One of Furman’s and Summers’s arguments was that the main culprit behind higher deficits was tax cuts, not increases in government spending on entitlements. They wrote:
The tax cuts passed by Presidents George W. Bush and Donald Trump totaled 3 percent of GDP—much more than the projected increases in entitlement spending over the next thirty years. Those cuts meant that in 2018, the federal government took in revenue equivalent to just 16 percent of GDP, the lowest level in half a century, except for a few brief periods in the aftermath of recessions.
But that argument no longer holds water. In 2023, according to the Congressional Budget Office, federal revenue will be 18.4 percent of GDP. That’s 1.2 percentage points above its 17.2 percent average in the thirty years from 1993 to 2022. And, more relevant to Furman’s and Summers’s argument, it’s over 2 percentage points above the 16 percent on which they grounded much of their argument.
On the spending side in 2023, the CBO estimates, federal government outlays, which averaged 21.0 percent of GDP between 1993 and 2022, will be a whopping 24.2 percent of GDP. In short, the higher deficits are largely a result of spending increases, not tax cuts.
This is from David R. Henderson, “To Tame Deficits, Cut Spending Growth,” Defining Ideas, August 3, 2023.
An excerpt on taxes:
The other practical problem with raising taxes is that overall federal tax revenues as a percent of GDP appear to be a political constant. Since the end of the Korean War in 1953, except during deep recessions, they have rarely dropped below 16 percent and have rarely increased beyond 19 percent of GDP. Indeed, when they do pierce the 19 percent ceiling, we get tax cuts, as with Ronald Reagan in 1981 and George W. Bush in 2001.
It’s difficult to know why this is a political constant. My own view is that the majority of Americans still object to large government and they see taxes as the price of government. They really should see government spending as the main price of government, but they don’t see government spending on their pay stub. But we don’t necessarily need to know why this political constant exists to know that it does. So there’s a good case to be made that we are “stuck” with federal tax revenues being below 19 percent of GDP.
Read the whole thing.
READER COMMENTS
Thomas L Hutcheson
Aug 4 2023 at 12:54pm
It’s pretty simple. Is there more value in reducing expenditure x than increasing tax y?
Personally I can think of dozens of low dead weight cost ways to raise revenues; Pigou taxes are dead weigh benefits. The number of deadweight loss expenditures (crop/ethanol subsidies, subsidized hazard insurance, …?) seems pretty slim to me.
YMMV
Jon Murphy
Aug 4 2023 at 1:49pm
I mean, a major point of the article is to answer that question in the affirmative. Y cannot seem to get above 20% of GDP, so reducing X will necessarily have more value than increasing Y since increasing Y will have a marginal benefit of 0.
Thomas L Hutcheson
Aug 5 2023 at 9:47pm
I was not taking a maximum tax rate as a law of nature. And don’t
IF, ex hypothesis, taxation cannot go above x% of GDP then I agree we should keep spending at x. This would tighten the fiscal spending rule from NPV>1 to NPV>1+x to reflect that capital is more constrained than the cost of borrowing it. I guess it would also slightly shift the motivation for taxation away from revenue raising and more toward incentive disincentive creation.
Which spending categories do you think fall farther below NPV> 1+x. [I guess we don’t get to count “spending to enforce regulations with net benefits <0.” :)]
steve
Aug 4 2023 at 1:02pm
And when Reagan and Bush cut taxes our debt increased. What used to happen, roughly, is that you had a party that pushed for higher spending and higher taxes and another party that pushed for lower spending and lower taxes. In both cases you have the possibility of increasing deficits and debt. Then starting with Reagan you had a party that used for lower taxes while not touching or increasing spending. That was great electoral politics as everyone loves less taxes and they were getting the same services while appearing to pay less. Free stuff! So you get Republicans who talk about cutting spending, and probably some who really believe it, but since its bad electoral politics they dont touch spending or only in areas they dont like anyway, avoiding the big entitlements.
I am pretty agnostic on the size of government. I am not smart enough to know how big it should be so I keep hoping it could someday function more like a market. We can have however much govt we are willing to pay for. More closely balance revenues with spending and find out what people really want.
Steve
Richard W Fulmer
Aug 4 2023 at 2:27pm
Look at the St. Louis Fed’s “Federal government current tax receipts” chart (W006RC1Q027SBEA). Tax revenue rose steadily throughout the 1980s. Reagan cut tax rates while closing loopholes. The result was more revenue. The problem was, as you note, spending increased even more.
steve
Aug 4 2023 at 7:08pm
Intersting. I use the Tax Foundation a lot. Helps to see the raw numbers. They show a slowing of revenue growth n 82 and a decrease in 83. If you look specifically at income tax it’s the same in 84 as it was in 82. It’s the increase in Social Security tax revenue that lets you see an increase in total revenue. IIRC Reagan did not cut SS tax.
https://taxfoundation.org/data/all/federal/federal-tax-revenue-source-1934-2018/
Steve
TMC
Aug 5 2023 at 4:34pm
Recessions will do that.
steve
Aug 5 2023 at 6:05pm
We had a recession in 1983 and 1984? I was unaware of that. I though that was “morning in America time”?
Steve
Richard W Fulmer
Aug 6 2023 at 1:40pm
After Reagan took office, there was one recession that lasted 16 months (from July 1981 to November 1982). It was largely the result of the Fed’s tight money policy designed to rein in the 70’s inflation. According to the data you provided, personal income tax receipts dipped only one year (in 1983), and corporate income tax receipts dipped for four years (from 1981-1984). FWIW, some economists believe that Reagan’s tax cuts and the subsequent increase in production and employment had more to do with curbing inflation than did Fed policy.
Henri Hein
Aug 4 2023 at 5:17pm
Nice piece. I also like Steve Landsburg’s ATM metaphor: https://www.thebigquestions.com/2011/11/15/econ-101-for-the-supercommittee/
TMC
Aug 4 2023 at 6:48pm
The revenue even increased with JFK’s tax cut. Remember Obama’s answer in a debate though. When asked if he’d raise taxes even if it didn’t raise more revenue, he said he would, out of ‘fairness’. Thinking none of this is about budgets. It’s about control.
David Henderson
Aug 4 2023 at 7:53pm
I do remember that. It was when Charles Gibson of ABC referenced the fact that some studies had shown that revenues from the capital gains tax were inversely related to the tax rate on capital gains.
Richard W Fulmer
Aug 6 2023 at 4:41pm
Excerpt from the Democratic presidential debate on April 16, 2008:
David Henderson
Aug 6 2023 at 11:56pm
Thanks, Richard. So I remembered correctly that it was Charles Gibson but forgot that it was a debate, not a one on one with Obama. Thanks for setting the record straight.
BC
Aug 5 2023 at 4:16pm
“It’s difficult to know why this is a political constant.”
Suppose donors give 10M to a charity, and the charity dispenses 12M in benefits by borrowing 2M. Did the charity spend too much or did the donors donate too little? I’m sure that the charity’s beneficiaries might want the charity to spend even more but, ultimately, it’s the amount that the donors are willing to give that sets the limit. The charity spent too much.
Apparently, American taxpayers collectively just don’t seem comfortable donating more than 16-19% of their incomes to the government’s public-interest charitable spending. Of course, we have an open society in which both taxpayers and beneficiaries are allowed to express their views and, to be sure, many beneficiaries would like to receive even more benefits and say so. Ultimately, though, the government’s responsibility is to not dispense more benefits than the donors are willing to fund.
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