The Mortgage Interest Deduction: A Call for Repeal (Or at Least for Reform)

Owning a nice home with a white picket fence has been considered part of "the American Dream" for more than half of a century now. Often times, home ownership is used as a metric of that dreamlike prosperity, which is ironic given that the United States has one of the lowest home ownership rates in the developed world. The government tried engineering the American Dream through public policy, not only with using land-use regulation to induce suburban sprawl, but also to subsidize house ownership through the mortgage interest deduction (MID).

The MID is a tax deduction that allows for homeowners to lower their taxable income base by the amount of the interest paid on the loan that is secured by their place of residence. The purpose of the deduction is to incentivize home ownership. While the MID had existed in the United States since 1913, it was not explicitly mentioned in the tax code until 1986 (more on the history of MID here). If it has been part of the U.S. tax code in one way or another, it makes me wonder how good of a job it has done, especially since the lost revenue from the MID accounts for 7 percent of total personal income tax payments.

Last week, a study at the National Bureau of Economic Research was released. The topic of this study (Gruber et al., 2017) was the MID in Denmark. Although this applies to the Danish market, it has some relevance because, as the abstract states, this is the "first comprehensive long-term study of how tax subsidies affect housing decisions." The study spans back to the late 1980s, which is when the Danish government slashed the MID for wealthy taxpayers.

This Denmark study had two main interesting findings, the first being that it did not increase home ownership. The other main finding of this study is that it made homebuyers purchase more expensive homes than they would have otherwise, thereby increasing indebtedness. This Denmark study is hardly the first study to find adverse effects of the MID:

• In terms of straight-up cost, the Joint Committee on Taxation found that the MID is going to cost the U.S. $350 billion in tax revenue from 2016 to 2020 (Table 1), which makes it one of the most expensive tax breaks out there. This same report also found that those who benefit the most are those making $100,000 or more (Table 3), which makes sense since you can't take the deduction unless you itemize on your taxes and those who itemize tend to be upper-income.
• Looking at data from 1984 to 2007, economists from Harvard and MIT concluded that the MID only helps higher-income households, and on the whole, the MID neither promotes home ownership nor improves social welfare (Hilber and Turner, 2014; Toder et al., 2010; Glaeser and Shapiro, 2002).  
• Instead of encouraging home ownership, the primary effect of the MID is to artificially inflate housing prices, which makes housing less affordable for lower-income households (Landis and McClure, 2010).
• Repealing the MID would cause housing prices to fall. However, this would actually help with home ownership because the decreased in housing prices would help credit-constrained renters better afford a house. Also, since the MID disproportionately helps higher-income households, eliminating the MID would shift housing consumption more to lower-income households, thereby improving overall social welfare (Sommer and Sullivan, 2017, p. 37-39).
• A study from the Mercatus Center shows that the MID does not increase home ownership, and that the MID diverts resources from more socially valuable endeavors into more expensive homes (Fichtner and Feldman, 2014). As the Left-leaning CBPP points out, this non-optimal use of resources could potentially skew capital allocation, thereby lowering wages and living standards (also see Morrow, 2012). 
• Another study found that while the home ownership rate did not increase, the square footage of the houses purchased did increase (Hanson, 2012). 

To summarize, the MID is one of the largest tax breaks out there. It disproportionately benefits high-income households while doing next to nothing to improve home ownership rates, which was its primary goal. It also makes me question whether home ownership should be encouraged by the government (see more here).

There are some ways to reform the MID to improve the status quo. Replace the MID with a refundable credit would eliminate the artificially high demand for higher-end homes (Viard, 2013). Reduce the ceiling on the debt eligible for an interest subsidy (Lu, 2015) or cap the the income tax rate at which taxpayers can take itemized deductions (Katz, 2016). Personally, I am all for repealing the MID, especially since economists generally agree that removing the MID in exchange for lower taxes would be a more efficient use of resources. Plus, repeal would make conservatives happy by simplifying the tax code while making liberals happy since the MID is a regressive tax that arguably exacerbates income inequality. If Trump wants to make housing great again, and if Trump wants to cut taxes and simplify the tax code to improve economic welfare, Trump needs to add repeal of the MID as part of his tax plan.

Sarbanes-Oxley at 15: Keep, Reform, or Repeal?

