Noah Smith Fails to Make a Credible Case Against Neoliberalism

My last post argued, hopefully convincingly, that neoliberalism has been tried, and summarized the evidence that these reforms were successful in aggregate. And yes, while neoliberal policies are not going to be the solution to literally every single economic problem, in the vast majority of cases they have improved outcomes. Smith recently tried to list a few major areas where neoliberalism failed, but he provided no evidence to substantiate these claims, perhaps because the literature often contradicts him. Here's a point-by-point breakdown of why he's wrong about the failures of neoliberalism.

Exhibit A: Tax cuts

It is absolutely correct that there are diminishing returns to tax cuts, something Reformocons have also attempted to point out to supply siders. I also agree with his assessment that JFK's tax cuts had a large positive effect on growth, Reagan's a more modest positive impact, and W.'s a negligible impact. The latter, while an important lesson for conservatives; does not show that further tax cuts, or at least marginal tax rate (MTR) cuts won't be expansionary. I'd prefer revenue neutral or even slightly revenue positive tax reform with lower MTR's on capital, income, and businesses, but I still think plan's like Paul Ryan's, which would lose revenue, would be pro-growth to a significant extent (although not to the degree of the Tax Foundation projection).


Different taxes have a different level of economic impact, and the ways they are funded are equally important. For example, corporate taxes are heavily distortionary, anti-growth, and substantially depress wages/compensation. There is a substantial amount of growth potential that can be exploited by either reforming the corporate tax, cutting it, or eliminating it altogether. One could make a similar case with capital gains taxes, considering most economists have argued that the optimal capital tax rate is zero (with some exceptions, as in this study which argues for a negative capital tax rate, and this one which argues for a slightly positive one, mainly in the form of a higher estate tax).


Implementing these cuts to a substantially extent would likely make income tax cuts necessary, otherwise individuals would simply try to disguise their income as capital or business income, leaving reported taxable income much lower than projected. This is why I support Ryan's 33% top rate; specifically under the condition that the rest of his plan is implemented, but would not support it if it was a standalone policy proposal, unless it was paid for by limiting deductions/credits on the rich. That's not to say that lowering the top rate would boost total government revenues, even under those conditions, but I do believe it would produce enough revenue feedback to make it worth the modest boost to growth that it would provide.


Otherwise, replacing all current federal taxes with land-value, pollution, property, and consumption taxes (as the OECD paper suggests) would have large growth effects. So while Noah is accurate when claiming that the traditional across the board income tax cuts plan won't be very expansionary at our current MTR levels; especially when funded with higher deficits, the idea that we cannot generate a large amount of growth from tax cuts or reform is incorrect.






In "Exhibit B," he cites financial deregulation/underregulation as an example of a recent neoliberal failure, while criticizing the view that the government had a role in creating the crisis. A complete response to this would be far too lengthy to include in here (I may share my views on the causes of the financial crisis and the sluggish recovery at a later point), but I will add that I believe the view it was simply a private sector failure was simplistic, and there is evidence the government played a role in causing it. To summarize my thoughts, it was a once in a century colossal failure of the private sector, regulators, government policy, and monetary policy. The fact that he doesn't even mention the latter is incredibly disingenuous, as surely he's aware that tight money and the Fed's loss of credibility by not responding to rapidly falling inflation expectations and slow growth likely helped trigger the crisis. Certainly it's failure to respond to the calamity in the financial sector (effectively tightening policy because the Wicksellian interest rate was falling) was a large contributing factor to the depth and length of this crisis.

Exhibit C: Light-touch regulation of monopoly. The evidence is mounting that industrial concentration is an increasing problem for the U.S. economy. Some of this might be due to intellectual property, but much is simply due to naturally increasing returns to scale.

The issues of monopolies are largely a government manufactured one, the barriers to entry (we rank 49th in the ability to start a business) and large costs to businesses imposed by regulations (and to a lesser extent, taxes, which small businesses do not have the money to exploit loopholes in order to pay lower rates) have simply crippled competition. Returns to scale and IP are certainly contributing, but they are often net-benefits to consumers and have existed in the past where a more vibrant and dynamic economy with plenty of competition has existed alongside them. The areas of the economy in which natural monopolies are truly most likely to form, even with low burdens on businesses and a lack of barriers to entry, have not been subjected to large-scale neoliberal deregulation.

