What Recovery?

Max B. Sawicky

April 12, 2006

Max B. Sawicky is Institute Economist at the Economic Policy Institute and runs the blog, MaxSpeak, You Listen! 

Spring is here, and irresponsible politicians’ thoughts turn to tax cuts.  And why not?  So far there has been no apparent penalty.  Most kids are too far out of the loop to complain about the super-sized tax bills they will inherit at the behest of the Republican-run Congress and White House.

The president’s budget for 2007 calls for another $1.7 trillion in tax cuts over the next 10 years, well over the amount of fictional spending cuts they pretend will reduce the deficit.  Republican leaders on the Hill echo the need to lock in the tax changes since 2001, on the grounds that they have given us a strong economy.

My question in all this, which no conservatives are rushing to answer, is this: What sequence of economic events would it take since the end of recession in 2001 to lead you to conclude that the tax cuts have failed?  If none, and failure is conceptually impossible, then naturally one must conclude that the tax cuts have succeeded.  The economic recovery would have occurred at some pace in any case.  Can it be said that this recovery was markedly superior to those of the past?

That question has already been answered, not least in a paper by Lee Price for the Economic Policy Institute.  He shows conclusively that in almost every dimension, the course of the economy since 2001 has been worse than in previous recoveries.

It is true that at present the unemployment rate of 4.7 percent looks good.  Unfortunately, this rate glosses over the extent of labor market drop-outs—anyone too discouraged by the recession to look for work—who are not counted as unemployed under the official definitions.  That aside, the rate does not prove the tax cuts work.  Why not?

Imagine that you are driving up I-95 from Washington to Baltimore.  By the time you get to Columbia, Maryland, you reach a rate of speed of 80 mph.  Would you say the trip had been successful?  Not if you have previously been stuck in traffic for two hours. 

The unemployment rate is a single freeze-frame, and in the economy we need to see the whole movie.  Thus far in terms of job and wage growth, i.e., how much better the situation is than it was before, it has been slow going.  In light of previous recoveries, if the economic trends are attributed to the tax cuts, the cuts have been a miserable failure.

Don’t tax cuts stimulate consumer demand, and by extension employment and the economy as a whole?  In economics, the question is not usually whether, but how much, compared to alternative courses of action.

Savings rates rise with income, so less extra spending is induced by a tax cut to high income brackets. And the skewing of tax cuts to high incomes is well-known. A recent report in The New York Times by David Cay Johnston provides some new data from Citizens for Tax Justice about tax cuts conferred on investment income—i.e., dividends and capital gains.

For taxpayers with income above $10 million a year, the average tax cut was a million dollars.  While this is a handsome sum, someone in that circumstance is likely to be buying everything he or she wants with or without a tax cut.

Defenders of the investment tax cuts claim that many people receive capital gains and dividends.  Many do, but their amounts tend to be small.  For those with incomes below $50,000, the tax saving on investment income averaged all of 10 bucks.

Johnston’s report also had some new findings on dividend income by geographic area.  It is often assumed that retirees with low income have investment income and benefit from investment tax cuts.  In Florida, however, dividend income averaged only $226 per taxpayer.  At a marginal tax rate—the increase in one's tax obligation as one's taxable income rises—of 15 percent, that would mean about $34 in tax savings.

The White House responded to the article the same day with a press release entitled “Just the Facts.”  They led with a claim on the “percent reduction in average tax bill” for persons with incomes under $50,000.  This particular fact is vulnerable to the criticism that it is . . . not a fact.  The average tax bill alluded to is one that does not take account of the biggest tax borne by such a person—the 15.3 percent payroll tax for Social Security and Medicare. The income tax alone paid by a family with children at that income level tends to be low, so a small dollar cut can mean a big percentage reduction.

Because federal spending has increased, rather than fallen, the government has replaced reduced taxes with borrowed funds. The nation will have to pay interest on this accumulated debt indefinitely. Because Republicans have chosen this avenue for managing the nation's financies, a tax increase has been imposed upon future generations.  No child will be left behind.  The $880 billion the White House boasts of having kept “in the hands of the American people” are firmly attached to IOUs of equal amount.

Economic impacts aside, in the light of history the tax cuts will have to be described as legendary, and not in a good way.