TCS Daily

Paulson's Prerogative

By Pejman Yousefzadeh - July 11, 2006 12:00 AM

Defying concerns that a serious new candidate for Treasury Secretary would be difficult to find, the Bush Administration engineered a coup with its nomination and successful confirmation of Goldman Sachs Chairman and CEO Henry Paulson to head up the Treasury Department. Mr. Paulson is highly respected both in policymaking circles and in the business community. But he will have some significant challenges awaiting him.

One challenge is dealing with the future federal spending, particularly entitlement spending. The new Treasury Secretary might benefit from this editorial by Harvard economics professor and former Chairman of the President's Council of Economic Advisors, Gregory Mankiw. Professor Mankiw rightly recommends increasing the eligibility age for Social Security and Medicare, given both the substantial demographic changes that are currently affecting America, as well as the increases in longevity we enjoy. Professor Mankiw also puts forth interesting policy proposals designed to bring more revenue into the Treasury coffers, while cautioning us that the traditional tax increase is not the way to go:

"One of Mr. Paulson's first briefings from the Treasury staff should be about what high taxes have done to the economies of Europe. According to research by Nobel laureate Edward Prescott and by economists Steven Davis and Magnus Henrekson, the high tax rates in Europe have reduced work effort and distorted the industrial mix. The Davis-Henrekson study reports that a tax increase of 12.8 percentage points (a change of one standard deviation) reduces work for an average adult by 122 hours per year. It also reduces the employment-population ratio by 4.9 percentage points and increases underground economy by 3.8% of GDP. As Mr. Paulson works to resolve the fiscal imbalance, he should keep the European experience firmly in mind."

At a time when the American economy is enjoying dramatic growth (something that outgoing Treasury Secretary John Snow no doubt wishes got more public attention) it is important to ensure that the key sources of that growth do not suffer under undue tax burdens. Incidentally, Professor Prescott's work with the Federal Reserve Bank of Minneapolis, showing a significant correlation between low marginal tax rates and higher worker productivity, deserves further attention as Henry Paulson prepares to assume his new duties.

The need for a Treasury Secretary to be something of a salesman is part and parcel of the job. To be sure, John Snow was derided for over-emphasizing the salesmanship aspect of the job and the Bush Administration was derided for forcing Secretary Snow to concentrate on salesmanship over policymaking. Policymaking is certainly an important matter and one suspects that Henry Paulson -- given the reputation he crafted as the Chairman and CEO of Goldman Sachs -- will be quite the effective policymaker as Treasury Secretary. But it remains crucial for the Treasury Secretary to foster confidence in the markets and the economy through salesmanship.

The business community should be made to feel that it is a full partner along with the Administration both in terms of fiscal and monetary policy. The business community will be emboldened by the public diplomacy aspect of salesmanship to give the Administration's economic policymakers key information from the private sector that will assist in future policymaking. In addition, salesmanship and public diplomacy will help craft bipartisan policy initiatives that can help break logjams concerning Medicare, Social Security and tax reform. So while it is reassuring to hear that Henry Paulson will be a key inside player in the crafting of economic policy -- and will be a significant presence in the President's inner circle of advisors -- it is important to remember that he will have to be a salesman, too.

The next few years need not be spent marking time when it comes to the crafting of economic policy. As James Forsyth notes, "a stellar pick like [Henry Paulson] shows that the Administration is not done yet." Let's hope that this is an understatement. There is a great deal of important work to be done in the field of economic policymaking.

Pejman Yousefzadeh is a TCS Daily contributing writer.


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