Enron. It's a name we associate with corruption and fraud. Enron, which was an energy commodities and services company, filed for bankruptcy in 2001. It was found out later that its reported financial condition was supported by institutionalized and creatively planned accounting fraud. The Enron scandal gained such media coverage and infamous notoriety that 15 years ago, Congress responded with the Sarbanes Oxley Act, also known as SOX. This post-crisis regulatory push was created to improve financial disclosures and prevent future accounting fraud conducted by corporations. SOX was created with 11 Sections and the Public Company Accounting Oversight Board (PCAOB), the latter of which is a nonprofit corporation overseeing the audits of public companies to protect investors. Section 404 is the most infamous of the Sections since it requires both internal and external audit of financial accounting controls, which has the greatest impact on companies. How much has SOX improved upon information asymmetry? How much have investors been protected?

Protiviti, a global consulting firm, has tracked the effects of SOX through survey work since 2010. In its 2017 survey, the major finding is that compliance costs are increasing. Proviti found that the average cost for a company beyond the second year of compliance is $1.03 million. One the one hand, progress has been made in that compliance costs shortly after SOX was enacted ranged from $4-7 million. On the other hand, SOX costing an average of $1.03 million is significant because it shows that even after implementation and acclimating to complying with SOX, it still costs a significant amount to comply. And keep in mind that odds are that SOX is not the only regulatory framework with which companies have to comply or that audit fees more than tripled since the enactment of SOX.

Compliance costs are not the only metric we can use to determine success of SOX. Here are some more:

• The Protiviti survey had a couple of other interesting findings, the first being that more hours are being devoted to SOX compliance. The other one, which is in favor of SOX, is that 88 percent of respondents found some improvements in their internal control over financing (35 percent found "significant improvements").

• The number of financial restatements has increased since the implementation of SOX. A financial restatement is a revision and publication of one or more financial statements due to a previous material inaccuracy. If SOX was supposed to improve the quality of internal controls used for accounting, one would have expected a decrease in financial restatements. Instead, we see an increase, which implies that internal controls have not improved since 2002.
• Financial restatements under SOX come with another issue. Those who give advanced warning about internal-control issues not only gain nothing by doing so, but are actually more likely to be punished under Section 404 than firms that wait to restate their finances later (Rice et al., 2015). This disincentive potentially undermines the main purpose of creating SOX. 
• Two economists from Harvard attempted to take a cost-benefit approach to SOX (Coates and Srinivasan, 2014). Interestingly enough, they had a difficult time coming to conclusions about many aspects of SOX, including loss of risk taking, social welfare (e.g., IPOs), and whether SOX had any impact on the financial crisis of 2007-08. There were two main conclusions the authors were able to draw:
• Financial quality improved post-SOX, although the authors also admit that causal attribution is weak. 
• Direct costs of SOX fell disproportionately on smaller companies. 
• One criticism of SOX is that smaller companies have a harder time handling the compliance costs. Companies with market capitalizations under $75 million were ultimately exempt from SOX404(b). What was the net cost of this exemption? While $388 million were not paid in auditing fees, $856 million was left on the table in terms of future earnings had there been better internal controls (Ge at al., 2016). Whether or not this only applies to smaller companies or can be generally applied to all corporations is unknown. 
• The number of audit deficiencies identified by the PCAOB has increased since 2002. One could say that auditors are more diligent in identifying deficiencies. What counters that notion is that after fifteen years, one would think people have gotten hang of identifying deficiencies under SOX. The lack of decrease of audit deficiencies makes one wonder about the success of its internal controls, especially since financial statements remain the main source of information for investors. 
• The number initial public offerings (IPOs) on the stock exchange dropped. Obama's Council Jobs and Competitiveness noted that the number of IPOs smaller than $50 million dropped from 80 percent in the 1990s to 20 percent in the 2000s. The President of the New York Stock Exchange (NYSE) expressed concerns earlier this month that SOX makes it more difficult for startups to raise money through public offerings. Ernst and Young did publish a report in May 2017 saying that capital formation does not automatically need to happen in the stock exchange. Finding other sources of capital formation diminishes this concert. 
• There is also the question of cross-listing firms. Cross-listing is when a company shares its shares on at least one domestic stock exchange and one foreign stock exchange. If companies remove themselves from a foreign stock exchange, it means less economic growth for the given foreign market. A managing director at OTC Markets estimated that by removing themselves from the U.S. stock exchange to avoid SOX regulations, it saves a company an average of $10 million a year. A study from Tufts University also found that SOX had a negative impact of the value of firms worldwide (Bianconi et al., 2012).
• Another issue is hiring lower quality of talent in companies. Prior to SOX, it was common practice for employees of audit firms to work for their clients after they left their current employer. The familiarity with the company made for a better learning curve. The independence requirements of SOX put an end to that practice, which means it takes longer for new employees to learn the ins and outs of a company. 
• About half of C-suite executives believe that ethical behavior has improved since the implementation of SOX, according to Deloitte. Whether the corporate governance strengthened due to SOX or happened because of other factors remains unclear. 
• SOX comes with a moralistic issue. Under SOX, the government needs zero evidence of fraud to go through companies' books and determine whether or not it is a "fair" representation. Forget that something as seemingly objective as accounting requires judgment calls (e.g., here, here, and here), and that a financial statement is a product of multiple people making decisions about how the information should be presented. "Guilty until proven innocent" is not how the American judicial system is supposed to operate, which makes me wonder why we cannot simply gather evidence and prosecute individuals accordingly. The proof should be on the prosecutor to prove whether the internal controls were adequate in a certain case, not assume that companies either exist to defraud or are incapable of managing internal controls.  
• An irony of SOX is that the proponents believe that auditors misbehaved, and as such, SOX punishes that behavior. However, the response of SOX is to erect such high costs that the barrier to market entry protects the auditors that are alleged to have misbehaved.

