Monday, August 25, 2008

Fallacies of Fallacy

Naming a fallacy is very powerful. It signals that not only is something logically incorrect, but so many get it wrong it's worth naming. But like so many powerful things, it's misused. I found this list of "7 Economic Fallacies" written by Tejvan Richard Pettinger, a teacher at Cherwell College, Oxford. Of the seven, three are not fallacies.
Tax Cuts make people work harder.
When you work you are really swapping one valuable resource (time) for another (money). Cutting taxes (which is the equivalent of a pay raise) could mean the person spends more time to get much more money. It could also mean they spend less time to get the same amount of money. It depends on their preferences. As Pettinger implies by his explanation this is an empirical question, not a fallacy.
A Current Account deficit [also known as the trade deficit] doesn’t matter.
That happens to be true. Many of his explanations for why the trade deficit is a problem happen to have logical fallacies, though. Concerns of an "unbalanced economy" are inconsistent with a lack of concern about trade flows between cities; concerns of capital flows ignore that the current account is the mirror image of the capital flow, by definition; concerns that a current account deficit means more foreign liabilities ignores that the trade deficit is not debt (when two people trade, no debt is created). That Pettinger acknowledges "some economists" don't think the trade deficit matters demonstrates that this is not a fallacy.
Tax Cuts will boost the Economy.
The reasoning behind this supposed fallacy is that of increasing consumption, a straw man since in the strict mathematical sense this won't change anything. (Government spends less and consumption plus investment increases by an equal amount.) The logic behind the argument is in how the funds are spent. Money in the hands of private citizen is more likely to be used more efficiently than money in the hands of political agents (for the normal incentive reasons). Thus tax cuts could easily better efficiency and thus the economy. Granted, Pettinger is correct that borrowing in response to a tax cut does little (it only shifts the spending burden to later generations while crowding out the investments today) but the other way to balance of the budget, cutting spending, won't have such adverse effects.

Popular opinions of economics are filled with blatant nonsense. There are so many, we don't need to the lower the bar and paint differing opinions as something so flawed as a fallacy.


Ryan said...

In re the 3rd one, if we suppose Barro-Ricardian equivalence holds, then there's no change. If we suppose it doesn't hold, then doesn't the tax-smoothing result mean we should still be skeptical of any expectation of boost to the economy? (In particular, it seems like a good public-choicer/libertarian should think that deficits are a weaker restraint on spending than taxes, so tax cuts will lead to more gov't spending, and gov't spending is bad, ergo, tax cuts by themselves are bad for the economy.)

David said...

If Ricardian equivalence holds and the cut is funded though deficit spending, then yes there is no change. This was Pettinger's point. My point is that there are other ways to fund tax cuts, i.e. cutting spending. If taxes fall and debt is constant, even with Ricardian equivalence we would see an improvement.

Ryan said...

I think your point here is that spending cuts are good for the economy, which I would often agree with. But the tax cuts themselves aren't doing the work, so it seems like you are implying either (a) that when someone says tax cuts, it's implied that they also mean spending cuts, or (b) that tax cuts cause spending cuts.