Thursday, 6 October 2016

Two Words That Demonstrate Economic Confusion

Ha-Joon Chang regularly flaunts his economic misunderstandings, and this picture above that has been doing the rounds recently is no exception. There are two words that when uttered in the same sentence are a dead giveaway that the person uttering them is rather confused about economics. Those words are 'trickle' and 'down'. Anyone who understands economics proficiently well wouldn't use the term, let alone complain that money is failing to trickle down.

The term 'trickle down' has been created to be used pejoratively by the hard economic left to take pot shots at society's most successful wealth creators. Here's why no one who understands economics would go on about 'trickle down'. Wealth and value are conterminously linked; value creates wealth and wealth creates value. In other words, to create wealth or value you have to create things that people want or things that benefit people.

Supermarket workers, mechanics, cinema owners, musicians, pub landlords and manufactures of electrical goods all create lots of value for all sorts of people, including many people earning more money than they are. Equally, a CEO of a company creates lots of value for his or her customers (and workers by creating jobs), most of whom are paid lower wages.

The reality is, wealth doesn't just trickle; it drips, pours and gushes, depending on the context - and it doesn't just move downwards - it moves sidewards and upwards as well. Try replacing 'trickle' with 'earned' - that's a much better description of what's happening in a market economy. And please do yourself a favour and stop listening to people like Ha-Joon Chang and Hillary Clinton talking about 'trickle down' economics - it's the grammatical equivalent of saying your when you mean you're and it's when you mean its.

What needs to be understood is that the term 'trickle down' would never be uttered by a credible economist, because credible economists know that the trickling fallacy is a garbled label thought up by the left, having no real bearing on how things actually work. In short, if we don't claim it, it's silly to attempt to counterclaim it against us.

The closest we argue about wealth making its way from higher earners to lower earners is in the form of job creation, increased consumption, higher wages and more affordable goods and services.

While we're on the subject, you probably have noticed that arch space cadets Jeremy Corbyn and John McDonnell have a plan - they want to make society more equal by using taxation to take money from those on the highest income and spread it out among the masses. Alas, it's a plan that's long since been proven to be faulty by some seat of the pants mathematics. In 1996 James Mirrlees and William Vickrey were awarded the Nobel Prize in economics for proving that top marginal tax rates should be zero, not, as Corbyn and McDonnell think, high and punitive.

Mirrlees’ work figured out formally what other economists had long before realised informally - that a flat tax is the best tax for economic growth (a flat tax for everyone, and at about 20%, not the excessive rates we have today, or much worse, the super excessive rates of governments gone by).

Some politicians think it's counterintuitive to lower taxes to increase income - but it ought to be obvious that if you tax too highly you disincentivise higher earners to earn more money. Mirrlees found that not only is a flat tax rate the most preferable for all of us - he also proved that the marginal tax rate on the very highest earner should be zero.

To see why, suppose the highest earner in the UK earns £1 billion per year and is taxed on those earnings at a flat rate of 20%. A tax rate of zero for any earnings over £1 billion per year would not make the government's tax revenue any worse off - but it might incentivise the highest earner to earn even more money, which makes him and society better off (more jobs, increased consumption, more consumption tax for the government).

Not only is it untrue that you can 'tax your way to prosperity' - it's equally untrue that you can make society better off by excessively taxing the nation's highest earners. Corbyn and McDonnell really need to start learning this basic thing - that the way to engender economic growth and make Britain attractive to outside investors is to tax competitively against other nations' competitive tax rates, not greedily from within a parochial socialist dystopia.