Dean’s Convocation: Edward Prescott Part 1

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Spending on health or education could have been increased by a quarter or the company tax rate cut by up to 10 percentage points but for the Cullen Fund.

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Did the rise of welfare state cause more inequality in wealth?

 Markus Poschke and Barış Kaymak have just put out a paper arguing that increased social spending is a major driver of wealth inequality:

Another important and often overlooked third factor is the rise in the generosity of government transfers since 1960, mostly due to the expansion of public pensions (social security) and the introduction of public health insurance for the elderly (Medicare).

Combined spending on these two programs accounted for almost 9% of US GDP in 2010, up from less than 3% in 1960…

These government programmes tend to curb the need to rely on personal savings for retirement, especially among low and middle-income households, and might thus explain why their share in total wealth has declined.

This makes a good to good degree of sense. I have previously argued that using the arguments of Edward Prescott that it is not wise for people on ordinary income to save for their retirement when they can go down to the local Social Security office and claim an old age pension.

It is even less wise to save that for retirement if those savings reduce your eligibility for an old age pension. Far better just to invest in a nicer house and pass it on to your children. Poschke and Kaymak note that measures of private wealth inequality miss these claims to old age pensions:

… statistics on wealth inequality that do not capture households’ claims on the public sector are incomplete and overstate top wealth shares.

This is not a new argument. Back when the Ricardian theories of budget deficits came to prominence and before that in debates on theories of the public debt, the more Keynesian sides of those arguments did argue that people were irrational for not including their old age pension entitlements under social security schemes in their calculations of their wealth.

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Some of their taxes were paying for their future old age pension and were another form of wealth rather than a tax. As such, taxpayers should regard this part of their taxes as investments and not cutting back their labour supply in response as they do to other taxes.

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Source: Barış Kaymak and Markus Poschke The evolution of wealth inequality over half a century: The role of taxes, transfers and technology, Journal of Monetary Economics (2016).

How much of the rise in wealth inequality is due to this failure to measure Social Security wealth as represented by old age pension entitlements? Their estimate is about 25%:

…technological factors play a dominant role not only for changes in income inequality, as is well known, but also for wealth inequality. As high-earning households save part of their additional income, their share of wealth also rises.

This channel accounts for about half of the total increase in wealth inequality. Tax cuts and the expansion of transfers each account for about half of the remainder…

While tax cuts encourage saving, larger transfers reduce saving incentives for retirement, in particular for low and middle income groups. This implies that these groups’ share of private wealth declines.

Note though that this is partly due to the fact that measures of private wealth inequality, like those compiled by Saez and Zucman, do not include claims to future government transfers, like social security, which constitute wealth for their owners.

Taxation of personal income and social security contributions as a percentage of US, British, Danish, German, French and New Zealand GDPs since 1965

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Source: Tax – Social security contributions – OECD Data and Tax – Tax on personal income – OECD Data.

Income tax plus employee contributions less cash benefits as % of earnings by family type in USA, Britain, Canada, Sweden, France, Italy, Denmark, Germany, Australia and New Zealand

Those much admired northern European welfare states tax families and individuals much more than do the Anglo-Saxon welfare states.

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Source: Taxing Wages 2015 – OECD 2015.

Income tax and social security contributions as a percentage of gross wage earnings in the USA, Britain, Canada, Germany, Denmark, Italy, France, Sweden, Australia and New Zealand

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Source: Taxing Wages 2015 – OECD 2015.

Income tax plus employee and employer social security contributions as % of labour costs in US, Britain, Germany, Italy, Canada, Australia, Sweden and Denmark

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Source: Taxing Wages 2015 – OECD 2015.

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James Bartholomew introduces his new book, ‘The Welfare of Nations’.

Average effective retirement age by gender in the PIGS, 1970 – 2012

Figure 1 shows a relatively distinct pattern for men in the PIGs. Portugal aside, there has been a long decline retirement ages. This is different to the Anglo-Saxon countries where effective retirement ages have been increasing in recent years for men.

Figure 1: average effective retirement age (5-year averages), men, Portugal, Italy, Greece and Spain, 1970 – 2012

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Source: OECD Pensions at a Glance.

Figure 2 shows that apart from Greece,  that after a long decline in female effective retirement ages, there was something the rebound, especially in Italy and Portugal. In Greece, the rebound was in the 80s, followed by a  resumption of decline from the mid 90s.

Figure 2: average effective retirement age (5-year averages), women, Portugal, Italy, Greece and Spain, 1970 – 2012

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Source: OECD Pensions at a Glance.

Poverty traps: would a minimum wage increase take-home pay?

Average effective retirement ages by gender in the USA, UK, Germany and France, 1970 – 2012

Figure 1 shows a divergence from a common starting point in 1974 effective retirement ages. The French in particular were the first to put their feet up and start retiring by the age of 60 by the early 1990. There was also a sharp increase in the average effective retirement age for men in the UK over a short decade. After that, British retirement ages for men started to climb again in the late 1990s. Figure 1 also shows that the gentle taper in the effective retirement age for American men stopped at the 1980s and started to climb again in the 2000s. The German data is too short to be of much use because of German unification. France only recently stopped seeing its effective retirement age fall and it is slightly increased recently – see figure 1

Figure 1: average effective retirement age for men, USA, UK, France and Germany, 1970 – 2012, (five-year average)

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Source: OECD Pensions at a Glance.

Figure 2 shows similar results for British and American women as for men in the same country shown in figure 1 . That is, falling effective retirement ages for both British and American women in the 1970s and 1980s followed by a slow climb again towards the end of 1990s. French  effective retirement ages for women followed the same pattern as for French retirement ages for men – a long fall  to below the age of 60 with a slight increase recently. The German retirement data suggest that effective retirement ages for German women is increasing.

Figure 2: average effective retirement age for women, USA, UK, France and Germany 1970 – 2012, (five-year average)

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Source: OECD Pensions at a Glance.