1. www.antonydavies.org11 Financial Health of the Government

2. www.antonydavies.org2 Much valuable discussion fails to occur because of pride and prejudice.

3. www.antonydavies.org3 Prejudice Humans who work in the private sector are greedy. Humans who work in the public sector are altruistic.

4. www.antonydavies.org4 Truth The same humans with the same strengths, failings, and desires occupy both sectors.

5. www.antonydavies.org5 Pride Economic truths are opinion.

6. www.antonydavies.org6 Truth The whole point of economic theory is to describe the real world. Disconnects arise not from a failure of economics but from a lack of understanding of what economics is telling us.

7. www.antonydavies.org7 Pride Inability or unwillingness to admit limitations.

8. www.antonydavies.org8 Truth It is impossible for an economy to provide everything that everyone wants. Corollary:A majority vote does not bestow magical powers to circumvent limitations.

9. www.antonydavies.org9 What is the point of this lecture? Data and logic pwn pride and prejudice.

10. www.antonydavies.org10 The Players and the Goals In this experiment, each team controls a firm that sells to a group of consumers. Firms select what price to charge.  Lower price means consumers purchase more units.  Higher price means consumers purchase fewer units.

11. www.antonydavies.org11 The Players and the Goals Goal: Make the most profit possible. Profit = Revenue – Cost (Price per unit) (Units sold) ($1) (Units sold)

12. www.antonydavies.org12 Example You will see a demand schedule like the one to the right. The chart shows the number of units you will sell depending on what price you decide to charge. You must choose what price to charge for your product so as to maximize your profit.

13. www.antonydavies.org13 Example Suppose you charge $10.00 per unit. How many units will you sell? 750 What is your revenue? ($10) (750) = $7,500 What is your cost? ($1) (750) = $750 What is your profit? $7,500 – $750 = $6,750

14. www.antonydavies.org14 Example Suppose you charge $20.00 per unit. How many units will you sell? 550 What is your revenue? ($20) (550) = $11,000 What is your cost? ($1) (550) = $550 What is your profit? $11,000 – $550 = $10,450

15. www.antonydavies.org15 Example Suppose you charge $10.00 per unit. Profit = $6,750 Suppose you charge $20.00 per unit. Profit = $10,450 Of these, $20.00 is the better price to charge.

16. www.antonydavies.org16 Round 1 Choose the price you will charge for your product. Every unit you sell costs you $1 to produce.

17. www.antonydavies.org17 Round 1

18. www.antonydavies.org18 Round 2: Tax the Consumers In this round, consumers will pay an additional $5 per unit tax. You choose a price. The consumers pay that price per unit to you plus they pay another $5 per unit to the government.

19. www.antonydavies.org19 Round 2 In this round, consumers will pay an additional $5 per unit tax. If you charge $7, how many units will consumers buy? 710 What is your profit? ($7)(710) – ($1)(710) = $4260 You charge $7.Consumers pay $7 + $5 = $12. Consumers buy 710 units. What is your revenue? ($7) (710) = $4970 What is your cost? ($1) (710) = $710

20. www.antonydavies.org20 Round 2 Choose the price you will charge for your product. The consumer pays your price plus another $5 to the government. Every unit you sell costs you $1 to produce.

21. www.antonydavies.org21 Round 2: Tax the Consumers

22. www.antonydavies.org22 Round 3: Tax the Producers In this round, producers will pay a $5 per unit tax for every unit they sell. The price consumers pay is the price you charge.

23. www.antonydavies.org23 Round 3 In this round, producers will pay a $5 per unit tax. Your cost per unit is now $1 (for the unit) plus another $5 (for the tax). If you charge $7, how many units will consumers buy? 810 What is your profit? ($7 )(810) – ($1)(101) – ($5)(101) = $5,064

24. www.antonydavies.org24 Round 3 Choose the price you will charge for your product. Every unit you sell costs you $1 to produce. In addition, you pay the government $5 for each unit you produce.

25. www.antonydavies.org25 Round 3: Tax the Producers

26. www.antonydavies.org26 Results In round 3, the government taxed the producers $5. Won’t producers just pass the tax on to consumers?

