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Friday, December 22, 2023

Weekly SSRN Tax Article Review And Roundup: Roberts Reviews Hayashi's The Federal Architecture Of Income Inequality

This week, Tracey M. Roberts (Cumberland; Google Scholar) reviews a new work by Professor Andrew T. Hayashi (Virginia; Google Scholar), The Federal Architecture of Income Inequality.

Roberts (2020)

In The Federal Architecture of Income Inequality, Andrew Hayashi draws into question the national narrative on income inequality and the bias towards national solutions. Existing literature concludes that redistribution should be performed at the national level rather than by local governments. Undergirding this conclusion is the premise that national income inequality is the most important feature of our economic and political landscape. Hayashi shows that while some policies may reduce national income inequality and local income inequality simultaneously, that does not always occur. To illustrate his point, he examines the economic effects of several tax policy changes and proposals on both relative income inequality (using the Theil Index) and absolute income inequality (using the standard deviation of income) at the national and county level based on data from the Statistcs of Income Division of the Internal Revenue Service.

Bernie Sanders’ tax plan to increase corporate taxes, income and payroll taxes for high income taxpayers and to add a wealth tax would have reduced inequality at both the national level and at the county level. The Tax Cuts and Jobs Act, on the other hand, increased inequality at the national level and in almost every county. While the pause on student loan repayments reduced relative inequality at the national level, it increased absolute inequality in almost every county in the U.S.

Hayashi bolsters his empirical analysis with other economic research showing that many of the worst effects of income inequality are experienced only when there is sharp inequality at the local level: higher crime rates, lower growth rates, lower intergenerational mobility, and reduced outcomes for poor children. National measures ignore or conflate these impacts.

Based on this analysis, Hayashi argues that the distribution of income first must be examined through the economic and political infrastructure of the US economy and the federal state and local governments. In other words, income inequality must be examined within different contexts. Hayashi identifies these contexts as “allocative fields,” within which (1) goods, such as housing, healthcare, or political influence, are made available; (2) a currencies, such as money, educational attainment, or political connection, are used to allocate those goods; and (3) individuals, endowed with such currencies, operate indiviually or as a group. Within our federal system, the national, state, and local governments each have different allocative fields, though there may be overlap in the goods provided and the currencies employed. All U.S. residents simultaneously belong to multiple fields at the federal, state, and local levels.

Some allocative fields may be susbstitutes. For example, when a citizen finds it difficult to attain political influence at the national level, she may find a substitute by seeking to acquire influence at the state or local level. Hayashi notes that other policies may be complements, “in that one may not work well without the other.” He explains that advocating for local policies will not be successful without some measure of local control; therefore a bid to establish “home rule” at the state level would be consistent with those efforts and intervention by the wealthy to prevent the devolution of power would be at cross-purposes with that goal.

Along these lines, many federal laws delegate responsibility to the states for administering policies and allocating benefits to state residents. Such efforts will be frustrated if the state and local governments lack institutional infrastructure to allocate such benefits, or if the state legislature intervenes and reallocates federal resources to other uses. For example, after failing to deploy all of its federal COVID funds to help its residents, the Alabama State Legislature reallocated those funds toward building a new prison. Other states planned to use federal funds from the American Rescue Plan to cut taxes for their higher-income citizens, until the Senate modified the act to bar use of federal funds for such purposes. These kinds of legislative actions will likely complicate an analysis of the spillover effects of public goods, fiscal externalities, and redistributive policies, as well as proposals to subsidize jurisdictions with weaker redistributive preferences, or to provide for equalization payments between states to internalize those spillover effects.

Hayashi notes that one of the main concerns about inequality is its effect on politics. Individuals with higher income have greater access and ability to influence government officials and law. When redistributive polices are put into effect, the rich may vote with their feet and move to avoid them. Relatively wealthier populations also tend to redraw the jurisdictional boundaries around themselves to limit access to local resources, redrawing the lines for municipal districts, school districts, and voting districts. As long as those at the upper end of the income scale justify income inequality as tracking merit, their influence is likely to result in policies that exacerbate inequality. Furthermore, if discrimination is the source of, or has laid the groundwork for inequality at any level, then state and local governments are likely to do little to redress this issue.

Hayashi notes that “it's worth emphasizing the contingency of all this. If a greater share of consumption were allocated by non-market mechanisms, then money income would lose power as an all-purpose means of realizing one's goals.” Never is this more apparent, in the context of aquiring political goods, than in a state like Alabama. The lack of home rule, or even limited authority in most counties and municipalities, and constitutional limits on taxation result in communities that lack the power to raise funds to improve their schools, to provide for local healthcare infrastructure, or even to support mosquito control, without first seeking a constitutional amendment (which must be approved by the state legislature prior to being submitted to a vote by the entire population of the state). The state’s history and ongoing acts of discrimination compound these challenges.

Hayashi argues that we have a duty to determine whether a policy will reduce income inequality along each political and economic field. He clarifies that national efforts that reduce inequality at the very top and bottom of the income distribution will provide the most effective pathways to reduce inequality at all levels. He argues that, for national policy, the only way to be certain we have addressed inequality is to place a national priority on reducing poverty. By taxing the richest to benefit the poorest at the national level, we may also reduce income inequality by improving geographic mobility. On the other hand, for zero-sum policies, and for those in which the wealthy have different preferences from everyone else, he argues that allocating decision-making to the municipal or county level may be more appropriate, since income inequality is usually lower at those levels. Hayashi relates other possibilities. We may tinker with the allocative fields themselves. For example, we might change the currency by which we allocate important goods in fixed supply within a field. He explains that, if money were no longer equated with speech, and somewhow “kept out of politics,” political influence would be allocated on the basis of votes. Likewise, if housing and health care were publicly provided, the strong link between inequality and access to these goods would be broken.

Whether any of these options are viable at the state and local level is something to be explored in each state. When we take this deeper dive, advocacy in favor of “federalism” no longer obscures the true impacts of these policies or its darker “states’ rights” history. With The Federal Architecture of Income Inequality Hayashi has given us ample food for thought. In places like Alabama, where a very centralised state government controls even local decisions, allocating more resources at the federal level (and bypassing the state), as we do with the Earned Income Tax Credit and with national insurance plans like Social Security, may be the only pathway to meet the needs of the poor. Fortunately, Hayashi has provided an excellent analytical framework and set of tools to aid our investigations.

Here’s the rest of this week’s SSRN Tax Roundup:

https://taxprof.typepad.com/taxprof_blog/2023/12/weekly-ssrn-tax-article-review-and-roundup-roberts-reviews-hayashis-the-federal-architecture-of-inco.html

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