Conservative/Liberal Bravo Sierra Economics

Today while listening to the Sean Hannity show on my way home I hear him say something to the effect (I’m paraphrasing as I was driving and couldn’t write it down),

“Lower taxes and raise revenue, always happens.”

The basic idea is the old supply-side chestnut that lowering taxes will stimulate economic activity and that the new economic activity will generate enough in taxes to offset the loss of tax revenue due to the decrease in the tax rate.

The only problem with this is that it is only true under certain conditions. Those conditions are when we are on the right hand side of the Laffer curve. Then and only then will a decrease in taxes increase revenues. If we happen to be on the left hand side of the Laffer curve then a decrease in tax rates will only decrease tax revenues.

Is the U.S. currently on the right hand side of its Laffer curve? Tough question to answer as there is really no way to estimate the Laffer curve itself. The only thing that one can do is look at what happened with the decrease in tax rates vs. the change in tax revenues. Did tax revenues rise as rates fell? No. At least not right away. Tax revenues fell for 2001, 2002, 2003 and 2004 and didn’t start to rise again till 2005. What makes this really hard in determining the impact of taxes on the economy is that there was also a recession at the time. However, the recession ended in November of 2001, hence it took quite some time for the tax cuts to have an impact in terms of tax revenues if they did at all. You see, while many conservatives will rightly point to the recession as a reason for the decline in tax revenues, they wont point to the expansioin and the lack of increase for nearly 3 years (basically they want to have their cake and eat it on this one).

Another way to try and guage the impact of the tax cuts on the economy is to look at the employment situation (and note that employment is a lagging indicator). However, even here the picture isn’t nearly so rosey either. The payroll survey as I’ve noted has been, on average, doing pretty badly. Looking at the unemployment rate, and we see that even that took quite some time to come around. The unemployment rate didn’t start to decline (i.e. a downwards trend) until after June of 2003, or around a year-and-a-half after the end of the recession.

Another thing that Hannity mentioned was the impact of 9/11 on the economy. He used the standard refrain that its impact was pretty bad and by golly thank God we have George Bush in office otherwise who know what would have happened…another Depression probably. Well okay, he didn’t get that silly, but doesn’t the man know when the recession ended? It ended about 1 month after 9/11. Granted it took awhile for the National Bureau of Economic Analysis to date the end of the recession, but that had to do with the presistently sluggish labor market more than anything else, IMO.1

And the last bit of Bravo Sierra was that Bush inherited the Clinton/Gore recession. Of course, nevermind that the actual data for the begining of the recession is March of 2001. There has been some discussion of possibly changing that start date to an early time due to new data from the Bureau of Economic Analysis, but so far the dating committee at the NBER haven’t moved the date.

Now this doesn’t mean the the Clinton/Gore expansion (or more accurately the previous expansion–I hate linking expansions and recessions to Presidents as they actually have little control over the economy…thank God) was going great. It was a very old expansion, and the economy was starting to soften. The unemployment rate actually started its upward trend in January of 2001. Also, new data show that there was significant negative growth for one of the last quarters of the Clinton/Gore term. But calling it the Clinton/Gore recession is about as honest as calling the last recession the Bush recession.

Which is why I’ve titled this post as I have. Back during the recession and until the NBER dated the end of the recession there were plenty of liberals who were writing and saying some of the dumbest things like calling it the Bush recession, that Bush’s tax cuts made the recession worse (news flash, this last recession was actually considered shallow), I even saw one comment on a website about how tax hikes can end a recession. This kind of spin of the economy is so common and pervasive that it really sets my teeth on edge, no matter who does it.

Update Below the Fold
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1Note that the mandate of the NBER is not to provide the date for expansions/recessions quickly, but accurately. As such, they can take a very long time to date the end of a recession, end of an expansion, etc.

Commenter Bithead is defending the Conservative position and is siting this NRO article by Luskin. Luskin writes,

The claim that the last recession started under Clinton is absolutely true. To deny this is not only to blame Bush for a problem he didn’t cause, but to deprive him of the credit for fixing it with effective policies — which is exactly why the Left is so eager in this case.

Partisan Hack Alert. Part of the point of my post is that President’s are to a large extent at the mercy of the Business cycle. President Bush (the first one) got hammered by a recession and sluggish recovery that cost him the election. Granted his tax increase didn’t help, but the expansion that was underway when he came into office was quite old, I doubt there was much he could have done to stop it even if he had perfect foresight in seeing it coming. Clinton was lucky in that he came into office when the expansion took off (a good time for a mild tax increase, in that the growing economy can probably absorb the shock) and lasted throughout his Presidency. The current President Bush was unlucky in that almost immediately after he sat down in the Oval Office the economy went into recession–i.e. there wasn’t much he could do to stop it. The problem with Luskin’s premis is this: It posits a set of policy tools that can minimize if not eliminate a recession. But if this is true, how come President Bush (the first one) didn’t use these tools to resolve the recession and go on to win re-election?

At best Presidents have imprecise tools to deal with a recession and there is no guarantee that they will work. A more effective tool might be the interest rates set by the Federal Reserve, but the Chairman of the Federal Reserve and the Federal Open Market Committee. Presidents can influence spending and taxes, but these kinds of things can take time and it might even be the case that by the time tax cuts or increased spending actually take effect, the recession is over.

In any event, Luskin points to a graph of real GDP growth to support his assertion that the recession started in 2000. However, I don’t see where he got that data. I downloaded the data on the percentage change in GDP from the preceding period (in this case quarterly data) and here it is.

realgdpchanges.gif

While growth in GDP wasn’t great in 2000, it wasn’t horrific either. For that matter, growth wasn’t horrific in 2001 either. It was weak, but growth was negative in only 2 of the quarters for 2001. From the graph we can see why the last recession is considered mild. Similarly with unemployment, while unemployment increased, by historical standards for a recession it wasn’t at all bad.

Setting the end/start date for expansions/recessions is not a simple thing. In fact, it is more art than science (by quite a bit), but the economy probably not in recession in 2000. It was weakening (with the benefit of hindsight), but the case for recession is harder to make.

Luskin also writes,

In fact, NBER has been on the verge of changing the recession’s start date for this very reason.

Yeah, it has been on this “verge” for over two years.

Luskin then does the “Quick, look over there at the Liberals!” thing,

Liberals have never felt constrained by NBER’s “official” dates. For example, last year in a New York Times Magazine article, ultra-leftist economist Paul Krugman cited dates for the economic expansion during the Reagan administration that not only didn’t correspond to NBER’s dates, but didn’t even correspond to Ronald Reagan’s years in the White House!

Well, since the Liberals aren’t constrained by the NBER dates, why should Conservatives like Luskin?

The way I see it is that Bush inherited a weakened economy. It might very well have been that a recession, by the time Bush got in the Oval Office, was inevitable. But the idea that he inherited an economy already in recession is much more dubious. I know it is a favorite Conservative talking point, but using it certainly calls into question one’s intellectual honesty, IMO.

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Steve Verdon
About Steve Verdon
Steve has a B.A. in Economics from the University of California, Los Angeles and attended graduate school at The George Washington University, leaving school shortly before staring work on his dissertation when his first child was born. He works in the energy industry and prior to that worked at the Bureau of Labor Statistics in the Division of Price Index and Number Research. He joined the staff at OTB in November 2004.

Comments

  1. Bithead says:

    The claim that the last recession started under Clinton is absolutely true. To deny this is not only to blame Bush for a problem he didn’t cause, but to deprive him of the credit for fixing it with effective policies â?? which is exactly why the Left is so eager in this case. Here, however, are the facts….

    (Next?)

  2. Well, “always happens” could be a short form for “we’re way to the RHS of the Laffer Curve.” But Hannity always gives me the impression of an IQ about a half-sigma below the mean, so I wouldn’t bet that’s what he meant.

    On your more general point, though — is there any economics that wouldn’t qualify? Something as straightforward as the Laffer curve, which can be derived from first principles and a bare hint of mathematical sophistication, still seems to be controversial, and there never seems to be any problem getting two economists to take opposite sides of any economic question, no matter how simple.

  3. Another point to consider is efficiency. Lowering tax rates will likely have a short term lowering of tax revenues (because any change it might influence is not likely to be immediate) and of government spending. Yes there is deficit spending, but the greater the deficit, the more resistance to spending. If tax revenue is 1, then there will be a certain opposition to raising spending to 1.1 (call that opposition X). But if tax cuts reduced tax revenue to 0.9, then in theory, the opposition to raising spending to 1.1 in this new scenario would be the same as raising it to 1.2 in the old scenario.

    What it all really boils down to is the percentage of the GDP confiscated by the government in the form of taxes and the percentage of the GDP spent by the government. Given deficit and surplus spending, these don’t have to be the same amounts.

    Now spending by the government tends to be less efficient than spending by private enterprise. The reasons for this are many, but boil down to a lower standard of stewardship when it is other people’s money. GDP left to be controlled by private enterprise would likely cause an increase in GDP assuming the private economy continued to show productivity gain (which is certainly the long term way to bet when there is a good balance between government intrusion/regulation – such as every one stops at a stop sign vs market distortions such as state monopolies or affirmative action.

    So shouldn’t some of the increase in tax revenue be assigned to productivity gains as an indirect impact of tax cuts, rather than a direct laffer curve impact.

    And yes, I know that spending has gone way up in conjunction with the tax cuts, but it could have gone up even higher (e.g. national health care).

  4. Steve Verdon says:

    Sorry Bithead, Luskin’s first claim is false. While 3.8 was the low point in April of 2000, calling the 3.9% we saw for much of the remainder of the year “deteriorating steadily” is just idiotic.

    The fed funds rate â?? the overnight interest rate administered by Alan Greenspan and the Federal Reserve â?? peaked at 6.5 percent in 2000, and had to be lowered in an emergency move on January 3, 2001, “in light of further weakening of sales and production” (during the Clinton administration).

    Which goes to my point that recessions being linked to Presidents is dumb.

    The one and only piece of evidence offered by Media Matters thatâ??s to the contrary is that fact that the National Bureau of Economic Research set the beginning of the last recession at March 2001 â?? two months into the Bush administration. Check that date on the chart above: This well-respected economic research group set the beginning of the recession after GDP growth had already crashed from almost 5 percent to near zero.

    Good God Luskin can’t even read his own graph…or is terribly dishonest. And the reality is that in the third quarter of 2000 economic growth was negative, but bounced back to over 2% the following quarter. And Luskin’s notion that GDP is the only thing that matters when it comes to determining a recession is misleading.

    In fact, NBER has been on the verge of changing the recessionâ??s start date for this very reason.

    Yep, on the verge for over 2 freaking years.

    Try again Bithead.

    Charlie,

    I think most economists would accept the Laffer curve in theory, some might argue which side we are on, but I bet many would firgure we are near the top or the left hand side. But I think economists agree on lots of stuff, but the stuff they disagree on is much more hard to nail down and more fun to watch.

    YAJ,

    I’d agree if it were a simplification of the tax code, but that isn’t what we got. As for deficits acting as a break on spending…I wish it were true, but as Dick Cheney reportedly said, “The 80’s taught us that deficits just don’t matter.” Or something like that.

  5. Bithead says:

    Gee, Steve; Thta’s odd… I read the graph too… esel I’d not ahve bothered linking to it. So I’m being dishonest, too?

    Sorry, Steve; No sale. The chart clearly shows the Resession was starting at the end of Q2, 2000.

  6. cirby says:

    I’m just wondering what you think happened in the first two months of the Bush Presidency that caused the recession so quickly. Recessions take time to build up to, and there wasn’t any actual changes in the structure of the economy in January of the scale needed. We were fighting the collapse of the Internet Bubble (which also camouflaged the weakness of the tax economy for a few years), and the recession was the tail end of that. It took a couple of years for the economy to get over that trillion dollar kick in the crotch.

    …and that whole “came out of the recession in November 2001” concept is a bit disingenuous, since we were dead in the middle of the 9/11 economic shock, and if you think we were recovered from that any time in the next few months, you’re dreaming. I was stil seeing effects from it over a year later in my business.

    As noted above, tax cuts do always work, since they’re used so seldom. We’re certainly well on the wrong side of the Laffer Curve.

  7. Patrick McGuire says:

    I am reminded of Mark Twain who is quoted as saying “Their are lies, damned lied, and statistics”. I really don’t understand why all this argument over the Laffer curve and everything else here. Hell, facts are facts, in spite of the statistics. The tax rate has gone down and the tax revenues have gone up. You can argue it all day long but it doesn’t change the facts.

  8. Dave says:

    Stock market peaked in Feb of 2000.

    The definition of a recession means negative growth for two quarters.

    I don’t think there is much Bush could have done in his first six months in office to avert the recession.

  9. Steve Verdon says:

    Bithead,

    See the update, not only does it look like the Luskin isn’t reading his chart correctly, he is making up his own data.

    Cirby,

    Iâ??m just wondering what you think happened in the first two months of the Bush Presidency that caused the recession so quickly.

    Can you re-read my post, in particular the parts about linking recessions and expansions to Presidents?

    â?¦and that whole â??came out of the recession in November 2001â?³ concept is a bit disingenuous, since we were dead in the middle of the 9/11 economic shock, and if you think we were recovered from that any time in the next few months, youâ??re dreaming. I was stil seeing effects from it over a year later in my business.

    Wow, talk about generalizing from an unrepresentative sample. Okay, you’re right Bush was doing a horrible job up through all of 2001 and 2002 as well. Happy? Sheesh.

    Dave,

    Stock market peaked in Feb of 2000.

    The definition of a recession means negative growth for two quarters.

    Uhhmmm, the stock market isn’t used in determining when the country is in recession. Your second definition is out dated. For example, if we used it there was no recession in 2001 as growth was not negative for any single month.

  10. Bithead says:

    As for where he got the chart… and the data, you failed to notice that the two year old article had a dead link in it, pointing to a bea.doc.gov address.

    So, apparently he got the figures, and one presumes the chart, from there.

    Sounds like you owe Luskin an apology, Steve.

  11. Steve Verdon says:

    Unfortunately Bithead, that is where I got my numbers and they don’t match up. So no apology.