Wednesday, 14 November 2018

Complicated Gains Tax

Newsroom reports on a talk by two members of the Tax Working Group that lays out the difficulties with any capital gains tax.

One part that's probably underappreciated: the extent to which everything in the tax system is built around the rules as they're currently structured, and how much would need to be rejigged if a CGT were put in place. 

One example:
The report itself highlights this complexity in the application of a capital gains tax to KiwiSaver and Portfolio Investment Entities (PIEs). Most KiwiSaver schemes take the form of multi-rate PIEs (MRPIEs). While there are a number of features in the MRPIE tax regime the group would not want to see disturbed by any new rules, a CGT would affect MRPIEs that invest in property, or Australasian shares. An individual would be subject to a tax on those asset types, so it follows that the MRPIEs should similarly be taxed.

However, these are open-ended funds into which investors come and go. That means a fund would have to allocate gains and losses to an individual investor by taking into account the change in value during the time that investor was actually involved in the fund. It would require detailed record-keeping, as well as various adjustments for gains and losses already recognised due to redemptions from the fund. And while that’s not simple, it’s even more complex in reality. This is because units are issued and redeemed on a daily basis, MRPIEs often invest in other MRPIEs, and a retail KiwiSaver scheme may invest in a wholesale PIE that in turn invests in a specialist PIE.
Having a CGT is complicated. Not having a CGT is complicated too because the tax system has to adapt to make sure that labour income doesn't pretend it's capital gain. The latter isn't perfect, but it's in place - the system's kinda built around the absence of a CGT and tries to account for it. That means that 'just' putting in a CGT means going back over everything that's been designed around the absence of one.

NB: I do not pretend to understand MRPIEs. But I'm not the one insisting on changes to a complex system that's evolved since the 80s reforms.

The Calculus of Carbon

I had to trim last week's NBR column to fit the page. Here's the original. Enjoy!
New Zealand’s climate change policy could stand to be just a little more vanilla.

When Cyclone Enawo hit Africa’s east coast in 2017, it wiped out about 16% of the world’s vanilla production. The cyclone came on the back of droughts that hurt the 2016 crop; there was no huge buffer to meet demand.

So, globally, vanilla users had to cut back their consumption by about a sixth – and in a hurry. Of course, unless you were directly involved in the vanilla industry, or were a baker using vanilla in weekend pancakes, you probably did not even notice.

There were no Ministers in Charge of Vanilla Change sending out a dozen press releases a week proving they were taking the problem seriously. There were no Vanilla Commissions or Taskforces. No Productivity Commission reports on the best ways for New Zealand to respond to its shared vanilla crisis. No MBIE advice on preferred ways of subsidising alternatives to vanilla in ice cream.

Bernard Hickey didn’t even show up to propose special taxes on “Vanilla-guzzling” concoctions from Wellington ice cream and gelato institution Kaffee Eis, with all taxes collected helping subsidise vanilla for the Girl Guides in hope of bringing back their soon-to-be-cancelled vanilla-flavoured biscuits.

Instead of all that ruckus, markets simply worked their regular vanilla-flavoured magic. Prices worked.

Economist Alex Tabarrok says prices are a signal wrapped in an incentive. The spiking price of vanilla signalled relative scarcity, along with an incentive for everyone to change their behaviour. Those most readily able to reduce their use of vanilla would be the first to adapt. Vanilla by-products started being pressed into service – spent vanilla flecks almost quadrupled in price, according to the Financial Times.

And those for whom vanilla was most critical, as they judged for themselves and demonstrated with their own money, simply lumped the price increase.

It is exceptionally difficult to come up with policy options that beat simply letting prices work.

Every alternative I have suggested around grand government vanilla strategies would have been worse. If the government was exceptionally lucky, it would have required firms here to do what they had already figured out would be best for them in their own particular circumstances. But in every other case, the government would have enforced unnecessarily costly adjustments. No Minister or Ministry can tell what the best substitutes are for different users, or which uses are most valuable to whom. That kind of knowledge can only emerge from the interplay of buyers and sellers in markets, and is otherwise invisible to Wellington desk-jockeys.

The New Zealand government has committed to reducing our greenhouse gas emissions. Fortunately, New Zealand has a functioning Emissions Trading Scheme (ETS). Every litre of petrol or diesel you purchase includes the cost of the New Zealand Units (NZU) purchased in the ETS to cover the fuel’s eventual carbon dioxide emissions. Electricity is in the ETS, so every kilowatt of power put into the system by coal, gas or geothermal generators requires those generators to purchase carbon credits. And the government has also committed to strengthening the ETS.

