Dealing with the Sunset of the Bush Tax Cuts (Part II in a series)

by Linda Beale
crossposted with Ataxingmatter

Dealing with the Sunset of the Bush Tax Cuts (Part II in a series)

The Congressional Budget Office has published a report with its views on the economic impact of enacting legislation to extent some of the Bush tax cuts. The full report and summary are available here.

The report provides 10-year projections–all with the caveat that forecasting economics is “subject to considerable uncertainty.” It projects a relatively slow recovery from the recession, as is typical with financial crises, with unemployment staying relatively high until about 2014. The slow growth means lower revenues, though the CBO expects revenues to begin to recover in 2010–with a total of $2.1 trillion or 14.6% of GDP. But spending will be about $3.5 trillion (24% of GDP). That means a projected deficit for 2010 of $1.3 trillion, second only to 2009’s deficit as a percentage of GDP (9.1% compared to 2009’s 9.9%). That’s using as a benchmark the tax laws as written–i.e., no additional “patch” for the alternative minimum tax (AMT) and no changes to the Bush tax cut sunset provisions, so that the Bush cuts expire as slated at the end of 2010. If those policies were not continued (i.e., if a further tax cut similar to the Bush cuts were enactetd and an AMT patch were put in place, and the discretionary budget remained about the same as in past years as a proportion of overall spending, the deficit in 2020 would be about 8% of GDP and the public debt about 100% of GDP.

That’s a significant cost to enact tax cuts. Should we do so? Wouldn’t the economy get more of a boost if we allowed the cuts to expire as slated and used the additional revenues in programs that are likely to build jobs?

There is certainly an argument for increasing economic stimulus now, if possible. That might spur some further job creation and permit more of those on the brink of economic disaster to retain their homes. While tax cuts are likely not the best means of providing a stimulus, it might be more possible to attain a Congressional vote compared to direct government programs, such as infrastructure spending.

But the utility of tax cuts as a stimulus likely wanes fairly rapidly as income levels increase. A person with 30 thousand of income will find ready spending needs for a few hundred dollars of tax savings. A person with 30 million of income would not need the extra tax savings and might simply purchase more financial assets with any extra cash. The purchase might add liquidity to the US markets–or it might be equities in China or India and have no useful impact in the US. Purchases in the secondary market, at any rate, will not put new funding in the hands of corporate businesses. So the argument in favor of a new tax cut does not well support an across-the-board cut. Cut taxes for those at the lower income levels, but retain rates for those at the top. Obama’s line-drawing is nothing magical, but increasing taxes for individuals making more than $200,000 shouldn’t be a big problem.