The various basic income proposals floating around are often criticized for being unrealistic, and let’s face it, they often are. In a recent column, John Kay is asserting that “either the basic income is impossibly low, or the expenditure on it is impossibly high.”

This includes an implicit dismissal of the Keynesian arguments — that the basic income would create demand that would snowball into economic growth — of some basic income proponents. I happen to agree that this aspect is unlikely to deliver miracles, so let’s assume no such effect here.

Too high

It’s easy to agree that spending half of GDP on basic income would not be acceptable, but it’s also a good problem to have: humans are scarcity animals and do not work well when too far from need, as can be seen in the often sorry state of people benefiting from windfalls (third generation heirs, lottery winners, small “first nations” in rich and guilty countries, etc). Thus a basic income should probably be high enough to remove fear of survival (food and shelter) but not to so high as to remove the need to get out to the world to improve one’s lot.

Impossibly low is desirable…

In Western countries what some would describe as “impossibly low” does provide pretty decent survival standard. The Ikea/Lidl/Primark lifestyle is pretty okay, and way more comfortable than what the richest slice of society could afford a century or two ago. So a basic income in the region of say $500 a month for a tier 1 developed country would probably do the trick (assuming social housing and healthcare are not subsumed into it).

… and possible

Would simple arithmetic work for that? To design a realistic basic income we need some premises:

  • Assume the net expense on welfare remains constant, because it reflects what a society is ready to accept in redistributive pressure. This allows isolating the effect of the basic income as a redistribution technique from other ideas about changing the amount of redistribution (which can be done through any mean).
  • Assume the wealthier members of society (say the top half) do not get richer out of it, that is the (income) tax system is adjusted to increase the tax they pay by the amount of basic income they receive.
  • Some existing welfare mechanisms are abolished (such state unemployment benefits, child benefits) or restricted (e.g. pension age could be pushed forward) as the basic income replaces them.

Then what basic income is possible? It’s simply equal to:

basic income = removed welfare services budget + tax equalisation

Detailed number crunching would be required, but I’d expect it to come to $300-$600 per adult, again for a tier-1 developed country.

The main variable here is what services get replaced (and to what extent) by basic income so it computes at all times.

Radical realism

A realistic scenario is probably better thought with social housing, public education and public healthcare arrangements untouched, but the basic mechanism also applies should someone wish to privatise some or all of these services: then the fewer services are left, the closer you get to a basic income equal to the tax take, though the higher basic income might then buy less, depending on the distributional profile of each service (a most tricky issue on its own).

What are the benefits of a survival income?

A survival basic income wouldn’t abolish poverty, in so far as this is more or less defined as inequality — how much less one has than others, rather than the absolute level of what one has — but still have some interesting properties:

  • Improve the bargaining power of low-paid workers not forced to work for mere survival
  • Remove net tax discontinuities (being a net loser when taking a low paid job)
  • Simplified administration (some)
  • Increased acceptability of redistribution

The welfare illusion

The latter point is perhaps the most neglected while the most powerful point in favour of basic income. It makes no difference in pure economic terms whether the cash flow between the state and the citizen is done through tax or benefit payments, it’s the net that matters.

But, like with the money illusion in the monetary realm, optics matter. This can be observed today in the difference in perception between universal benefits (like child payments and some healthcare in many developed countries) and means tested ones (typically unemployment and safety net income). The former are often popular and well accepted, even by net payers, while the latter are seen as prone to abuse, and divisive. A basic income, even if compensated by tax, would probably quickly become part of the societal furniture.

Even if it was the only benefit, it’s probably worth doing for that alone.


Reverse tax lotteries — taxes where a basic parameter (the amount, the taxpayer) is chosen randomly — are an interesting concept which may have a wealth of applications. Maybe there’s a series coming here.

Today’s instalment is about using taxes as a regulatory device to control for financial concentration and increase risk awareness and management among market players.

Financial products are not aircrafts

One problem with the mainline approach to financial regulation is that it’s aimed at trying to find fragile features of the financial system, and then regulate around the fragility to make it impossible to happen. This is basically the aircraft industry’s approach to safety. This may not be such a good idea in finance because financial failure are as such not as catastrophic as a plane crash. Finance is about bookkeeping units of future resource allocation power, where failure causes more subtle problems — sometimes not even system-level negative — than a plane crash. Secondly in finance players are often trying to work around the safety procedures instead of consenting to the safety imperative as pilots and maintenance technicians generally do.