I'm weary of the purported success of SOX, and not simply because it's the government being intrusive. Aside from success being far from clear (even for two expert Harvard economists), SOX has kept managerial staff more focused on trivial mechanics in accounting and less on other more vital tasks. Whether the costs of compliance outweighed the benefits of the improved financial reporting quality is ambiguous at best. Given the high compliance costs and other effects thereof, I would expect the proponents of SOX to better point out success of SOX.

Even if Congress is not going to go for downright repeal, it should at least reexamine Section 404 of SOX and enact some reforms: exempt businesses with market capital of $1 billion or less from Section 404, repeal "internal control" rules of Section of 404 or make them voluntary, abolish the Public Company Accounting Oversight Board, or clarify that criminal penalties for violation SOX require malign intent. Whatever Congress opts to do with SOX, I hope it is an improvement over the status quo of high compliance costs that have questionable effects of accounting quality.

Trump's Transgender Military Ban: An Exercise in Sheer Ignorance

I expect politicians to break at least some campaign promises when they enter office. It is not feasible to keep every single last campaign promise. Even so, it baffles me when a politician backs down on a promise with little to gain or does so with little to no evidence. Enter President Trump and his tweeting from yesterday. Back during the campaign in 2016, then-presidential candidate Trump promised that he would fight for the LGBT community. Fast-forward to this week when he stated his intent to reinstate the transgender military ban.

When Trump tweeted his intention to pass the ban, he brought up two arguments that have been commonly used to justify the ban. The first argument is that the health costs specific to transgender soldiers are too high. The second argument is that the presence of transgender soldiers diminishes military readiness, especially when considering that transgender people have a higher rate of depression and suicide. This goes beyond a politician's ability or inability to keep campaign promises, but as to whether Trump is correct in using these justifications.

To answer this question, the Department of Defense (DoD) commissioned the Rand Corporation in 2016 (see report here). The Rand Corporation is a research firm that has had the DoD as a client for decades, and for good reason: Rand is a nonpartisan firm that is good at what it does. As such, its 2016 study is the most in-depth study on the topic. What I will do now is present the Rand findings while addressing Trump's two main concerns.

Transgender Soldiers' Medical Costs
Trump's first claim is that transgender soldiers are going to be too tremendous for the budget. Let us keep in mind that out of the 1,347,300 serving the military, only an estimated 1,320 to 6,630 are transgender (Rand, p. 16). Rand proceeds to estimate that the annual costs are anywhere between $2.4 million and $8.4 million, with the baseline estimate being between $2.4 million and $3.4 million (ibid., p. 36). With the DoD spending $43.9 billion in health care expenditures (ibid., p. xii), this would only represent an increase of the active component health care budget by 0.04 to 0.13 percent. To put this in perspective, 0.04 to 0.09 percent of the soldiers are consuming 0.005 to 0.019 percent of active-component health care expenditures. These numbers are showing that transgender soldiers are not consuming a disproportionate amount of health care expenditures by any means. The New England Journal of Medicine came to the similar conclusion that medical costs are negligible (Belkin, 2015).

