Stupid? No, Follow the Incentives

published with permission of Indiana Policy Review

by Cecil Bohanon, Ph.D.

The world just seems to be filled with stupid, lazy and greedy people.

A Wall Street Journal article a few years back described a really dumb practice of a major American automobile company. Passenger vans produced in Turkey are imported into the United States. As soon as they clear U.S. customs they are shipped to an auto shop. The windows are removed from the vans and panels are installed in their place, and the rear seats are also removed and destroyed. Net of the scrap value, the operation costs a few hundred dollars per van.
  
Why would a firm make a passenger van outside the United States  and then convert it to a commercial van once it has cleared customs? This is the height of stupidity — no wonder American business is losing its competitive edge if corporate executives make such bone headed decisions. 

Here is another example of bad decision-making: A single mother is offered an opportunity to increase her income by accepting a promotion that will require her to take on more responsibility. She declines the offer.  Here is a woman we are trying to help, who will not help herself. Too many poor people are just lazy. 
  
A third example is the current trend for American corporations to reconstitute themselves as legal entities outside the U.S. Businesses nurtured in America are abandoning their own country. Let’s face it the problem is greed and greed rules in business.

Bottom line: We need better education to generate a fundamental reform of human character. We need a protracted war on stupid, lazy and greedy people. Well no. As Paul Harvey used to say: now for the rest of the story.

An imported commercial van is subject to a 25 percent tax. An imported passenger van is subject to a 2 percent tariff. By importing vehicles as a passenger vans and then converting them to commercial vans, the auto company saves thousands of dollars per vehicle. This more than pays for the conversion that cost only a few hundred dollars per vehicle. Far from being stupid, this is quite sensible given the tariff structure.

If the woman takes the promotion she will earn more gross income. However, most of the income gain will be eaten up by additional taxes and reductions in the government benefits she receives. On net, she will not be much better off by taking the more difficult job. Her refusal to take the job is not a sign she is lazy, rather it indicates she is prudent.
  
Finally, American companies are reincorporating outside the U.S. for a simple reason: The statutory tax rate on corporate income is 35 percent in the United States while it is typically 20 percent in other nations. This saves billions of dollars for the company shareholders most of whom are Americans. One can say that this is greed but it is no more so than when an individual taxpayer takes advantage of any component of the tax code.
  
What is common to the three stories?  The dysfunctional behavior is not so much a byproduct of a character flaw but rather a byproduct of a perverse incentive. We humans are flawed creatures. We all act in ways that are stupid, lazy and greedy. Our tax code, however, often encourages us on.      

Cecil Bohanon, Ph.D., an adjunct scholar with the Indiana Policy Review Foundation, is a professor of economics at Ball State University.