27. www.antonydavies.org27 Results Producers pass part of the tax ($3.50) on to consumers but pay the remainder of the tax ($1.50) out of their profits.

28. www.antonydavies.org28 Results In round 2, the government taxed the consumers $5. Won’t consumers be forced to pay the full $5 tax?

29. www.antonydavies.org29 Results Producers pay part of the tax ($1.50) out of their profits and leave consumers to pay the remainder of the tax ($3.50).

30. www.antonydavies.org30 Results Lesson #1:The government has no control over who ultimately pays a tax. (even when the producer is a monopolist)

31. www.antonydavies.org31 Results When there was no tax, consumers bought 64 units. A $5 per unit tax should generate ($5)(64) = $320 in tax revenue.

32. www.antonydavies.org32 Results Instead of raising $320 in tax revenue, the government only raises $250.

33. www.antonydavies.org33 Results Lesson #2:The government determines the tax rate, not the tax revenue. (regardless of whom it taxes)

34. www.antonydavies.org34 Lesson #1:The government has no control over who ultimately pays a tax. Lesson #2:The government determines the tax rate, not the tax revenue.

35. www.antonydavies.org35 What is “the debt”? Debt held by the public$9.7 trillion Intergovernmental debt$4.6 trillion Total debt outstanding $14.3 trillion Unfunded obligations Social Security$15 trillion Medicare$35 trillion Total unfunded obligations$50 trillion Total debt and unfunded obligations $64 trillion

36. www.antonydavies.org36 Data sources: US Department of the Treasury, CIA World Factbook

37. www.antonydavies.org37 Data sources: US Department of the Treasury, CIA World Factbook

38. www.antonydavies.org38 Data sources: US Department of the Treasury, CIA World Factbook

39. www.antonydavies.org39 Data sources: US Department of the Treasury, CIA World Factbook

40. www.antonydavies.org40 Data sources: US Department of the Treasury, CIA World Factbook

41. www.antonydavies.org41 Data sources: US Department of the Treasury, CIA World Factbook

42. www.antonydavies.org42 Data sources: US Department of the Treasury, CIA World Factbook

43. www.antonydavies.org43 Data sources: US Department of the Treasury, CIA World Factbook

44. www.antonydavies.org44 Data sources: US Department of the Treasury, CIA World Factbook

45. www.antonydavies.org45 Data sources: US Department of the Treasury, CIA World Factbook Interest payments on $65 trillion = $1.9 trillion 2010 Federal revenue = $2.3 trillion

46. www.antonydavies.org46 Millions, Billions, Trillions (blah, blah, blah)

47. www.antonydavies.org47 $100

48. www.antonydavies.org48 $10,000 A stack of $100 bills, ½ inch high.

49. www.antonydavies.org49 $1 million 100 packets of $10,000.

50. www.antonydavies.org50 $100 million $100 million fits on a standard pallet.

51. www.antonydavies.org51 $1 billion

52. www.antonydavies.org52 $1 trillion About twice the amount of money the U.S. government spends on interest on the national debt in one year.

53. www.antonydavies.org53 $14 trillion The value of all goods and services produced in the United States in one year. Also, the U.S. national debt (as of 2011).

54. www.antonydavies.org54 Total Federal debt and obligations (as of 2011). $65 trillion

55. www.antonydavies.org55 Scale down the Federal government to the size of the average U.S. household.

56. www.antonydavies.org56 Data source: Bureau of Economic Analysis The Federal government collects about $2.3 trillion in taxes per year (all tax revenues combined). The average U.S. household earns about $50,000 per year.

57. www.antonydavies.org57 $2.3 trillion $50,000

58. www.antonydavies.org58 If the Federal government were the size of a household: Data source: Bureau of Economic Analysis Income this year$50,000 Spending this year$86,000 Charge this year$36,000 Credit card balance$320,000 Annual interest$10,000

59. www.antonydavies.org59 In March and in response to growing calls for fiscal responsibility, the President announced a $300 million cut in Community Development Block Grants. The cuts will fund the government for a total of 45 minutes. In perspective…

60. www.antonydavies.org60 Just because the debt is large doesn’t mean much. Hasn’t it always been this large?

