CBO's Analysis Of Extending The Bush Tax Cuts, Reducing The Payroll Tax And Extending Unemployment Benefits: Difficult Choices Between Current Or Future GDP Growth

On September 28, 2010, CBO Director Doug Elmendorf presented to the US Senate Budget Committee a comprehensive analysis of the macroeconomics effects on employment, GDP and the deficit of various fiscal policy choices, including full and partial, temporary and permanent, extensions of the Bush tax cuts, reductions in the payroll tax and extending unemployment benefits.

I am republishing the weblinks to that full testimony, summaries, with and without charts, and an accompanying slide show below.

Following is a quote of the key assumptions from page 5 of the full CBO report. It goes to the core of the political and economic differences between those who want the deficit reduced now and those want to reduce taxes or increase government spending now. Lowering taxes or increasing deficit spending now will increase near term demand and GDP at the expense of higher future deficits, which will crowd out future private investments and capital spending and reduce future GDP. We are in a situation in the US where current economic policies must carefully thread a needle. We need to increase current employment and GDP, but we must be very careful to choose policies that will not seriously damage future economic growth, employment and GDP as we do it.

CBO expects that economic growth in the near term will be restrained by a shortfall in demand. All else being equal, lower tax payments increase demand for goods and services and thereby boost economic activity. In contrast, the models used to estimate the effects on the economy in 2020 and later years focus on the policies’ impact on the supply of labor and capital, because CBO believes that economic growth over that longer horizon will be restrained by supply factors. All else being equal, lower tax revenues increase budget deficits and thereby government borrowing, which crowds out investment, while lower tax rates increase people’s saving and work effort; the net effect on economic activity depends on the balance of those forces.

The full testimony of the analysis, with charts, is available here.

The summary with charts from the CBO study is available here.

The summary without charts is available here.

The accompanying slide presentation is available here.

New Economic Research Finds Tax Cuts And Not Stimulus Spending Promote Economic Growth

From "Why the Spending Stimulus Failed: New economic research shows why lower tax rates do far more to spur growth." by Michael Boskin in the Wall Street Journal:

economic theory, history and statistical studies reveal that more taxes and spending are more likely to harm than help the economy. Those who demand spending control and oppose tax hikes hold the intellectual high ground.[Emphahsis Added].
***Macroeconomics since Keynes has incorporated the effects of longer time horizons, expectations about future incomes and policies, and incentives (including marginal tax rates) on economic decisions.***based on the best economic evidence, we should reject increased spending and increased taxes.

If anything, we should lower marginal effective corporate and personal tax rates further (for example, along the lines suggested by the bipartisan deficit commission's Erskine Bowles and Alan Simpson). We should quickly enact an enforceable gradual phase-down of the spending explosion of recent years.

Read the complete Wall Street Journal article here.

History Shows Cutting Spending And Taxes Spurs Economic Growth

From The Wall Street Journal article, "Tax Cuts vs. 'Stimulus': The Evidence Is In: A review of over 200 fiscal adjustments in 21 countries shows that spending discipline and tax cuts are the best ways to spur economic growth." by Harvard Economics Professor Alberto Alesina:

Politicians argue for increased stimulus spending, as opposed to spending cuts, on the grounds that it would speed up economic recovery. This argument might have it exactly backward. Indeed, history shows that cutting spending in order to reduce deficits may be the key to promoting economic recovery.

***

Economic history shows that even large adjustments in fiscal policy, if based on well-targeted spending cuts, have often led to expansions, not recessions. Fiscal adjustments based on higher taxes, on the other hand, have generally been recessionary.

***

The evidence from the last 40 years suggests that spending increases meant to stimulate the economy and tax increases meant to reduce deficits are unlikely to achieve their goals. The opposite combination might.

Read the complete article here. If the entire article is not available, try this link.

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• Alberto Alesina: Tax Cuts vs. 'Stimulus': The Evidence Is In (online.wsj.com)
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