Regular failure

What best to teach people to cope with failure than having it happen frequently enough for it to become a manageable habit? Incandescent light bulbs fail frequently, so cars have two headlights, so they can keep operating at night should the predictable failure of one light bulb occur. The statistical chance of both lights failing is small enough, that one can take the small residual risk of having a complete failure between the failure of one lamp and its replacement.

In finance the solution to such issues is diversification. If one’s savings are split between 100 issuers, the failure of one of them is a non-event. Unfortunately, some classes of financial instruments, e.g. the quality end of fixed income, fail so rarely that people often forget they can fail, which in itself is a contributory factor to them failing en masse during systemic crisis.

Probabilistic bankruptcy

So, a way to remind people of that failure risk is to have forced bankruptcies: have the regulator pick some random issuers every so often, and simulate a bankruptcy, by taking all their assets and closing them down. Applied to equity for instance, this could be done by expropriating current shareholders of the randomly chosen company, and redistributing new shares via an IPO whose proceeds are tax revenue.

It’s a nice way to add some tax revenue as well, which could substitute some of the existing non-probabilistic taxation, of fund new public goods as desired. Alternatively this can be do in a tax neutral way, by redistributing the proceeds of the levy to the remaining players.

This tax could be applied to all asset classes, e.g. just pick 1% of all available financial products every year and fail them. For risky investments with an intrinsically high failure rate it will just be barely noticeable noise, and it spares the regulator the arduous and hazardous task of having to classify instruments.

In addition to reminding people of bankruptcy risk, by effectively introducing a floor to the level of total loss risk, it is a strong disincentive against having large single points of failure as nobody will want to put too much in any single basket.


Some potential problems with the measure I can think of: this can’t be applied to brokerage-level institutions unless end consumers of financial service are required to diversify brokerages or bank accounts — although maybe that is desirable! Exempt brokerages  could help my making it easy to split savings or investement into diversified portfolios (e.g. replacing single-point of failure ETFs with auto-rebalanced direct holdings of the underlyings).

It does not remove the risk of systemic misinvestment into asset classes represented by many instruments, e.g. if wouldn’t prevent sector bubbles. Still the higher background level of failure may have a slight moderating effect on the psychology of exuberance.

As with any new tax, the argument would be made in any jurisdiction introducing it first that all the money would leave. I see no reason why it should be the case at a reasonable level, the tax load is not in essence that different from say stamp duty style taxes. Indeed in the UK it could replace stamp duty and be levied at the same rate of 0.5% (but here of instruments’ market cap rather than trading volumes).

It’s now a commonly held view to say that Greece would have been better off exiting the euro, returning to their own currency in 2009, let it devalue and restart from scratch.

picture of Greek Europa face watermark on a euro 10 banknote

Greek Europa watermark on new series euro banknotes (credit: ECB website)

Devaluation is no panacea

GDP and real incomes are down about 30% since the beginning of the crisis. It’s a lot, but how much it would have been down in real terms (in hard currency) with an exit? Even if we assume no redenomination costs (untangling contracts denominated in euros, etc) and no adoption issues (Greeks keeping using the euro for some of their daily usage because they didn’t trust the new currency, see below) the typical fall in such cases would be likely at least 50%. Then you would get a bounce in nominal drachmas but where would they be now in real terms? -30% maybe? The historical experience of other countries doing devaluations, say Argentina, does not show it as a certain path to unbridled prosperity.

It is likely that the numbers would have looked better at PPP (purchasing power parity) as all local services and goods go down in price in a devaluation. Greece is though a small country which is far from self-sufficiency and imports many goods, including energy, that are not produced locally, thus ensuring the impact of a devaluation would be felt by all.

So, while it’s not impossible that real GDP would have done a bit better with a devaluation, it’s certainly not a given.

Distributional impact of devaluation and Kosovo-isation risk

Perhaps the one advantage of the devaluation route is that it makes everyone with nominal incomes in the national currency poorer. This is sort of good for social equality — we’re all down together — although in the case of Greece it wouldn’t apply to shipping magnates or owners of tourist-oriented businesses (whose products are world-priced in competition with alternative destinations) so the one percent (or a section thereof) would have done okay either way.

