taxes, deficits, debt, and gimmicks

Taxes, Deficits, Debt, and Gimmicks

Antony Davies Duquesne University

www.antonydavies.org

Tax Gimmicks: How government hides what it does

Gimmick #1: Withheld Taxes

Endowment effect: People value things more once their property rights to those things have been established.

à The pain of paying $10 is worse than is the pain of not

receiving $10.

Gimmick #1: Withheld Taxes

2011: $850 billion in withholdings = 40% of federal revenues

How much do you spend a month on gasoline?

Gimmick #2: Temporary Taxes

How they arrive

Voters tolerate new taxes that go toward addressing the emergency.

Why taxes aren’t temporary

People get used to paying the tax.

Government gets used to receiving the revenue.

Gimmick #2: Temporary Tax Cuts

Why tax cuts are temporary

PoliMcal triple-‐dipping: •  Get credit for cuOng taxes, •  “Temporariness” miMgates complaints about ballooning deficits, •  Cuts expire when other party is in power.

Why they don’t perform as promised People make long-‐term decisions based on anMcipated long-‐term income and expenses.

à  Temporary tax cuts don’t affect long-‐term income and expenses.

Gimmick #2: Temporary Tax Cuts

Households: Pay down debt now to offset anMcipated future tax increase. Businesses: Hiring that isn’t profitable before the tax cut won’t be aWer the tax cut.

Source: Bureau of Labor Sta/s/cs Produced by: Antony Davies, Duquesne University

Payroll tax cut takes effect

Average = 9.6% Average = 9.0%

0.6 percentage point decline in unemployment following the payroll tax cut.


Payroll tax cut takes effect

Average = 57.5% Average = 57.5%

No increase in employment following the payroll tax cut.

Gimmick #3: Statutory vs. Economic Tax Incidence

The government can only set the statutory burden of a tax. It has no control over the economic burden. •  Employer-paid taxes

•  Corporate taxes

•  Luxury taxes


A buyer and seller are haggling over the price of a used car.

$7,500 $6,500


A buyer and seller are haggling over the price of a used car.

$7,000 Buyer pays $7,000

Seller earns $7,000


Government imposes a $1,000 tax on car sales (to be paid by the seller).

$7,500

$7,000 – $1,000 $6,000

$7,000

$6,500


$7,500

Buyer pays $7,500

Seller earns $6,500 (after tax)


Each pays $500 of the tax.

Buyer pays $7,000

Seller earns $7,000

No Tax

Buyer pays $7,500

Seller earns $6,500 (after tax)

$1,000 Tax on Seller


Government imposes a $1,000 tax on car purchases (to be paid by the buyer).

$6,500

$7,000 + $1,000 $8,000

$7,000

$7,500


$6,500

Buyer pays $7,500 (including tax)

Seller earns $6,500


Each pays $500 of the tax.

Buyer pays $7,000

Seller earns $7,000

No Tax

Buyer pays $7,500 (including tax)

Seller earns $6,500

$1,000 Tax on Buyer


Government cannot control who pays the tax.

Tax Revenues: What does raising taxes get us?

Source: Tax Policy Center (Urban Ins/tute and Brookings Ins/tute), Bureau of Economic Analysis Produced by: Antony Davies, Duquesne University

Source: Tax Policy Center (Urban Ins/tute and Brookings Ins/tute), Bureau of Economic Analysis, Barro and Redlick (2009) Produced by: Antony Davies, Duquesne University

Source: Tax Policy Center (Urban Ins/tute and Brookings Ins/tute), Bureau of Economic Analysis Produced by: Antony Davies, Duquesne University

Fair Shares: Who is paying taxes?

How much government spending do people fund with their tax dollars?

Top 1% 56 days 2% to 5% 44 days 5% to 10% 31 days

Children 112 days

10% to 20% 41 days 20% to 40% 47 days 40% to 60% 24 days 60% to 80% 10 days 80% to 100% 18 hours

Deficit Day

The larger economic problem involves the “not yet” rich.

How did we get here?

Does debt maTer?

Dangers of so much debt •  Too easy to lose track of what’s important.

$300 million = 45 minutes.

$300 million cut in Community Development Block Grants.

= 2 days


•  Pressure on Federal Reserve to keep interest rates low.

+1% =

Source: Bureau of Economic Analysis, US Department of the Treasury

Since 1962, interest rate on the debt has averaged 6% +/-‐ 2%.