If there were no way of pricing carbon dioxide emissions, the government would be forced into a lot of rather second- or third-best alternatives. The government would have to guess how different industries, firms and consumers would behave in a world with carbon prices and then set regulations, taxes and subsidies to encourage those behaviours. It would be dreadfully inefficient compared to what prices can achieve through the direction of no one, but there would be some interventions that would still likely be worthwhile.

When we do have a functioning ETS, though, layering additional subsidies and regulations on top of the scheme, and particularly for those sectors already covered by the ETS, very easily risks New Zealand failing to do nearly as much as it could to reduce emissions.

The best that a government committed to reducing greenhouse gas emissions can do is to make sure the ETS is working as well as possible, then buy back and retire credits in the system. Those able to most easily reduce their own carbon emissions will be the first to sell; those for whom change is difficult will be last to sell – exactly how people responded to vanilla price increases. No Minister or Ministry has to guess who can most easily adapt.

Buying back credits within the ETS, rather than forcing particular sectors to change through regulation or bans, helps make sure New Zealand gets the greatest emission reductions per dollar’s worth of effort put to the cause.

Regulatory options, like mandatory fuel economy standards, or electric vehicle subsidies, risk doing harm because of the good forgone. An electric vehicle subsidy is unlikely to increase greenhouse gas emissions. But it would increase emissions compared to putting the same amount of money towards buying up and retiring credits in the ETS.

Different policies have very different costs per tonne of carbon dioxide mitigated. A government using regulatory alternatives has to pray it has modelled those costs correctly and found the carbon best-buys.

Work published in the fall issue of the Journal of Economic Perspectives summarises recent estimates of the static costs of policies mitigating greenhouse gas emissions. Corporate Average Fuel Economy standards in the United States cost between US$48 and $310 per ton of carbon dioxide mitigated. But NZU is selling on the spot market for around NZ$25. Imposing similar rules here would then be, at best, about a third as effective in reducing emissions than simply expending the same resources on buying and retiring NZU.
NBR graph
Kenneth Gillingham and James Stock. 2018. "The Cost of Reducing Greenhouse Gas Emissions" Journal of Economic Perspectives 32:4 (Fall).

The journal article does note that dynamic effects can vary: If there were no electric vehicle charging stations, a chicken-and-egg problem could prevent people from taking up electric vehicles if those make sense for them, so policy could help. And if a government as large as America’s starts subsidising buying huge volumes of solar panels, it could encourage technological innovation that reduces costs across the board.

But neither case seems particularly relevant: There are few major transport routes without charging stations now, and New Zealand demand for batteries or solar panels is not likely to be large enough to drive broader technological change. And while New Zealand could plausibly lead change through biotechnology advances in better low-emissions pastoral systems, if the grasses cutting greenhouse gas emissions were developed using genetic engineering, the government already bans their use.

It is also rather likely that successful dynamic investments of this sort are easier to identify in hindsight than with foresight. Buying back ETS credits yields more certain returns.

New Zealand’s climate change policy could stand to be a lot more vanilla. Simply making sure the market is working well, strengthening it where needed, and then buying back credits might sound boring. But vanilla really can be excellent. If you don’t believe me, try the Vanilla Bean at Kaffee Eis.
I particularly recommend adding coffee to the Vanilla Bean as an affogato.

Tuesday, 13 November 2018

A regulated market model

Over at Newsroom Pro ($), I make the case for basing legislation and regulation for cannabis markets on our existing rules for spirits.

The government has to have a referendum on cannabis by November 2020 and might want to have it earlier than that to not coincide with the general election. All the experts say that the referendum question should ask voters to endorse or reject a piece of developed legislation, with rejection meaning that the status quo stands. Writing legislation and regulation around some bespoke model for cannabis, to hit that deadline, would be a mess.

But it wouldn't be a mess if we had a good starting point. Existing rules around alcohol (spirits in particular - retail in specialist outlets rather than at the supermarket) handle a lot of problems that any regulatory framework for cannabis would have to solve too. How do you license retailers? How do you prevent minors from having access? How can we have both home production and commercial production? What should the rules be around advertising and marketing for commercial production? How much say should local councils have? How do consumers know what's in the product and what strength?

I'm not saying that the alcohol rules are perfect. But for any "But Whaddabout" question that comes up for cannabis, the starting point for an answer is looking at how we already deal with it for alcohol, see if the answer there for alcohol basically works for cannabis or whether it would need to be tweaked, then move on to the next one.