For recipients of social transfers, it’s also not obvious which way is best. A pension halved but still in hard currency may buy more than a devalued one. The distribution is different (cheaper haircuts, higher cost energy) so who knows which is better.

One case where it would be worse for the poorest is the “Kosovo-isation” scenario, where people in employment or with any form of foreign income keep using the euro despite the introduction of a new currency, so the currency is only used by state employees and benefit recipients, who spend or exchange it as soon as they can to avoid it losing value. Some say the state collecting taxes in its own currency gives it value, but not necessarily: people can just convert from euros, or whatever the street currency is, to the tax currency the day before a tax payment is due. In this case the new currency may just go into a death spiral which is combining the disadvantage of a hard currency with those of a local one.

Tsipras is the Troika’s child

Creative destruction has a bad name, but it does, to an extent, work. A problem with everybody getting poorer together in a devaluation is that there are fewer reasons to change bad habits and people can just plod along in their mediocrity until the next round.

Greece had and may still have a dysfunctional state with poor tax collection and poor value for money when delivering services, that is not providing a well working framework for a modern economy. For example, clientelism is central to Greek politics which means people are given jobs they may not be qualified for or productive in as a reward for political support. This is not only a direct net cost to the Greek taxpayer (compared to employing productive people at market rates), but also an opportunity cost as these people may have otherwise found more productive use for their time. Even for the beneficiaries of state largesse, being stuck in dead end careers in comfy but meaningless jobs may not be that fulfilling.

The crisis has allowed Greece to make some progress on this, no doubt with some collateral damage. To know if the devaluation solution would have been better, we would need to know whether there are net benefits to the shock therapy, and how they compare with reforms possible, or not, under a devaluation scenario.

There may be more progress to come as Tspiras, being an outsider can break lots of allegiances that were untouchable for the incumbent. It is quite plausible that his government makes some progress that would have been impossible, or taken decades more, in a sleepy repeated devaluation cycle where a newcomer like Tsipras would have remained permanently unelectable. If Tsipras is the Greek Lula, and the euro crisis made him possible, it may not be a bad thing for Greece.

What now?

In any case, whether the benefits of devaluation then would have been real or imaginary, it’s a bit too late. Exit at this stage would probably be the worst of both worlds, by creating a real term depression at a moment where there are not many benefits left from it. Both Tsipras and the Greek electorate seem to be wise to that.

The main remaining open question is whether they obtain a satisfactory compromise on the large debt stock. Tsipras has new reforming powers to bring to the table. Many of his proposed reforms are compatible with fiscal responsibility (anything that attacks clientelism, or the economic privileges of the Orthodox church, or effective tax collection from the rich). Besides it seems they understand they need to keep the nominal debt untouched, which allows Northern governments to sell a deal to their own electorate more easily. What they need is lower outgoing cash flow for the next couple of years, which any combination of rescheduling, lower interest, or interest capitalisation can do. The situation further ahead can be dealt with later on. A partial (or total) conversion to GDP bonds would also be a good compromise: Greece pays if it does well (as it would with the current setup) and doesn’t if it doesn’t manage (in which case the current setup produces sooner or later a hard default).

The tricky point for the negotiation is perhaps whether they manage to isolate Greek banks from the Greek treasury. If Greek banks were either self standing, or taken over by a eurozone body (EFSB or whatever) then the Greek treasury could suspend, or threaten to suspend, official sector repayments without as such causing a disaster. They could be kicked out from the eurozone for that reason, though that would probably, ironically, require a treaty change and unanimity, that is it would be practically impossible unless they behave really really badly. And if everyone knows that, they’ll do a deal before we get there.

Maybe in 20 years time historians will see that the euro, somewhat inadvertently — or perhaps by design if we consider the euro as a federalist pre-commitment device — helped Greece extricate itself from its own failings. And perhaps save the EU from it own failings in the process too.

I wanted to avoid jumping on the Cyprus bandwagon, but OK, I can’t help. As the most obvious things have already been said many times, let’s try to think about some interesting side angles:

The euro went (mildly) down instead of up

In general this is very good for the Eurozone that the euro goes down, as it creates inflationary pressure from import costs, and compensates for the ECB otherwise stern monetary policy relative to major currency peers, with all the positive impact a modicum of inflation has. So as such that’s good news, more of it please, but that’s not my main point. What we have here is the ECB not bailing out the Cypriot banks, that is not printing (more) euros to fill the hole in their balance sheet, which would make euros more plentiful and therefore cheaper. Things should go up on the news of a supply shock!

