Friday, January 22, 2016

The Greedy Stoic Capitalist Fallacy and Bernie's Healthcare Tax

The Greedy Stoic Capitalist seems to be everywhere these days. She lies at the root of nearly every economic problem that faces us. And she is also central to most of the proposed solutions. From the minimum wage debate to rising healthcare costs, the Greedy Stoic Capitalist is there. Grasping and rapacious enough to cause income inequality and exploit her workers, yet also passive and patient enough to submit to new regulations and taxes without protest or evasion.

If this seems an unlikely description, that's because it is. Common sense tells us that the Greedy Stoic Capitalist doesn't really exist. And yet, their existence is taken as a given--used to wish away basic principles of economics.

To see what I'm talking about, let us consider a recent article that discussed the likely effects of Presidential Candidate Bernie Sanders' new single-payer health plan. Note that our source for the article is US Uncut, which is a left-leaning publication that appears to openly favor Sanders over Clinton. Here, we're going to be specifically interested in the taxes Bernie has proposed to pay for the plan. The article claims that Bernie's plan will save the average American over $5,000 a year on healthcare costs relative to the status quo. But the way it reaches this conclusion is very questionable, as we'll see in a moment.

Now, if you've followed presidential politics much this year, you are probably familiar with Bernie's general worldview. On economic issues, he's about as progressive as they come, and he refers to himself as a democratic socialist. He is very concerned about income inequality, the decline of the middle class**, rising tuition costs, healthcare costs, and in general, the plight of the poor. He also rails against Wall Street and the billionaire class, which he believes wield too much political power and do not pay enough in taxes. Thus, most of his proposed reforms rely on more progressive tax hikes where tax rates go up for the highest earners. His plans for paying for the new healthcare system certainly follow this model.

Here's how US Uncut summarizes Bernie's healthcare tax plan:
First, Sanders would impose a 6.7 percent payroll tax on employers, along with a 2.2 percent healthcare tax on those making less than $250,000 per year. Sanders includes higher percentages for incomes above $250,000 in his legislation (the richest 2 percent of the U.S. population) and a 5.4 percent surcharge on the wealthiest Americans whose modified adjusted gross income is above $1,000,000 (literally less than 1 percent of Americans). Sanders’ bill also includes a 0.02 percent financial transactions tax on Wall Street trading.
Obviously, that's a lot of new taxes. But you'll notice that, true to form, the majority are directed at the rich. The rich represent a small minority of the population, and presumably have money to spare by definition. Neither Bernie nor his liberal supporters care too much about this group. Bernie is more interested in the impact on the average American. Fair enough. We'll focus our attention there as well for the sake of this discussion.

Since the average American makes around $50k per US Uncut, this means we can disregard the taxes on the $250k+ and $1M+ groups. Additionally, since people making $50k are also unlikely to be able to invest much in the stock market, we'll also assume the financial transactions tax doesn't impact them. Meanwhile, Bernie's plan is designed to eliminate all healthcare premiums and insurance and simply pay for everything. Thus, it appears to be a relatively straightforward calculation to determine the savings. Here's what the article came up with:

At first glance, this looks pretty impressive--$5,000 in expected savings would surely be a big deal to someone making $50k. It's like a 10% raise. But one reason it looks so good is because they calculated the tax wrong. Yes, the 2.2% employee healthcare tax times $50k is $1,100; you're not going crazy. But what about the employer's 6.7% tax? Where'd that go?

This is where we see the Greedy Stoic Capitalist subtly working her magic. You see, one of the underlying progressive themes in the healthcare debate is that the employers are just too greedy to pay for their employees' healthcare costs. This piece from ThinkProgress captures the sentiment well, for example. So, if employers aren't willing to voluntarily pay for it, obviously the solution is to just force them to do so with a tax. What could go wrong?

Well, the problem is that "who pays the tax" does not determine "who bears the costs". To see this, let's consider an example that isn't as convoluted as payroll tends to be.

