Macroeconomics Research Paper

1) I believe that government’s reason for seeking to decrease our economy’s dependence on private investment is one that flows directly from the economic analysis. In particular, this report indicates that investment is the portion of aggregate demand that is most volatile. Indeed, it is for this reason that the financial instability hypothesis can be considered an investment theory of the business cycle.

Thus, the effort to decrease the significance of investment is an attempt to shift the weight of the economy toward its more stable spending components.

This preference for fiscal policies that decrease the economy’s dependence on private investment leads the government to recommend both spending and tax changes. For example, since military expenditures are a compelling investment stimulant, there was a suggested reduction of the expenditure in this area. In fact, however, government advocates an employment strategy that would make public employment (at some modest income level) available for all who are without work. Of course, it might be somewhat difficult for the federal government to provide the spending and simultaneously maintain the system of public transfers that exists today. But the government would not need to do both.

2) Gilder’s paradigm is built not on markets but entrepreneurs. It is a Great Man Theory for economics. Say’s Law is at the base of the model, but with a more luxurious meaning. For the metaphysical supply-siders, the statement that supply creates its demand is a denial not only of demand management in the Keynesian sense but a rejection of the market’s ability to evoke new products and services. What distinguishes the entrepreneur is not his ability to take direction from the market but his ability to lead it.

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The demands of the many who make up the market are infinite and undefined; the entrepreneur is the one who through his ability to sympathetically imagine the needs of the many gives their endless demand a new, definite, and more efficient shape, defining a need in the very act of creating a product that fulfills it.

In practical terms then, the metaphysical supply-siders agree with standard supply-side policy recommendations but for subtly different reasons. They accept, for instance, the importance of low tax rates not only because high tax rates marginally lower productivity by reducing average incentives but mainly because they may cripple a generation of entrepreneurs–the great men–whose contributions would otherwise advance the economy further and faster than any marginal average increase in productivity.

3) Expansionary fiscal policy can destabilize the economy under certain conditions. One concern about equating changes in the full-employment surplus with discretionary fiscal policy is that the full-employment surplus can change for any of several reasons, some of which should not be interpreted either as a change in discretionary policy or, for that matter, as a change in an automatic fiscal stabilizer that might have a similar impact on the economy. A striking illustration is a sharp drop in individual income tax revenue in recent years, already discussed, much of which reflects a change in the composition of aggregate income. Although it shows up as a drop in the full-employment surplus, this is apparently not the direct result of a policy change, nor is it evident why it should be viewed as an expansionary event.

Another problem in interpreting the change in the CBO surplus as a policy response to current economic conditions is that the surplus may change as a result of policy decisions made several periods before, An example is the phased-in tax cut enacted in 2001. Further, the underlying cyclical responsiveness of the budget might change unpredictably over time, leading to the possibility of over- or undercorrection in the construction of the adjusted series, and hence a spurious statistical relationship to the output gap. For example, should one view the decline in incomes and tax payments at the top of the income distribution in recent years as unrelated to the economic cycle? For these reasons, it is useful to rely on an alternative measure based on specific policy changes.

4) Tax cuts that are perceived to be the temporary effect the SRAS and LRAS curves differently than tax cuts that are recognized to be permanent. Readers of NATIONAL REVIEW and the Wall Street Journal and the Washington Times have been witnessing a debate over the relative merits of various tax-reform proposals. The researchers have argued that individual initiative is so important that a reduction in marginal rates justifies an increase in business taxes. Ture and Roberts say that personal action is fatally disabled if the price of capital accumulation is too high. They conclude that the individual rate reductions aren’t worth the price of substantially increased taxes on business.

These disagreements are important because, though they don’t clarify the philosophical disagreements between different paradigms, they force different paradigms to compete in an arena in which we can learn who wins. If a tax-reform bill with high capital costs and low personal rates is passed, and the economy goes into a tailspin, there will be some reason to question premises. That is what academic economists are doing right now.

  • a) Proportion taxing. The tax rate is 10 %: Smith: $4,000; Jones: $ 10,000; Brown: $ 20,000. The tax rate is 15 %: Smith: $6,000; Jones: $ 15,000; Brown: $ 30,000.
  • b) Progressive tax:
    5 % multiply by $ 120,000 = $ 6,000
    8 % multiply by $ 120,000 = $ 9,600
    15 % multiply by $ 100,000 = $ 15,000. Total = $ 30,000
    10 % proportional tax total = $ 34,000. Therefore, in this case, progressive tax will raise less money.

The reform of social security system
Americans tend not to be well informed about how their government and political system operate. But when it comes to Social Security, they have a pretty fair idea of how things work. Eight in ten Americans know that Social Security is a federal, rather than state or private, program. Almost seven in ten recognize that it is a pay-as-you-go program–that is, that payroll taxes collected from workers today pay benefits for current retirees rather than going into an account to pay their benefits when they retire.

Most also know the basics of who can receive benefits. Ninety-six percent know that workers who have paid into the program are eligible. Eighty-nine percent know that spouses of such workers are available. Seventy percent know that workers who have not paid into the program are not qualified. Ninety-three percent know that people who retire on Social Security receive different monthly payments, and 79 percent know that a person can work while receiving benefits, but that there is a limit on how much he or she can earn.

Forty-nine percent of Americans know the money in the Social Security trust fund is invested in U.S. government Treasury bonds. But 21 percent think it is kept by the government as cash in the bank, 13 percent believe it is invested in private company stocks, and 17 percent said they did not know. More than two-thirds know that if no action is taken, the trust fund will go bankrupt. One in four expects (incorrectly) the bankruptcy within ten years. Nearly the half realizes that it is more distant. In general, the public sees the problem as one for the long-term future, not one that Congress must act on immediately because it is a crisis today.