Communists against wealth tax!

It seems the “communists” in the Cypriot parliament are against what is effectively a wealth tax. I don’t know for sure if their position applies only to low deposits or to the whole thing but in general true proletarians are not long currency. They should at the very minimum support the >100K portion very enthusiastically (the higher the rate the better) and even for below 100K, I doubt that the median cash savings of ordinary people in Cyprus (or anywhere else outside Monaco) is much above 5K. So they should be fully supportive of the current proposals where the tax starts at 20K (last number I read for the draft law, probably obsolete by the time I post) which should cover the vast majority of their constituency.

Bank run on monday!

The weekend anglophone financial blogosphere was predicting a bank run in all of southern Europe on Monday. Hasn’t happened. It’s not surprising, rationally it’s been years since it has made sense for any resident of peripheral countries to keep any surplus cash (or their entire credit banking) in a Northern Eurozone bank, to avoid both local banking failures and hedge the euro exit risk. Electronic transfers (SEPA) work well and your euro payment card works everywhere at the same price as domestically — and sometimes better, SEPA can be faster than legacy domestic transfers, and you escape domestic out-of-network cash machine levies! So, whatever the reason that made southerners not run so far (or very slowly, which is not a run) is persisting. It could always change but again hasn’t.

A stimulus measure?

If your savings are at risk, then one of the best way to diminish that risk is to spend them. Perhaps frightening everyone will take some away from (excess) savings, which could actually be positively helpful in the current circumstances. In general I think a positive of this is to show that bank deposits are not sacrosanct (esp above >100K or wherever petty cash limit is set) and that could have some positive aspects. Fully guaranteed deposits are in effect synthetic government bonds, with the benefits of the guarantee in private hands, and that cannot sustainably work out fairly.  Now the art is in not blowing up the remaining useful bits of the financial system in the process.

Karl Smith is wondering who may be getting the upside of clearing but recessionary markets in the UK, or why they are otherwise not clearing. He is also keen on bashing Apple for reinvesting its abundant profits in a shiny cash pile. Might there be a salient comparison somewhere?

UK finance minister George Osborne with a red box

UK plc Chief Financial Officer George Osborne introduces a new laptop to customers.

So, which prices are moving in the UK? The government sector seems a prime candidate. The UK government has been following a strict austerian line — incidentally, so much for all the arguments that the eurozone’s structure forces austerity on its members: the UK behaves as if it was inside the eurozone, despite being out and having no such constraints; they could as well be in.

Let’s assume that taxes represent the price of government services. Basically a household pays some money and gets a basket of goods and services. Even if the goods are not priced proportionally to consumption, it’s still some sort of customer-supplier relationship, and in aggregate the distributive question — how each individual consumer is charged their share of total revenue — is not that material.

So what has UK Miscellany Services plc been doing? They’ve been increasing taxes and cutting services. Tim Hartford says they’ve actually done more of the former than the latter, which surprised me a bit, but either way the amount of tax raised for each unit of delivered services has gone up, that is the price for their wares has gone markedly up.

How would that have an effect in everyday life? A typical taxpayer might have been using a basket of government services, and find that suddenly one of them is not available anymore. If it was not essential (say the library they used to attend has closed) they may content themselves without it, or substitute for it with a cheap or free activity (e.g. read blogs instead of library books). The price increase here shouldn’t have a sizeable impact: it becomes a lower standard of living, and possibly even minimally so if there are free or low cost alternatives.

But if the service was essential, and more so than the marginally essential goods or services the taxpayer gets from the private sector, they will probably pay out of pocket. In this case the price of government services has clearly increased: they pay the same/more tax for a reduced basket of goods. And how do they pay for the substitute? They could save less, which would probably be desirable in the current predicament, but they may also, if as cash constrained as most people are, just substitute: buy the formerly government provided service from the private sector (possibly from a former government employee having converted their activity into a private business). This result in further price pressure on the private sector. This scales from one taxpayer to the aggregate of all taxpayers.

