Monday, January 23, 2012

More Sophistry From Steve Landsburg

I have tried to swear off economics Prof Landsburg, but he been making the same flawed argument for years now, so I can't resist deconstructing it. He wants to argue that Mitt Romney is overtaxed. As usual from SL, this requires a heavily hypothetical backstory:

To understand Mitt Romney’s tax burden, you have to compare him to his doppelganger Timm Romney, who lives on a planet with no taxes. In the year (say) 2000, Mitt and Timm both earned (say) a million dollars. Timm invested his million dollars, saw it double over the past decade or so, and cashed out his investment this year, leaving him with two million dollars. Mitt, by contrast, paid 35% tax in 2000, leaving him with $650,000. He invested it, saw it double, and cashed out last year, paying 15% tax on the $650,000 capital gain. That leaves him $1,202,500, which is about 60% of what Timm’s got. In other words, the tax system costs Mitt almost 40% of his income.

That is, 40% of his imaginary income in a universe with no taxes, or 27% of his actual income in this universe.

Naturally this scenario depends on neither Mitt nor Timm needing to spend any of what they earned. Let's compare Mitt with a different cousin, Kitt, who actually needs to spend what she makes. Let's say that Kitt earns the same $1 million as Mitt, pays the same 35%, and spends all of the rest over the next ten years. Mitt and Kitt each earned $1 million, and Kitt got $650K to spend while Mitt somehow wound up with a bit less than twice that, for a net tax of minus 20.2% of his earned income.

Ok, now I've been a bit sophistical - doesn't Mitt deserve something for the ten years worth of forgone consumption. How much exactly? Well, if we believe in the efficient market, the compensation foregone was worth exactly what he earned on it, or $650,000. To make things even, let's assume that Kitt runs out of money before the ten years are over and needs to earn another $650K to keep the wolf away from the door.

At this point, according to our classical analysis, Mitt and Kitt have each produced $1650 K worth in either salaried work or forgone consumption. Mitt has payed 35% x 1 million + 15 % x $650 K, while Kitt had to pay 35% x 1650 K so she payed $130 K more.

The point is that priviledging investment income has no justification in either classical economics or common sense. The other point is that whenever Landsburg makes one of his counterintuitive arguments, whether in relativity or economics, there is likely to be some sophistry behind the curtain.