Uh, No, Your Tax Cuts Didn't Pay for Themselves

Not too long ago, some people were arguing that supply-side ideas are no longer part of the Republican mainstream. This is President Bush responding to Alan Greenspan's criticism of his tax-cuts:

I would also argue that cutting taxes ... made a significant difference in dealing with the deficit because the growing economy yielded more tax revenues, which allowed us to shrink the deficit.

The tax cuts paid for themselves? I wish the President and others would quit misleading people about this because it's not true. His own economists don't even believe that. I know some of you are tired of hearing this over and over, but somebody has to try to call them on this or they'll just keep saying it, and the press seems unwilling to do so so. For example, the Wall Street Journal article the quote above is taken from doesn't even bother to mention that there's no evidence to support this claim, instead it's treated as a "he said-she said" story between Bush and Greenspan.

The tax cuts made the deficit worse. End of story.

Comments

[mdm]

Mark...

Agreed.

This is simple accounting principles!

OY!!!!!!!!!!!!

[pgl]

Damn! Is Pullizi campaigning for the Stupidest Man Alive award or what? Over at Angrybear, I tee off on his title (Bush's BS rebutted Greenspan's principled statement - stupid, stupid, stupid).

[Robinia]

Faith-based economic reasoning (ideological purity over empirical evidence) is an affront not only to a voting public that should not be lied to, but, also, to economists everywhere who take the trouble to use the tools of the trade to do honest inquiry.

[Bruce Webb]

"Faith-based economic reasoning"

Ay there's the rub. To an unsettling degree the 'Orthodox' are coming to a realization that in some respects they are in the position of Ptolemaic astronomers. They have an enormously complicated discipline backed up by rigorous mathematics that may be based on underexamined psychological explantions. If people really don't rely on tiny changes in incentives to alter economic behavior whole parts of the overall system crash into dust.

That is why they call it the Copernican Revolution. The transition from a Geocentric to a Heliocentric conception didn't come without immense pain, suddenly that skill in calculating epicycles became quaint. Whether classical or neo-classical economics can survive the introduction of political power equations is an open question. But nineteenth century physicists were this close to presenting a complete solution. Then some people in th 1890s started raising awkward questions and observations and then in 1905 Einstein screwed up everything, and then Heisenberg added uncertainty and Uncertainty and the dust hasn't settled yet.

Economists who want to think of themselves as scientists may want to look back in history. The Ptolemaists and the Classical Physicists thought they had it down, wishes don't always come true in the form you would like.

[evagrius]

Bruce Webb- Good comment. The "uncertainty" principle has always been there. It's known as human nature.
Human beings do not always act "rationally" and often don't on purpose just to spite things.

[kotika]

Wait a second, what exactly is the "scientific" evidence that tax cuts increase the deficit. Or, for that matter why is a deficit of close to 200 billion ( ie less than 2% of GDP) a bad thing?

But lets leave the second question, and see what if any scientific evidence is there.
We have a single datapoint here, and actually Bush is right -- the deficit is now lower and tax revenues higher than they were at the time of the tax cut.
I am not sure we can make statistically significant conclusions from this, but Bush is right about the observed sign of the effect.

Having said all that, the capital gains and dividend tax of 15% seems a bit too low to me, I would have set it somewhere between 20 and 25%.

[johnchx]

During the first Bush-Kerry debate in 2004, President Bush said: Saddam Hussein had no intention of disarming. Why should he? He had 16 other resolutions and nothing took place. As a matter of fact, my opponent talks about inspectors. The facts are that he was systematically deceiving the inspectors.Apparently, nobody bothered to tell the President that, by September of 2004, this storyline was "no longer operative."

Bayesian updating -- revising his view of the world as new facts become available -- has never been this President's strong suit.

[save_the_rustbelt]

Journalists (and sometimes economists) confuse the issue by talking about the "deficit" when they should be talking about the "unifed deficit" and the "general fund deficit."

The last time I wrote to a newspaper ombudsmen about this his reply was esentially "everybody does it."

Great.

[johnchx]

STR wrote:Journalists (and sometimes economists) confuse the issue by talking about the "deficit" when they should be talking about the "unifed deficit" and the "general fund deficit."

