According to a new study from the Center on Budget and Policy Priorities, evidence shows that tax cuts lose revenue. As we get closer and closer to Election Day, data like this becomes increasingly important. Below is the text of the study’s abstract.
“The claim that tax cuts ‘pay for themselves’ — i.e., cause so much economic growth that revenues rise faster than they would have without the tax cut — has been made repeatedly in recent years and is one of the many tax policy issues that is likely to receive renewed attention in light of the upcoming election. As explained briefly below, this claim is false. The evidence shows clearly that tax cuts lose revenue.
The 2001 and 2003 tax cuts have not paid for themselves.
There is no evidence that the tax cuts caused any increase in economic growth, let alone growth sufficient to offset their cost. In fact, the 2001-2007 economic expansion was among the weakest since World War II with regard to overall economic growth. Moreover, revenue growth was very poor during 2001-2007. Real per-capita revenues fell deeply in 2001, 2002, and 2003 and have since risen to barely 2 percent above their 2001 level. Over the course of other postwar economic expansions, they grew by an average of 12 percent.
Previous tax cuts didn’t pay for themselves either.
In 1981, when Congress substantially lowered marginal income tax rates on the well-off, supporters claimed the cuts would boost economic growth. In 1990 and 1993, when Congress raised marginal income tax rates on the well-off, opponents claimed the increases would harm the economy.
In fact, the economy grew at about the same rate in the 1990s, following tax increases, as in the 1980s, following a large tax cut. And revenues grew twice as fast in the in the 1990s (3.5 percent in real per-capita terms) as in the 1980s (1.5 percent).
Capital gains rate cuts, like other tax cuts, lower revenue in the long run.
Especially when a capital gains cut is temporary, like the 2003 cut, investors have a strong incentive to realize their capital gains before the old, higher rate returns. This can cause a short-term increase in revenues, as happened after 2003. (Capital gains realizations also went up after 2003 because of the increase in the U.S. stock market. The capital gains tax cut cannot take credit for the stock market recovery, though, since European stocks performed just as well as U.S. stocks during this period.)
Over the long run, however, there is virtually no evidence that cutting capital gains taxes spurs nearly enough economic growth to pay for itself. As the Congressional Budget Office recently stated, the “best estimates of taxpayers’ response to changes in the capital gains tax rates do not suggest a large revenue increase from additional realizations of capital gains — and certainly not an increase large enough to offset the losses from lower rates.”
Deficit-financed tax cuts carry significant costs that are likely to outweigh any short-term boost in economic growth.
Deficit-financed tax cuts can stimulate an economy in recession and temporarily improve growth. In the long run, however, the resulting deficits lower national savings and are a drag on the economy. Brookings Institution economist William Gale and now-CBO director Peter Orszag concluded that the 2001 and 2003 tax cuts are “likely to reduce, not increase, national income in the long term” because of their effect in swelling the deficit.
Given the evidence, economists across the political spectrum reject the notion that tax cuts pay for themselves.
They include Edward Lazear, current chairman of President Bush’s Council of Economic Advisers (who told Congress, ‘I certainly would not claim that tax cuts pay for themselves’) and N. Gregory Mankiw, the CEA chair earlier in President Bush’s administration (who once compared an economist who says that tax cuts pay for themselves to a ‘snake oil salesman trying to sell a miracle cure’).
In addition, the Bush Treasury Department’s own ‘dynamic’ analysis of the cost of the 2001 and 2003 tax cuts estimated that they would generate only enough economic growth to cover less than 10 percent of their long-term cost. Furthermore, that estimate was based on a best-case scenario; it depended on the assumption that the cost of the tax cuts would be fully offset by spending cuts.
In sum, the idea that tax cuts pay for themselves sounds too good to be true because it is too good to be true. Tax cuts lose revenue, and when they are deficit financed, they can also contribute to poorer economic performance over the long term.”