The Problem with How We Think About Greece

From June 28, 2018

Sometimes posts get lost. Sometimes they get abandoned. Often that’s because I can’t find the cite I need. I started this one in the summer of 2015, and returned to it 3 years later when the missing source material came across my screen.

Greece has improved a bit since then. Back then, it was slow motion train wreck of international macroeconomic news stories. I started this post the day that Greece defaulted on loans from the IMF. Headlines like this one were common: "Greece: The First Developed Country in History to Default to the IMF"

A problem when we in western developed countries think about Greece is that we think it’s one of us. It probably isn’t.

When we think about developed countries, we start with the U.S. What makes it developed? It isn’t that it’s GDP is big, but that it’s GDP per capita is big (and then maybe we exclude a few oil sheikdoms and offshore banking havens where the high GDP per capita might not be representative of actual citizens of those countries). Then we look around, and we see that there are places like Canada, Japan, Australia, Israel, and South Korea that are similar. But most of the similar countries are in Europe. But that starts with northwestern Europe (remember from middle school geography that Europe goes all the way to the Caucusus and Ural mountains). It’s easy for us to say that France, Germany, and the UK are also developed. And some smaller countries in and around them, like the Netherlands or Sweden or Austria. But as we stretch to the south and east, they get rarer. Italy is certainly developed. Spain … not so much. Croatia? Nope. Poland? It’s trying.

Here’s the thing. People are both inclusive and tribal. We have our tribes, but we do like to find new members too. What the EU and the EMU have been doing is adding countries from southern and eastern Europe that look less and less like those in northwestern Europe.† And then journalists call those countries “Developed”. They aren’t. Instead, they’re members of a club in which they’re still trying to fit in.

So when the headline reads that Greece is the first developed country to default on an IMF loan, the part that’s incorrect is probably the usage of “developed”. Just because people from developed countries are willing to vacation there doesn’t make it developed. Just ask Mexico.

And, in a very real sense, Greece is out of the news now because it defaulted then. Think of it like a company that’s faililng versus one that actually went bankrupt and was liquidated. Right now, the firm that’s in that situation is Toys ‘R Us. It’s been a company in decline for a decade. But remember all those warm fuzzys you have of it? In a few years it will be forgotten. Just like Child World has been. So Greece isn’t out of the news because the situation is all better, but rather because it crossed the threshold into bankrupty, and everyone gave up on it for a while.

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From June 30, 2015

Greece has financial problems … and oh … Plato used to live down the street.

I think that the serious thinking of a lot of people about Greece’s problems starts to fall apart because they somehow think that Greece is special. We’d better off thinking about it as a place that was special.

Here’s a two question quiz: 1) name as many Greeks as you can who were born more than 2000 years ago, and 2) name as many Greeks as you can that were born in the last 2000 years? The problem is that we seem to get this Greek Derangement Syndrome because we don’t make the connection that all those Greeks from a long time ago don’t matter much to the Greece of today.

An example of this comes from this chart:

They haven’t put Greece on here yet. But I bet you when they do they make it a different color from what they now show as Europe. They’ll invent a new category because Greece isn’t just part of Europe (like Bosnia and Herzegovina, or the rump Yugoslavia). No, Greece is a member of the more exclusive European Union, and the even more exclusive European Monetary Union (aka the Eurozone).

Those distinctions are made because people want to believe that Greece is different … mostly because um … Aristotle went to school with someone you kinda’ sorta’ know.

This is nonsense. Greece has been a horribly run backwater on the edge of Europe since westerners forced its independence in 1830. It is in financial trouble with the Germans because the Greeks won’t lend to their own government, so its gone begging elsewhere. It was bailed out in 2010, and again in 2012, and already had the best terms for repaying its debt of any country in the EMU … before they spent the first half of 2015 begging for more.

The chart is drawn from the article entitled “Record Greek Default Deals a Blow to the IMF” that appeared in the July 1 issue of The Wall Street Journal.

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Back to June 28, 2018

How is Greece more like the countries in the chart than the rest of the EU or EMU?