And let's not forget something else: the cost of removing transgender individuals currently serving. It's not like removing already-hard-to-find soldiers from the labor market doesn't come with a cost. When the DOD was considering the cost of removing homosexual soldiers from the military, the Government Accountability Office found that it would cost $52,800...and that was in 2009 dollars! Adjusting for inflation, that would be about $61,200. In 2009 dollars, that would mean $52,800 for each soldier plus the $50,655 to recruit and train each soldier. Even if we take Rand's lower estimate of 1,320 transgender soldiers serving, that would cost $135.6 million. The high end of replacing these soldiers would be $685.9 million [in 2009 dollars]. If we adjusted for inflation, it would cost $157-$795 million to replace the transgender soldiers currently serving. Even if we assume that the estimated health costs are on the high end of $8.4 million (which is improbable since it is not in Rand's baseline estimate), it would take 19 years minimum for Trump to recoup the loss of discharging the current transgender soldiers.

If Trump is so worried about money being spent, why not worry about the $84 million the DoD spends annually on erectile dysfunction medicine? Even better yet, why isn't Trump interested in cutting military spending as a whole when the United States is not fighting any major wars and already accounts for 36.2 percent of global military expenditures? If Trump truly worried about tremendous costs, his focus on transgender soldiers' health care costs is woefully misplaced.

Transgender Soldiers' Effect on Military Readiness
In addition to looking at health costs, the Rand study also addressed military readiness. For one, the Rand study estimated that transition-related treatment would affect anywhere from 29 to 129 soldiers annually (Rand, p. 69), which at best, is 2 percent of transgendered soldiers. Even in spite of the mental health issues disproportionately affecting transgender individuals, the Rand study ended up concluding that "there has been no significant effect of openly serving transgender service members on cohesion, operational effectiveness, or readiness (p. 44)." Not only do transgender soldiers not diminish readiness, but transgender soldiers contribute to their units effectively (p. 60), and the diversity brought about by their presence can actually improve readiness (p. 61).

Rand also drew upon the experience of 18 countries that allow for transgenders to serve, including the Israeli Defense Forces (IDF). Given the constant threats the IDF faces, you would think that if anyone could not afford to lose readiness, it is the IDF. And yet, it has not been an issue for the IDF (p. 55), and it has not been an issue for other countries that allow transgender individuals to serve. Eighteen other countries that have allowed for transgender people to serve in the military, and none of them have had problems. Why can't the United States come to the same conclusion?

Conclusion
Perhaps it is political expediency or perhaps it is because Trump does not want our attention diverted from something else. What I do have wonder is how anyone could seriously construe transgender individuals serving in the military as a problem. The transgender military ban is based on zero empirical evidence. Much like with the transgender bathroom ban, it is a solution without a problem. Transgender people should be allowed to voluntarily serve in the military, just like any other able-bodied citizen. Ultimately, I hope that Trump reverses this ban and keeps to his campaign promise. In the meantime, we the people have to be more diligent in making sure that the LGBT community is not further target the Trump administration because if the rights of the LGBT become eroded, it will only become a matter of time before all of our civil rights become eroded.

No Reason to Worry About the U.S.' Trade Deficit with Germany (Or Any Other Trade Deficit)

As the cliché goes, "there is always too much of a good thing." Germany might be experiencing that with its current trade surplus, something that has caught the ire of U.S. President Donald Trump. The trade surplus has not only caught the attention of Trump. It has been covered by such media outlets as Bloomberg and the New Yorker as bad news. In its Article IV Consultation of Germany, the International Monetary Fund (IMF) also expressed concern over the trade surplus, and I can see why. When we hear a phrase such as "trade deficit," our minds are lead to believe that a deficit is bad. A deficit is an excess of spending, and in this case, is one in which the amount of imports exceeds exports. "Surplus = good. Deficit = bad." But can trade balance be that simple? I think we should answer an even more important question: Is there any reason we should even care about running a trade deficit with Germany? Should we care about trade deficits at all?

When people say that the United States has a trade deficit with Germany, it means that the United States has purchased more German goods than the Germans have purchased American goods. It is not a value judgement, but rather an accounting measure illustrating a macroeconomic trend. Trade deficit as an accounting measure is a part of the greater GDP. The GDP, which I covered three years ago in detail, can be summarized as consumption (C), investment (I), government spending (G), and the trade balance (exports minus imports: X-M), or as expressed as an equation:

GDP = C + I + G + (X-M)

As World Bank data show, trade only accounted for 28 percent of the U.S.' GDP in 2015, which means there are other larger factors that drive the economy aside from the trade balance. Let's contextualize it a bit further. In 2016, our trade deficit with Germany was $64 billion. Our overall trade balance in 2016 was $504 billion. Contrast that to the size of the entire United States GDP for 2016, which was $18.68 trillion. And this is keeping in mind that the trade balance is factored into the  GDP. 

