Important New Research On a Key Fiscal Cliff Issue

September 24th, 2012 at 9:07 pm

I read two papers over the weekend both of which underscored an important point about an ongoing area of contention around the fiscal cliff: allowing the Bush tax cuts to expire for the top 2% will not have a negative impact on the economy.

The first one is by economist Owen Zidar, a careful econometric study of the impact throughout history of tax changes on jobs and growth.  What’s unique and particularly relevant about this study is that it breaks up the tax cuts into the parts that go to the bottom 90% of taxpayers and those that go to the top 10%.

And in numerous different statistical tests and models, Zidar consistently finds no significant impacts of tax cuts to the high income group.  As he puts it in the conclusion (my bold):

If tax cuts for high-income earners generate substantial economic activity and job creation, then we should expect to see three things in the data. First, employment growth should tend to be higher in the years following…tax cuts for the rich. Second, places with a higher share of rich people should grow faster following national tax cuts for the rich (since these areas receive more tax cuts for rich people in dollar per capita terms). Similarly, growth should be lower following tax increases on the rich, especially in places where many rich people live. None of these predictions are born out in the data.

He does, however, find consistently strong multiplier effects for tax cuts targeted at the bottom 90%.  EG, “a one percent GDP tax cut for the bottom 90% results in 2.7 percentage points of GDP growth over a two year period.  The corresponding estimate for the top 10% is 0.2 percentage points and is insignificant statistically.”  The comparable result for employment growth is 1.9% for the bottom 90% and an insignificant 0.4% for the top group.

In another useful analysis, researchers at EPI look at the stimulative impact on GDP and jobs of all the components of the dreaded cliff.  Re the highend tax cuts, they find:

Extending just the upper-income Bush tax cuts would boost GDP growth by 0.1 percentage point, increasing nonfarm payroll employment in 2013 by only 102,000 jobs—far less than one-tenth the impact of continuing the temporary ad hoc stimulus measures.

The latter refers to extended unemployment insurance benefits, the temporary payroll tax cut, and the Recovery Act extensions of some well-targeted tax credits.

OK…in the real world, the politicians arguing for extending the high-end Bush cuts are hiding behind Keynesian arguments—arguments they normally disdain—in order to stick to their Norquist pledge to never raise taxes on anyone, a pledge that has nothing to do with economics.

But in the really real world, the tax increase would be smart on a number of levels.  Allowing these high-end tax cuts to expire raises about $1 trillion in new revenue over 10 years, breaks the Norquist strangle hold, and sends an important and salutary signal to markets and others worried that US policy makers have lost the capacity to undertake sane fiscal policy.

Given the analytic results in these two papers on how they wouldn’t hurt growth, doesn’t that sound like an awfully good deal?

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4 comments in reply to "Important New Research On a Key Fiscal Cliff Issue"

  1. azlib says:

    Don’t worry Jared, the opposition will just fall back on the moral argument that taxation is evil. They are really very chameleon like in their arguments. They are simply not serious about economic or fiscal policy.

  2. jonathan says:

    One interesting thing to me was that Zidar’s paper, which is quite a neat construction, only considers some national tax changes but chooses those using the very reference conservatives favor. This work isn’t the be all and end all of tax analysis but it’s miles better than the regressions done carelessly by right wing tax commenters.

  3. Bob Wyman says:

    Increases in GDP flow disproportionately to increased profits for the investor classes. So, tax cuts for the “spending classes” can be seen as profit generators for members of the 1% “investment class.” The interesting question is: “How much does 1% income increase in response to tax cuts to the spending classes?” And then: “What is the impact on 1% net disposable income of spending-class tax cuts that are not mirrored by tax cuts on the 1%?”

    Similarly, if high-end tax cuts expire, what will be the GDP impact if the government were to spend the $1 trillion of new revenue on stimulus? How much of it will be recovered by the 1% in the form of increased income?

  4. Andrew says:

    What are we trying to achieve? Jobs? Consumption? Increased living standards (better access to healthcare, education, housing)? A juiced market? Whether we should tax or not isn’t the question to ask UNLESS it is important to achieving our goal. We keep arguing about silly things like if a tax is good or bad or what it would do to GDP without deciding what, specifically, we are trying to achieve.

    Taxes aren’t good or bad. They are useful for redistribution of assets and they could be used for inflation control. But they aren’t liked by ANYONE. There are other ways. First, decide what you are trying to accomplish. Second, find the best way to accomplish it.

    As I think you lately said, doing things the direct way are likely to be the most effective. Taxation (especially income taxation) isn’t a direct way of doing much of anything.

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