Wednesday, December 8, 2010

Money for me or jobs for the unemployed?

The compromise includes a one-year cut in the payroll tax by 2 percentage points. The tax cut will be entirely in the employees' share. Why do you think they designed the policy in this way? Was it the right choice

From Greg Mankiw's blog describing the agreement between Obama and republicans, which trades a cut in payroll taxes for a cut of taxes for income over $250,000.

Mankiw notes that for most goods making the buyer or seller pay the tax shouldn't matter. However, wages tend not to change fast particularly they tend not to drop (economists call this sticky wages).

In short to summarize Mankiw by cutting the employees' share that means more money in the pocket of anyone who gets a pay check (hey that's me!). If you cut the employers share it means they could hire workers for 2% less than they are paying now or use the savings for investment in new capital. So as I understand it giving the tax break to workers should increase spending faster, while giving it to employers should decrease unemployment faster.

As an economist #2 seems better, as a person keeping 2% more of my income sounds better. So perhaps the best political decision is to give the money to the employee.

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1 comment:

Rob Terrin said...

Great Blog Seth! As a Baltimore native, I just wanted to say thanks for bringing more economic insight to the area (go tigers)!

About your post though, I don't see it so much as an ideological tug of war between employees and macroeconomists, as a judgment based on preconceived notions of the unemployment problem. If you believe it's mainly a supply side problem, then yes increased firms would be able to expand if you decreased their tax load. If, however, you view the problem as one of weak demand, providing employees with more discretionary spending money could boost economic activity across the board. I am skeptical, but open to the idea that firms are having a hard time expanding due to lack of capital. However, a more compelling story for me right now, is that firms' demand expectations are low and as a result they are largely sitting on cash instead of aggressively expanding.

P.S. Found your blog through a link to your Hanukkah production possibility frontier from Marginal Revolution.