So basically the government, as a supplier of services, has increased its profit margin. As it happens to be a loss-making venture, it has really merely reduced its losses, but the effect is the same. What matters here is the change, not the absolute value. Then, what are the government doing with this extra margin: they are reducing their debt, that is increasing their cash pile — making their negative cash pile less negative than it otherwise would be. Like Apple.

And by hoarding profits both Apple and HM Government are contributing to a depressed world economy.

I’m at risk of becoming a John Kay fan-blog, but he’s discovered MMT this week, and tries to debunk the MMT view that it is government taxes that give currencies their value:

A theory called chartalism, which sounds cranky, or modern monetary theory, which sounds better, argues that money derives its value from the willingness of governments to make payments and accept taxes in it. But this is easily refuted. Suppose the Scottish government would only accept payment in highland cows. There would be an active trade in highland cows to meet tax payments, but people would continue to take their banknotes – English pounds, euros, or US dollars, as Tesco preferred – not cattle to the shops. The ingenious folk at RBS would quickly create tradeable highland cattle certificates.

While this is operationally undeniably true — highland cows being an inconvenient enough unit for trading, people wouldn’t take them to the shop however valuable they become due to their value for tax paying purposes — does it invalidate MMT? By collecting taxes in the currency it issues, the government does have some leverage to influence its value, but it may indeed not be the essential thing that makes people use currencies. A failed government might find its currency abandoned for day to day trading, whatever the law says.

It would be interesting to see how much of the Greek economy keeps on using the euro as a unit of trade (pricing, savings) if the Greek government leaves the Eurozone. In an economy with a strong tourism sector, they have a ready made influx of banknotes, and unless they become North Korea, it should remain practical for Greeks to operate euro bank accounts in non-Greek banks, and in the SEPA area they could easily pay each other by doing transfer between those accounts. Private operators could even set up a network of euro-dispensing ATMs. So you could well end up with a two speed society where only public sector employees use the new currency and try to exchange it as soon as they get paid for euros that are used by the private sector, top down from the tourism sector, and less at risk of quickly losing their value. It’s quite possible that the Greek government has already lost enough credibility that it couldn’t get (all) Greeks to use a new currency it issues, even if it wished to.

If taxes have only a marginal role in making a currency valuable, and things like trust in a stable issuer and conventions are a more overwhelming factor in their continued used, maybe we can get rid of taxes completely. A good thought experiment is to try and think what happens to a system where state spending is still done by government with the currency it issues but tax is not used as the inflation regulation mechanism, as per Warren Mosler‘s famed:

Taxes function to regulate aggregate demand, and not to raise revenue per se.

To reduce the system to its simplest form, what happens if we have a system:

  • All government expenditure is funded by currency issuance
  • The treasury is not allowed to save or borrow (no bonds, no savings, funds are released by the central bank only to pay public sector employees and suppliers)
  • The central banks is still in charge of maintaining an inflation target, through the interest rate it charges on reserve
  • It may not be essential, but let’s also assume the replacement of coins and notes with electronic money, which enables the central bank to charge negative rates on reserves (if cash exists only electronically, it cannot be kept under the mattress to escape the negative rate)

So we’ve still got an inflation control mechanism: the central bank can compensate any government spending profligacy by charging punitive rates on bank reserves which should suck up excess liquidity as soon as it’s spent by the government.

The detailed implications of such a system are beyond me, but I suspect this could well work out. Perhaps the hardest thing to get right would be to have people keep trust in the currency after the abolition of taxes, even if could be formally proven it’d work on paper. Trust depends on more than mere facts, unfortunately.

If taxes are not even useful to give value to a currency, what are they useful for? The obvious thing that comes to mind is redistribution, but this also seems immediately invalid, because anything that can be done by taxing some and giving to some others, can also be done by giving more to the others. The government just needs to make more cash or services awards to the needy, which will be, in negative, at the expense of the wealthy. Given how tricky it is to collect tax efficiently from the wealthy, this seems outright desirable. So, as such, the idea that you could operate with no taxes is independent of the desired size of government — it’s an operational question that leaves the size of government question free.

Sounds too good to be true? First, it’s not that “good” as such: it’s an operational change that need not change anyone’s net position, beyond reducing administrative burden some, or actually merely moving it around to the enlarged positive awards system. Second, if untrue, it would be enlightening to understand the mechanism through which it would not work.