If we basically treated cannabis like spirits:
  • People could grow at home for non-commercial use, sharing with friends; if they discovered that they had an excellent green thumb, they could set up a business and be subject to the rules for commercial supply, including excise. Remember how 42 Below got its start? A lot of folks in the cannabis community seem to think that allowing commercial growing and sale would kill the grassroots as big players would run everything, but just look at the thriving craft beer community and the developing craft distillation community. They all coexist along with lots of folks who brew and distil at home. 
  • Products available for retail sale would have concentrations listed on the packaging. Alcohol has the strength and number of standard drinks. Excise would be based on product concentration.
  • Councils could set Local Cannabis Policies that varied from the National Default Policy if they wanted, along with cannabis-ban areas where they might not want people smoking.
  • Products couldn't look too attractive to kiddies - important for the edibles market. Same goes for advertising. There aren't really comparable alcohol edibles - there'd likely have to be additional packaging requirements to make it really clear that it's a cannabis-based product.
  • On-licenses would have host responsibility requirements. Hopefully the SmokeFree Environments Act wouldn't kill on-licences or restrict on-licences to edibles - supervised consumption like this could be harm-reducing. 
  • Retailers would be terrified of selling to kids because they'd face fines, licence suspensions, or complete loss of licence. 
  • People involved in the sector would be declaring their earnings to IRD and paying tax on those earnings; companies in the sector would be paying company tax; purchased product would carry GST; producers would be able to claim back the GST on their inputs. 
  • Cannabis-based products would be ineligible to be prizes in raffles. For some reason, alcohol is on the list of prohibited prizes. Cannabis would wind up there too if we just follow alcohol. Also, as aside, "vouchers or entitlements to commercial sexual services" are prohibited prizes under the same rules. Bans on alcohol as prizes for raffles at school fairs is a pain; I've not known the ban on raffling off brothel vouchers as being a binding constraint at school auctions. It would be rather fun to buy tickets for that raffle under other peoples' names though, just to make the prize drawing more fun. "Superintendent Chalmers wins the $500 voucher for Il Bordello!"
Update: worth checking out Russell Brown's summary of Friday's cannabis conference. I was there chatting with Labour's Greg O'Connor about his experiences in drug policing and his study tours to places that have steered away from prohibition. Here's Greg at a cannabis shop in Colorado

Monday, 12 November 2018

Sugar tax advice

Ministry of Health Chief Science Advisor John Potter's advice to the Prime Minister about sugar taxes, a two-page set of unreferenced bullet points, ignored the comprehensive review commissioned by the Ministry and released only a few days before Potter's advice. NZIER's report was released 31 January 2018; Potter's memo was dated 16 February.

I was curious whether Prof Potter had seen the NZIER work prior to writing his bullet points. So I asked the Ministry.

Potter was provided a copy of the report on 15 August, 2017, in an email from the Ministry's Chief Economist.

The Ministry holds no records showing feedback from Potter, so he might have missed it. But the report did draw a fair bit of media attention - and not just from me here on the blog.

The Herald covered it on 2 February.

Newsroom had it on 7 February.

It even made the Toronto Globe & Mail on 12 February. 

And it surely would have come up in discussions within the Ministry between August and February.

What's particularly interesting in Croxson's email is the suggestion that it be put on the Ministry website after getting it to the Minister and presenting it to ELT. The email is dated 15 August. It did not make it onto any Ministry website. Instead, it showed up on NZIER's website, rather a while after I made OIA request that it be released, and more than five months after the Ministry received it. 

Friday, 9 November 2018

Better horses

I have a bit of fun in this week's Insights newsletter:
Winston Peters’ tax credit for pretty horses fights the wrong battle when it comes to improving New Zealand’s bloodstock.

New Zealand has no obvious problem with ugly horses. Maybe farmers keep the ugly horses hidden so townies out for a drive don’t see them, but it seems unlikely.

I have yet to see an ugly horse here. They’re all beautiful in their own way.

But we do seem to have, dare I say it, cowardly horses. Every time Guy Fawkes Day comes around, we hear calls for banning fireworks because they worry the horses.

It wasn’t always this way.

Rudyard Kipling’s classic “Her Majesty’s Servants” tells the story of camp animals that served the British Army in India and Afghanistan. The troop-horse took pride in its bravery, telling the other animals it was trained to lie down to let its master fire across its back.

