Remora

Drumbeat of war (on the bottom 60 percentile of incomes)

The Center for Budget and Policy Priorities has a nice little skewering of the new Bush tax giveaway. Andrew Lee and Isaac Shapiro begin with Bush's defense of the giveback:




In response to criticism that his tax cut plan is skewed towards upper-income taxpayers, President Bush noted in a speech on January 9 that, under his proposal, a family of four making $40,000 would see its taxes fall 96 percent in 2003, from $1,178 to $45. This represents a tax cut of $1,133

Lee and Shapiro point out that
"the tax cuts that would benefit this family constitute less than one-quarter of the overall cost of the bill. In other words, more than three-quarters of the package could be jettisoned and the $40,000 family mentioned by President Bush � as well as most other middle-class families � would receive just as much help."


We were reading Peter Bernstein's wonderful Against the Gods: The story of risk yesterday. We were struck by Bernstein's description of "regret theory." This theory stems from work in behaviorial economics which was summarized in an influential article by Loomes and Sugden in 1982 -- hey, LI is in a scholarly mood this morning. L and S discovered that people have a tendency to over-react to disappointing outcomes of investment decisions. This goes along with a consistent finding among behavior economists, which is that negative factors have a stronger impact on determining the weighting of probabilities than gain. We've talked about Kahneman and Tversky before on this site, who are the most prominent economists associated with studies that buttress this statement. What this means is that the content of the options available to a decisionmaker are so framed by recent patterns that there is a tendency to ignore regression to the mean, in favor of compensating for past mistakes by a retrospective "punishment" of bad decisions. For instance, you invest in a company that makes some innovative x product, and the company goes bankrupt. So you take the rest of your money out of the sector which is concerned with the species of innovative products that the bankrupt company was affiliated with and you invest it in something safe. Well, this decision sounds rational, but it actually overweights the signal given by the bankruptcy, spreading it over the whole sector.

This is the kind of thing signified by the popular wisdom that generals in the current war are always fighting the last war. This theory helps explain a puzzling feature of Bush's dividend tax. The precipitous decline in equity value over the last three years has had little to do with dividends. Studies have even shown -- often shown -- that dividends are an irrational form of outlay -- companies that give dividends often borrow money for the costs of operation and expansion that are equal to the dividend outlay. Now, there is a countercurrent that claims that, just as leveraged buyouts, by burdening a firm with debt, encourage more efficient management, so, too, dispensing dividends takes tempting money out of the hands of a management group that would otherwise invest it unwisely in unprofitable acquisitions. There might be something to this -- but still, the fact remains that the Bush plan seems to pander to the disappointment of investors in the bursting of the tech sector bubble, in a classic bit of regret behavior that has nothing to do with rational scenarios for future economic growth. In fact, it will encourage disinvestment by corporations -- corporations will be advantaged by producing dividends instead of investing in new plant or R & D. The idea that this effect will be countered by the return of investors to the market is doubtful -- investors return to markets, fundamentally, when earnings are good. That is completely unaddressed by the dividend giveaway.

Not, of course, that any of this is going to get in the way of the Bush bulldozer.