Tuesday, November 27, 2012

Could Higher Taxes on the 1% Stimulate More Academic Economic Research?

Academic economists are well paid by their universities but many superstar academics do additional consulting.   If President Obama raises the marginal tax rate on the high earning economists,  some of these economists will act like economists and will substitute away from discretionary consulting as the after tax wage from consulting declines. Assuming the substitution effect dominates the income effect (i.e that labor supply slopes up), these academic stars may actually do MORE academic research.  I recognize that they could simply take more leisure but for most academics leisure and academic research are perfect substitutes. If these superstar economists return "to the game" and get the "eye of the tiger" back (think of Rocky III) , economic research progress will accelerate and there will be a positive externality for the academy and for society as a whole.   Junior faculty will learn more from their newly engaged senior colleagues and graduate students will learn from the Jedi Masters.  The stars had no incentive to internalize this Lucas/Romer externality but the rise in the marginal tax rate helps to correct this market failure.

So, the point of this blog post is that an unintended consequence of raising taxes on the rich will be an acceleration of progress in academic economics.  This excites me!

Permit me to make a bad analogy:   Abortion is to Consulting as Crime is to Economic Research.


Donohue and Levitt famously argued that legalized abortion reduced crime.  They argued that a small set of criminals create a large share of crimes.  If these folks aren't born then less crime takes place.  In the case of academic economics,  a small set of economists produce most of the research.  If these men and women are diverted into consulting then total research declines sharply.  A tax increase has the reverse effect as the stars are nudged back into the game.

UPDATE:   I should have noted an implicit economic incidence assumption that I'm making here. In the discussion above, I assumed that the superstar consultants bear the full incidence of the marginal tax increase. I recognize that if their skills are inelastically demanded by law firms and by other firms who employ consultants then these firms will bear the incidence and the superstar consultants will experience no reduction in real wages when the marginal tax increases.   If both the superstars and the employers each bear part of the incidence then the academic research community will gain if the superstars have a large elasticity of labor consulting supply as a function of the real after tax consulting wage.