Going back to the GDP formula, trade deficits don't matter. As Tim Worstall as Forbes illustrates, "I have a terrible bilateral deficit with the supermarket, they never buy anything at all from me. This still seems to be a useful and stable arrangement though." No one would expect the supermarket to buy an equal amount back from the customer to "even out the balance." What matters with trade is what Americans get to consume. And what did Americans consume when the United States imported $114 billion worth of German goods in 2016? Automobiles, industrial machinery, pharmaceuticals, chemical goods, food products. It's not as if the U.S. threw away $114 billion for nothing. The American people enhanced their quality of life by purchasing these German goods. Another point is that imports lower prices for domestic consumers and provide greater competition in markets, which increases purchasing power. As Cato Institute scholar Daniel Ikenson puts it:

Exports are not the reason we trade; they are the means by which we acquire imports. It is imports, not exports, that allow Americans to enjoy a higher standard of living. Exports without imports are like jobs without a paycheck.

Even better, it doesn't look like reducing the trade deficit or aiming for a trade surplus does any favors. Per the survey results from expert economists with the University of Chicago's IGM Forum, decreasing trade deficits would not improve quality of life. If we took Trump's misguided notion that imports are bad, we should simply ban imports. But doing that would undoubtedly worsen economic welfare and quality of life in the United States.

I have some other news for Trump. The United States has run a trade deficit every year since 1975. Did the United States' economy fall flat on its face over the past 42 years? Not at all! What happened was that the size of the economy tripled, the value of the manufacturing sector quadrupled, and the number of jobs doubled, the latter of which killing the notion that the trade deficit costs jobs. These facts remind us that trade deficits do not indicate much when it comes to the health of the overall economy.

Basic accounting dictates that a deficit in one place implies that there is a credit in another place. Germany is not just going to sit on the money. What does Germany do with the dollars they earn in their trade surplus? Germans can buy goods and services from the United States, buy dollar-denominated assets, or exchange the dollar for other currencies. If we go back to the GDP equation, we see what happens with savings (S) and investment:

GDP = C + I + G + (X-M)

(GDP - Tax - C) + (Tax - G) - I = (X-M)

S - I = X - M 

What the macroeconomic formulas above show is that if there is a trade deficit, the money will come back to the United States in the form of investment in the United States, which is illustrated by the $2.9 trillion in foreign direct investment in the United States and the multiple German companies operating in the U.S., including T-Mobile, Volkswagen, and Trader Joe's. As a matter of fact, U.S. affiliates of foreign companies (also known as "insourcing" companies) outperform U.S.-based companies (Ikenson, 2013). It's the sort of investment inflow that allows for the U.S. economy to grow the way it has. Another way of framing the "issue" is that the trade deficit is financed by inflows of foreign capital used to purchase U.S. assets. Since the flows are determined by national rates of savings and investment, trade policy would not do much to mitigate trade deficit. 

The formulas above also show that the trade balance reflects a low level of savings, a high level of investment, or both. Countries that are growing faster than its trading partners attract foreign investment, which is another way to cause a trade deficit. Alternative reasons as to the trade imbalance could be reckless fiscal policy, low level of competitiveness, or a consumption binge. In the case of Germany, its high savings rate boosts its trade surplus, which means that excess capital flows to other countries. Since many Germans are saving for retirement, investment from both the public and private sectors are its best chance of ameliorating the situation. 

Another facet to consider is the balance of payments. Balance of payments is the macroeconomic accounting mechanism that reminds us that the goods and services (CA), as well as assets (KA) of the United States (or whichever domestic country) is approximately identical equal to the amount of goods, services, and assets that foreigners (ORT) buy from the United States (or whichever domestic country). In the event that there is a difference, the change in foreign reserves accounts for the remainder of the difference. So in theory, the formula should look like this:

Balance of Payments = CA + KA + ORT = 0

This brings us to another point, which is the issue with Germany is not trade flows, but capital flows (Jacoby, 2017). The ECB needs to raise interest rates, stop quantitative easing, and remove Euro Zone budget restrictions that would allow for more expansionary fiscal policy. Instead of heavily relying on trade, Germany could reduce taxes on labor and consumption or reduce national savings [by increasing investment]. Other countries should work on debt sustainability. The United States could focus on its own affairs by dealing with the zero bound issue, the problem when central banks are close enough to 0 percent interest rates where it stymies their capabilities and creates a liquidity trap.