Exhibit D: The China shock

The idea that a single paper, which doesn't even claim that the China trade shock was a net-negative, somehow debunks the entire consensus and prior literature on free trade is a claim that can be dismissed off hand. The sole argument that has grabbed my attention involves the demographic composition at the time of the China shock. Workers in manufacturing were too old to retrain and too young to retire, so that would help explain the Autor paper results. Even then, it is hard to imagine how these costs exceeded the benefits, as China's explosive growth flooded our markets with cheap products (in part, this is evidenced by the fact that inflation of goods consumed by the poor and middle class has been substantially lower than luxury goods) and the simple law of comparative advantage is almost irreconcilable with trade having a negative impact on any participating nation. Also, the benefit to the poor in the third world has been so immense that even if there was a slightly negative impact on the utility of the average American citizen (the absolute worse-case scenario), I would still fully support our trading with China and southeast Asia and would find it morally repugnant to oppose doing so. I appreciate his acknowledgement that trade has been otherwise beneficial, and trade policy on China didn't even change during this shock, with a single exception (that Yglesias argues is responsible, I really don't buy it given how insignificant the change is). So how is trade a failure of neoliberalism?

Exhibit E: Faux-privatization. True privatization is when the government halts a nationalized industry and auctions off its assets. Faux-privatization is when the government outsources an activity to contractors, often without even competitive bidding.

I agree with Noah on private prisons. However, there is evidence that charter schools and vouchers have been effective (although not to the extent proponents have hoped for). This is not true in all circumstances, but I'd liken these reforms to Universal Pre-K; the way they are designed matters, and short-term problems may not be an indicator of what occurs in the long-run. As for noncompetitive bidding projects; they are crony capitalism (and bad), not neoliberalism.

 Exhibit F: Welfare reform. Clinton's welfare reform saved the taxpayer very little money, and appears to have had little if any effect on poverty in the U.S.

Sure, if one ignores the massive reduction in poverty that coincided with the reforms, especially from the EITC expansion.

Exhibit G: Research funding cuts

I think the cuts were a mistake. I'm not sure this is technically a neoliberal idea, but it is certainly one that is conservative/libertarian.

Exhibit H: Health care. The U.S. health care system is a hybrid private-public system, but includes a proportionally much larger private component than any other developed nation's system. Our hybrid system delivers basically the same results as every other developed country's system, at about twice the cost. Private health care cost growth has been much faster than cost growth for Medicare

The neoliberal position on healthcare is to simply more market incentives into healthcare (whether or not one favors universal coverage is not a particularly neoliberal position). It's quite unfair to pin the flaws on the current system on neoliberalism, given how neoliberals are not satisfied with it either. Regardless, the empirical claims here are dubious.
It's hard to compare the quality of healthcare systems, but once adjusted for factors like obesity, smoking, alcoholism, homicides/suicides, etc., the U.S. appears to deliver higher quality care than nations with single payer such as Canada. Again, this is debatable. What isn't debatable is that the U.S. does not have the large degree of rationing that can be found in the few nations with Single Payer healthcare (in terms of very lengthy wait times and government deciding how much to spend on healthcare and what exactly to pay for). There are plenty of other nations that have more free-market oriented healthcare systems than single payer, that seem to be doing just fine in terms of annual spending, quality, and wait times. The best example of this is Singapore, but Switzerland and Germany also fit the bill.


While on this subject, it is worth noting that Noah makes the very common mistake of conflating spending with costs. Americans are freer to spend more on healthcare, and also have a greater degree of health issues that aren't related to the quality of a nation's healthcare system, so they end up spending more which in turn drives up prices somewhat, further skewing the numbers. More importantly is the issue of third party payers. Prior to World War 2, most Americans paid out of pocket for the majority of their healthcare expenses. Now, between the fact that healthcare benefits have been tied to employment (as a result of wage controls during WW2), and the fact that government covers a lot of healthcare spending through Medicare and Medicaid (comparing the cost growth of these programs to that of the private sector is unfair as they drive up private sector costs and these programs have price controls), and it is clear to see why prices have been driven up so much. With third parties paying for the vast majority of healthcare, the obvious result will be overconsumption of non-vital healthcare services and consumers not bothering to shop around for the best price. Switching to a Singaporean-style healthcare system with mandatory savings and price transparency, would help us bring our healthcare spending/GDP down to similar levels as theirs, (although due to path dependency and our lifestyle choices, not quite as low), which happen to be roughly a quarter of what ours is.


I largely agree with the last couple of paragraphs; but as to the final argument that alternatives to liberalism should be sought out, don't fix what isn't broken. The global growth slowdown has to do with the fact that the neoliberal reforms have gotten most of the low-hanging fruit out of the way (demographics are playing a role too), and thus are a sign of it's success. Nations that have deviated from neoliberalism, such as Brazil, Argentina, and Venezuala have seen disastrous results. Neoliberalism, like it or not, has brought more success than any other type of economic system or ideology.

Neoliberalism Has Indeed Been Tried, and the Results are Clear: Resounding Success. A Response to Bryan Caplan and Noah Smith.

