A couple weeks ago, my father-in-law asked for my opinion on the GOP tax bill that had just been rushed through the Senate early in the morning of Saturday, December 2nd. As the reconciled version of the bill seems likely to be passed in both houses today, I thought I’d share the response I sent to my father-in-law.
I should make clear that I am not a macroeconomist, nor am I a public finance expert. Corrections and suggestions are extremely welcome on Twitter! I also wrote this over a week ago, before the reconciliation of the Senate and House versions was completed, so some details may have changed.
My father-in-law sent me this Wall Street Journal opinion piece signed by several high-profile economists, so I started by responding to that article:
The article itself lays out a plausible set of effects of the proposed tax cuts. There is plenty of economic theory to support their claims. However, in economics we like to consider both what the theory says is possible and what the data says has happened in similar situations. In this case, it seems like the authors of the WSJ piece have made some very optimistic assumptions relative to what the data has shown in the past. (For details, see this article by two Harvard economists, Lawrence Summers and Jason Furman.) The last time we made a large cut in the corporate tax rate, business investment actually went down. This time around, it sounds like CEOs plan to spend the tax breaks on dividends for their shareholders, not new innovations. So, there is historical evidence that the tax cuts won’t actually work as intended.
You also asked for my impression of the authors as academics. They are all certainly incredibly smart. I personally was taught by Taylor, who is often mentioned as a potential Nobel Prize winner. However, these guys come from a pretty narrow part of the political spectrum of economists. In fact, most of the Stanford names are associated with the Hoover Institution, which is a conservative think tank on campus. You might get a more representative sample from the University of Chicago’s Economic Experts Panel, which surveys professors from top schools in a variety of subfields of economics. The panel was asked about the tax reform debate: nearly all of them thought the proposed bill would increase the national debt but fail to increase GDP.
It is also worth pointing out that the WSJ authors have made similar predictions in the past. Douglas Holtz-Eakin and Michael Boskin predicted runaway inflation after the last financial crisis; Lawrence Lindsey predicted large deficits during the Obama administration that did not materialize; Glen Hubbard predicted massive job growth after the Bush-era tax cuts. Of course, all of us make predictions that don’t pan out, and it’s a bit unfair for me to cherry-pick the failures. But it does go to show that these folks have been wrong before, and could be wrong again.
I worry that the increase in the deficit would limit the government’s ability to respond to another financial crisis or recession. During busts, the federal budget should run a deficit as the government bails out banks and shores up social support programs. Ideally, it would run a surplus during boom years (which we are probably in right now) to pay back the debt incurred during the downturn. I worry that by adding substantially to the deficit, this tax plan would make it impossible for the government to spend more when it is needed the most. (For more details, see this opinion piece from Forbes.) It also means even more of the budget will have to be allocated to paying back debt.
I also worry that the increase in the deficit could be used as justification for cuts to the social safety next (social security, Medicare, Medicaid, CHIP, etc). In fact, Paul Ryan and others have already suggested that cuts to these programs are necessary to tackle the deficit, which they just made larger by passing the tax cuts. For this reason, it’s really hard not to see the GOP’s agenda as a massive transfer of wealth and resources from poor people to rich people and corporations. As I mentioned above, it’s not clear that these changes are going to spur more growth, but they will make life harder for lots of unlucky Americans.
Finally, the process through which the tax cuts were passed is a bit scary. The bill was rushed through before anyone had a chance to literally even read it, much less do a proper economic analysis. As a result, there were several clear mistakes in the bill, including one which actually raised taxes on a lot of corporations. And now that folks have had a chance to actually analyze the pill, the bi-partisan Joint Commission on Taxation found that it may actually lower GDP. Hopefully these mistakes can be fixed when the bill is reconciled with the Senate version, but the process so far does not exactly inspire confidence.