61. www.antonydavies.org61 Data source: TreasuryDirect.gov, MeasuringWorth.com War of 1812Civil WarWWIWWII 1929 Crash Great Recession Federal Debt as a Fraction of GDP Reagan & Bush

62. www.antonydavies.org62 Data source: TreasuryDirect.gov, MeasuringWorth.com Federal Debt and Unfunded Obligations as a Fraction of GDP You are here.

63. www.antonydavies.org63 What causes debt? Debt Deficit

64. www.antonydavies.org64 What causes deficit?

65. www.antonydavies.org65 Perhaps we have a revenue problem. Debt Deficit RevenueSpendingRevenueSpendingRevenueSpending RevenueSpending ? ? ? ?

66. www.antonydavies.org66 Federal revenue has risen 6.9% per year (on average). Data source: US Department of the Treasury

67. www.antonydavies.org67 Not fair. Prices have been rising over time.

68. www.antonydavies.org68 Federal revenue has risen 3.3% faster then inflation per year (on average). Data source: US Department of the Treasury

69. www.antonydavies.org69 Not fair. The population has been growing over time.

70. www.antonydavies.org70 Federal revenue per person has risen 2.2% faster then inflation per year (on average). Data source: US Department of the Treasury

71. www.antonydavies.org71 Tax revenue may be rising, but it isn’t rising fast enough. To reduce the deficit, we need to raise tax rates.

72. www.antonydavies.org72 Data source: Congressional Budget Office Sources of Federal Revenue (as fraction of total revenue) Personal income and payroll taxes comprise more than 80% of Federal tax revenue. Lesson #1:The government has no control over who ultimately pays a tax.

73. www.antonydavies.org73 Data sources: Internal Revenue Service, Bureau of the Census This is the top marginal income tax rate over time. What would you expect tax revenue as a fraction of GDP to be?

74. www.antonydavies.org74 Data sources: Internal Revenue Service, Bureau of the Census Many people would expect tax revenue to fluctuate with the tax rate.

75. www.antonydavies.org75 Data sources: Internal Revenue Service, Bureau of the Census Some might expect tax revenue to fluctuate inversely with the tax rate.

76. www.antonydavies.org76 Top Marginal RateRevenue per GDP 30%18% 50%18% 70%17% 90%15% Data sources: Internal Revenue Service, Bureau of the Census Regardless of tax rates, federal revenue has remained at 18% (± 2%) of GDP. Lesson #2:The government determines the tax rate, not the tax revenue.

77. www.antonydavies.org77 Average Marginal Rate Revenue per GDP 25% to 30%15% 30% to 35%17% 35% to 40%18% 40% to 45%18% Data sources: Internal Revenue Service, Bureau of the Census

78. www.antonydavies.org78 SS & Medicare Rate Revenue per GDP < 5%15% 5% to 10%17% 10% to 15%17% > 15%18% Data sources: Internal Revenue Service, Bureau of the Census, Barro and Redlick (2009)

79. www.antonydavies.org79 Effective Corporate Rate Revenue per GDP < 25%18% 25% to 35%18% > 35%17% Data sources: Internal Revenue Service, Bureau of the Census, Tax Foundation

80. www.antonydavies.org80 Capital Gains Rate Revenue per GDP < 20%18% 20% to 30%17% > 30%18% Data sources: Internal Revenue Service, Bureau of the Census

81. www.antonydavies.org81 Total of All Rates Revenue per GDP < 70%16% 70% to 80% 18% > 80%18% Data sources: Internal Revenue Service, Bureau of the Census, Barro and Redlick (2009), Tax Foundation

82. www.antonydavies.org82 If revenue is a fixed 18% of GDP, then the debt problem must really be a spending problem. Debt Deficit RevenueSpendingRevenueSpendingRevenueSpending RevenueSpending

83. www.antonydavies.org83 Data sources: Bureau of Labor Statistics, Bureau of Economic Analysis The average price level has risen 700% since 1954.

84. www.antonydavies.org84 Data sources: Bureau of Labor Statistics, Bureau of Economic Analysis The average price level has risen 700% since 1954. The per-person cost of the Federal government has risen 3,000% since 1954.

