Tax Plan’s Biggest Cuts Could Be in Living Standards
In the summer of 2006, as President George W. Bush was pressing to make permanent the tax cuts he had pushed through Congress in 2001 and 2003, the Treasury Department published a so-called dynamic analysis that, the administration hoped, would prove the undoubted economic benefits of the extension.
But its conclusions didn’t draw much applause from the White House: In the long term, the Treasury’s Office of Tax Analysis found, the tax cuts would expand the economy by all of 0.7 percent. It never specified what it meant by “long term,” but on the assumption it means a couple of decades, the tax change would add 0.035 percent to annual economic growth over the period.
Math and economics have changed little since that exercise.
Treasury Secretary Steven Mnuchin insists that the tax overhaul passed by Republicans in the Senate this month would increase annual economic growth by 0.7 percentage points over the next decade.
But an analysis by Congress’s nonpartisan Joint Committee on Taxation projected less stellar results: In the course of 10 years, the tax cuts would make gross domestic product 0.8 percent larger. This amounts to increasing growth by 0.08 percent per year. On Monday, the Penn Wharton Budget Model chimed in with similar estimates: Under standard economic assumptions, G.D.P. would be 0.5 percent to 1.0 percent larger by 2027 than if tax rates hadn’t changed.
Apparently economic analysis does not always carry the day. Hoping to push their latest round of tax cuts into law, Republicans in Congress decided to ignore the dynamic analysis they once praised and follow their gut and their preferences instead.Continue reading the main story
Still, the evidence underscores a not-insignificant weakness in the Republicans’ longstanding economic platform: Tax cuts are not the secret sauce to power the American economy. They have, in fact, very little power to affect economic growth. However strenuously Republicans may argue that tax reform is about increasing economic efficiency, encouraging investment or promoting competitiveness, tax cuts are always primarily about redistribution.
That’s because the main effect of tax cuts is in changing how the fruits of economic growth are distributed. This means that for policymakers interested in improving the welfare of the American people, the first and most important item to consider is whose welfare is most worth improving.
A decade ago or so, the nonpartisan Tax Policy Center and the liberal-leaning Center on Budget and Policy Priorities estimated that making the Bush tax cuts permanent — rather than letting them expire in 2010 — would increase the after-tax income of people earning $1 million or more up to 7 percent, an order of magnitude more than it would increase the size of the economy in the long term. The bottom 80 percent of American families, by contrast, would actually be worse off because they would bear the brunt of paying for the cuts.
Republicans’ current efforts are just as skewed. The Joint Committee’s analysis of an early version of the Senate Republican plan found that 10 years from now, millionaires would get a tax cut worth $8,500, on average. People earning $75,000 or less, by contrast, would experience a tax increase.
Adding in the cuts to Social Security, Medicaid, education and other programs that Republicans are planning to cull to pay for the tax reductions, the cost to poor and middle-income families would be even greater.
And this presents an immediate ethical problem. Students of the history of economic thought learn early on that taking money from the poor and the middle class to give to the rich tends to reduce overall welfare for the simple reason that an extra dollar provides much more to those who have few of them than to those already rolling in money. Most conventional proposals to increase general welfare support redistributing in the other direction.
Indeed, from Charles I. Jones and Peter J. Klenow at Stanford University to economists at the Organization for Economic Cooperation and Development, most analysts agree that pumping up income growth is not automatically equivalent to increasing welfare. It depends on whose income grows.
There are policies that might trim economic growth and still vastly improve living standards for most Americans. And there are others that might nudge growth ahead and still do more damage than good.
This is particularly important to keep in mind when policies to increase growth are so hard to come by. Jason Furman, who headed President Barack Obama’s Council of Economic Advisers during his second term, notes that this is not limited to taxes. Whether it is changes in regulations or trade agreements, tax cuts or public investment, policy can’t do much to bolster growth in a well-developed economy like that of the United States. It mostly just changes how the economic pie is shared.
“For mature economies with mature institutions, the difference in growth rates that results from different policies is considerably lower than one might suspect,” he wrote. “The growth effects of tax changes are about an order of magnitude smaller than the distributional effects of tax changes.”
According to Mr. Furman’s analysis, changes in tax policy since 1986 — including the Bush tax cuts and increases in taxes in the Clinton and Obama administrations — altogether raised the after-tax income of the bottom 60 percent of Americans by more than 6.5 percent. Meanwhile, they reduced the income of the 1-percenters at the top by more than 12 percent.
The American economy has not been doing great distributing the spoils of growth. Since 1993, the pretax income of the richest 1 percent of Americans has been growing at a steady clip of over 3 percent per year, according to data from Emmanuel Saez of the University of California, Berkeley, and Thomas Piketty of the Paris School of Economics. For the bottom 99 percent, income growth has averaged only 0.6 percent per year.
Of the world’s seven richest large economies, the United States and Britain have experienced the highest growth in income per person since the mid-1990s. But the United States ranks second from the bottom in the income gains of the poorest fifth of households over the period. And it also fares poorly when it comes to incomes in the middle of the distribution.
This lopsided distribution of riches imposes a question on Republicans perpetually pushing for tax cuts on corporations and high-income Americans: What understanding of national welfare justifies the upward redistribution they are proposing? Using growth as a justification seems like a ruse.
Mr. Furman’s conclusion is, in the end, fairly dark. Politics won’t be pretty in a world in which policy has little power to improve average living standards and must content itself with slicing and reslicing the economic pie. This is a world of near-zero-sum games, where somebody’s gain means somebody else’s loss. Politics, in this world, is defined by class warfare.
And yet reading about Republicans’ latest step in their long march to cut tax rates at the top of the distribution — redistributing income from the bottom to the top — I can only agree that that’s the world we live in.Continue reading the main story