The Budget Debate, VIII
By Arnold Kling
Be careful what you wish for. Some supply-siders have asked for “dynamic scoring” of tax cuts, to take into account supply-side effects. The Congressional Budget Office has done this analysis.
CBO’s analysis suggests the proposals, on net, would probably increase labor supply but decrease investment and the stock of capital.
Largely because of those two opposing effects, the net effect on economic output could be either positive or negative–with the difference depending not only on how the private sector would respond to the proposals themselves, but also on how the proposals would influence what budgetary policies people might expect in the future. Importantly, regardless of its direction, the net effect on output through long-term changes to the supply side of the economy–including fundamental “inputs” such as labor supply or the stock of capital–would probably be small. Under most assumptions, the proposals’ supply-side effects would raise or lower the level of output by less than a percentage point, on average, from 2004 to 2013.
There are two reasons that the supply-side effects are small. One is that the tax cuts themselves are small in relationship to GDP. Another reason is that the cuts are not the most effective cuts that one could make from a supply-side perspective. For example, it is difficult to impute a large supply-side response to reducing the estate tax.
For Discussion. Of the major Federal taxes–income tax, payroll tax, corporate income tax–which one likely has the largest supply-side effect relative to the revenue collected?