Let's imagine Bill's Food Truck is able to make a burrito for $5, and Bill wants to make $5 on every burrito so he sells it for $10. Bill also happens to be a deeply greedy and spiteful man. So if he can't make at least $5 on a burrito, he's just going to shut down his truck and do something else. Now suppose the government has decided it needs to collect at least $0.50 per burrito to fund a new program. Most commonly, it could do this through a 5% sales tax and require the vendor to collect it. In this case, the customer pays $10.50 per burrito, Bill still gets his precious $5 profit, and he eventually sends the government $0.50 in taxes. If you saw prices before and after the tax, it would probably be obvious that the customer was bearing the brunt of the tax.

Of course, the customer might get a bit irritated by such a tax. Thus, the government might try to be a bit sneakier about it by applying the tax directly to the seller instead--this is what a value-added tax does. To keep it simple, let's assume there's a 10% tax applied to burrito-makers based on the cost of their burrito. In our example, this would mean a $0.50 tax directly on the producer, that the customer doesn't see. Now what will the price be? Of course, the answer is still $10.50. We established upfront that Bill's a greedy Scrooge of a burrito-maker who demands $5 per burrito to get out of bed in the morning. So ultimately, even though the producer literally paid the tax to the government, and the customer may not have even known it existed, they still really bore the cost of the tax.

Bill was our archetypal greedy capitalist. He wanted to make a profit before the tax was imposed, and strangely enough, he still wanted to make a profit afterward. The government's decision to tax his transaction didn't inspire a religious awakening within him or a new political ethos. He's the same guy with the same priorities. So he adjusts his behavior and his prices to account for the tax and moves on with life.

The concept of "who bears the costs" is described in economics as the incidence of taxation, and it is very well understood. In the real world, who bears the costs is rarely an all or nothing situation; buyer and seller will usually each suffer some of the burden. Without having all the facts, it's impossible to know exactly how much will be absorbed by each group. But the general rule is that the party that is more desperate for the transaction to occur will bear a higher portion of the tax, because they are more willing to tolerate price changes.

Now we return back to the payroll taxes in Bernie's plan. We can't assume that the employer will bear all 6.7% of the employer tax, and we actually can't assume the employee will bear all 2.2% of the employee tax either. Instead, the right way to look at this is as a new 8.9% tax on salaries. We don't know exactly how much will fall on each group. But if the employee is making just $50k, chances are they are not in a highly skilled position, which means they may be easily replaceable. Further, if they have any kind of family obligations at $50k per year, they probably are pretty desperate to keep that job. So if we follow the general principle that the more desperate party pays more, that means the employee will probably bear more burden than their employer. That is, the employer will reduce the employee's salary to accommodate the new taxes. The employer will still literally pay more tax, but much of the real cost actually falls on the employee. If we're starting from the premise that the employers were greedy bastards that helped create the uninsured problem in the first place, we have to also assume they'd be willing to cut salaries.

Ultimately, we can't know for sure how the burden of the payroll tax would fall between employers and employees, and, frankly, it's probably the least important part of a massive single-payer overhaul. But we can say with some confidence that Sanders' claimed savings of $5,000 for the average American is almost certainly exaggerated. Even if we grant generous assumptions about the effectiveness of a single-payer system itself, there's no way to defend excluding the employer tax from consideration. It's tough to know whether this was done out of ignorance or as a clever political ploy, but either way, it's still wrong.

Of course, the larger point is the importance of the Greedy Stoic Capitalist in modern political discussions. Bernie may be the most frequent offender, but he is far from the only one. This assumption arises in many different areas, yet it's wrong in every instance. Fortunately, like so many other topics in economics, common sense gives us the right answer. We can't assume that people are greedy jerks in general but magically become generous and compliant when we draft policies that target them. The Greedy Stoic Capitalist doesn't exist, and we need to stop pretending otherwise.

*To keep ourselves on task, we're taking for granted that a single-payer system would not dramatically increase healthcare costs, diminish healthcare quality, etc. In our view, there's good reason to assume it would not work this well in practice, but we'll leave that subject for another day.

**As a matter of statistics, it's correct to say that the middle class is smaller today than it was many years ago. However, an important piece of context is often omitted from this sound byte. More people have graduated from the middle class to the upper middle class than fallen back into poverty.

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