostalgia on the good old days 2017ff when White House economists literally followed the textbook.

Surely the economists working for that new President will be no smarter than UC Berkeley's Emmanuel Saez.  In his primary defense of Medicare for All, Mr. Saez now writes that payments to private health insurance are "just like taxes."

Saez understands that those brainwashed by old school economics will be thinking "health insurance premiums [cannot be] a tax [because] people have some choice."  Their mistake, he says, is that unlike "spending on food and clothes," premiums for employer HI are "mandatory." (The equivalence of premium and tax is also a central premise of their new book, especially Chapter 5).

Mr. Saez is showing his ignorance about American law, and that he is too lazy to take even a cursory look at the data.

Regarding the law, no one is required to purchase health insurance.  Yes the Affordable Care Act requires either purchasing or paying a penalty, but the PENALTY IS ZERO and furthermore there are many loopholes built into the law.

As an empirical matter, more than half of American workers are NOT having health insurance taken out of their paycheck.  Even the Saez article admits that cash wages are higher compared to having HI taken taking out.  So those workers who pay health insurance through their paycheck have chosen not to have one of those tens of millions of jobs with higher cash pay but no health benefit.

Let's put this another way: Would Candidate Warren promise that American workers can have the same alternatives to paying payroll and income taxes that they currently have for having HI premiums taken out of their paychecks?  I didn't think so.

[There are many other problems with Saez' assertion, e.g., how a payroll tax as compared with HI premiums would vary with employment, income, hours, etc., but the above is enough to show how he is wrong on his own terms.]

Who recognizes economic history first: politicians or economists?

Figure 1 is the familiar chart showing the “Laffer curve” relationship between a tax rate and the net revenue from the tax.  A small tax on, say, wireless internet service is expected to provide more revenue (point B) than would be obtained without any tax on wireless internet service (point A).  It is conceivable that the wireless internet tax rate could get so high that further increases in the rate actually reduce revenue (point C) as consumers take steps to evade taxation altogether.  At point C, economics gets really interesting because many of the difficult public policy marginal tradeoffs disappear.

When it comes to various taxes in the United States, at least, we economists typically expect that the operative point is B.  E.g., the Federal payroll tax is probably at a point where further increases in the rate would raise at least some revenue, albeit less than static scores that make little distinction between points A and B.

The statutory Federal corporate rate is an interesting case, especially three years ago when it was well above rates elsewhere in the world.  Arguably cutting that rate increased Federal revenue as at point C (combined revenues from payroll, personal income, and corporate income).  But other reasonable experts could opine that point B was and is the operative point for the corporate tax rate.  And even these opposing experts would likely agree that the operative point (B or C) is above point A where the tax is abolished.

My only point here is that we would be at a unique chapter in economic history if a tax were obviously at point C or beyond.  So turn now to Figure 2, especially its point D where the government receives more revenue by abolishing the tax.  This was the case with the Affordable Care Act’s tax on uninsurance (a.k.a., individual mandate tax).

(I cannot say for sure how the path evolves between points A and D, e.g., perhaps the path never crosses above the horizontal axis, but that issue is not important for what follows.)

The first chapter of my ACA book explained what was happening, using the story of Pastor Ben Winslett who described how the ACA “has placed an enormous financial burden on normal, everyday people quite literally forcing us onto government assistance we didn’t need before.”  In other words, the individual mandate penalized people for turning down government assistance!  Mick Mulvaney explains here.

The government saves money by reducing the punishment it imposes on people who turn down subsidies because more people turn down the subsidies.

You don’t have to believe me.  Look at Jonathan Gruber’s 2010 analysis of repealing the individual mandate, where he projected (p. 4) that repealing it would reduce Federal spending by about $46 billion per year, while sacrificing much less than that in terms of mandate collections.  Or the Congressional Budget Office projection that repealing the mandate would reduce Federal spending by about $34 billion per year, while sacrificing much less than that in terms of mandate collections.  I (and the current CEA) think that those two estimates are exaggerated, but if Gruber and CBO stand by their qualitative analysis then all four of us must agree that point D is the operative point.

Having a tax at point D easily makes the highlights of economic history. Neither my book (which focused on the subsidies and the employer mandate), Gruber’s report, nor the CBO’s report put their findings on the individual mandate in the context of a Laffer curve let alone follow up with an estimate of the massive economic damage that comes with pushing a tax down to point D.  It should be no surprise that, in doing the necessary work, the current CEA found massive net benefits of moving from point D to point A even after considering the various benefits of expanding health insurance coverage.