Agreed and seconded (though the official documents use the term "on-budget" rather than "general fund," as the Federal government doesn't really use fund accounting in the way that state and local governments do, and the on-budget deficit includes other, non-OASDI trust funds).

I'd only add that even the on-budget deficit is incomplete: it excludes interest paid on Federal debt held by the trust funds, and it doesn't account for the current-year accrued costs of employee pensions and veterans benefits. Taken together, these factors boost the on-budget deficit for 2006 from $435 billion to $708 billion.

[Patricia Shannon]

kotika says...
Wait a second, what exactly is the "scientific" evidence that tax cuts increase the deficit. Or, for that matter why is a deficit of close to 200 billion ( ie less than 2% of GDP) a bad thing?

But lets leave the second question, and see what if any scientific evidence is there.
We have a single datapoint here, and actually Bush is right -- the deficit is now lower and tax revenues higher than they were at the time of the tax cut.
I am not sure we can make statistically significant conclusions from this, but Bush is right about the observed sign of the effect.

The Bush team has a habit of changing scientific facts that they don't like. It is only rational to be skeptical about the economic figures our government is claiming.

And if it is true that tax revenues are higher, that might be at least partly due to the large shift in revenues to the very rich offsetting their tax cuts. (That's one of the great things about this forum. I can make a statement like that and know that most of you know enough mathematics that you can see what I'm saying w/o my having to go into great boring detail).

[Patricia Shannon]

kotika

I would say a national debt of about $30,000, and $1350 in interest last year, for every person, of every age, in the U.S. is a bad thing. And every year there is a deficit makes things worse. The baby boomers are starting to retire, and in a few years will be getting Medicare. Also, there are areas we need to invest in now for the future of our country, such as the education and health of our children, and infrastructure (like bridges). Guarding against terrorism is a long-term problem. The large national debt makes it harder to address our problems.

[Bruce Webb]

johncx

Thanks, I have been asking form a long time how interest on then SS Trust Fund was accounted for. I tried to look it up in the Analytic Perspectives volume of th Budget and thought I found it on budget (I don't have the page reference handy.) If I am wrong I need to know it, certain of my judgements and subsequent comments have relied on what may be a flawed understanding here.

Can you point me to something confirming that interest on the SS Trust Fund is in fact off budget?

Thanks in advance, I pride myself on at least getting the numbers straight, and I can use all the help I can get.

[ilsm]

Bruce Webb,

Treasury direct posts this every month.

Check out the 31 Aug 07 report.

It shows interest accrued on "intragovernmental debt".

http://www.treasurydirect.gov/govt/reports/pd/feddebt/feddebt_aug07.pdf

Quite interesting.

For whoever thinks the deficit does not matter.

The FDIC deposit trust fund that is there to cover depositor "losses" is around 47B in the debt fund.

So if you lose money in a failed insured bank they have to give you a deed to a T-Bill. May be a useful as an ABCP.

Or sell more T-Bills or tax someone who should have been taxed instead of spending all the "premiums" received.

The fed has to run the money printing press, it is the rainy day fund.

Tax cuts worked because they are creating a couple hundred billion a year in intragov debt, which is stealing taxes collected from the payrolls and surcharges and spending them to cut someone else's tax.

Bush majored in enron accounting.

Some gumint, eh?

[german_reader]

@johnchx,

WOW! Could it be that the US is currently running a public deficit of at least 6-7% of GDP? According to EU standards the debt of state and local governments would be added to the public deficit. In 2006 state and local governments in the US created $151.6 billion in new debt ( total 2005.8 billion ). And I don't know how the liabilities against the Social Security Trust Fund would be counted in this calculation. After all it's real debt and must be repayed anytime in the future when the baby boomer retire and the flows to the SSFT become negative.

[lonesome moderate]

Wait a second, what exactly is the "scientific" evidence that tax cuts increase the deficit. Or, for that matter why is a deficit of close to 200 billion ( ie less than 2% of GDP) a bad thing?

But lets leave the second question, and see what if any scientific evidence is there.
We have a single datapoint here, and actually Bush is right -- the deficit is now lower and tax revenues higher than they were at the time of the tax cut.

The deficit is not lower than it was at the time of the tax cut. At the time of the cut the budget was in surplus. Or, if you use STR's method (i.e. the one that everyone but national governments uses), it was running a much smaller deficit than today.