The public has a fair sense of what is causing Social Security’s financial problems. Six in ten attribute them to more people going on Social Security and to having fewer workers to pay Social Security payroll taxes. But two-thirds attribute the problems to the diversion of trust fund money to programs other than Social Security.

Despite knowing the financial difficulties faced by Social Security, most Americans are unwilling to raise taxes or reduce benefits. The only exception is in the case of benefits for higher-income Americans.

Only about four in ten favor increasing Social Security payroll taxes or eliminating the current Social Security payroll tax cutoff, which exempts income over $68,400 a year. One in four favors raising taxes on Social Security benefits. Only one in five favors reducing benefits to retirees.

Americans oppose raising the Social Security retirement age even if the change is phased in over time: only one in three supports this option. Fewer than four in ten favor increasing the retirement age to 67 earlier than planned.

Support for changing Social Security cost-of-living adjustments is variable, depending on how the change is presented. Slightly more than half favor giving smaller yearly increases to retirees when the cost of living goes up, but only one in three favors limiting cost-of-living increases in Social Security benefits.

Many Americans are willing to consider affluence testing, but the definition of “affluence” affects the level of support. Two-thirds favor reducing benefits for upper-income people if no income level is specified. But support drops to 50 percent if the income is defined as $40,000 a year or more. Similarly, only four in ten favor raising the taxes that higher-income retirees pay on their Social Security benefits, but two-thirds favor taxing benefits for those earning $75,000 a year and up.

Americans are divided over whether they want Social Security in the future to act principally as a social insurance program to ensure that older adults have a minimum income during retirement (51 percent) or as a program in which people receive money based on how much they pay into the program (42 percent). The younger and older generations differ substantially in their view. A plurality (48 percent) of adults under age 35 want the program to be based principally on what people pay into it, compared with only 32 percent of those 65 or over.

The public’s reluctance to take action on Social Security is due to more than one cause, but clearly, a significant reason is that they are as concerned about not being able to save enough for their retirement as they are about the long-term future of Social Security. Seven out of ten working adults report that they are worried about not having enough private savings for their retirement. Average citizens are in a quandary, trapped between their fear that there will not be enough funds left in the Social Security system and their concern about not having enough money in their private savings when they stop working.

Most working Americans know they cannot expect to live comfortably in retirement on Social Security benefits alone. While seven in ten believe that an average retired person needs a yearly income of at least $20,000 to live comfortably, nearly nine in ten know that the average annual benefit now paid to a retired worker by Social Security is less than that. For someone to live comfortably in retirement, Social Security must be supplemented by private savings, notably if the Social Security benefit is reduced.

People are painfully aware of the gap between what they are now saving privately and what they need to retire comfortably. Working adults report that they are keeping half what they think is necessary. In fact, six in ten reports that they saved less than $3,000 for their retirement during the past year. More than half of working adults say they are either not saving for retirement at all (31 percent) or are saving inadequately (26 percent). Strikingly, the figure is almost identical for those aged 50-64, who are closest to retirement.

As to private pensions, which most working adults anticipate as being a more abundant source of retirement income than Social Security, 45 percent report that they do not participate in an individual or employer-provided private pension or 401 (k) plan. Once again, those near retirements are no better off. 44 percent of adults aged 50-64 are not enrolled in such programs.

Poorer Americans are among the most vulnerable. Nearly nine in ten of those earning under $20,000 a year are either not saving for retirement at all (61 percent) or are saving inadequately (25 percent). Two out of three of those who have yet to begin saving for retirement explain that they do not have anything extra to keep for the future, and only one in five adults earning under $20,000 is participating in a 401 (k) or private pension program.

Consistent with their belief that money in the trust fund is not being invested wisely, many people are willing to consider privatization or alternative investment strategies for some Social Security funds. Depending on how the question is worded, between 64 percent and 80 percent of Americans favor allowing individuals to invest part of their Social Security tax payments. In one survey, however, more than half of those with opinions on allowing individual investment said they could quickly change their minds.

On the specific issue of investing Social Security funds in the stock market, public opinion is fluid and strongly affected by how the process is described. In three recent surveys, support ranged from a low of 48 percent to a high of 60 percent.

If some Social Security tax funds are invested in the stock market, 80 percent of the public would prefer for individuals to spend part of their portion, and only 14 percent would prefer for the government to make the decisions. In five of six surveys, just about one in three Americans favor having the government invest Social Security revenues in the stock market. But even on the issue of government investment, where the public’s views seem so bright, one survey found more than half of those with opinions on the issue saying that they could easily change their mind.

Taken together, these surveys portray a nation in a state of denial. Americans recognize both that Social Security faces severe financial difficulties and that they are not saving enough personally for retirement. But they are unwilling to face up to either issue. “Maybe next year” is the view expressed quite widely in opinion surveys. Surprisingly, even the age group closest to retirement takes the same look.

1. Aaron Henry, and Robert Reischauer. Countdown to Reform: The Great Social Security Debate. New York: The Century Foundation, 1998.
2. Congressional Research Service (CRS). Social Security Reform: Projected Contributions and Benefits Under Three Proposal. Report for the U.S. Congress. December 3, 1998.
3. Peterson Peter. Facing Up: How to Rescue the Economy from Crushing Debt and Restore the American Dream. New York: Simon and Schuster, 1999.

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