Saturday, October 12, 2013

Revisiting the cost of the Bush tax cuts

By Andrew Harrer/Bloomberg)

“After Democrats and Republicans committed to fiscal discipline during the 1990s, we lost our way in the decade that followed.

We increased spending dramatically for two wars and an expensive prescription drug program—but we didn’t pay for any of this new spending. 

Instead, we made the problem worse with trillions of dollars in unpaid-for tax cuts— tax cuts that went to every millionaire and billionaire in the country.”


                           —President Obama, April 13, 2011

President Obama, in a speech on budget policy last month, offered this summary of how he thought the nation lost its way fiscally during the presidency of George W. Bush.

Last week, we took a look at new data about the period of 2001-2011, and concluded that the biggest contributor to the disappearance of vast estimated surpluses was additional spending ($4.3 trillion), followed by incorrect revenue estimates ($3.3 trillion) by the Congressional Budget Office.

Tax cuts are estimated to have totaled $2.8 trillion, which we guess would count as “trillions,” as the president put it.

Strictly speaking, the two big tax cuts during the Bush years are estimated to total about $1.5 trillion,

But many continued into the early years of the Obama presidency, and in December he cut a deal with Republicans to extend them even more, which brings us to $2.8 trillion.

(In case you are wondering, the cost of the Iraq and Afghanistan wars was $1.26 trillion through 2011 and the Medicare prescription drug program totaled $272 billion.)

Last week, we somewhat rashly speculated that the actual size of the Bush tax cuts might be lower because they were based on revenue estimates that ultimately fell far short of what was predicted in 2001.

The true “cost” to the Treasury may never be known.

Economists generally agree there are feedback effects from lower tax rates and the like, but little consensus has been reached on what that might be.

Still, we thought it might be worth looking at ways to run the numbers so there can be a proper comparison between spending increases—which has been duly catalogued—and the tax cuts.

The Facts

President Bush instituted two big tax cuts, one in 2001 and another in 2003.

The first was implemented amid rosy predictions of a 10-year, $5.6 trillion surplus; the second was enacted after the economy appeared to stumble after the Sept. 11, 2001, attacks.

When the tax cuts were passed, the nonpartisan Joint Committee on Taxation estimated how much they might reduce revenue: the 2001 tax cuts was pegged at $1.35 trillion over 10 years; the 2003 tax cut was set at $350 billion over 10 years.

Those estimates have never been updated, even as the economy and the budget have moved on.

Here are two ways to look at how the 2001 numbers might be different today.

First, although the JCT has not gone back and rescored the 2001 tax cuts, the committee recently estimated the revenue impact of virtually the same tax cut—the two-year extension negotiated by President Obama and the Congress.

For simplicity, and because some elements were changed in other parts of the tax cut, we will focus just on the reductions in individual taxes.

In 2001, the JCT estimated that the tax-rate package would reduce revenues by $115 billion in 2010.

In December, the extension of those tax rates in 2012 was estimated to cost $105 billion.

(We have to skip 2011 for complicated, technical reasons not worth explaining.)

The $10 billion difference means the cost of the tax rates rose about 5 percent each year.

At that trend, the 2001 prediction of the 2012 tax rate package would have been about $126 billion.

In other words, the current estimate of the cost of the 2012 tax rate reductions is 17 percent lower than what would have been predicted under the 2001 methodology.

This shift, however, appears to be largely because of the impact of the recession, which devastated all government revenues.

The reduction is less dramatic if you go back all the way to 2001.

To do this, we compared the Congressional Budget Office’s 2001 prediction for the gross domestic product for each fiscal year.

Then we looked up the actual GDP, found in the historical records of the White House Budget Office.

It was lower for each year, and we used the resulting ratio to adjust the size of the tax cut for each year.

(Generally, the 2001 tax cut was just under or just above 1 percent of GDP.)

Under this method, for most years, the impact was minimal, just a slight reduction.

But when the recession hit in 2008, and the GDP turned out to be 10 percent below predictions for three straight years, the cost of the tax cut was reduced by billions of dollars each year.

Over the 10-year period, the overall size of the tax cut dropped about 5 percent, or $65 billion, to $1.285 trillion.

Some people might call that a rounding error in the context of a ten-year federal budget.

The Bottom Line

There certainly might be other ways to calculate the actual impact of the tax cut, and we would welcome suggestions.

It seems clear that the impact was less during the recession—though one could argue that government’s fiscal condition would be much better if those revenues had been collected.

No matter how you count it, nearly $1.3 trillion is a lot of money.