Wednesday, 14 March 2018

Taxing robots may be a good idea, but it won't keep people employed

Right now, we barely go a week without another article about robots (or algorithms) taking our jobs. One of the latest is this article from the South China Morning Post, which quotes Cai Fang (vice-president of the Chinese Academy of Social Sciences) as advocating for taxing robots:
For years, we have been warned that the day will come when machines will be able to do our jobs better than we can. Now a leading Chinese economist is offering a time frame.
Cai Fang, vice-president of the Chinese Academy of Social Sciences, the country’s top think tank, and former head of its Population and Labour Economic Research Institute, robots will “definitely” surpass humans in many job skills in 10 to 20 years.
Like Microsoft founder Bill Gates and other technology titans, Cai is an advocate of tax policies and other measures to keep robots from putting human workers out of jobs.
In February, Gates said governments should levy a tax on the use of robots to fund retraining of those who lose their jobs and to slow down automation.
“For a human worker who does US$50,000 worth of work in a factory, the income is taxed,” Gates said. “If a robot comes in to do the same thing, you’d think that we’d tax the robot at a similar level.”
Cai, a delegate to the National People’s Congress in Beijing, said the idea made sense.
In the first week of ECONS101 this semester, we used a very simple production model to explain how rising wages in England provided incentives for automation and primed the Industrial Revolution. Now we're seeing something very similar, except it isn't rising wages but the falling cost of robots (and algorithms). However, the effect in terms of the cost of wages relative to capital are the same.

Consider a simple production model, as in the diagram below, with capital (robots) on the y-axis and labour on the x-axis. Let's say that there are only two production technologies available to firms, A and B, and that both production technologies would produce the same quantity (and quality) of output for the combination of inputs (robots and labour) shown on the diagram. Production technology A is a labour-intensive technology - it uses a lot of labour, and supplements the labour with a few robots. Production technology B is a robot-intensive technology - it uses a lot of robots, and a small amount of labour (perhaps for servicing the robots).

How should a firm choose between the two competing production technologies A and B? If the firm is trying to maximise profits, then given that both production technologies produce the same quantity and quality of output, the firm should choose the technology that is the lowest cost. We can represent the firm's costs with iso-cost lines, which are lines that represent all the combinations of labour and capital that have the same total cost. The iso-cost line that is closest to the origin is the iso-cost line that has the lowest total cost. The slope of the iso-cost line is the relative price between labour and capital - it is equal to -w/p (where w is the hourly wage, and p is the hourly cost of robots).

First, consider the case where labour is relatively cheap and robots are relatively expensive. The iso-cost lines will be relatively flat, since w is small relative to p (so -w/p is a small number). In this case, the iso-cost line passing through A (ICA) is closer to the origin than the iso-cost line passing through B (ICB). So production technology A is the lowest-cost production technology, and firms should use relatively labour-intensive production methods.

However, as the hourly cost of robots (p) falls, the relative price between labour and capital (-w/p) increases, and the iso-cost lines get steeper. Eventually, we end up in the situation in the diagram below, where production technologies A and B have the same total cost. At this point, firms are indifferent between choosing the labour-intensive production technology or the robot-intensive production technology. From this point on, if robots become any cheaper, firms would be better off to choose the robot-intensive production technology, as it will be the lowest-cost production technology.

What happens if we tax robots? Taxing robots has the effect of increasing the hourly cost of robots (p), and flattens the iso-cost lines. That will reduce the incentive for firms to shift to the robot-intensive production technology, but only temporarily. If robots keep getting cheaper relative to wages (which seems likely for now), then the size of the tax necessary to keep labour-intensive production technologies competitive will continue to increase over time. That seems unsustainable in the long term.

Fortunately, the most thoughtful advocates of taxing robots are not arguing for the tax in order to keep humans employed and competitive with robots in terms of cost. Instead, they are arguing for the tax to raise revenue to fund a universal basic income to ensure a minimum standard of living for all, or they are arguing that the tax could pay for re-training or up-skilling workers who lose their jobs to the robots.

At the time, many people worried that the first Industrial Revolution would lead to widespread job dislocation and poverty, and during that time there were certainly many workers who were negatively affected. This time will not be different. However, once we came out the other side of the first Industrial Revolution, there turned out to be just as many (if not more) jobs available, as new opportunities for workers opened up. My crystal ball is offline at the moment, so I'm unsure if that will be the case this time. But why take the risk? If we can think through the (probably many) practical issues, taxing robots might be one way for the winners from this transition to robot-intensive production technologies to fairly compensate the losers.

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