President Trump and Congressional Republicans recognized the historical damage done by the individual mandate well before economists did, even while it is economists who specialize in such matters.  President Trump reached the (important and correct) conclusion sooner because he reasons differently on issues like this.  Simulated annealing is a close analogy that I’ll write about later.  He did not get ahead of us by “playing 3 dimensional chess” or drawing Figure 2: that would be the kind of deductive reasoning that is prevalent in economics and proved slower at reaching the answer.  Many critiques of the President assume that deduction is the only method and thereby entirely miss the point of simulated annealing, which is that he would try both criticizing the mandate and (albeit briefly) praising it and then closely monitor the feedback.  I suspect that members of Congress did something similar (President Obama also recognized -- just privately until he left office -- that there was more to the individual mandate than the technocrats were telling him).

Health regulation is just one area of Federal policy where some of the most interesting economic history is happening now….

The Labor Tax Hidden in Republican Health Plans

Reproduced from http://leadershipprojectforamerica.org/

Several Republican candidates’ health care plans contain a large hidden employment tax that would slow down the nation’s economy.

Our federal systems of taxes and subsidies are known to discourage work by levying more taxes on (and paying fewer benefits to) workers than non-workers.

The only important exception comes with the tax treatment of health insurance obtained on the job, which workers can exclude from the income that is subject to payroll and income taxation. The exclusion generates an annual average of $4,000 in tax savings for each of the 75 million workers that take advantage of this employment perk.

Jeb Bush, Ted Cruz and Marco Rubio, to name a few, agree that workers should lose this perk that gives them a $4,000 reason to work rather than not.

They are not against work, of course, but are against uneven taxation. By making job-related health insurance a unique tax shelter, the exclusion leads to excessive health spending – “Cadillac” health plans – and distorts the composition of economic activity toward businesses that have advantages in providing the shelter.

Rubio, for example, proposes tax credits for purchases of individual health insurance and putting “the tax preference for employer-sponsored insurance on a glide path to ensure that it will equal the level of the credits.” The credits are intentionally limited so that they do not favor expensive plans any more than economical ones.

Introducing a credit for purchases in the individual market, as the Republican candidates propose, is an especially new opportunity for people who do not work and thereby further pushes the federal thumb on the scale favoring not working over working.

Take a 62-year-old worker who is considering retirement. A number of federal policies encourage him to retire sooner rather than later by replacing – at the expense of all taxpayers – part of the wage income lost upon retirement. A retiree pays less income tax, pays no payroll tax, and gets a monthly check from Social Security, whereas the 62-year-old who continues work would not get these privileges. Republican plans would change this by giving him a new tax credit if he retires early.

The special treatment of the health insurance obtained at work is the only major pro-work incentive that the federal government currently has for this 62-year-old. The Republicans are achieving their even-tax objective by reducing the incentive to work.

By my estimates, the economic damage done by further reducing incentives to work is not worth the enhancements to health care delivery that would come with taxing things more evenly. I am not aware of any study even attempting to show otherwise, because the studies of health insurance delivery largely ignore the labor-market burdens created by policies that promise to make health care better.

Just this week, Congress delayed until 2020 Obamacare’s “Cadillac” excise tax on health plans that are provided by employers, which is Democrats’ answer to the uneven taxation problem. But the Cadillac tax does a lot less to discourage work than the Republican approaches do (I cannot say the same about the rest of Obamacare), because the Cadillac tax still lets workers keep much of their perk.

To their credit, Republican candidates have other plans to encourage work, especially by bringing down personal income tax rates. But, in order to get the economics right, they should not be double-counting the benefits of reducing rates. By eliminating or partly offsetting the health insurance exclusion, tax rate reductions are needed just to get the labor market back to where it would have been if the exclusion had continued.

To put it another way, more growth would come from cutting rates and keeping the exclusion in place than would come from cutting both the rates and the value of the exclusion together, which is what many Republicans are proposing.

Bipartisan neglect of the work disincentives that come with health reform is a major reason why we continue to have a Pinto economy. We’re left hoping that tax plans might create jobs faster than health plans kill them.

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Casey B. Mulligan is a Professor of Economics at the University of Chicago and author of Side Effects and Complications: The Economic Consequences of Health-Care Reform published by the University of Chicago Press and featured at acasideeffects.com.