The head of the Germany Council of Economic Experts is not worried because he views the surplus as being caused by short-term factors that should fade over time, such as the European Central Bank's quantitative easing and low oil prices, which is why it should be no surprise that the German trade surplus is expected to have already hit its peak.

Since there was a lot of information covered, here is a summary of the findings:

1. There is more to an economy than just the trade balance. 
2. A country running a trade deficit is not just throwing away money. It acquires goods and services that improves consumers' lives, creating a mutually beneficial relationship between the two countries. 
3. The United States has run a trade deficit for the past 41 years, and yet, its economy has grown just fine. 
4. The trade deficit is not a good metric of economic health. 
5. Even if the trade deficit were an issue, the focus would need to be on savings, investment, and capital flows, not trade flows. 

Trump wants to blame the trade deficit in hopes of passing an "American First" trade policy. While Trump could use this as a pretense to increase tariffs or other measures on Germany, Trump would be pursuing a solution without a problem. Even better, Germany ranked fifth for most foreign direct investment (FDI) in the United States in 2014, and is also the fifth largest importer of U.S. goods. If Trump wants to make America great again, it would be wise for him to lay off the protectionist banter and focus on ways to better the American economy.

How Deregulating Land Use Restrictions Would Proliferate the Housing Market

We, the people, have a right to life, liberty, and the pursuit of happiness in the United States, at least according to the Declaration of Independence. The right to property.....that one is trickier. The Fifth Amendment of the Constitution covers the protection of private property under the Takings Clause. Within this Clause, it states that "private property [shall not] be taken for public use, without just compensation." The Constitution is not the only legal basis for limiting right to property. The majority of local municipalities use what are referred to as land-use regulations.

In general terms, land-use restrictions are government-enforced restrictions on the development and use of private property that are in accordance with public policy goals. As this report on land-use regulations from the libertarian Mercatus Center points out, land-use restrictions really did not kick in until the early twentieth century when concerns regarding tall buildings resulted in height restrictions and setback requirements. Land-use is not confined to urban areas. The suburban sprawl came as a result of land-use in the hopes that it would promote civil and moral virtue. Land-use restrictions became more restrictive in the 1960s when the environmentalist movement went into full swing and was restricting property owners and their right to build. As it has evolved, land-use restrictions can take many forms, including the more traditional regulation of zoning or the idea of "smart growth," the urban planning theory that suggests that [amongst other things] mixes land use in order to minimize urban sprawl.

If we use zoning laws as an example, zoning laws act as a de facto production quota since they limit the amount of housing that can be produced in a given area. Basic microeconomic theory tells us what is to happen when these laws are enacted: supply of housing is limited, economic growth is limited, and the cost of housing skyrockets.

Some would argue that the main driver of housing prices is a lack of land. MIT Professor Albert Saiz found that geographical detriments play a considerable role. He also found that greater housing regulation was more likely to result in less housing and higher prices (Saiz, 2010, p. 1261). What's more is that Professor Saiz is not the only one who finds issues with housing regulations:

• A paper at the National Bureau for Economic Research found that housing constraints lowered aggregate growth by 50 percent between 1964 and 2009 (Hsieh and Moretti, 2017). Removing these regulations in New York, San Francisco, and San Jose would have meant the US GDP in 2009 would have been 8.9 percent higher, which would have meant an average $8,775 per worker (ibid., p. 24). 
• In its report on government failures, the Right-leaning Heritage Foundation found that removing land-use regulations would save American households a whopping $209 billion a year (Furth, 2015).
• A paper from the London School of Economics found that land-use regulations drove up land prices, as well as confirmed that landowners of already-developed land are the ones that are in favor and benefit since these landowners benefit from the artificially high prices (Hilbert and Robert-Nicoud, 2013).
• Manhattan apartments sold for nearly double (134 percent more expensive) the engineering costs because of land-use regulation (Glaeser et al., 2003). Minimum lot sizes and other land-use regulations made housing expensive in Boston (Glaeser and Ward, 2009). Land-use regulations accounted for Florida real estate to be 7 percent more expensive (Ihlandfeldt, 2007).
• Land-use regulations cause stronger boom-and-bust housing cycles, which is unsurprising when supply is incapable of responding to demand (Huang and Tang, 2010).
• A 2003 report from the Federal Reserve Bank analyzed the effect of building restrictions. Amongst its findings was that Cleveland had as much available land as San Diego, but San Diego was considerably more expensive due to land-use regulations. 
• Using environmentally motivated land-use regulations to make land artificially expensive ends up turning more farmland into residential space than would have happened in a free market (Glaeser, 2009).

