Tax Policies the Old Fashioned Way
This often happens right where it is most important: in the financing of government. Every politician knows that the average citizen wants more government programs at lower taxes. In the United States, this has led to a series of claims made by Republicans that tax cuts are the cure for all economic woes while tax increases are bad and likely to cause a recession.
In our new book, The Politics of Bad Ideas, we examine the two most important of these theories: ‘supply side economics’ and ‘starving the beast’. Both justify cutting taxes and not worrying about the consequences for the fiscal health of the country. The former theory claims that tax cuts need not be offset by decreased spending because the cuts stimulate so much economic activity that they ‘pay for themselves’. The second theory claims that tax cuts will not pay for themselves, but instead will generate a deficit that will motivate politicians to cut spending because the people will demand that this must be done.
One can pick out special examples that make the theories look as if they work. But our examination of tax policies since the Second World War show that neither work as claimed, that they never have worked as claimed and will never work as advertised.
Since the end of the war, income taxes have been changed in four major stages—the Kennedy tax cut, enacted in 1963; the two Reagan tax cuts, 1981 and 1987; and the GW Bush cuts in 2001 and 2003. Rates have been raised twice, in 1991 and 1993, under GHW Bush and Clinton, respectively.
The fiscal health of the nation was damaged by each tax cut except the Kennedy cut, which of course is the cut that supply-siders always cite. That year the politicians really could have their cake and eat it too, because the economy was growing so rapidly that the national debt continued to decline. In every other case, tax cuts quickly brought large yearly budget deficits that fueled a rapid climb in the national debt.
The fiscal health of the country was improved with each of the tax increases, not consumed by a hungry beast. The chart below, which measures federal debt as a percentage of GDP, shows that after Kennedy, the national debt rose with each tax cut, and fell after each tax increase.
Nor is it true that the beast was tamed by tax cuts. In fact, the opposite case is easier to make. As we show in the book, tax cuts make the public more liberal—that is, citizens want more government because they are getting lots of benefits at a cheap price. As a consequence of this increased demand, government grows.
Robert Taft, and every other Republican of the old-fashioned fiscally conservative persuasion, would be pleased. If you want a smaller government, charge people the full cost. Don’t force future generations to pay later for the borrowed funds. Pay as you go for tax cuts and spending increases. Only then will there be both a smaller government because people will resist the taxes associated with larger government, and a fiscally responsible government that does not borrow to cover its poor fiscal performance.
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John H. Lederer - 8/7/2008
"The former theory[supply side economics] claims that tax cuts need not be offset by decreased spending because the cuts stimulate so much economic activity that they ‘pay for themselves’."
That's the extreme case. The more typical argument is that the government does not lose as much in revenue as the populace gains. In other words, the overall pie is bigger-- the sum of government revenues and post-tax income of the people is larger.
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