David Dreyer Lassen, Claus Thustrup Kreiner and Søren Leth-Petersen—Stimulus Policy: Why Not Let People Spend Their Own Money?

Note: This figure is from Kreiner, Lassen and Leth-Petersen (2014). It presents a local polynomial regression of the marginal propensity to spend the 2009 stimulus, which is collected by survey in January 2010, on the household marginal interest rat…

Note: This figure is from Kreiner, Lassen and Leth-Petersen (2014). It presents a local polynomial regression of the marginal propensity to spend the 2009 stimulus, which is collected by survey in January 2010, on the household marginal interest rate calculated from third party reported data with information about all individual deposit and loan accounts in 2007-2008. The regression is based on 5,055 observations.

Copenhagen was the third stop on my tour campaigning for the elimination of the zero lower bound. At the University of Copenhagen I also learned that the Danes were ahead of me on my “National Rainy Day Accounts” proposal. The Danes are showing the way toward technocratic stabilization policy for nations that share their monetary policy with other countries and sometimes need something more than the common monetary policy. (Denmark is not in the eurozone, but by long and hallowed custom has kept a fixed exchange rate relative to the mark and then the euro, so now it effectively shares its monetary policy with the eurozone.) 

I am delighted to be able to host this guest post by David Dreyer Lassen, Claus Thustrup Kreiner and Søren Leth-Petersen on the Danish use of national rainy day accounts, based on their research:

How is it possible to stimulate the economy when traditional monetary and fiscal policy instruments are exhausted? Using an unprecedented policy tool the Danish government allowed people in 2009 to prematurely withdraw pension funds that were previously collected into individual accounts through a government mandate, thereby letting people spend their own money while leaving the government budget unaffected. Such a policy will have significant effects on spending if people are liquidity constrained. Evidence from a new study confirms this conjecture.

From 1998 to 2003 almost all Danes contributed 1% of their income to a mandatory pension plan, the so-called Special Pension (SP) savings plan. The funds were kept in individual, non-accessible accounts and were to be paid out starting at the public retirement age. Taking the entire population (as well as pundits and commentators) by surprise, on March 1, 2009 the government suddenly announced that the funds accumulated could be withdrawn during a window starting 1 June 2009 and ending 31 December 2009. The objective of the policy was to stimulate household spending. 

The policy is interesting for several reasons: First, the Danish stimulus policy changed the timing of access to the individual funds while leaving individual wealth unaffected. Spending the pension funds today directly lowers consumption possibilities in the future. In this sense, the Danish stimulus policy implicitly imposed Ricardian equivalence at the micro level, and is thus almost ideal for measuring the importance of liquidity constraints for the spending response. Second, the payout was large. 70% of the population aged 25 or more had accounts. Almost 95% of all funds were taken out. The average individual payout amounted to approximately 1900 USD after taxes, and the total payout amounted to about 1.4% of GDP. Third, the policy was transparent and funds easy to access: All account holders received a personal letter stating the balance of the account. To have the balance paid out, account holders should sign a slip and return it in an enclosed, stamped envelope. The money would then be transferred directly to the holder’s main bank account, already on file. Finally, the policy was announced without any previous discussion in the public. This is important for measuring the effect of the policy because it makes it possible to bound the time frame where possible spending responses could be observed.

To measure the spending effect of the reform, we conducted a telephone survey in January 2010, just after the payout window had closed, resulting in about 5,000 completed interviews with information about spending behavior related to the SP-payout. The survey indicates that almost 65% of the respondents used the entire payout for increasing their spending, corresponding to almost 2% of total private spending in 2009.

To get further insight into whether this huge spending effect is driven by individuals affected by liquidity constraints, we match the survey data at the person level to income tax records and other administrative registers with information about household characteristics, income, and broad categories of financial assets for the period 1998-2009. In addition, we exploit a novel administrative data set that provides third party reported information about all individual deposit and loan accounts held by our survey respondents in 2007-2008. These data enable us to calculate account specific interest rates and, based on this, to estimate the interest rate on marginal liquidity for 2008 for each survey respondent and their household. 

