There are several challenges when trying to analyze the impact of policy on economic performance.
One problem is isolating the impact of a specific policy. I like Switzerland’s spending cap, for instance, but to what extent is that policy responsible for the country’s admirable economic performance? Yes, I think the spending cap helps, but Switzerland also many other good policies such as a modest tax burden, private retirement accounts, open trade, and federalism.
Another problem is the honest and accurate use of data. You can make any nation look good or bad simply by choosing either growth years or recession years for analysis. This is known as “cherry-picking” data and I try to avoid this methodological sin by looking at multi-year periods (or, even better, multi-decade periods) when analyzing various policies.
But not everyone is careful.
Jason Furman, who was Chairman of the Council of Economic Advisers during Obama’s second term, has a column in today’s Wall Street Journal. What immediately struck me is how he cherry-picked data to bolster his claim that the government shouldn’t reduce its claim on taxpayers. Here’s his core argument.
…the 1981 and 2001 model of tax cuts makes no sense in today’s fiscal environment. Tax revenue as a percentage of gross domestic product is lower today than it was when Presidents Reagan and George W. Bush cut taxes.
And here the chart he shared, which apparently is supposed to be persuasive.
But here’s the problem. If you look at OMB data for the entire post-World War II era, tax revenues have averaged 17.2 percent of GDP. If you look at CBO data, which starts in 1967, tax revenues, on average, have consumed 17.4 percent of GDP.
So Furman’s implication that tax receipts today are abnormally low is completely wrong.
Moreover, he shows the projection for 2017 tax receipts, which is appropriate, but he neglects to mention that the Congressional Budget Office’s forecast for the next 10 years shows revenues averaging 18.1 percent of GDP (or the 30-year forecast that shows revenues becoming an even bigger burden).
In other words, a substantial tax cut is needed to keep the tax burden from climbing well above the long-run average.
Furman’s slippery use of data is disappointing, but it’s also inexplicable. He could have offered some effective and honest arguments against tax cuts, most notably that reducing revenues is problematical since Trump and Republicans seem unwilling to restrain the growth of government spending.
Let’s close by looking at a few other interesting passages from his column.
I found this sentence to be rather amusing since he’s basically admitting that Obamanomics was a failure.
Growth has been too low for too long and raising it should be a top priority.
He then asserts that tax cuts never pay for themselves. I would have agreed if he wrote “almost never,” or if he wrote that the new GOP package won’t pay for itself. But his doctrinaire statement is belied by data from the United States, Canada, and United Kingdom.
…no serious analyst has ever claimed that tax cuts generate enough growth to pay for themselves.
By the way, Furman openly admits the Laffer Curve is real. And if the Joint Committee on Taxation shows revenue feedback of 20 percent-30 percent when scoring the Republican plan, that will represent huge progress.
Estimates by a wide range of economists and the nonpartisan scorekeepers at the Joint Committee on Taxation have found that the additional growth associated with well-designed tax reform may offset 20% to 30% of the gross cost of tax cuts—not counting dynamic feedback.
Last but not least, he comes out of the tax-increase closet by embracing the truly awful Simpson-Bowles budget plan.
The economy needs a fiscal plan that combines an increase in revenues with entitlement reforms that protect the poor a la Simpson-Bowles.
As I’ve explained before, Simpson-Bowles is best characterized as lots of new revenue on the tax side and plenty of gimmicky provisions on the spending side (rather than genuine reform).
P.S. Even though Republicans are not serious about controlling spending and even though I don’t think the GOP tax cut will come anywhere close to “paying for itself,” the tax cuts are still a good idea. Both to generate growth and also because reduced tax receipts hopefully will translate into pressure to control spending at some point.
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EPD,
Talking about “transfers of wealth” sounds like zero-sum thinking. Government is often zero-sum, but the real economy is not. The top 10% can increase their share of wealth without taking any wealth from the poor or middle class. It’s call wealth creation.
If I create some new mobile phone app that people voluntarily buy from me until I become a billionaire, I have taken no wealth from anyone. In fact, I am making people better off! The free-market test is whether consumers are willing to buy my new app. All purchases are voluntary, so buyers believe they are making themselves better off, or they would not purchase. Studies estimate that inventors and innovators typically capture less than 10% of the total value generated by their ideas, with society enjoying most of the benefit.
Or if you prefer a longer-term macro view, if the economy is really zero-sum, how do you explain that many countries are far richer today than a couple centuries ago? If wealth-creation was zero-sum, we could not possibly have overall societies being much better off.
Feel free to lament the top 10% owning more wealth, if you wish, but please consider that they can become wealthy without stealing from others.
Eugene
Got to go with Zorba that there will be exponential growth coming from new areas that require very little labor. We do not want to stop that from happening, if fact we want to encourage it, since “supply creates its own demand”.
On the other hand, there will be surplus labor, driving down labor rates for those without the skills and resources to adapt to the new economy.
Inequality will be a necessary condition in this high growth environment.
This is one reason I’ve been a strong proponent of a poverty level UBI. It allows the economy to function at peak growth, while mitigating further divergence in income between the bottom and the top, without the disincentives inherent in the current welfare approach.