Noah Smith recently reignited a long-standing debate on neoliberalism, making the case that neoliberal policies has been implemented and has some serious flaws. Bryan Caplan responded by linking to an old blog post, arguing that Scott Sumner was wrong to assert that Neoliberalism worked, given that it was never tried.


Neoliberalism, broadly speaking, is an economic ideology aimed at reducing the regulatory burden on the economy, privatizing state-run industries, enacting free trade policies, and cutting back on (what is perceived to be) excessive government spending. It is also highly controversial, with many believing neoliberal policies to be responsible for the financial crisis, increasing inequality, and sluggish income growth. However, it has proven difficult to discuss as many 'neoliberals' don't think neoliberalism has actually been tried.






All of them make salient points, and this is an important question to be answered, for if neoliberalism has not been tried we can't assess it's merits and flaws.
So, has neoliberalism been tried? Overall, the answer is a clear yes. Caplan is obviously correct that tax revenues and government spending as a percentage of the total economy have not fallen, and in fact have risen in many countries. While certain sectors have been deregulated, the total number of regulations, and arguably the total economic burden of them, have climbed dramatically. All of the smaller and medium sized regulations do add up.




On the other hand, those large scale deregulation policies, as well has privatization, has been undertaken in the U.S. Even more aggressive reform has occurred in nations like Denmark. Taxes/GDP may not have fallen, but marginal tax rates on income, capital, and corporate income have been drastically reduced. Since incentives work on the margin, this is certainly a welcome improvement. Outside of the U.S., the revenues have been made up with consumption taxes for the most part, which economists tend to agree are much less distortionary. Even better, they have been in the form of VATs, which have an incredibly broad base and are "hidden" so as to not effect incentives much. Free trade agreements have been enacted, and welfare has been reformed as to reduce implicit marginal tax rates further and apply strict work requirements.




To this argument, I will echo Nick Rowe here. The main battles against economic statism fought by the classical liberal economists such as Milton Friedman, were to challenge price controls, government ownership of key industries, concentrated regulations in given sectors, protectionism, and the use a demand-side view of the causes of economic growth, as well as the use of fiscal policy to stabilize the business cycle rather than monetary policy. The lesser battles were fought over taxes and government spending, and even there they made progress on MTRs as I've mentioned. Therefore, one can in fact state that neoliberalism has been implemented.




We can certainly agree that these reforms have lead to more economic freedom than the rest of the world which has not reformed. (very few have undergone true neoliberalism as per Caplan's definition).






There is also near consensus amongst economists that the main impact of these reforms will be reflective in the level path of GDP, rather than the permanent growth rate. There are a few exceptions here, but they tend to be the areas that have seen the least amount of reform, and to a lesser extent, arguably government spending. Therefore, it is still useful to reflect on the late '70s to mid 2000's period as the neoliberal era.




This is important, as simply looking at a time-series based data points will not work; both because the areas which have gotten more statist are more likely to have a significant effect on the long run growth rate (and almost certainly in a negative manner), and the fact that there are diminishing returns to economic growth in general. So even if Caplan believes that the regulatory burden and increased G/GDP outweighs the growth effects of the neoliberal policy revolution, we can still determine, with a good degree of confidence, whether neoliberalism has been successful or not, both on a broad level and also with regards to individual neoliberal policies.
Sumner has already addressed these cross country comparisons (something I expanded on, and also discussed the tax portion further). A quick summary would be that the most neoliberal nations tend to have the highest levels of GDP. Those of which that have reformed the most have seen their economies improve faster than those that haven't. Non-neoliberal nations like France, Italy, and Argentina are falling further behind, rather than experiencing the catch-up growth one would expect. Meanwhile, Chile, Ireland, Estonia, etc. are surging, and Singapore, Hong Kong, and the United States remain amongst the most wealthiest per capita nations (adjusted for price levels), after excluding nations that are oil-rich. Of course one can also point to the miraculous reduction in poverty in nations like China and India that have undergone massive degrees of economic liberalization. Clearly, neoliberalism has worked. Granted, the fact that it has achieved its goals overall does not mean each individual policy that neoliberals have pushed have been beneficial. Noah lists several such cases, and I will go over them point-by-point in a follow up post.

Keynesian Economics Misconceptions

The confusion over what Keynesianism is; especially in its modern form, referred to as New Keynesianism, and what it's implications are is quite frustrating. Both sides, at least in popular discussion, seem to mistake Keynesianism for the idea that spending and bigger government is what drives growth. The left uses this as a justification for increased spending and redistribution as a means of growing the economy. The right scoffs at this idea as overly simplistic and a contradiction to Say's "Law." The problem is, this interpretation is completely wrong to begin with.