These household specific marginal interest rates represent a measure of the interest wedge between borrowing and lending rates, and is a continuous measure of the intensity of liquidity constraints. We correlate them with information about the propensity to spend the stimulus from the survey. The result is presented in the figure at the top of the post showing a strikingly linear and significant relationship between the propensity to spend the stimulus and the marginal interest rate.  

The correlation is significant also when controlling for a number of covariates including income, financial asset holdings, demographics and expectations regarding future economic constraints, showing that the marginal interest rate is a robust predictor of the propensity to spend the stimulus. This suggests that credit market imperfections are important for explaining consumption responses to stimulus policies ̶ just as standard theory suggests. 

Why do households face different interest rates? We use the longitudinal aspect of the administrative data and show that the level of financial assets held by the same households more than a decade earlier is negatively correlated with the marginal interest rate that we measure just before the stimulus. In other words, those individuals who held the least financial assets in 1998 face the highest marginal interest rates in 2008. Further, when we isolate the variation in marginal interest rates across households that is due to persistent differences in financial behavior, we find that the slope is five times steeper than the gradient illustrated in the figure, that is persistent differences in financial behavior impact the interest rate-spending gradient more than what appears from the raw correlation. This result holds up, and is actually reinforced, when we consider a subsample of individuals (about 50% of the original sample) who have never been unemployed during the last ten years before the stimulus. Overall, these results suggest that differences in liquidity constraint tightness across consumers, observed just before the stimulus policy implementation, reflect heterogeneity across consumers that is persistent to a degree that cannot be accounted for by shocks appearing within the horizon of a typical business cycle. The effectiveness of the policy thus appears to be rooted in persistent differences in financial behavior across households, although other factors, such as size effects, may also play a role.

The policy is remarkable in several respects. It leaves person level wealth unaffected and exploit differences in financial behavior across the population to generate spending effects that are significant at the macro economic level. Moreover, by letting people spend their own money, it has no direct effect on the fiscal budget, and may even have positive derived effects from increased activity. Thus, this type of policy may be a new way to stimulate depressed economies when standard fiscal policies are limited, for example because of high levels of sovereign debt.

This guest post is based on a research paper written by the three of us–Claus Thustrup Kreiner, David Dreyer Lassen, and Søren Leth-Petersen: “Liquidity Constraint Tightness and Consumer Responses to Fiscal Stimulus Policy.” The paper can be downloaded here.

Live: The Message of Mormonism for Atheists Who Want to Stay Atheists

Note: You can see the written text for this sermon and some useful graphs and tables in my earlier post “The Message of Mormonism for Atheists Who Want to Stay Atheists.” Click on the picture above to see the video.

I made a false prediction when I gave this sermon on May 20, 2012, eight days before I inaugurated this blog: that I would avoid talking about religion on my blog once I started the blog. In the event for most of the time I have been blogging, I have had a religion post every other Sunday, alternating with philosophy posts on the other Sundays. They can all be found in my “Religion, Humanities and Science” sub-blog.

Everything You Think You Know about Disciplining Kids is Wrong →

Research is suggesting new approaches to helping kids behave. I would like to think that the claims here are true. But I think this research needs to be replicated by a skeptic.

Research in this area is crucial, since if behavior problems can be effectively dealt with, then a big argument people make to “Keep the Riffraff Out!” can be neutralized.

Nigeria Struggling to Be Free

The June 20th issue of the Economist had a special report on Nigeria. It is very illuminating. In particular, it illustrates what I meant in my July 3d Quartz column “An economist explains why the key to a free world lies with China” when I wrote about how ‘freedom from injustice, corruption, and abuse of power in your nation,’ is the key to ‘people having many options and possibilities in their lives and the freedom to choose among them.’ 

