The other day, I saw a recent video in Khan Academy’s Microeconomics series entitled “MPC and Multiplier” which is about the Marginal Propensity for Consumption (at its most basic level: if you received a windfall of $100 how much would of it would you spend). It’s only a few minutes, and I would suggest watching it before reading the rest of the post:
Ok, with that out of the way, I have a few ideas that I would like to put out there. IANAE (I am not an economist) and I welcome any critique of these ideas, but they seem pretty sensible.
Premise: The utility of a dollar decreases with accumulation
I propose first the idea of the diminishing marginal utility of the dollar. This is by no means new, I just want to establish it as a basis for my argument.
The more dollars you possess / earn, the less value each additional dollar brings to you. If you are flat-broke, a single dollar means a small bit of sustenance. If you are a low-wage worker, it means one step closer to paying a bill or buying a meal. If you are middle-class (mid-five-figures to low-six-figures), it becomes something that you at least observe coming in and going out. But beyond that, it presents less and less utility.
For example, a person that earns $1M per year (or more — a little over 300,000 people in the US right now) earns a minimum of $480 / hour before taxes. Or just shy of $4000 per day. About $83,000 per month, pre-tax. One additional dollar is such a small fraction of their income it may not even be worth their time to spend a second to pick one up. (If you earn $7.5M or more annually, it isn’t)
Corollary: A person who finds greater utility in a dollar is likely to spend more of it.
The Fair Tax Act proposed an alternate system of taxation that includes a “Family Consumption Allowance“. I don’t have an opinion about the Fair Tax Act here, but the “Family Consumption Allowance” is a great illustration of this point: Starting at the first dollar you earn, there is a (fuzzy) threshold where every nearly all dollars up to that point must be consumed just in order to pay for the very basic things; roof, food, utilities, etc. Most people call this “living paycheck to paycheck.”
If you provide additional money to people at these income brackets, that money will go directly back into the economy, as those people spend it on the various things they need to purchase. This money will be biased towards survival goods, utilities, groceries and rents, but it’s still flowing forwards. Since the vendors of those products are more likely to be other people of similar economic stature (or be an employer of people of similar economic stature), this spent money has a net positive effect on their local economies.
Therefore: Any economic stimulus should be done in a way that predominantly benefits the lower-end of the economic spectrum
I realize that, at face value, the Bush tax cuts appear to have done that. Except that they didn’t. A tax-cut given of even percentage across all taxpayers will give a nominal amount that is significantly disproportionate to the wealthier strata. (5% of $10,000 is $500, 5% of of $100,000 is $5,000, and 5% of $1,000,000 is $50,000).
My armchair-quarterbacking suggestion is to employ the Family Consumption Allowance (or something similar) for all Americans, of all economic strata. Basing it on poverty-line or actual consumption data seems like a good start (see the table in that last wikipedia link), although I think the idea of the government sending out monthly checks seems a little excessive. It would be easier to simply increase the personal / family tax exemptions to the point where, for a family of four, the first ~$30k (inflation-adjusted) was tax-exempt; for all people. This will disproportionately help those at the bottom, who both need it more and will be more likely to spend it (rather than invest it). Growth is a futile venture when you can’t maintain or sustain your existing size.
Additionally, reducing consumption taxes on day-to-day purchases, such as on car fuel, could be helpful, provided that the fuel companies didn’t simply increase their prices to pocket the difference, like the airlines did recently.
Far more people benefit when money circulates in the economy, as the money is more likely to touch more people; so putting money in the hands of people that are more likely to spend it makes good econmic sense, IMHO. But as I said before, IANAE.
Thoughts? Let’s try to avoid political talking points here, yes? I am interested in discussion on this issue; and for whatever it matters, I didn’t vote Obama in 2008 and I probably won’t be in 2012.
Wow. So, I agree, and here’s why: Never in history have corporations had so much cash on hand they are unwilling to spend. But where’s the supply-side argument that states if you give corporations more money, they’ll do the right thing and create jobs. Instead, while stockpiling cash, they have downsized jobs by the hundreds of thousands. Corporations need demand in order to profit, and innovate. Demand comes from those who will spend, and jobs are created by that demand. Many people will immediately spend that additional dollar, putting it towards a needed new pair of shoes, doctor visit, car repair, medicine for their children, food for the table, and other expenses they’ve been forced to hold back on. The upper end of the economic spectrum has proven (after every possible chance they’ve been given), that they are not rationally driven to do the right thing and create jobs for the economy’s sake. Personal gain and greed as a leading catalyst for economic growth are fine, but they are more watered down as marginal utility decreases. Those with zero cars will help the auto industry far more than those with four, six or eight. And the good news (if you want to call it that), is that our country has far more people hurting right now, waiting on the sidelines to stimulate the economy than we do ultra-rich, who have watched our economy and global competitiveness suffer as they become negligibly more comfortable.
“Those with zero cars will help the auto industry far more than those with four, six or eight.” <– that's a great point.
As long as the money keeps collecting in these investment-oriented industries, or industries where the money is held by the wealthier folks, it is being kept out of the economy that most of us live in.
If you really want to create JOBS then you do it by creating DEMAND for those jobs — and to do that, you need to empower CONSUMERS to be able to make good on their wants by realizing it into actual economic demand. The consumers are the job creators, even though the wealthier people are the job hire'rs; what incentive do they have to create jobs if there isn't demand for the work to be done?
Right, Aaron. That’s what I meant by:
“Corporations need demand in order to profit, and innovate. Demand comes from those who will spend, and jobs are created by that demand.”
We need to realize we have fully tested supply-side economics via Saint Reagan, and it simply does not work. Proven most successfully by corporations’ demonstration that, even when given the largest cashpiles in history, will not create more jobs. The fear is that we’ve gone so far down this road, as a 1%’er, how can you entrust saving our economy to the unwashed masses? I would simply remind them that Wriggley field was built on 5 cent sticks of gum. Let’s learn from history, not repeat it!
Thanks again for the great article, Aaron.
Thanks Ben, totally agree with you.
I wish that issues like this could be discussed without both sides sticking their fingers in their ears and pointless shouting talking points back and forth.
The discussion of what is a dollar worth to a wealthy person made me think of something I once read about and was able just now to trace to the July 1990 issue of Spy Magazine.
I agree with your conclusion. If stimulus is what you are going for, giving money to people who will spend a greater percentage of that money is the most effective solution.
The fact that there is so much resistance to stimulus – the debate in the US government today is about what and how much to cut from public spending, not how to effectively stimulate aggregate demand – means that we need to take a step back and explain why stimulus needs to happen.
Something I find a little ironic about the way our economy is now is that the people in our country that would look down on a grassroots-only stimulus approach like this might decry it as some manner of communism, socialism, soviet-economics, whathaveyou. The implication being that those forms of economics are bad because their hard work and hard-earned cash are being redistributed to people that do not work as hard — thus giving them a “free ride” and effectively invalidating the hard work done by “those that can.”
But for some reason, that same reasoning is not applied when money is redistributed to already-wealthy people. Is this because if someone is already wealthy, they do not “need” the money and therefore will not work less hard as a result? I’m genuinely curious — I would like to really understand the thought process why someone would support redistribution of wealth upwards but not laterally. I say laterally because the majority of us are in the same order of magnitude in terms of income, and any economic mobility we have is realistically limited to the sandbox within that same order of magnitude.