Life is more complicated than the simplified supply-demand graphs used in Econ 101, but the general results from those graphs play out in real life. Land-use regulations do a bang-up job by restricting housing supply and driving up housing prices, which makes it especially difficult for those who are not wealthy to afford a house.

As the centrist Brookings Institution points out in its recent essay arguing for land-use reform, land-use regulations are very much at the local level. The Department of Housing and Urban Development (HUD) doesn't have jurisdiction, which means that it is the state-level government that can best put pressure on cities to lay off with the land-use regulations. One can also switch from taxing structures to taxing land could reduce incentives to build less housing. However a solution potentially plays out, what I do know is that there is more than ample evidence that land-use restrictions cause much harm and making it more difficult for lower-income households to afford homes while preventing negligible risk, and making it more difficult to live the American dream should be unacceptable to every American citizen.


8-9-2018 Addendum: The Reserve Bank of Australia just released a report (Kendall and Tulip, 2018) on zoning and housing prices in Australia. The report found a considerable increase in housing prices that are well above the marginal costs of supply. The reason for such high prices? It's not land scarcity, but rather zoning regulations.

Why Jeff Sessions Should Just Say No to the D.A.R.E. Program

Attorney General Jeff Sessions is at it again with his "tough on crime" stance. Sessions spoke at a training conference for D.A.R.E. (Drug Abuse Resistance Enforcement) last week saying that he wanted to restore D.A.R.E. to its former glory. He opined that it is the "best remembered anti-drug program today."

D.A.R.E. is a non-profit that started in 1983 with the intention of fighting the War on Drugs. Its notoriety gained sufficient attention to earn various amounts government funding over the years. It was a demand-side initiative to educate children in order to prevent the use of controlled substances. The idea behind D.A.R.E. was simple: tell children how bad drugs are and they will be deterred and scared enough to not use them. It has become widespread where it reaches 75 percent of schools in the United States. The question on all of our minds, and that should be on Jeff Sessions' mind, is whether D.A.R.E. is a successful in cutting back drug use.

Courtesy of the National Institute on Drug Abuse (NIDA) funding the survey Monitoring the Future, we can already observe a couple of issues with correlation between D.A.R.E. and drug use (see below). One is that drug use was dropping before D.A.R.E. even started. The other is that by the time D.A.R.E. became commonplace in the 1990s, drug use among teens climbed back up.

Looking at the graph below might not be convincing unto itself. After all, correlation is not the same as causation. So let's take a look at the empirical evidence on D.A.R.E.:

• A 10-year follow-up of the program conducted by the American Psychological Association found few differences between the DARE group and the comparison group in terms of drug use, perceptions, or self-esteem (Lynam et al., 1999).
• The Government Accountability Office (GAO) conducted a study in 2003, which found that "no significant differences in illicit drug use between D.A.R.E. and non-D.A.R.E. students." 
• The Surgeon General concluded in 2001 that D.A.R.E. was insignificant, as did a multivariate meta-analysis of 20 controlled studies (Pan and Bai, 2009). 
• The Bureau of Justice Assistance, an organization that would be more inclined to agree with the D.A.R.E. program's mission, discovered in its 2009 study that the effects of D.A.R.E. on drug use were negligible. 
• George Mason University's Center for Evidence-Based Crime Policy reviewed multiple studies on D.A.R.E.'s effectiveness. After reviewing the empirical evidence, the Center classified D.A.R.E. as "what doesn't work." 
• One of the studies even found negative effects on alcohol and tobacco use (Sloboda et al., 2009). 

D.A.R.E.'s more recently developed "Keepin' It Real" program is shown to have modest success. The reason for its success, however, is because this new program is different both in content and form. Rather than bombard children with scaremongering lectures on drugs, this program focuses on communication and decision-making skills. The reason why it only had modest success in certain instances? Because police officers are not equipped to handle what is largely a health issue. If we are to address drug abuse, it should be done by experts in trauma and mental health. Plus, police officers symbolize authority, which is exactly what children and early teenagers are gearing to rebel against. It could explain why Penn State University's Wharton Public Policy Initiative expresses doubts about this latest D.A.R.E. program. Between that and the straight-up fear-mongering, is it a wonder that D.A.R.E. is so ineffective?