It also illustrates Daron Acemoglu and James Robinson’s claim in “Why Nations Fail” that injustice, corruption and abuse of power are what keeps most nations poor (in the sense of a low per capita GDP). Here is a nice summary of the Economist’s special report, from a page entitled “Buhari’s chances: Can he do it?”:

Despite these frequent disappointments, Nigeria remains hopeful, and for good reason. It does not require a miracle for its economy to grow at a consistent 7-8% a year. What it does need is better roads, rail connections and power lines. If the poorest states had the infrastructure to allow farmers to get their produce to market, it would open up the prospect of vast numbers of new jobs in farming and agricultural processing, giving young men an alternative to joining the jihadists or ethnic militias and lifting tens of millions of people out of poverty.

Yet the cure is not as simple as it sounds, for at the root of many of Nigeria’s problems are well-entrenched vested interests and pervasive corruption. If the country’s roads are crumbling, it is not for lack of competent engineers or money to repair them: it is because the money has been diverted to someone else’s pocket so that many of the engineers sit idle. If people pay more than they should for food, power and imported manufactures, it is not because Nigeria is inherently a high-cost economy: it is because politicians, officials and their friends in business have found nefarious ways to profit from shortages and waste. If large parts of the country are ruled by armed gangs, it is because so many of the state’s institutions, from local government to the national police and army, have been hollowed out by corruption.

“… it is always radical, in any society, to insist on the equal worth of all human beings, and people find all sorts of ways to avoid the claim of that ideal, much though they may pay it lip service. … We should defend this radical agenda as the only one worthy of our conception of democracy and worthy of guiding its future.”

– Martha Nussbaum, Cultivating Humanity: A Classical Defense of Reform in Liberal Education, p. 112 (end of chapter 3). (Before getting to this passage, I said something very similar in the live version of my sermon “The Message of Jesus for Nonsupernaturalists.”)

“…critics of soft paternalism should realize that people are already being nudged all the time, and not by government. The true masters of behavioral economics are marketers in the private sector. Marketers have been studying behavioral economics for ages, and have never had any compunction about using it to take your money.

Ever wonder why prices in stores are $9.99 instead of $10? Behavioral economics. How about sales and discounts? Just raise the base price and treat the real price as a discount, and behavioral economics will make people more eager to buy. That yogurt that advertises itself as fat-free? Check out how many grams of sugar it has. And so on.

Marketing is by far the biggest application of behavioral economics, it’s perfectly legal and it’s already everywhere. You are being nudged 24/7.”

– Noah Smith, in his Bloomberg View column “We’re All Smart. And Dumb. Sometimes.”

John Stuart Mill Worries about Money Corrupting Advocacy and Facilitation

John Stuart Mill is not always as libertarian as people think. After defending free speech vigorously in an earlier chapter, in paragraph 8 of On Liberty “Chapter V: Applications,” he defends the idea of driving vice underground if the people advocating and facilitating it are likely to be advocating and facilitating it primarily for the money. However, he makes an interesting distinction: if paid facilitation is necessary to enable people to pursue vice, it must be allowed. But if home-production is adequate to make the vice possible, then it is legitimate to make the market provision of facilitation illegal in order to drive it underground, where it will be less of a bad influence. Here is what he writes:

