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David Berri


How Rich People Ask for More Money

Posted: 08/24/11 11:43 PM ET

Imagine you are a rich person who desires even more money. You could just boldly ask people to give you more cash. But many might suspect that you don't "need" the money -- or at least, you don't need the money more than they need the money -- and therefore might be inclined to refuse your request. So what can you do?

Well, one solution is to tell people that if they give you more money, they will be better off. Sound ridiculous? Consider the following two tales from the world of sports and politics.

Once upon a time there were 30 rich owners of NBA teams. These owners decided that it would be great if the players accepted a pay cut. After all, if the owners got to pay the players less, the owners would get more. Of course, the players would be skeptical of this scheme.

Therefore the owners advanced the following argument (one can see an example of this argument in a recent issue of Sports Illustrated): If the players accepted both a hard salary cap and less overall money, the large market teams would not have an advantage over the smaller market teams. Consequently, competitive balance in the league would be improved. This would lead to more interest from fans and greater revenue for everyone. In sum, less pay to players today would lead to more pay for the players tomorrow.

The only problem with this story is that the empirical evidence tells a different tale. As I noted a few days ago, the empirical evidence tells us:

  • The NBA -- relative to the other major North American sports -- has historically been relatively imbalanced. This has been true throughout the tenure of commissioner David Stern and is related to the "short supply of tall people" (a problem revenue sharing and salary caps can't fix).
  • Fans don't seem to care much about competitive balance. Despite the lack of balance in the NBA, attendance has increased dramatically over time. The value of the TV contract has also dramatically increased.
  • There is no relationship between market size and team wins in the NBA.
  • Salary caps, payroll caps, luxury taxes, and revenue sharing don't seem to have much impact on competitive balance. We do have evidence, though, that these institutions transfer money from players to owners.

In sum (and one can read the article at The Wages of Wins Journal for more details), the owners contention that the players would benefit in the future if the players took less money today doesn't seem supported by much evidence.

If we look beyond the world of sports we see that the tactic advanced by NBA owners is not exactly original. A few decades ago the world was treated to the following story. Tax cuts -- especially those targeted to the wealthy -- will pay for themselves. This is because rich people will take this money and create jobs. These additional jobs will generate more tax dollars. Therefore, if we give rich people money today, everyone will have more money tomorrow.

Here is how Gregory Mankiw -- economic adviser to George W. Bush -- described this story in the first edition of his textbook in 1998.

An example of fad economics occurred in 1980, when a small group of economists advised presidential candidate Ronald Reagan that an across-the-board cut in income tax rates would raise tax revenue. They argued that if people could keep a higher fraction of their income, people would work harder to earn more income. Even though tax rates would be lower, income would rise by so much, they claimed, that tax revenue would rise. Almost all professional economists, including most of those who supported Reagan's proposal to cut taxes, viewed this outcome as too optimistic. Lower tax rates might encourage people to work harder, and this extra effort would offset the direct effects of lower tax rates to some extent. But there was no credible evidence that work effort would rise by enough to cause tax revenues to rise in the face of lower tax rates. George Bush, also a presidential candidate in 1980, agreed with most of the professional economists: He called this idea "voodoo economics." Nonetheless, the argument was appealing to Reagan, and it shaped the 1980 presidential campaign and the economic policies of the 1980s.

... After Reagan's election, Congress passed the cut in tax rates that Reagan advocated, but the tax cut did not cause tax revenue to rise. Instead, tax revenue fell, as most economists predicted it would, and the U.S. federal government began a long period of deficit spending, leading to the largest peacetime increase in the government debt in U.S. history.

As Mankiw argued in his textbook, the advocates of this story were either charlatans (i.e. people who knew their story was incorrect but wanted attention) or cranks (i.e. people who really believed their theories were true). With the passage of time -- as Mankiw and others have observed -- we have seen the empirical evidence and understand tax cuts do not pay for themselves.

Nevertheless, we still see this story being told. Here are two recent examples from former Republican governor Tim Pawlenty and Mitch McConnell (Republican Senate Minority Leader).

"When Ronald Reagan cut taxes in a significant way, revenues actually increased by almost 100 percent during his eight years as president. So this idea that significant, big tax cuts necessarily result in lower revenues - history does not [bear] that out."(Republican Tim Pawlenty, June 13, 2011)
"There's no evidence whatsoever that the Bush tax cuts actually diminished revenue. They increased revenue, because of the vibrancy of these tax cuts in the economy. So I think what Senator Kyl was expressing was the view of virtually every Republican on that subject."(Republican Mitch McConnell, June 13, 2010)

Bruce Bartlett (who worked in the administrations of Ronald Reagan and George H.W. Bush) went to great lengths to explain that tax cuts do not pay for themselves.

Bartlett also explained that tax increases -- as we saw in both the Reagan and Clinton administration -- do not necessarily severely harm an economy. Despite the evidence, though, we still hear that giving people tax cuts are a huge positive for everyone. And any tax increases are a huge cost for everyone. In sum, we still hear that we should give money to some people (again, primarily rich people) because that will benefit everyone else (including people who don't get the money).

Once again, this is really the same story we hear from NBA owners. But once we see that the empirical evidence contradicts the claims of these people, all we are left with is the story that rich people want more money because rich people want more money. And of course, we probably already knew that.

Let me close by noting that NBA owners have also claimed they are losing money (a claim owners of sports teams have made since the 19th century). Such a claim deserves a post of its own (this is still one of my favorite stories on the subject). For now, I would briefly note that there is good reason to doubt this claim. After all, this is an industry where worker wages are capped (players in the NBA get 57% of revenues), a substantial portion of the NBA's capital (i.e. sports arenas) is provided by the state, and firms have substantial monopoly power in the market place. Furthermore -- and not surprisingly -- the industry doesn't seem to have a problem finding investors. So like the competitive balance claims noted above, the claim of substantial losses is so far not supported by much objective evidence. And that still leaves us with the simple story that people with a great deal of money often would like even more.