Sessions is having nostalgia for a 1980s that never existed, the one where he erroneously believes "tough on crime" worked back then. The truth is that "tough on crime" failed, and that D.A.R.E.'s initial model of scaremongering did not do anything significant to prevent drug use. Why Sessions wants to go back to that model is beyond me. Addiction is not a criminal issue; it's a health issue. Until Sessions realizes that, it will simply be more of the same failed "tough on crime" policy from the Attorney General's Office.

Illinois' Budgetary Mismanagement Is a Ticking Time Bomb Waiting to Go Off

I love the state of Illinois. It's where I grew up, and because of that, I have good memories associated with Illinois. That's why it pains me to see what has become of Illinois as a result of years of state-level budgetary mismanagement. The latest attempt to pass a state budget show just how much of a mess it really is. Last week, the State of Illinois passed a budget. Passing a state budget is significant in this case since the State had not passed one since FY2015. This is even in spite of the fact that Republican Illinois Governor Bruce Rauner attempted to veto the bill. The veto was overturned because passing a budget was more important to the Democratic-dominated legislature than the content of the budget. One of the major reasons that Rauner vetoed the bill in the first place is because it hikes the state income tax from 3.75 percent to 4.95 percent, which is a hike of 32 percent. As high as 4.95 percent sounds, it is not even the highest state marginal income tax rate in the United States (see Tax Foundation infographic below).

If the Illinois state income tax isn't even the highest in the country, why should I be so worried about the fiscal affairs of Illinois? Because I end up worrying when I take a look at the bigger picture:

• When combining state and local taxes, the average sales tax in Illinois is 8.64 percent, which is the seventh highest in the nation (Tax Foundation). This is exacerbated by other municipalities increasing sales tax that were effective on July 1. Illinois is also in the Top 20 list for state corporate tax rate (Tax Foundation).   
• Here's another gem from the Tax Foundation: During the last decade (which is the time period for which there is the most recent data), Illinois experienced one of the largest migration of personal income, which is a metric that shows how people have been fleeing from Illinois. This finding can be extended into this decade since we see the downward trend in migration through 2015. 
• Illinois also has one of the highest property taxes in the country, right behind New Jersey. One in six mortgages in Illinois are already underwater, and the State's temporary property tax freeze, which is riddled with exemptions, won't do Illinois any favors.  
• Finance services provider WalletHub found that Illinois has the ninth highest tax burden in the United States, and also found that the average Illinois household pays more in taxes than in any other state. 
• The Mercatus Center ranks states by fiscal condition using five main factors: cash solvency, budget solvency, long-run solvency, service-level solvency, and and trust fund solvency. Where did Illinois rank overall? In 49th place! Last year, it was ranked 47th, which tells you how bad it is getting in Illinois. Read report for further details here.

• The Cato Institute has a Freedom In the 50 States Index, which includes both economic and personal freedoms. Where does Illinois rank on this Index? In 44th place! Fiscal, economic, occupational, and lawsuit freedoms are major drags on Illinois' ranking in this Index.
• The Cato Institute is not the only entity that ranks states. Using data from consulting firm McKinsey, U.S. News has an Overall Best States Ranking. Illinois is ranked 29th, and that is because such features as health care, government, and economy weigh its ranking down.  
• Another major issue with Illinois' budget is that of unfunded pension liabilities. According to the American Legislative Exchange Council (ALEC), Illinois has the third worst funded ratio of public plans (ALEC, p. 6), which is another way of saying "Illinois has a major issue with funding pensions." Pew Research, which has more a more optimistic view than ALEC, still shows Illinois having major issues (see below). 
• Illinois' unfunded pension liabilities of $130 billion-plus have gotten so bad that Moody's downgraded Illinois' credit rating from Baa2 to Baa3. Even better, if the Chicago Public Schools (CPS) gets downgraded to B3, it will be one step away from junk bond status in large part due to lavish pensions for CPS employees. 

It should be no surprise that Illinois has the worst credit rating from Moody's amongst the fifty states in this country. Its trend of credit rating downgrading dates back at least since 2009, and does not look like it will get any better. Passing a budget for the first time in three years won't save Illinois, nor will temporary tax freezes or other tax increases. Illinois had to suspend its lottery because its budget in that bad of shape. Without some major pension reform, Illinois could very well be in bad enough shape where the federal government might bail out Illinois. Add Illinois to the list of case studies of what happens when you combine high taxes and unions that have so much power that unfunded pension liabilities that they drive the budget into the ground.