There is another question to which an answer must be found, consistent with the principles which have been laid down. In cases of personal conduct supposed to be blameable, but which respect for liberty precludes society from preventing or punishing, because the evil directly resulting falls wholly on the agent; what the agent is free to do, ought other persons to be equally free to counsel or instigate? This question is not free from difficulty. The case of a person who solicits another to do an act, is not strictly a case of self-regarding conduct. To give advice or offer inducements to any one, is a social act, and may, therefore, like actions in general which affect others, be supposed amenable to social control. But a little reflection corrects the first impression, by showing that if the case is not strictly within the definition of individual liberty, yet the reasons on which the principle of individual liberty is grounded, are applicable to it. If people must be allowed, in whatever concerns only themselves, to act as seems best to themselves at their own peril, they must equally be free to consult with one another about what is fit to be so done; to exchange opinions, and give and receive suggestions. Whatever it is permitted to do, it must be permitted to advise to do. The question is doubtful, only when the instigator derives a personal benefit from his advice; when he makes it his occupation, for subsistence or pecuniary gain, to promote what society and the State consider to be an evil. Then, indeed, a new element of complication is introduced; namely, the existence of classes of persons with an interest opposed to what is considered as the public weal, and whose mode of living is grounded on the counteraction of it. Ought this to be interfered with, or not? Fornication, for example, must be tolerated, and so must gambling; but should a person be free to be a pimp, or to keep a gambling-house? The case is one of those which lie on the exact boundary line between two principles, and it is not at once apparent to which of the two it properly belongs. There are arguments on both sides. On the side of toleration it may be said, that the fact of following anything as an occupation, and living or profiting by the practice of it, cannot make that criminal which would otherwise be admissible; that the act should either be consistently permitted or consistently prohibited; that if the principles which we have hitherto defended are true, society has no business, as society, to decide anything to be wrong which concerns only the individual; that it cannot go beyond dissuasion, and that one person should be as free to persuade, as another to dissuade. In opposition to this it may be contended, that although the public, or the State, are not warranted in authoritatively deciding, for purposes of repression or punishment, that such or such conduct affecting only the interests of the individual is good or bad, they are fully justified in assuming, if they regard it as bad, that its being so or not is at least a disputable question: That, this being supposed, they cannot be acting wrongly in endeavouring to exclude the influence of solicitations which are not disinterested, of instigators who cannot possibly be impartial—who have a direct personal interest on one side, and that side the one which the State believes to be wrong, and who confessedly promote it for personal objects only. There can surely, it may be urged, be nothing lost, no sacrifice of good, by so ordering matters that persons shall make their election, either wisely or foolishly, on their own prompting, as free as possible from the arts of persons who stimulate their inclinations for interested purposes of their own. Thus (it may be said) though the statutes respecting unlawful games are utterly indefensible—though all persons should be free to gamble in their own or each other’s houses, or in any place of meeting established by their own subscriptions, and open only to the members and their visitors—yet public gambling-houses should not be permitted. It is true that the prohibition is never effectual, and that, whatever amount of tyrannical power may be given to the police, gambling-houses can always be maintained under other pretences; but they may be compelled to conduct their operations with a certain degree of secrecy and mystery, so that nobody knows anything about them but those who seek them; and more than this, society ought not to aim at. There is considerable force in these arguments. I will not venture to decide whether they are sufficient to justify the moral anomaly of punishing the accessary, when the principal is (and must be) allowed to go free; of fining or imprisoning the procurer, but not the fornicator, the gambling-house keeper, but not the gambler. Still less ought the common operations of buying and selling to be interfered with on analogous grounds. Almost every article which is bought and sold may be used in excess, and the sellers have a pecuniary interest in encouraging that excess; but no argument can be founded on this, in favour, for instance, of the Maine Law; because the class of dealers in strong drinks, though interested in their abuse, are indispensably required for the sake of their legitimate use. The interest, however, of these dealers in promoting intemperance is a real evil, and justifies the State in imposing restrictions and requiring guarantees which, but for that justification, would be infringements of legitimate liberty.

John Stuart Mill’s emphasis in this passage on the corrupting influence of money makes me think about the debate over restrictions on campaign contributions. There, I do think that the distinction the Supreme Court has made between direct contributions to a candidate and “independent” expenditures makes some sense. But I might draw the line a little differently: as long as money will only help a candidate win an election, this seems important enough for free speech that it should probably be allowed. But if money is given into such direct control of the candidate that the candidate can turn it to personal use–including even moderate luxury on the campaign trail–the potential for corruption seems more severe and the argument for limiting things becomes greater. This is actually an argument for prohibiting campaign funds from being used for the candidate’s comfort rather than an argument for limiting contributions to a campaign fund. If such a restriction had the side-effect of discouraging people who like high levels of material comfort–that they can’t pay for out of their own pockets–from running for office, that might not be a bad thing.

