Sunday, May 1, 2011

Supply-Side Economics

Here Corrections provides a powerful graph on the distortionary nature of taxation from Marco Bianchi, Bjorn R. Gudmundsson and Gylfi Zoega's paper "Iceland's Natural Experiment in Supply-Side Economics" (AER 2001).  Before 1987, Icelanders had to pay taxes on the previous year's income.  In 1987, they had to pay taxes on the current year's income.  Consequently, 1986 had no substitution effect away from work, though taxes were still being paid.  Compared to the surrounding years, there was an increase of  4.16% in real GDP.  Employment jumped by 4.16% for women: to put this into perspective, this is 15% of the entire increase in the employment rate of women between 1960 and 1980, a sexual revolution.

Among the best graphs Corrections has seen in economics displaying a relatively clean natural experiment can be found below (click to enlarge).  
Anything resembling a 4.16% increase in GDP growth per year is something worth fighting for.  Compare if we could capture less than one fourth of this hypothesized 4.16% effect.  By 2020, US GDP would be 1.8 trillion dollars higher: enough to solve any welfare problem one can come up with.  To see this graphically, see projected US GDP with a 3% real growth rate (the average) or 4% real growth rate below (click to enlarge).
Rule of thumb:  nothing but growth matters.

1 comment:

  1. thats an amazing table 1 for a paper