Matt Nolan

National’s tax cuts: Prior to the release

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It now appears that National is going to scale back its tax cuts (ht Big News, Kiwiblog, The Standard) – stating that poor economic conditions have made larger cuts uneconomical. There are two ways I can read this:

  1. The economy is only temporarily weaker so we can cut taxes more later,
  2. The economy is structurally weaker than we expected but the level of spending we want to make is unchanged, therefore we cannot cut taxes as much,

The first way doesn’t make sense (as tax rates should be independent of the economic cycle, they are “structural”). We have discussed this before here.

The second reason is defensible, but if this is the case then the structure of their package seems a bit strange. They still want to give the $50 a week tax cut to an average person worker, so they are reducing the tax cut to high income earners. This will increase the progressiveness of the tax system further, which may increase equity but will definitely reduce economic efficiency (relative to a flat tax cut scheme – as it increases effective marginal tax rates).

Given that Labour states that focusing on equity is one of their primary goals, and National has been stating that it will improve economic efficiency, this sounds more like a Labour party policy than a National party policy. How can National say that it is going to “grow the economy” compared to Labour, when its tax policy does not add any growth impetus and its spending policy is pretty much the same?

If National is differentiating themselves from Labour, then I think they need to advertise it because I can’t see the difference. (Apart from the fact that National said they won’t mess with the Reserve Bank Act – for an economist that is a big issue where I think National wins, but I don’t imagine this will get non-economists particularly excited).

Of course, we will have more details about the potential for National’s tax policy to “grow growth” once it is release. Once the policy is out we will comment on whether National is threatening to be as fiscally irresponsible as Labour has been – by the sounds of things it appears that the demands of politics will lead them down that way.

Matt Nolan

RBA cuts 100 basis points

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100 basis points slashed by the Reserve Bank of Australia. There cash rate is now 6%. A 50 basis point cut was expected, 75 seemed possible, 100 is epic.

At the start of the recent freeze in credit markets a 75 basis point cut by the RBNZ seemed highly unlikely – but possible. Now a 75 basis point cut is looking increasingly likely – and 100 basis points also seems possible. To put this in perspective – the Bank may have felt that a 50 point cut in October was on the cards following the September cut. Financing costs have now moved up so much that it is (sort of) like the previous cut never happened – implying we need a 100 basis points of cuts just to get where the Bank was aiming, maybe 😛

Does this indicate that the economic situation for Australiasia has deteriorated rapidly – yes and no.

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Will Taylor

Law and Order: An Economics (sunk cost) Perspective

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A raging debate is going on over at Colin Espiner’s blog on National’s new law and order policy. Given that people are making lots of arguments on both sides, I thought it might be worthwhile laying out an analytical framework for how an Economist might view the justice system. I’m not going to go into whether or not I think National’s policy is good or bad, that’s for you to decide.

Before we go any further we need to understand the concept of a sunk cost, as this will be crucial to my discussion. I’ll let you read the wikipedia definition, but put simply a sunk cost is one which cannot be recovered after it has been incurred. Therefore economic theory states that ex ante you should take into account the sunk portion of the cost of an action but that ex post the sunk portion should be ignored.

I’m going to use the term cost quite loosely here, it can refer to someone being impaired financially as the result of a robbery or suffering emotional harm as the result of a crime. This is not a discussion about the financial cost of running a prison system or anything like that (although I acknowledge that is an important issue).

Now, Let’s talk Justice

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Matt Nolan

Price asymmetry and my bus ticket

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A large debate in economics stems from the idea that there is a price asymmetry in the economy. What this implies is that prices are more flexible in one direction (up or down) then they are in the other direction.

The commonly provided example is petrol prices. People feel that when crude oil rises in price it is passed on immediately, but when it falls in price it takes time for the firm to react and lower petrol prices. This implies that prices are “stickier” downwards, and so the adjustment to two shocks opposite shocks is asymmetric.

Another example is housing. People find it psychologically difficult to accept that the nominal value of their house has fallen, so it tends to be harder for the nominal price to fall than for it to rise.

Now there are a large number of economists that don’t believe these asymmetries exist (I’m in the camp that I think the downward asymmetries are exaggerated). Overall studies have been inconclusive.

Now I think sticky prices exist, but I think we’ve also got an inherent bias to look at cases where they appear to be sticky downwards compared to stick upwards. I was reminded of this when I brought my Gold Pass for the bus in September.

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