Well, for one thing, it’s most statist. Both Americans and Europeans view Europe as being more statist. By that we mean that the economy is more dominated by the government. (This is sort of an urban myth created by not counting the much larger sub-national governments that the U.S. has: when you count all levels, we’re about as statist as western Europe). But we all recognize that the private sectors of most European economies are filled with firms making things and doing business (you know … BP, Volkswagen, Carrefour, Fiat, Siemens, HSBC, Nestle, Bosch, ThyssenKrupp, Airbus, Unilever, Maersk, Nokia, Volvo, and who can forget the now Belgian Anheuser-Busch InBev). That list from Wikipedia contains no Greek firms in the top 150 European firms.

Stop for a minute. Can you name Greece’s largest business (other than tourism, which is dominate dby multinational firms everywhere)? You can’t, because they don’t do much. They do have firms, but I challenge you to find a name on this list that you recognize. This is what makes Greece statist: there isn’t much economy other than the state. Here’s Scott Sumner writing at EconLog in June 2015, from a post the broadly discusses why those on the left have trouble figuring out what’s wrong with Greece:

… Back in 2008, when I did research on neoliberalism in developing countries, I found that Greece was the least neoliberal economy in the developed world, according to a variety of metrics. Note that at this time Greece was booming, so this was not a question of people who liked neoliberalism calling Greece statist just because they wanted to peg that tag on a failed system. Indeed I was surprised that Greece did so well until 2008, despite being so amazingly un-neoliberal.

Of course we all know what happened next. The world discovered that the Greek boom was funded by unsustainable foreign borrowing, and that the Greek government lied about how much they had borrowed. When the huge debts were exposed, Greece had to sharply curtail its borrowing. Even worse, the eurozone crisis pushed Greek into recession. Greece is now widely seen as the worst economy in the developed world …

Sumner is right/libertarian, but I think he too suffers from the point in my thesis here that we’re giving Greece too much credit.

The research he refers to is here. It’s from 2008 when everyone was fooling themselves that Greece was like other EU or EMU members. Here’s the thing: there’s roughly 200 countries on the globe, and “developed” applies to the top 40 or so in GDP per capita. Greece is either at the low end of that range, or beyond it. And if we look at the Index of Economic Freedom (in the link at the start of the paragraph) Greece is ranked around 80th, between Honduras and Nicaragua. But what other countries are about 40th on the one list and about 80th on the other? Kazakhstan.

Do you think of Kazakhstan as developed? Probably not. Then don’t fool yourself that Greece is either … even if you think Lysistrata has some relevance to #MeToo.

† And if you don’t think the EU and EMU are tribal, you should read up on how they have slow walked admitting Turkey.‡ Even though Turkey is a lot more developed than most of the places between Istanbul and Brussels. Many international policy critics view Turkey’s turn towards Islam as partially resulting from being rejected. The Turks spent hundreds of years trying to get closer to the west, and the closest anyone ever let them come was joining the Central Powers in World War I.

‡ You can probably imagine what the slang phrase “slow walked” means, but if not you can find it in Urban Dictionary. Apologies in advance for any other NSFW things that catch your eye there.

We’ve Gone Too Far: Income Redistribution, Effective Marginal Tax Rates, and Our Angry Middle Class

Mankiw makes the point that the effective marginal tax rate on a poor person in the U.S. is currently 76%.

What does that mean? Is it high? Should we do better? It turns out the answers to those questions tell us that U.S. income redistribution policies go too far towards helping the poor, and are too harsh on the middle class.

So what does the 76% mean? As typical in income inequality work, we’re dealing with quintiles of the population. And Mankiw’s numbers come from this report (also used for class in this post), with his calculation motivated by this op-ed piece. The report is important because it is currently the most comprehensive analysis of income, in that it counts more additions to income (like social programs) and subtractions from income (like taxes) than any other source. For example, it shows in its Table 4 that the lowest quintile takes home 2.2% of the income earned across the country (that’s the sense in which we have an income inequality problem), but after counting all other changes to their income they end up with 12.9% of the income (that improvement is the sense in which our social programs are helping the poor). That last number is called Final Net Income After All Taxes and Transfers (FNIAATT).

