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.