Taxes and the Private Sector, Part 2 Would You Like Some Lags with That?

by cactus

Taxes and the Private Sector, Part 2: Would You Like Some Lags with That?
This post follows up last week’s look at how taxes on the private sector affect growth in the private sector. In that post, the data simply refused to cough up anything that could be construed as an excuse for someone to say “Lower taxes produce faster growth.” (Go figure. This must be the 319th time I’ve looked at the topic, each time with different data, and I still can’t figure out how to justify the free lunch story without some serious sleight of hand.)

In last week’s post, I focused on the “private sector” GDP – that is, GDP subtracting off the government’s contribution to GDP. There are several reasons to do this. Only the private sector pays taxes, so it makes more sense to look at taxes paid as a share of the private sector GDP than it does to look at taxes paid as a share of GDP as a whole. Also, an unscrupulous government can pull a Reagan – that is, it can boost GDP by running up the public debt and spending that money. After all, government spending is a component of GDP, so anything borrowed and spent provides a one-for-one increase in GDP. Focusing on the private sector GDP mitigates this problem.

Thus, last week’s post compared the annual percentage change in taxes paid by the private sector as a share of the private sector’s GDP over the length of each administration (i.e., from the year before it took office to its last year in office) to the annualized growth rate in the private sector GDP over the same period of time, producing this graph:

(Note – links to the data as well as a detailed description of the steps taken are provided in last week’s post. This google spreadsheet also contains links to the data sources, plus the data used in the analysis, all in one place.)

This week, I’m going to account for the possibility of lags. Unfortunately, some of the administrations are pretty short (two of them lasted less than three years) so I took the liberty of doing some merging; I put JFK & LBJ together, and Nixon & Ford together. For the most part, LBJ followed the same policies as JFK and Ford continued the policies of Nixon. (Not entirely true – JFK increased the percentage of private sector income collected in taxes each year of his administration, and LBJ cut it dramatically in his first year in office, but he would follow JFK’s lead on taxes for the rest of his administration.)

The graph below shows the change in the tax rate over the first half of each administration on one axis, and the growth rate in the real private sector GDP on the other axis.

Once again, this isn’t exactly screaming “lower taxes leads to faster economic growth.” In fact, it’s not even whispering.

Another interesting thing we can do – we can look how the real private sector GDP growth compares to the change in taxes in the second half of the previous administration:

The data still refuses to cooperate. Is a nice Austrian story too much to ask? Apparently so.

I’m in a hurry, so let me skip the otherwise obligatory insults to those who would simply make $%& up, and jump straight to a few odds and ends that come out of looking at these last two graphs separately:

1. Based on the second graph, it seems that, evidence or not, the right wing meme of lower taxes produce faster growth has won out in the public mind, even among lefty politicians. Clinton raised the percentage of private sector income it collected in taxes in the first half of his term. Bush Sr. essentially kept it the same. The rest of the administrations all lowered them. (Granted, as stated earlier, JFK raised taxes, but LBJ’s one big reduction means that from 1960 to 1964, tax rates actually fell.) That includes some prominent lefties as Jimmeh Carter. It also includes Obama – hence CEA head Christina Romer, who believes in lower taxes as a cure to who knows what.

2. In the third graph we see that administrations are more likely to raise taxes in the second half of their administration after cutting them in the first half. Call it reality setting in. Everyone walks into the Oval Office believing the magic beans are going to take care of everything, but after a few years they realize the line of bs they fed themselves and the voters ain’t gonna cut it. Think of Reagan – in 1985, he figured out he better do a U-turn on taxes. (Yes, he may have continued cutting marginal rates, but 1985 is when he started increasing the share of people’s incomes that was actually collected. For the millionth time, I’d like to point out that nobody pays the marginal rates, and that in this post, as in most of my other posts, I’m focusing on the actual share of income that goes to taxes.)

3. Ike, Nixon/Ford, and Carter all had much, much faster private sector economic growth in the first half of their terms than in the second. The two Bushes did slightly less dismally in the first half of their terms than in the second half. Growth was about the same in each half of the JFK/LBJ administration. Reagan and Clinton both had faster growth rates in the second half of their terms than in the first half. How any of this squares with the notion of cutting taxes to produce growth, I don’t know.

Well, that’s it for me. Until next week, may your food bowl remain full of kibble, and may your rawhide chew thingie have a meaty center.

Reminder: the spreadsheet with info for graph 1 is here.

The spreadsheet with info for graphs 2 and 3 is here.

Data sources..

Current Tax Receipts: NIPA Table 3.1

GDP and the Gov’t piece of GDP: NIPA Table 1.1.6

CPI – U: BLS Table
by cactus