Mankiw then asks a question that’s been bugging some economists for a while: is it worth it for a poor person to try and not be poor? The problem here is that to improve their lot the poor must earn more income. But in doing so, they often lose out on a lot of benefits, and pay somewhat higher taxes. For example, if they worked more hours, and earned 60% more income, but lost 42% of their starting net income by losing some benefits, they’d only be up 18% because an effective marginal tax rate of 70% took the rest away (that’s one minus the difference of 60 and 42 divided by 60).

The hobgoblin making that happen is usually means testing. This is the idea that we should help the poor more than the not-quite-so-poor because the poor need more help. It sounds efficient, and it definitely reduces the size of transfer programs. But it also means when someone is climbing the ladder of success, the government is kicking at them from above.

Mankiw then does something a little goofy (I’m not sure if this is a feature or a bug). He doesn’t calculate the effective marginal tax rate from the lowest quintile to the second lowest, but rather from the lowest to the middle one. Whatever, it’s not a big deal. Here’s what he finds. The share of FINAATT for the middle quintile is 15.4%, so the improvement is 2.5%. But the share of income earned in the market by the middle quintile is 12.6%, so the improvement is 10.4%. Here’s the thing: the people in the middle worked more, harder, or better to get that 10.4%, but lost most of it as taxes and transfers changed leaving them with just 2.5% — 76% of what they worked more, harder, or better for was taken away. That answers my first question. If you’re interested in the less-goofy question about going up from the lowest to the second lowest quintile, the rate is a tad higher at 79%.

On the face of it, that’s sounds like a huge discouragement to work more, harder, or better. Let’s not be so hasty. Most of us are comfortable living in a society in which at least something is transferred from the richer to the poorer. So we shouldn’t expect that number to be zero. And, we’re pretty used to paying a chunk of our income in federal income tax, having FICA withdrawn from our paychecks, sending more to states and localities in income and real estate taxes, and then paying sales taxes on top of that. Total those up, and you’re in the 40% range for many people. Note that this is an average rate: the math gets a little arcane, but effective marginal rates can diverge quite a bit from average rates, and a progressive tax system puts them on the high side. The bottom line is that we shouldn’t jump too quickly to presuming that my 79% (or Mankiw’s 76%) is too high.

A better way to assess this would be to figure out the effective marginal tax rates for all upward shifts. So, it’s 79% to go from lowest to second lowest, and then 73% to make the jump from second lowest to the middle quintile, 59% to go one step further, and then 44% to go from the second highest to the highest quintile. Now we’re getting somewhere. Our system as it currently stands punishes everyone for working more, harder, and better. But don’t forget that this is OK: it means we’re all chipping in to help the less fortunate. The thing is, we punish the poor who work more, harder, and better more than we punish the upper middle class who choose to do that. Is it any wonder that there’s a perception that the upper middle class has more strivers?

That answers my second question. Yes, 79% is too much to take from the poor who are trying to improve their lot because we don’t take as much from those who are better off and trying to do the same thing.

The third question is mathematically tougher. How could we do better? Let’s start with not punishing poor people who try to improve their lots more than richer people who try and improve theirs. That means we need to figure out how to simultaneously change all of the FINAATT shares so that the sequence of four rates are all the same. Here’s what we’d get:

Quintile	Current FINAATT Share	Improved FINAATT Share
Lowest	12.9	12.9
Second	13.9	14.9
Third	15.4	17.1
Fourth	18.6	20.2
Highest	39.3	35.1

Note that the shares shown may not add up to 100% due to rounding.

 

With the shares on the right, no matter which quintiles you move up from, and no matter how many steps you go up, the effective marginal tax rate is always 60%. That’s right in the middle of the four rates noted above. Do note the calculations show that the FINAATT share of the lowest quintile should go up ever so slightly, but not by enough to round up to the next digit.

 

There’s something for almost everyone here. Democrats/Progressives will be happy to see that more is redistributed away from the highest quintile. Republicans/Conservatives will be happy to see that we’ve already helped the poor “enough”. And (at least in word) everyone likes to help the middle class (generally understood to be the middle three quintiles), and these numbers show that they need some help: in the range of a 10% improvement in their share. That’s $5-10K more per year for tens of millions of households across the country: in the range of a car payment, tuition, health insurance deductibles, or a sweet family vacation.

