Aug 22, 2012 at 9:11 am
Just a small dose of microeconomics to start out the day here. I promise it will go down like butta.
There’s this dustup going on between one of Gov Romney’s economic advisors and the WaPo editorial board. The gist is one I’ve talked about—and even vblogged on—before: as re the tax cuts for the wealthy in the Romney plan, there is not enough revenue in the base broadeners to offset the losses from the rate cuts.
Predictably, the advocates of such cuts invoke supply-side growth effects that will be large enough to more than make up the difference: if you lower marginal tax rates thus raising after-tax income at the margin, people will work harder (longer, really), invest more, etc. As OTE’ers know, there’s no theory that’s so prevalent yet so wrong, but there it is.
However, even on theoretical terms, invoking supply-side is not a sufficient response because it invokes only the “substitution effect,” when all that base-broadening pushes the other way—toward less labor supply—through the “income effect.”
As economist Lawrence Koltikoff points out this AM, “[t]he Romney tax plan has relatively minor incentive effects and the income effects of its base broadening go in the wrong direction.”
Now that I’ve laid out the flaws in the theory, I sure the Romney folks will stand down.
OK—I haven’t really lost my mind. But it’s important to remember that one reason supply-side doesn’t work in practice is because it doesn’t work in theory.
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