Greg Mankiw’s Blog: Gabaix on CEO Pay

From Greg Mankiw’s Blog: Gabaix on CEO Pay

Another aspect of Xavier’s work, however, should appeal to those on the left: In his model, high CEO salaries are pure economic rents. CEOs are paid what they are worth to their companies, and their high pay reflects the extraordinary value of their talent, but the supply of talent is inelastic, and the allocation of talent would not be affected if everyone faced high tax rates.

Xavier’s model encourages people to think of CEOs as similar to Tiger Woods. Woods makes a lot of money because he is really, really good at golf. He is not stealing from those companies that pay him millions for endorsements. To the people paying Woods for his services, he is worth every penny. Yet if Woods were taxed at 50 percent, rather than 35 percent, he probably wouldn’t give up golf or forgo the lucrative endorsements. (Response from the right: On the other hand, at a higher tax rate, Woods might play fewer tournaments each year. He might retire earlier. He might take more compensation as untaxed fringe benefits, such as a cushy private jet to fly to tournaments. And so on.)

And a conversation that followed on Twitter:

RT @Rortybomb “Doesn’t inelastic supply of superstar top 1% mean we can tax the **** out of them without consequence?”

RT @MilesCorak “perfectly inelastic supply would in fact mean no efficiency cost to imposing a tax”

RT @Rortybomb ” Exactly. This “tax heavily and frequently” inelasticity part of “superstar” economy isn’t emphasized enough by left.”

And there you have it. The left has always been correct that a very, VERY high top marginal tax rate would not be so caustic to the economy or economic growth. And what is this rate that would be most effective?

To put this in perspective, an elasticity of 0.19 implies that tax revenues would be maximized with a tax rate of 84 percent; that is, you could raise taxes up to 84 percent before people’s reduced incentives to make money would compensate for the higher tax rates.

Will you look at that.

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