 

This result is ironic. There are duel concerns about whether we help the poor the right amount, and whether the poor have appropriate incentives to improve their lot. It turns out that getting the incentives right for the poor is mostly about making the middle class more attractive.

 

This also goes some way towards explaining what some view as capriciousness on the part of middle-class voters. Many are perplexed at the numbers of the middle-class who voted both for Trump in 2016, and Obama in either of the two previous elections (and maybe even showed an interest in the maverick or third-party campaigns of Dean, Nader, McCain, Buchanan, Perot, or even Anderson). They say they’re hurting, but it’s been difficult to pin down how that could be. Now we know.

 

Here’s a spreadsheet showing these calculations (link fixed).

We’ve Gone Too Far: Income Redistribution, Effective Marginal Tax Rates, and Our Angry Middle Class

Mankiw makes the point that the effective marginal tax rate on a poor person in the U.S. is currently 76%.

What does that mean? Is it high? Should we do better? It turns out the answers to those questions tell us that U.S. income redistribution policies go too far towards helping the poor, and are too harsh on the middle class.

So what does the 76% mean? As typical in income inequality work, we’re dealing with quintiles of the population. And Mankiw’s numbers come from this report (also used for class in this post), with his calculation motivated by this op-ed piece. The report is important because it is currently the most comprehensive analysis of income, in that it counts more additions to income (like social programs) and subtractions from income (like taxes) than any other source. For example, it shows in its Table 4 that the lowest quintile takes home 2.2% of the income earned across the country (that’s the sense in which we have an income inequality problem), but after counting all other changes to their income they end up with 12.9% of the income (that improvement is the sense in which our social programs are helping the poor). That last number is called Final Net Income After All Taxes and Transfers (FNIAATT).

Mankiw then asks a question that’s been bugging some economists for a while: is it worth it for a poor person to try and not be poor? The problem here is that to improve their lot the poor must earn more income. But in doing so, they often lose out on a lot of benefits, and pay somewhat higher taxes. For example, if they worked more hours, and earned 60% more income, but lost 42% of their starting net income by losing some benefits, they’d only be up 18% because an effective marginal tax rate of 70% took the rest away (that’s one minus the difference of 60 and 42 divided by 60).

The hobgoblin making that happen is usually means testing. This is the idea that we should help the poor more than the not-quite-so-poor because the poor need more help. It sounds efficient, and it definitely reduces the size of transfer programs. But it also means when someone is climbing the ladder of success, the government is kicking at them from above.

Mankiw then does something a little goofy (I’m not sure if this is a feature or a bug). He doesn’t calculate the effective marginal tax rate from the lowest quintile to the second lowest, but rather from the lowest to the middle one. Whatever, it’s not a big deal. Here’s what he finds. The share of FINAATT for the middle quintile is 15.4%, so the improvement is 2.5%. But the share of income earned in the market by the middle quintile is 12.6%, so the improvement is 10.4%. Here’s the thing: the people in the middle worked more, harder, or better to get that 10.4%, but lost most of it as taxes and transfers changed leaving them with just 2.5% — 76% of what they worked more, harder, or better for was taken away. That answers my first question. If you’re interested in the less-goofy question about going up from the lowest to the second lowest quintile, the rate is a tad higher at 79%.

On the face of it, that’s sounds like a huge discouragement to work more, harder, or better. Let’s not be so hasty. Most of us are comfortable living in a society in which at least something is transferred from the richer to the poorer. So we shouldn’t expect that number to be zero. And, we’re pretty used to paying a chunk of our income in federal income tax, having FICA withdrawn from our paychecks, sending more to states and localities in income and real estate taxes, and then paying sales taxes on top of that. Total those up, and you’re in the 40% range for many people. Note that this is an average rate: the math gets a little arcane, but effective marginal rates can diverge quite a bit from average rates, and a progressive tax system puts them on the high side. The bottom line is that we shouldn’t jump too quickly to presuming that my 79% (or Mankiw’s 76%) is too high.