“As regards literature, postmodernism recognizes no large, collective enterprise with a clear direction that all legitimate participants must respect. Though the history of interpretation is not cyclical, there is no reason why what has been done already in interpretation may not be done again if we find it rewarding. … The more innovation comes to seem mere variation, the more easily the old and neglected can become new again. There exists no historical imperative to be obeyed or disobeyed. Nothing must be done. Anything might be done. When the results are interesting, they are not interesting because they constitute ‘progress.’ Evidence coerces. Art merely seduces.”

– Jack Miles, in Christ: A Crisis in the Life of God, pp. 330-331

Quartz #63—>VAT: Help the Poor and Strengthen the Economy by Changing the Way the US Collects Tax

Here is the full text of my 63d Quartz column, “VAT: Help the poor and strengthen the economy by changing the way the US collects tax,” now brought home to supplysideliberal.com. It was first published on June 8, 2015. Links to all my other columns can be found here.

If you want to mirror the content of this post on another site, that is possible for a limited time if you read the legal notice at this link and include both a link to the original Quartz column and the following copyright notice:

© June 8, 2015: Miles Kimball, as first published on Quartz. Used by permission according to a temporary nonexclusive license expiring June 30, 2020. All rights reserved.

Despite a hard first quarter, someday soon the US economy may be in a position where it needs people to save more instead of spend more. Economists will start talking about the importance of having people save to provide funds for investment instead of the importance of having people spend to generate enough demand that investment is worthwhile. A few weeks ago, I pointed out in “How Increasing Retirement Saving Could Give America More Balanced Trade” how increasing the saving rate can also raise net exports, in a way that has a long-lasting positive effect on jobs. And I pointed out how a regulation making saving something automatic people have to opt out of, instead of something they have to opt into, could dramatically raise the saving rate.

A change in our tax system could also raise the national saving rate: shifting from taxing income to taxing only the part of income that is consumed, while exempting the part of income that is saved. The clean, well-tested way to tax consumption rather than income is to use a value added tax or VAT.

A VAT tax is like a sales tax on final sales to households that is collected gradually all along the way as goods and services are produced. It is structured so that the buyers in business-to-business transactions are motivated to check that the sellers are paying the tax—which makes it much harder to cheat on than other taxes.

Most rich, well-run countries other than the US use a value added tax. And though it is much harder to compare saving rates accurately across countries than one might think, most of those other countries seem to have higher saving rates than the US. In saying all of this about a VAT tax, I am only repeating the conventional wisdom, which I think in this regard is by and large on target.

But there is another aspect of the conventional wisdom about a VAT tax that I think is totally off target: the idea that a VAT tax hits the poor especially hard. Part of this misconception comes from the simple fact that measuring how progressive or regressive a tax is by the fraction of income paid in taxes at different levels of income is already sneaking in the idea that income is the right basis for taxation—exactly the question that is at issue. Measuring how progressive or regressive a tax is by the fraction of consumption paid in taxes at different levels of consumption would give a different picture.

The other part of this misconception is that typical measures of progressivity or regressivity ignore the other side of the ledger: the government assistance that people are given at different levels of income or consumption. Ignoring that side of the ledger slips in an assumption about how government assistance would be affected by a VAT tax that seems wrong to me. (Here I am counting Social Security and Medicare as government assistance since people don’t have individual Social Security or Medicare accounts and the government can change the level of benefits at any time.)

To think about how taxing consumption taxes rich and poor consider this question: “Who can afford to spend more than they earn from their job?” People who absolutely can’t afford a given level of spending will ultimately fall so deeply in debt that outside forces will stop them from spending so much. So they may pay more taxes on their consumption now, but will pay fewer taxes later. So it is the consumption people can afford that matters for consumption taxes over the long haul.

