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Saturday, May 27, 2006

Correlation is Not Causation: Bush, Spending, Tax Cuts, and Deficits

Recently, there has been criticism of President Bush from within the GOP for being a big spender. For example:

President Bush: Two-Thirds of a Real Conservative: ...Fred Barnes of The Weekly Standard magazine. ... has produced a book about George W. Bush, "Rebel-in-Chief," ... Barnes admits that he is "no libertarian or small government conservative," ... Bush "pays lip service" to limiting government, Barnes says. "More often than not," Barnes goes on to say, "he relies on a bigger federal government and billions of taxpayer dollars" to achieve his goals. ...

Or, another of many examples:

Hey, Big Spender, Peggy Noonan, Commentary, Opinion Journal: ...When George W. Bush first came on the scene in 2000, did you understand him to be a liberal in terms of spending? ... Mr. Bush ... "spends like a drunken sailor except the sailor spends his own money." ... If I'd thought he was a big-spending Rockefeller Republican--that is, if I'd thought he was a man who could not imagine and had never absorbed the damage big spending does--I wouldn't have voted for him...

The reasoning is that because deficits have increased since Bush took office, his spending habits must be the cause. But the evidence shows that this inference is spurious. While the two variables are correlated - deficits have increased under Bush - it is not because of his out of control spending habits:

[C]onservatives ... criticize Mr. Bush for presiding over runaway growth in domestic spending, because that implies that he betrayed his conservative supporters. There's only one problem ... it's not true. ...

I'm hoping to do more examples of "correlation does not imply causation," so if you come across examples of spurious correlation, please send them to me by email.

Of course, the first  place to turn on on such issues is The Simpsons. Here causality is inferred from the lack of a response to an action:

Homer: Not a bear in sight. The "Bear Patrol" is working like a charm!
Lisa: That's specious reasoning, Dad.
Homer: [uncomprehendingly] Thanks, honey.
Lisa: By your logic, I could claim that this rock keeps tigers away.
Homer: Hmm. How does it work?
Lisa: It doesn't work; it's just a stupid rock!
Homer: Uh-huh.
Lisa: But I don't see any tigers around, do you?
Homer: (pause) Lisa, I want to buy your rock.

Usually though, it is two variables moving spuriously together that results in the incorrect inference. For example, having lots of churches and lots of gambling in Nevada does not necessarily imply one causes the other. This is a case where causality does not exit between the two variables, instead a third variable, liberal regulations regarding gambling and marriage, cause a proliferation in both casinos and marriage chapels.

I think an editorial in today's Washington Times may provide an example of this. Recently, a paper by Bill Niskanen, chairman of the Cato Institute reemerged (the paper is discussed here). The paper, to the distress of conservatives, claims that cutting taxes does not reduce the size of government. The commentary in the Washington Times attempts to reestablish that tax cuts "starve the beast" by looking at cross-country evidence:

Tax cuts as government curb, by Richard W. Rahn, Commentary, Washington Times: ...Nothing new here -- but back across the Atlantic in America, a little storm was raised when one of President Reagan's economic advisers said he thought the Reagan and Bush tax cuts had led to more, rather than less, government spending. One argument by advocates of President Reagan's tax cuts is that "they would starve the beast," meaning lower tax rates would force less spending. The fellow causing the storm was Bill Niskanen, chairman of the Cato Institute ... [He claims] "starving the beast" did not work and may have been counterproductive. ...

Bill Niskanen actually showed even the best economist can occasionally be wrong. Let's hop back to Europe where I am at the moment. Italy, France and Germany began several decades ago to adopt a high-tax and spend government model, while the U.S. was moving toward a lower tax rate model. ... Mr. Niskanen's mistake was to ... fail to look at what has happened in the rest of the world. Major low-tax economies, such as Japan, Switzerland and the U.S., have much smaller government sectors than the major high-tax-rate countries. ...

But couldn't it be that as in the Nevada example a third variable, the preferences of people who live in each country, explains both taxes and the size of government? Countries that want larger government choose higher taxes, and countries that want smaller government make the opposite choice. Trying to force causality where none exists - cutting taxes and hoping the size of government falls when the majority of people do not want such cuts in government - will not work. It may be that the preferences in the U.S. are inconsistent and, for now at least, people demand both large government and low taxes, or it may be that current policy is out of step with what people want. But it is preferences that determine the size of government, not the amount of revenue collected.

    Posted by on Saturday, May 27, 2006 at 03:08 AM in Budget Deficit, Economics, Politics | Permalink  TrackBack (0)  Comments (18)

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