A better way to assess this would be to figure out the effective marginal tax rates for all upward shifts. So, it’s 79% to go from lowest to second lowest, and then 73% to make the jump from second lowest to the middle quintile, 59% to go one step further, and then 44% to go from the second highest to the highest quintile. Now we’re getting somewhere. Our system as it currently stands punishes everyone for working more, harder, and better. But don’t forget that this is OK: it means we’re all chipping in to help the less fortunate. The thing is, we punish the poor who work more, harder, and better more than we punish the upper middle class who choose to do that. Is it any wonder that there’s a perception that the upper middle class has more strivers?

That answers my second question. Yes, 79% is too much to take from the poor who are trying to improve their lot because we don’t take as much from those who are better off and trying to do the same thing.

The third question is mathematically tougher. How could we do better? Let’s start with not punishing poor people who try to improve their lots more than richer people who try and improve theirs. That means we need to figure out how to simultaneously change all of the FINAATT shares so that the sequence of four rates are all the same. Here’s what we’d get:

Quintile	Current FINAATT Share	Improved FINAATT Share
Lowest	12.9	12.9
Second	13.9	14.9
Third	15.4	17.1
Fourth	18.6	20.2
Highest	39.3	35.1

Note that the shares shown may not add up to 100% due to rounding.

 

With the shares on the right, no matter which quintiles you move up from, and no matter how many steps you go up, the effective marginal tax rate is always 60%. That’s right in the middle of the four rates noted above. Do note the calculations show that the FINAATT share of the lowest quintile should go up ever so slightly, but not by enough to round up to the next digit.

 

There’s something for almost everyone here. Democrats/Progressives will be happy to see that more is redistributed away from the highest quintile. Republicans/Conservatives will be happy to see that we’ve already helped the poor “enough”. And (at least in word) everyone likes to help the middle class (generally understood to be the middle three quintiles), and these numbers show that they need some help: in the range of a 10% improvement in their share. That’s $5-10K more per year for tens of millions of households across the country: in the range of a car payment, tuition, or a sweet family vacation.

 

This result is ironic. There are duel concerns about whether we help the poor the right amount, and whether the poor have appropriate incentives to improve their lot. It turns out that getting the incentives right for the poor is mostly about making the middle class more attractive.

 

This also goes some way towards explaining what some view as capriciousness on the part of middle-class voters. Many are perplexed at the numbers of the middle-class who voted both for Trump in 2016, and Obama in either of the two previous elections (and maybe even showed an interest in the maverick or third-party campaigns of Dean, Nader, McCain, Buchanan, Perot, or even Anderson). They say they’re hurting, but it’s been difficult to pin down how that could be. Now we know.

 

Here’s a spreadsheet showing these calculations.

A De-Banked Country

The Republic of the Marshall Islands (hereafter RMI) is a small country composed of atolls dotted across the central Pacific.†

If you’re a World War II aficionado, some of the island’s names might be familiar to you. Even if not, the imperialist association is important. The islands has non-existent Spanish governance, then German mercantile governance, then Japanese military governance, followed by arguably more beneficial U.S. governance.

This means that domestic banking in the RMI connects to the rest of the world through the U.S. financial system. And increasing complex regulations here have made it unprofitable for U.S. firms to maintain their connection to the RMI. Ostensibly, those regulations are about monitoring and discouraging money movements related to terrorism and organized crime. But the alternative is that countries like the RMI become cash-based, which is good for terrorism and organized crime. Sheesh.

… The IMF and other agencies are now trying to help the Bank of the Marshall Islands get in compliance with the new rules.

“For a little country like this and for the small banking community there, this has been overwhelming,” said Andrew Spindler, president of the Financial Services Volunteer Corps, a New York-based nonprofit that has been working with Marshall Island officials.

“The tide has been rising over the last 10 to 15 years about what banks expect from each other,” said Adam Szubin, who has led efforts to combat terror financing and money laundering at the U.S. Treasury Department. “And that has excluded some peripheral banking systems that just haven’t caught up.” …

For now, there’s one branch of one foreign bank (the Bank of Guam) on one island.

† SUU has some students from the nearby Federated States of Micronesia. Potentially they have the same problems, although the FSM is twice as populous and has about three times the GDP.