[johnchx]

Bruce Webb wrote: Can you point me to something confirming that interest on the SS Trust Fund is in fact off budget?

I'm glad you asked. It turns out that I've got this backwards: payments to the OAS and DI trust funds are included in the on-budget deficit. It's payments to all the other trust funds (notably the civilian and military pension funds) that are netted out. Somehow I got these mixed up in my memory. Sorry!

The bottom line remains the same, of course: the increase in Federal debt exceeds the on-budget deficit due to payments to trust funds which are not treated as expenditures (on- or off-budget). (See below for one minor adjustment.)

As for sources, my bread-and-butter is the Monthly Treasury Statement, available here. Table 4 shows revenues, Table 5 shows outlays, and Table 6 shows financing. (For fiscal year end totals, remember to look at the MTS for September, since the Federal fiscal year ends Sept 30.)

Since Bruce sent me scurrying back into the data, I did notice one adjustment that's worth making. Treasury Bills (the shortest term Treasury securities) don't pay interest per se; instead, they are initially sold at a discount to their face value -- the size of the discount amounting to a de facto interest payment. However, that means that part of the face value of the national debt isn't principal at all, but interest payable. If that amount doesn't change very much from year to year, the change in the face value of debt outstanding is a good measure of the fiscal shortfall, but it looks like the aggregate discount increased quite a bit (about $27 billion) in 2006, which means that my figure overstates the "true" operating deficit.

Taking this into account, along with a variety of miscellaneous ups and downs detailed in Table 6 of the MTS, I'd revise my number for the basic shortfall from $574 billion to $557 billion. Add in the $134 billion increase in unfunded pension and veterans benefit liabilities, and you've got an overall shortfall of $691 billion. Add in the $120 billion "true" surplus that I believe we "should have" run in 2006, and you get a total fiscal gap of $811 billion.

[johnchx]

german_reader wrote:Could it be that the US is currently running a public deficit of at least 6-7% of GDP? According to EU standards the debt of state and local governments would be added to the public deficit.

Well, I'm arguing for a shortfall figure of $691 billion (revised down slightly from my original $708 billion figure) for 2006, when GDP was $13.2 trillion...so that would be a Federal shortfall of about 5.2% of GDP.

I'd also say that there are major differences between the debt issued by states and localities and the Federal deficit.

The vast majority of state and municipal debt is issued to finance bona fide non-routine capital investments, such as sewer treatment plants, jails, and major transportation projects. State and local debt is almost always self-amortizing, meaning that there is a schedule for the payment of both interest and principal, and the issuers are expected to actually pay off the bonds on schedule, not to endlessly roll them over. Much state and local debt is tied to specific revenue sources from which repayment can be made (such as monthly sewer utility billings), or to an earmarked tax increase (as when voters approve a special levy or a local improvement district).

The Federal deficit, by contrast, finances perfectly routine, ongoing expenditures. It is not self-amortizing (i.e. it is "interest-only" until the bonds are due), and the government has neither resources nor plans to repay any of the principal. Instead, the national debt must be rolled over ad-infinitum.

The bottom line is that state and local governments use debt as a legitimate tool of financial management. The Federal government uses debt to avoid making politically difficult decisions. That's what worries me.

[Cyrille]

I think German Reader was referring to our typical EU benchmark, the Maastricht stability criteria.

Now, political economy students learn how silly it was to have them in the treaty (especially seeing how France interprets them...), but well what they say is that you should never exceed 3% of GDP in deficit and 60% in debt (that 60% point has been interpreted as you should at least be going there, so if you have 70% and reducing by a bit each year you could join). And to make it comparable for the US, you'd have to include states debt.

In other words, USA would be nowhere near.

[Patrick Trombly]

http://online.wsj.com/article/SB119189497675953035.html?mod=sphere_ts

Sorry to be the bearer of.... reality - the tax cuts paid for themselves.

[Patrick: If you take the editorial page of the WSJ at its word, you are pretty gullible ... there's no credible economist anywhere who makes this claim. See, e.g., here (also in WSJ, but from a credible writer, Greg Ip):

http://economistsview.typepad.com/economistsview/2007/07/cbo-supply-side.html

]