There are two basic ways you and your immediate family might be able to afford to spend more than you earn from jobs: have a pile of your own wealth to draw on for consumption or have someone else give you money to spend. Other things equal, having a pile of your own wealth to draw on for consumption makes you richer; so that side of things makes a consumption tax–such as a VAT–progressive. If someone else is giving you money to spend when you don’t really need it, that counts as being rich in a spongeing sort of way. Or to put it better, although ignoble, the ability to convince other people to let you sponge off of them is its own form of wealth.

On the other hand, if someone is giving you money to spend because you really do need it, they should realize that the amount of money you need has to be grossed up enough to get the same amount of goods and services even after paying the VAT. In particular, if the someone giving you money to spend is the taxpayer, through the government, whatever dire need motivated the taxpayer to help you out is a need for a given amount of goods and services, and the dollar value of the government assistance should of course be grossed up enough to buy the same amount of goods and services even after paying for the VAT. Since consumer price indices are usually calculated including VAT taxes, this could happen through the standard process of cost-of-living adjustments.

Notice that the government receives the VAT taxes paid on goods purchased with money from government assistance. So grossing up the government assistance to pay the VAT tax is just shuffling money from one government account to another and isn’t an unsustainable drain on the government budget.

Of course, the shift to a VAT tax could be used as an excuse to cut the amount of goods and services provided as government assistance. That would be regressive. But analytically that should be considered a shift to a VAT tax in the more neutral assistance-preserving way described above plus a cut in government assistance. The VAT tax itself should not be blamed for this effective cut in government assistance. But in the flawed accounting all too often used, the VAT tax is blamed for this unmotivated and far from inevitable cut in the effective level of government assistance.

What I have laid out is not the end of the story; there are many other issues in the transition to a value-added tax—for example, while lowering income taxes on 401(k) distributions would keep those who saved that way under the old tax system whole, something needs to be done to honor at least in spirit the promise to those who saved in a Roth plan that after paying taxes on that saving up front, they wouldn’t be taxed later on. But the basic story is that a value-added tax is progressive when the accounting is done right and the shift to a VAT tax is not used as an unwarranted excuse to cut the effective level of government assistance. This shouldn’t really come as any surprise, since governments in many countries that intend to do a lot more redistribution than the US use a value-added tax.

Rick Perry’s New Look

In my book, Ben Bernanke is a hero for making US monetary policy as good as it was in the aftermath of the Financial Crisis of late 2008 and during the Great Recession that followed. So I will not easily forgive Rick Perry for calling Ben’s actions “almost treacherous – or treasonous in my opinion” in a speech back in August, 2011. 

Yet, I was intrigued by Rick Perry’s emphases said in what the Wall Street Journal called “Perry’s Race Talk,” that happened on July 2, 2015. In addition to education reform and criminal justice reform to reduce the number of Americans in prison, Rick talked about the importance of allowing enough construction so that more people can live in our most attractive cities without subsidies:

There is a lot of talk in Washington about inequality. Income inequality. But there is a lot less talk about the inequality that arises from the high cost of everyday life,” Mr. Perry says. “In blue state coastal cities, you have these strict zoning laws, environmental regulations that have prevented builders from expanding the housing supply. And that may be great for the venture capitalist who wants to keep a nice view of San Francisco Bay, but it’s not so great for the single mother working two jobs in order to pay rent and still put food on the table for her kids.

I began to more fully realize the importance of this issue when I wrote “The Wrong Side of Cobb-Douglas: Matt Rognlie’s Smackdown of Thomas Piketty Gains Traction.” Here is a key paragraph from that post (which is well worth reading in its entirety):

Above, I wrote that developers should have to pay some of the costs of reductions in the quality of life nearby when higher density is unpleasant to live nearby–say by blocking out the sun. In an earlier version of this post, I actually made the serious mistake of saying they should pay for the reduction in “land values” from development nearby. But that is wrong by a cost-benefit test. Suppose a particular housing development is neutral for the quality of life nearby. Then it would still reduce the values of land nearby by providing more housing competition. This is not a social loss but rather a shift in wealth from landowners renters and future buyers of land, which reduces inequality. So a key conceptual issue for appropriate land policy is to not think of everything that reduces neighboring land values as a bad thing, but to distinguish when (and how much) it brings down land prices by reducing the quality of life nearby from when (and how much) it brings down land prices by providing additional housing competition.