Tim Morgan’s suggestion to stimulate aggregate demand through lowering the tax rates on labour at the low end of the scale is eminently agreeable, but the proposal is associated with some fallacies that deserve to be debunked. Supporting valid points with false arguments just reduces the credibility of the speaker, and by contagion that of other people making the same point.

First we have the usual small business fallacy:

Small and medium enterprises (SMEs) are the likeliest source of new jobs, but their growth is hampered by difficulties accessing finance. A partial solution to this would be to reduce taxation on SMEs, leaving more retained profits for investment in growth.

This is a popular one, after all big business is run by heartless Vulcans under contract from the devil themselves while small business is run by your, sometime irritating but otherwise entirely human and likeable, mother in law; or generally people you wouldn’t mind as in-laws. All very well, cats are cute, but that has no bearing on their economic performance.

Surely the optimal size of any given business is dependent on the equilibrium point between economies of scale afforded by size, and the diseconomies of scale like bureaucracy and inertia that are proportional to organisation size. It’s no accident that Tesco or Walmart are more efficient than the local grocery store or that a mass manufactured car offers more bang for the buck than one built by hand in a small workshop.

Left to its own devices most industries or activities should settle on the optimal size for what they’re doing, and we see there seems to be a sweet spot for say car manufacturers (big) or labour intensive construction firms (small). Why, then, should any specific industry size then have more potential for growth and “jobs”? Pending bizarre anomalies, company size just won’t be an salient factor on its own. Big companies as well as small take on new staff when they have more customers who want to buy their wares or services.

It follows that differential taxation based on company size is more than not likely to result in misallocation. People will be pushed by tax reason to manufacture expensive and poorly performing cars in small workshops and everybody will be worse off.

The point that they have difficulties obtaining finance is possibly more valid, but only on a short term horizon, while the banking system is not operating normally and has not yet been replaced by something better. Surely, if small business is such a source of economic performance, the market will rush to lend to it. If it doesn’t fund the workshop making poor  cars, it could be that it’s just a bad business proposition.

Then we have some ill-constructed argument on taxes:

Specific taxes could be reduced because they have adverse economic effects (for example, it has been argued that air passenger duty undermines tourism, that insurance duty is a tax on prudence, and that taxes on private pension funds have proved exceptionally damaging)

That taxes have “adverse” economic effect is self evident: the point of tax is to relocate resources from one point of the economic system to others, and whoever is on the giving side of the relocation is going to find it “adverse”. In that sense all taxes undermine whatever activity they are levied on, and it is all-right. People discouraged from flying by a tenner on their flight, will just go on a cycling holiday, which is good as they’ll probably have as much enjoyment, and consume as much at their destination, without the collateral damage (externalities) of flying that passenger duty contributes to make economically visible.

The taxes on private pension funds are a bit like Ricardian equivalence . Surely they’re so low visibility (the impact is a lower pension by an incalculable amount decades later) that the damage is likely to be very slow and on a relatively small scale. People just don’t make pension decisions by modelling minute tweaks to the tax regime. And if we want to boost consumption and jobs we don’t need everyone to start putting more money under the mattress in the short term.

And, finally, on a point order, the FT Alphaville editor says:

Morgan also thinks we should do away with the 50 per cent top rate of tax

then quoting a much more balanced paragraph where Morgan says no such thing, but basically that on balance the bad aspects (the deterrent effect) he dislikes are probably balanced by the political necessities of doing something about income inequality.

That said the deterrent effect is likely another fallacy. Star entrepreneurs and investors are rarely motivated by the difference a few extra pennies makes when they can practically afford anything they want. Most studies I have stumbled upon which try to quantify this effect seem to find a marginal tax rate in the vicinity of 60-70 percent, above which the disincentive effect becomes worth worrying about, and the UK is currently well below that.

If anything the main objection to high income tax rate is that the solvent wealthy can work around it by reducing their taxable income through simple and legal tax avoidance tricks. But it doesn’t hurt to try, and it’s even Pareto efficient: increasing the high income tax rates pleases those on lower incomes who believe the rich will pay more, without having the rich actually pay much more. However little it collects, it therefore seems a to be a no-brainer because is can make everybody feel good.