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Saturday, December 31, 2005

The Myth That Tax Cuts Pay for Themselves

This will not please the tax cut fanatics and proponents of the Laffer curve. Here's a link to the report from the CBO discussed in this Economic View by Daniel Altman from the New York Times:

Economic View A Bit of Doodling About a Tax-Cut Danger, by Daniel Altman, Economic Scene, New York Times: Early last month, without much fanfare, the Congressional Budget Office released a paper called "Analyzing the Economic and Budgetary Effects of a 10 Percent Cut in Income Tax Rates." ... [I]t may be one of the most important government publications in years. As Douglas J. Holtz-Eakin, the budget office's director, writes ..., most predictions of the effects of tax-rate changes "do not include the budgetary impact of any possible macroeconomic effects of tax policies." In other words, the predictions don't take into account how tax cuts could affect the overall size of the economy. It is this omission - one often cited by proponents of tax cuts, especially in the White House - that the paper tries to correct.

The author ..., Ben Page, estimates estimates how an across-the-board cut in income tax rates could generate higher levels of economic activity, potentially replacing lost tax revenue. ... Mr. Page's [results] vary widely depending on his assumptions ... But even within their range, the results answer the fundamental question posed by the Laffer Curve. ... One motivation for Mr. Reagan's tax cuts was a guess that the United States was on the right side of the curve - that is, that lowering rates would actually yield more tax revenue over all. Some recent statements by Joshua B. Bolten, President Bush's current budget director, seem to indicate that he still believes this to be true, though rates are much lower now than when Mr. Reagan took office in 1981. ...

The recent analysis by Mr. Page at the Congressional Budget Office dismisses the idea that tax cuts may actually improve the government's fiscal situation. Even in his most generous scenario, only 28 percent of lost tax revenue is recouped over a 10-year period. The United States, it seems, is firmly planted on the left side of the Laffer Curve. Recent experience corroborates this prediction. In the second quarter of 2001, just before the first of President Bush's tax cuts took effect, federal receipts from personal taxes accounted for 10.3 percent of the economy. By the end of the post-recession slump, receipts had dropped to 6.4 percent. But in the third quarter of 2005, with the economy booming, they were still under 7.5 percent - an enormous difference. In dollar terms, federal receipts from personal income taxes, at $802 billion in 2004, are still lower than they were in 1998 ($826 billion) and much lower than in 2001 ($994 billion). ...

    Posted by on Saturday, December 31, 2005 at 01:52 PM in Budget Deficit, Economics, Taxes | Permalink  TrackBack (2)  Comments (10)


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