The interest rate on the debt was 5% just ten years ago.


•  Pressure on Federal Reserve to keep interest rates low. •  Quickly approaching a point of no return.


Interest on the debt remains at 2.6% indefinitely.

Interest consumes 19% of tax revenue in 2012.


Assumes growths from 1970 to present conMnue Annual tax revenue growth is 5.9% Annual non-‐interest spending growth is 6.7%


Suppose interest on the debt rises to 5% over the next ten years.



Assumes growths from 1970 to present conMnue Annual tax revenue growth is 5.9% Annual non-‐interest spending growth is 6.7%

Taxes, Deficits, Debt, and Gimmicks

Antony Davies Duquesne University

www.antonydavies.org

Where are we going?

CBO Forecasts

CBO (154 forecasts, 1997 – 2011) •  Overestimated revenues by 10% four years out. •  Overestimated revenues by 15% ten years out.

•  Underestimated outlays by 12% four years out. •  Underestimated outlays by 30% ten years out.

Source: Congressional Budget Office Produced by: Antony Davies, Duquesne University

Und

eresMm

ate

OveresMmate


Take CBO’s 6-‐year out projecMon and mulMply by 0.87 to get an unbiased forecast.

Actual tax revenues are less than CBO projecMons.


Actual federal spending is greater than CBO projecMons.

Und

eresMm

ate

OveresMmate


Actual debt is significantly higher than CBO projecMons.

Und

eresMm

ate

OveresMmate

What does this mean? CBO’s current forecast for 2016: Federal Revenue $3.8 trillion

Public debt will be 102% of GDP. Total debt outstanding will be 116% of GDP.

Federal Outlays $4.3 trillion x 1.12 = $5.0 trillion Deficit $0.5 trillion $1.7 trillion Public Debt $13.2 trillion x 1.43 = $18.9 trillion Gross Debt $18.4 trillion x 1.17 = $21.5 trillion

= $3.3 trillion

Forecast error correcMon

x 0.90

How about some sWmulus!

TARP = $356 b.

SMmulus = $578 b.

Federal Reserve = $1,500 b.

Financial IniMaMves = $366 b.

Housing IniMaMves = $130 b.

Data Source: money.cnn.com/news/storysupplement/economy/bailouPracker/

Total (net) sMmulus = $3 trillion

Unemployment Rate: 6% 7% 8% 9% 10%

Total (net) stimulus = $3 trillion

Historically, how has the economy reacted to stimulus spending?

-‐4%

-‐3%

-‐2%

-‐1%

0%

1%

2%

3%

4%

-‐6% -‐4% -‐2% 0% 2% 4% 6%

RGDP

per Cap

ita Growth

Change in Federal Outlays as % of GDP

More econ

omic acMvity

SMmulus Spending and Economic Growth

More government spending

-‐4%

-‐3%

-‐2%

-‐1%

0%

1%

2%

3%

4%

-‐6% -‐4% -‐2% 0% 2% 4% 6%

RGDP

per Cap

ita Growth


SMmulus Spending and Economic Growth

If stimulus spending worked, we should see a relationship like this.

More econ

omic acMvity

More government spending

-‐4%

-‐3%

-‐2%

-‐1%

0%

1%

2%

3%

4%

-‐6% -‐4% -‐2% 0% 2% 4% 6%

RGDP

per Cap

ita Growth


Increased government spending does not appear to increase economic acMvity.

SMmulus Spending and Economic Growth (1954.1 to 2011.1)

Data Source: Bureau of Economic Analysis, Na/onal Income and Product Accounts

Maybe stimulus spending doesn’t have an immediate effect.

What is the effect over time?

-‐4%

-‐3%

-‐2%

-‐1%

0%

1%

2%

3%

4%

-‐6% -‐4% -‐2% 0% 2% 4% 6%

RGDP

per Cap

ita Growth 1 Year Later


Increased government spending does not appear to increase economic acMvity one year in the future.



Maybe stimulus spending’s effects are cumulative.

What is the cumulative effect?

-‐2%

-‐1%

-‐1%

0%

1%

1%

2%

2%

3%

-‐1.0% -‐0.5% 0.0% 0.5% 1.0% 1.5% 2.0%

RGDP

per Cap

ita Growth (4

QMA)

Change in Federal Outlays as % of GDP (4Q Moving Average)

Increased government spending appears to have a negaMve cumulaMve effect over 4 quarters.



taxes, deficits, debt, and gimmicks

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