We do not want the bottom half to give up, but rather find their niche in a increasingly “gigged” economy, so they can augment that poverty level support, and some may even find their own avenue to the upper echelons.
The primary product of tax cuts without reductions on the spending side of the ledger is busybody political activity, which is the very product of politicians. Expecting politicians to reduce government is like counting on your butcher to lead you to vegetarianism. Probably somewhere someone exists — and occasionally even gets elected — but it’s a rare exception. But even a few exceptions can set your country on a higher divergent growth rate compared to world average, and result in tremendous accumulation of differential prosperity compared to the rest of the world. On that note, US growth has been below world average for a few decades now, and Europe’s even lower. The writing is on the wall.
Voter-lemmings are eternally hoping for a politician inspired and built perpetual motion machine of prosperity. A method of generating world competitive growth and prosperity under ever flatter effort reward curves. That is the dream voter-lemmings want, that is the delusional hope they will keep getting.
Everything human is now moving at an unprecedented pace, and growth divergences have shot to never seen before levels. Growth rate divergences of 6-10% between major portions of the world have never been seen in human history. In our era, voter-lemmings will come face to face with the effects of their choices in short order, and accelerating!
nedlandp,
Indeed, as I have said many times, there is not one Laffer curve. The Laffer curve is a family of curves, each curve specific to a time horizon. Or it is a Laffer surface if you add time as a third axis, at which point the graph becomes three dimensional. Any instantiation of the Laffer curve, as it is typically drawn in two dimensions _must_ be accompanied by a time horizon. The Laffer curve for tomorrow is more or less like communists imagine it, a straight line. Very few are going to quit their job in the morning if taxes go to 100% overnight. They would at least wait to see if the change is real. But growth will get clobbered immediately, as few will be able to concentrate on their work the morning after the one hundred percent tax mandate.
Extrapolated to very long time horizons, the Laffer curve assumes the shape of the Rahn curve, because in the long term the “growth exponent” dwarfs the “revenue as share of GDP” fixed factor in determining total revenue. Low tax Switzerland is (or is about to) collect more tax per citizen than high tax France. The nearly one hundred percent tax that North Korea and Cuba collect is a pittance compared to the tax Singapore collects per citizen. It’s all in the growth. Growth is expoa ne dwarfs everything else in the mid-long term.
So it’s all in the time horizon. Talking about Laffer Curves without a time horizon is pretty much meaningless.
Eugene,
All alse being equal, there is a fundamental new element that is increasing disparities. Innovative hard working people have more leverage than ever before in bettering the lives of billions with unprecedented speed. Innovations spread through the globe affecting billions in months to a few years. Ever more people benefit in an ever shrinking amount of time. The leverage is growing exponentially, and thus so does the unaffected reward.
Try to flatten that reward and your nation is left in the dust. Higher exponential growth in the rest of the world soon dwarfs your nation’s world prosperity rankings. A country and its voters can let this unprecedented technological leverage disparity unfold and be propelled into the future riding a much higher overall exponential growth. Or they can suppress it and see their nation’s prosperity rankings plummet in a few short decades.
Trying to make everyone equally proprerous results in your nation being left in the dust with almost everyone poorer. France’s per capita income is on schedule to be surpassed by average worldwide income around the year twenty fifty. That’s coming up soon!
I agree that one should “try to avoid this methodological sin by looking at multi-year periods (or, even better, multi-decade periods) when analyzing various policies.” The latest 2016 Survey of Consumer Finances provides an almost 30 year picture of U.S. family wealth. The U.S. tax code has changed a bit and it has had different impacts on the poorer half (lower class), the next 40% (middle class) and the top 10% (upper class). To simplify matters the poorer half of the population (63 million families) share just a half of one percent of US family wealth. If this number seems small it is because it is. Only 26% of young adults from this group can afford to get married and raise children.
The poor are so poor they can be ignored when comparing the middle class (40% of population) share of wealth to the upper class (richest 10% of population). In 1987 the middle class had 19.9% of family wealth while the upper class had 78.6% of family wealth. The wealth gap amounted to a 58.7% share. Ever three years of the survey saw the upper class acquiring a large share of wealth and the middle class keeping a smaller share going down to 13.9% in 2016 while the upper class kept 85.6% of family wealth. The wealth gap expanded from 58.7 % to 71.8%.
The tax code has caused the transfer of wealth in a way that it has destroyed family economics for the poorer 63 million families, put many of the 50 million middle class families near life support.(requiring two adult to work to save anything and children to be raised by caretakers) and have enabled 13 million families to live quite well.
Tax reform will have a great impact on the growing wealth gap. Some think that the rich should settle for a smaller share of a larger pie. Some also think that the government should pay off the national debt (but they don’t understand that the same debt is largely an asset of the rich who are happy to hold their secure bonds.
Whenever there is discussion of a tax cut “paying for itself” it should also consider the time horizon. The normal assumption is that a tax cut should pay for itself in the current year, however, because a tax cut adds to the size of the economic base, that permanently increases future revenues.
The contrary is also true. Slow growth during the Obama years, regardless of the reason, provides a smaller base for all future growth and tax revenues.