New Zealand sent more than 10,000 horses to serve in the Great War. The army selected its horses for their bravery rather than beauty. Cavalry was then on the wane, so fewer horses might have had to serve as shield for their riders. But they faced bullets, poison gas, and artillery.

Only four returned home. The remaining survivors were either sold to foreign interests or shot.
A generation of New Zealand’s bravest horses was wiped out. The most cowardly horses stayed home, and today’s pathetic stock are their descendants.

New Zealand does not need tax credits to make the country’s horses more attractive. Who can really judge that anyway? What we need instead are tax credits to build a braver bloodstock.

My modest proposal would require that every horse in the country attend boot camp, along with their owners, to re-instil the lost martial equine spirit. The worst performing horses would be gelded on the spot, preventing their contaminating future generations. The best performing horses could attract Winston’s tax credit. That tax credit would follow through to those horses’ descendants, but only if bred to other similarly creditable stock.

And the best-of-the-best could be drafted to make Winston’s proposed Police Flying Squad a mounted unit.

Kiwi horses would come to welcome Guy Fawkes Day fireworks as reminder of the comradery they shared with each other in boot camp.

And my proposal is no more ridiculous than tax credits for engineering beautiful horses. 
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Carbon Calculus

If you want to reduce greenhouse gas emissions, improve the ETS and use it to buy-back and retire credits rather than mucking about with sector-specific stuff. 

Me in this week's NBR print edition. A snippet:
The New Zealand government has committed to reducing our greenhouse gas emissions. Fortunately, New Zealand has a functioning Emissions Trading Scheme (ETS) that the government has promised to strengthen. Every litre of petrol and diesel includes the cost of the ETS credits purchased to cover the fuel’s eventual carbon dioxide emissions. Electricity is in the ETS, so every kilowatt of power comes with its ETS credit as well, where necessary.

Sector-specific tax and regulation options, like subsidies for planting trees, regulations on industrial practices like methane flaring, or automotive fuel economy standards, could make sense in the absence of a price on emissions. In that world, the government would have to guess what people would be doing if carbon were priced, and then regulate to encourage those behaviours. And some of those interventions could even be cost-effective.

But layering additional feebates, incentives or regulations on top of sectors already covered by the ETS very easily risks New Zealand failing to do nearly as much as it could to reduce emissions.

An electric vehicle subsidy is unlikely to increase greenhouse gas emissions. But it would increase emissions compared to putting the same amount of money towards buying up and retiring credits in the ETS. Why? Buying credits always encourages those who can reduce emissions most cheaply to sell their credits, and electric cars might not be the best-buy for reducing emissions.
I'll add a link once there's a version online. Update: link!($)

Thursday, 8 November 2018

Have you considered using prices?

Talk about an elephant in the room.

Radio New Zealand's story on unregulated informal sperm donor networks is a great chronicle of what happens when you ban payments for sperm donors, without once mentioning that the whole thing is consequence of a ban on payments for sperm donors. It's like a murder mystery where all the facts are laid out, but nobody has figured out who the obvious killer is. It really is the butler! Why hasn't anyone arrested the butler!

What do we find in this story?
  • Waits at official fertility clinics of 18 months to two years (blamed in part on increased demand from single women);
  • High costs at fertility clinics: $300 for an initial consultation, donor's testing costs of $1500...
  • Men shunning clinics because donating at the clinic is costly to them: "The clinics, they just don't simplify the process. The donor has a life too. If I have to go through a clinic, I have to do a consultation and therapy and it takes six months to help one person. It's too much."
What don't we find in this story?

13 Commercial supply of human embryos or human gametes prohibited(1) No person may give or receive, or agree to give or receive, valuable consideration for the supply of a human embryo or human gamete.
(2) Every person commits an offence who contravenes subsection (1) and is liable on conviction to imprisonment for a term not exceeding 1 year or a fine not exceeding $100,000, or both.
If the clinics could pay the donors for the increased hassle they face in going through all of the rigamarole required for that process, supply would increase. If demand increased, clinics could up the offer price to encourage greater supply. There wouldn't be 18-month queues.

It isn't like not paying the donors saves the customers a lot of money. The clinics just get the money instead - though it is a puzzle that they haven't increased fees by even more: Simple AI is cited as (only) $1500 per cycle.

The article notes the risks in the informal sector (potential lack of disease testing, etc). Maybe, just maybe, if the clinics could pay the donor at least enough to cover the hassles they face in going to the clinic, things would change.

Previously: