Tax Cuts & Revenues
Brendan Nyhan notes that John Kerry was rather prescient in that it wouldn’t take long before the Republicans would issue a call to lower taxes to counter the deliterious effects of Katrina.
Last Wednesday, I flagged this passage from a John Kerry email to supporters:
How long will it be before [Republicans] start telling us that tax cuts for the wealthy can provide just the stimulus we need to get the Gulf Coast economy moving again?
My response: “I’d say a week, maybe less.”
The problem is that from this pretty good start Nyhan slides right into misrepresentation when he writes the following,
Norquist is implying that tax cuts generate revenue rather than reducing it — a discredited bit of supply-side cant that even Bush administration economist Greg Mankiw has disavowed.
First off, the idea that cutting taxes can actually raise revenues is not something that is unique to supply-side economics. The idea is that tax revenues are a function of tax rates, and that starting at zero tax revenues are also zerot. At the other extreme (income) tax rates of 100% would also yeild zero tax revenue (the idea here being why work [at a paying job] when everything you earn goes to pay your taxes). So we know that at both end points revenues are zero. Thus, it isn’t too much of a stretch to conclude that initially tax revenues rise, then decline. Hence there are at least two tax rates that will generate the same amount of tax revenue, one tax rate being high and the other being low.1 This theorestical model is pretty basic and not too many would dispute it. Where the argument comes in is exactly where on the tax revenue “curve” we are currently at. If we are on the portion where tax revenues increase when tax rates increase then decreasing tax rates will decrease revenues.
By implying that cutting taxes in general is a discredited notion Nyhan is misleading his readers. Further, indicating that Mankiw also supports this view is misleading in that reading Mankiw’s comments it seems more accurate to say that he thinks the Bush tax cuts in specific were unlikely to raise tax revenues. Making such a statement about a specific tax cut cannot be generalized to any and all tax cuts.2 It is quite likely that we are currently at a point on the tax revenue curve where tax cuts simply cannot result in tax revenue increases.
In short, the concept is completely legitimate and actually predates the notion of supply-side economics and the Reagan administration. Arguing that we are at a point where tax cuts cannot raise tax revenues is legitimate. Arguing that this whole concept, commonly known as the Laffer curve, is problematic for setting tax policy, is also legitimate, in my opinion. Saying (or even implying) it is entirely discreditted is misleading.
1It is also possible that there is more than two tax rates that result in the same amount of tax revenue, and in one case there is one tax rate that yields the maximum tax revenue.
2Mankiw’s actual statement was,
Mankiw said Moore was criticizing “a passage where I had raised skepticism about claims that tax cuts would generate so much employment growth as to be completely self-financing. And I remain skeptical of those claims.” Mankiw added that “the most extreme advocates of tax cuts, I think, sometimes paint an excessively rosy picture out of what they can get out of them. I don’t think this administration has done that.”