To put a point on it, a simple political economy analysis indicates that, whatever the right amount of housing in an area from a cost-benefit point of few, the local homeowners and building owners will tend to want too little of it, since any extra housing provides competition for one of their assets. If they were to get their hands on some type of government machinery allowing them to hinder the construction of additional housing …

This is a problem in most advanced countries. For example, the Sveriges Riksbank, the central bank of Sweden, is quite concerned about financial stability. But a few inquiries indicated that this was primarily a concern about the skyrocketing prices of houses in Stockholm. Those prices have at least as much to do with barriers to the construction of new housing as they do with any monetary policy action.

In general, I think the issue of allowing enough construction so that people who are not rich have a chance to live in attractive cities is important enough that it should come to mind whenever one thinks about supply-side reforms. It is also an affront to human dignity to lean toward excluding people, as I discussed in “’Keep the Riffraff Out!’” and “The Message of Jesus for Non-Supernaturalists.”

Live: The Message of Jesus for Nonsupernaturalists

Why Thinking about China is the Key to a Free World

blog.supplysideliberal.com tumblr_inline_nqxhtu5g5m1r57lmx_500.png

Here is a link to my 65th column on Quartz: “An economist explains why the key to a free world lies with China.” This is my July 4th column, arriving a little early. 

Update: Don’t miss the robust discussion in the comments below. I make some important clarifications there. Also, there is an interesting set of comments here on Facebook with a reply from me. 

Update July 9, 2015: On the military technology dimensions, John L. Davidson tweeted a link to this interesting article on the important work on unmanned submarines.

Next Year’s Momentous Supreme Court Decision: Reining in Public Sector Unions?

immediate image source (ultimate source is the Wall Street Journal)

immediate image source (ultimate source is the Wall Street Journal)

After its momentous decisions this year legalizing gay marriage throughout the US, saving Obamacare one more time, and preserving the option of nonpartisan redistricting, the Supreme Court of the United States said it will decide next year on whether public sector unions can legally force those who work for the government to pay union dues even if they disagree with what the union is doing. If the Supreme Court addresses this question squarely, this will be a momentous decision because public sector unions are where the action is in unionization. In the last three decades, unionization fell dramatically in the private sector, but rose dramatically in the public sector (see above). The most likely reason is that public sector unions can offer political foot-soldiers to garner votes for those of their bosses who behave themselves as well as labor peace, while private sector unions can only provide labor peace. Without the combination of a political weapon and a strike weapon, I don’t see how public sector unions could have been so much more successful than private unions. Thus, I think the challengers’ contention the public sector unions are inherently political is quite reasonable.

I am cheering for the challengers because I think a reduction in the power of public sector unions would be a big boon to the US economy. It is often very valuable to for the government to provide additional public goods. But it is not so great to pay a higher price for the same level of government-provided goods and services, simply because public sector unions have effectively brandished their two weapons: the political weapon and the strike weapon. Our concern for income distribution should always be focused on the lot of the very poorest.

So whenever workers who are already typically paid more than comparable workers in the private sector have their wages go up further, it pushes the income distribution in the wrong way. And raising the cost of government employees who help the poor can easily lead to lower levels of service provided to the poor. This can often happen not only from price effects, but also from overall government budget pressures, as when overly generous delayed pension payments from a corrupt bargain between public sector unions and politicians that were never subjected to voter approval come due. And of course, government unions can often obstruct innovations (particularly in education) as well as draining limited government funds with wage demands that go beyond comparable private sector wages.

(Of course, I myself am officially a government employee, since the University of Michigan is a state university, but my salary owes nothing to a union. And part of my salary comes ultimately from the federal government, in the form of research support; I earnestly try to produce enough valuable research to make that a good bargain.)