Paul L. Caron

Monday, November 22, 2010

WSJ: A Sucker's Play -- Each $1 in Higher Taxes Results in $1.17 of New Spending

Wall Street Journal op-ed, Higher Taxes Won't Reduce the Deficit, by Stephen Moore (Wall Street Journal) & Richard Vedder (Ohio University, Department of Economics):

The draft recommendations of the president's commission on deficit reduction call for closing popular tax deductions, higher gas taxes and other revenue raisers to drive tax collections up to 21% of GDP from the historical norm of about 18.5%. Another plan, proposed last week by commission member and former Congressional Budget Office director Alice Rivlin, would impose a 6.5% national sales tax on consumers.

The claim here, echoed by endless purveyors of conventional wisdom in Washington, is that these added revenues—potentially a half-trillion dollars a year—will be used to reduce the $8 trillion to $10 trillion deficits in the coming decade. If history is any guide, however, that won't happen. Instead, Congress will simply spend the money.

In the late 1980s, one of us, Richard Vedder, and Lowell Gallaway of Ohio University co-authored a often-cited research paper for the congressional Joint Economic Committee (known as the $1.58 study) that found that every new dollar of new taxes led to more than one dollar of new spending by Congress. Subsequent revisions of the study over the next decade found similar results.

We've updated the research. Using standard statistical analyses that introduce variables to control for business-cycle fluctuations, wars and inflation, we found that over the entire post World War II era through 2009 each dollar of new tax revenue was associated with $1.17 of new spending. Politicians spend the money as fast as it comes in—and a little bit more. ...

We're constantly told by politicos that tax increases must be put "on the table" to get congressional Democrats—who've already approved close to $1 trillion of new spending in violation of their own budget rules over the last two years—to agree to make cuts in the unsustainable entitlement programs like Medicare and Social Security.

Our research indicates this is a sucker play. After the 1990 and 1993 tax increases, federal spending continued to rise. The 1990 tax increase deal was enacted specifically to avoid automatic spending sequestrations that would have been required under the then-prevailing Gramm-Rudman budget rules....

The grand bargain so many in Washington yearn for—tax increases coupled with spending cuts—is a fool's errand. Our research confirms what the late economist Milton Friedman said of Congress many years ago: "Politicians will always spend every penny of tax raised and whatever else they can get away with."

Update: For a critical view, see Dan Shaviro (NYU).

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Georgie Boy, you rather unwittingly made the perfect argument for never supporting Democrats ever again, assuming, of course, that fiscal health is your point.

The fact that Democrats will always spend more than what taxes will bring to the treasury is more than enough reason for rational people to forever avoid the fiscal madness of so-called progressives.

Posted by: Poppakap | Nov 28, 2010 9:58:24 AM

George W, when Reagan cut taxes, he had inherited record unemployment and did turn around the economy and did collect more taxes as a result. Blame Tip O'Neill and the Democrats for the spending, after they declared Reagan's balance budget submissions DOA.

The most responsible Congress in recent times was when the Republicans were led by Newt Gingrich with their "Contract with America," and Pres. Clinton was reluctantly forced to go along...since he got the credit by the press, anyway.

Plain and simple, the Democrats have supported all new spending and entitlement programs. You can't blame Republican presidents for Democrats putting politics and buying votes with tax money ahead of our nation's fiscal health.

Posted by: Woody | Nov 26, 2010 8:36:49 AM

Starve the beast = dead beast.

Posted by: Matt | Nov 24, 2010 7:12:02 AM

Nice article but how about the fact that at no time doing the opposite, cutting taxes, has led to reduced spending. When Reagan did it we had record deficits. When George Bush did it we had record deficits. Tea Party mumbo jumbo aside what we have is more supply side voodoo economics. When was the last time the federal budget had a surplus? The "starve the beast" mentality has led us to our current fiscal state. Responsible fiscal watchdogs and not ideologues is what is needed now.

Posted by: George W | Nov 23, 2010 10:19:26 AM

Wait, people are using this as a reason to raise less taxes? It seems to me (if this is actually true) that it really just means we need to stop Congress from spending beyond its means. It either means they need to lower spending or, if that spending is necessary, raise taxes.

The logic of this article is akin to realizing that you, in your current job, spend more than you make. Instead of deciding to either (1) spend less money, or (2) take that extra job to earn more, you instead go for the incomprehensibly dumb third option of reducing your current hours. After all, every dollar you bring in ends up being spent and then some!

Posted by: Walter | Nov 23, 2010 8:57:24 AM

Oh, butthis time, it will be different. Trust the government!

The Dan Shaviro (NYU) analysis in the update is a joke. He's given the numbers and denies that they exist. Then, he comes up with some contra phony analysis based upon nothing. Is this what goes for academic studies these days?

Posted by: Woody | Nov 23, 2010 8:52:21 AM

This mirrors a comment Richard Epstein made in a Reason/TV video. He dismissed, out of hand, tax increases because they never go to deficit reduction. They always go to more spending.

Posted by: Rick Caird | Nov 23, 2010 6:09:27 AM

Then it would follow that the central premise of TEA Party people is correct. To truly affect government spending we must "starve the beast."

I think people should send this article to their representatives and senators (Federal and State) along with a question, "Are you sheep? Or sheepdog?"

Posted by: Ralph Gizzip | Nov 23, 2010 3:51:51 AM