In reality, it has nothing to do with long-run growth. New Keynesian economics seeks to stabilize the business cycle. In other words; mitigating the risks of recessions, and reducing the length and severity of them when they do occur. The main stabilizing mechanism used is not even increased government spending, it is monetary policy. Specifically, New Keynesians generally support Central Banks setting inflation targets, and adjusting interest rates in order to achieve this level. Inflation is used as a proxy of demand, because when demand exceeds supply, inflation increases. This is why New Keynesians tend prefer a target of around 2% inflation growth per year. This level of stable demand growth is meant to protect the economy from sudden, rapid changes in demand, in which businesses may not have enough time to adjust wages and prices and thus face severe difficulties, and potentially leading to recession. So in general, that's what New Keynesian economics promotes. The main idea is to reduce interest rates to boost investment, inflation, and sending, when inflation is below target, and raise them when inflation is above target.


Spending only enters the equation when interest rates hit zero, and thus the central bank is considered unable to do anything (or much else) to stimulate the economy. Even then, there is no actual idea that spending or deficits are what is necessary to boost the economy. Greg Mankiw, a well known New- Keynesian, advocates for tax cuts in these circumstances. Others argue that government spending multipliers are higher than tax cut multipliers, so they can actually stimulate the economy without adding to the deficit, simply by hiking taxes and raising spending in proportion. Yes, in many cases large amounts of deficit spending are advocated for under these circumstances, but these are a particularly rare set of circumstances to begin with, and one in which interest rates are low enough that deficit spending will not result in large debt payments later on.


There are significant problems with New-Keynesian economics, as market monetarists (a newer school of thought that has a good deal of similarities to NK econ) have pointed out, but overall it is a solid, empirically backed, but often misunderstood school of thought. While it may appear competing schools of thought (I.E. Austrianism, MMT, Marxism) have a good deal of traction, they simply are near irrelevant in the economics profession. New-Keynesianism deserves to be taken seriously, and interpreted properly.

(Edit: I was terribly wrong and apologize) Evan Mcmullin's Presidential Run Is An Establishment Ploy

The long search for a conservative candidate to run as an independent has come to an end. Evan Mcmullin is running for president, and potentially will have support from Mitt Romney and the Koch Brothers. However, there are some huge red flags that suggest he is not actually meant to be a viable candidate, or even a spoiler one. In fact, it is quite plausible that he was pushed into the race by the GOP establishment, because they understand that Trump is doomed, and are worried about Gary Johnson. Specifically, they seek to divide the #NeverTrump vote, in order to prevent Johnson from reaching 15% in the polls. This would, bar any changes in the rules, prevent him from being able to be in the presidential debates.


Let's be clear. This man is not a serious candidate. He's missed the registration deadline in over half of the states, with many more coming up. The main state he will contest is reportedly Utah, where Johnson had the best chance of winning and could have easily been the frontrunner in had he received a Romney endorsement (who was leaning towards Johnson but reportedly now supporting Mcmullin). Neither will be able to garner enough votes to win the state, effectively handing it to Trump.


There are many reasons this is problematic for the GOP establishment. For one, the amount of media attention that would be brought to Johnson just from hitting 15% would give a huge amount of attention to a center-right party that could, if it grew enough; end up being a spoiler party that causes the GOP to lose in a lot of close races, whether national, state, or local. Getting into the debates would also mean that Johnson would be virtually guaranteed to get the 5% of the actual vote required for the Libertarian Party to receive public funding and automatic ballot access, along with a ton of media coverage. Meanwhile, many Republicans have been defecting to the Libertarian Party, and others have backed Johnson. Stopping this outflow is going to be a priority for them. Combine the fact that he could very well win Utah, and the Libertarian Party could receive a huge boost from this election that results in a weakened GOP.


In fact, in the long run, the Libertarian Party may very well become a serious influence in politics, should it react to this attention it could receive by moderating and expanding. The polarization of the two main parties combined, with the fact that both are moving towards statism, opens a huge opportunity for a third party to attract voters who are, or will be, alienated as the parties shift. They could push for free marketers, neoliberals, centrists, non-interventionists, amongst other groups. This is why the GOP feels the need to sabotage it.


The GOP establishment knows Trump is almost certainly going to lose, and that Johnson could very well get the 15%. With that in mind, the only rational thing for them to do to protect their party was to take a major risk. It is clear this move will hurt Johnson, but if they are lucky it could also help Trump. Handing Utah to Trump will help his electoral strategy, and although Mcmullin will garner votes from reluctant Trump supporters, it is possible that he will gain more votes from reluctant Hillary supporters. Either way, the third party risk will be substantially mitigated and they may be able to protect downballot Republicans. Keep this all in mind before getting excited about an independent conservative run.

Edit: I was almost certainly wrong about everything. I have no question of McMullin's intentions, and  have incredibly strong doubts that the establishment had nothing to do with this run. I shall leave this up anyway, I'm not going to hide when I'm awfully wrong.