A Tax Report in Search of the Economy

William Beach / May 27, 2010

On May 25, the Fiscal Analysis Initiative of Pew’s Economic Policy Group published an overview of what might happen to the federal government’s annual deficits should the tax relief of 2001 and 2003 be allowed to expire, be extended through 2012, or be made permanent. As readers may know, all of the tax relief currently in force will disappear by law at the end of this year.

Unfortunately, Pew’s report does little to inform policy makers on the awesome economic decisions they are about to make. Had it focused as much on the economic implications of the expiring tax relief (which is all gone on January 1, 2011), it easily could have moved this important tax debate forward. Instead, it is almost entirely derivative of an earlier analysis by the Congressional Budget Office (January 2010). It proves once again, as the CBO study did a few months ago, that introducing economics into the discussion of tax policy change is absolutely critical. By leaving out the economy, Pew may have actually moved this momentous tax debate back.

Why is economics important in the analysis of tax change? Taxes affect economic activity.

As the economy changes so does the pool of income from which tax revenues are drawn. An analysis that ignores the effects of tax policy on the formation of income is a woefully deficient analysis, indeed.

What the Pew analysts do tell policy makers is that extending the Bush era tax relief will worsen  our fiscal position: “Making the tax cuts permanent for all taxpayers, regardless of income, would cost $3.1 trillion over the next 10 years and inflate the national debt to 82 percent of GDP.” Allowing them to expire would “cost” nothing, and extending them for, say, two year would be relatively affordable, according to this report. (more…)