85. www.antonydavies.org85 Data sources: Bureau of Labor Statistics, Bureau of the Census The cost of health care has only risen 2,000% since 1954. The per-person cost of the Federal government has risen 3,000% since 1954. The average price level has risen 700% since 1954.

86. www.antonydavies.org86 Fine. Government spending is rising, but it’s because of wars and NASA and subsidies to oil companies…

87. www.antonydavies.org87 Data source: The President’s Budget for Fiscal Year 2011, Office of Management and Budget 2011 Federal Spending Mandatory spending is 68% of the budget.

88. www.antonydavies.org88 Reconsider revenue We only get 18% of GDP in revenue, so let’s stimulate GDP! Spend more!GDP grows! 18% x =

89. www.antonydavies.org89 TARP = $356 b. Stimulus = $578 b. Federal Reserve = $1,500 b. Financial Initiatives = $366 b. Housing Initiatives = $130 b. Data source: money.cnn.com/news/storysupplement/economy/bailouttracker/ Total (net) stimulus = $3 trillion Unemployment pre-stimulus = 6% Unemployment post-stimulus = 10%

90. www.antonydavies.org90 Historically, how has the economy reacted to stimulus spending?

91. www.antonydavies.org91 Data source: Bureau of Economic Analysis, National Income and Product Accounts More government spending More economic activity Stimulus Spending and Economic Growth How should changes in Federal spending be related to economic growth?

92. www.antonydavies.org92 Data source: Bureau of Economic Analysis, National Income and Product Accounts Stimulus Spending and Economic Growth If stimulus spending worked, we should see a relationship like this.

93. www.antonydavies.org93 Data source: Bureau of Economic Analysis, National Income and Product Accounts Increased government spending does not appear to increase economic activity. Stimulus Spending and Economic Growth (1954.1 to 2011.1)

94. www.antonydavies.org94 Maybe stimulus spending doesn’t have an immediate effect. What is the effect over time?

95. www.antonydavies.org95 Data source: Bureau of Economic Analysis, National Income and Product Accounts Increased government spending does not appear to increase economic activity one year in the future. Stimulus Spending and Economic Growth (1954.1 to 2011.1)

96. www.antonydavies.org96 Data source: Bureau of Economic Analysis, National Income and Product Accounts Increased government spending does not appear to increase economic activity two years in the future. Stimulus Spending and Economic Growth (1954.1 to 2011.1)

97. www.antonydavies.org97 Maybe stimulus spending’s effects are cumulative. What is the cumulative effect?

98. www.antonydavies.org98 Data source: Bureau of Economic Analysis, National Income and Product Accounts Increased government spending appears to have a negative cumulative effect over 4 quarters. Stimulus Spending and Economic Growth (1954.1 to 2011.1)

99. www.antonydavies.org99 Data source: Bureau of Economic Analysis, National Income and Product Accounts Increased government spending appears to have a negative cumulative effect over 8 quarters. Stimulus Spending and Economic Growth (1954.1 to 2011.1)

100. www.antonydavies.org100 How can this be?  Government spending doesn’t create wealth; it moves wealth.  By definition, wealth is moved to places people would not have willingly moved it. Hence, we end up worse off.

101. www.antonydavies.org101 Even if stimulus spending did work, evidence suggests that the government is getting its timing backward.

102. www.antonydavies.org102 Can the Government Get the Timing Right? Data sources: Bureau of Economic Analysis, National Bureau of Economic Research. Quarterly data, 1947 through 2009. 75% of recessions are over by now 50% of recessions are over by now Recessions begin here 25% of recessions are over by now

103. www.antonydavies.org103 Can the Government Get the Timing Right? Data sources: Bureau of Economic Analysis, National Bureau of Economic Research. Quarterly data, 1947 through 2009. 75% of recessions are over by now 50% of recessions are over by now Recessions begin here 25% of recessions are over by now

104. www.antonydavies.org104 How to avoid pride and prejudice in favor of civil discourse? Humans are humans no matter who signs their paychecks. There is no such thing as a free lunch. If you think that economic theory doesn’t apply, you probably don’t have all the facts.

105. www.antonydavies.org105 Data sources: 2009 Annual Reports of the Medicare and Social Security Boards of Trustees