Thursday, January 08, 2015

Of Noble Lies and Unintended Consequences

-- Posted by Neil H. Buchanan

Almost immediately after beginning the new congressional session, House Republicans passed a bill requiring "dynamic scoring" of tax cut proposals.  Senate Republicans are expected to follow suit.  This is one of those terrible ideas that is too obscure to gain political currency, so it passed with little public notice.  Here, after explaining what dynamic scoring is and why it is a bad idea, I will use the issue to revisit a strategic question about deficit politics: Should liberals use the deficit as a scare tactic when the Republicans are hypocritical about it?  Short answer: No, it does more harm than good.

When a bill is proposed to change the tax or spending laws at the federal level, the bill is "scored" by the staff of the Joint Committee on Taxation (JCT), using baseline numbers provided by the Congressional Budget Office (CBO).  For example, when the "Bush Tax Cuts" were being debated in 2001, the official estimate was that they would increase the total federal debt by $1.3 trillion over a ten-year span.  That estimate was based on forecasts that assumed that the tax cuts would not "grow the economy," in the awkward phrasing now favored by politicians of both parties.  That is, the scorekeepers provided a number that was based on the assumption that the economy would continue to grow on its then-expected path, and that the tax cuts would not change that path.

Of course, the tax cuts could, in theory, increase growth or decrease growth.  They could increase growth if "supply side" logic is correct, with businesses and individuals responding to reduced taxes by excitedly ramping up their spending and productive efforts.  The opposite could happen if people chose to work less, or if the particular incentives built into the tax bill caused people to move from more productive industries into tax-favored but less productive industries, or if the tax cuts would later be offset by spending cuts or tax increases that would more than undo any stimulus that the tax cuts might create.

The best economic evidence is that tax cuts have tiny-to-zero effects on the macroeconomic level, taking everything into account.  But the party of "no new taxes" does not want to believe that, so they have found economists who are willing to build forecasting models that make the effects of tax cuts look large and positive.  This is a huge deal to Republicans politically, because they want to be able to sell ever more tax cuts (especially for businesses), and they want the price of those tax cuts to be as low as possible.  If the dynamic analysis shows higher GDP resulting from a tax cut, then it is possible to reduce the net loss in tax revenues, because the remaining taxes will be levied on a bigger tax base.

USC Law Professor Edward Kleinbard, a former BigLaw tax specialist who spent a year as the chief of staff of the JCT not long ago, penned an excellent op-ed in The New York Times last week: "A Republican Ruse to Make Tax Cuts Look Good."  Criticizing the Republicans' plans to mandate dynamic scoring, Professor Kleinbard noted that a major tax proposal last year was dynamically scored using a number of different models, and the largest predicted affect on GDP was 16 times higher than the smallest predicted effect.  As others have also noted, this ultimately means that dynamic scoring is a license to make rosy forecasts, and the Republicans are now eagerly trying to find someone to head CBO who will do just that.

As Professor Kleinbard also points out, the Republicans' bill applies only to tax cuts, not to spending increases.  This is significant, because spending increases have at least short-term positive effects on GDP during times of economic weakness (see, e.g., 2008-present), and "public investment" will increase GDP even when the economy is at full capacity.  That, in fact, is the point of public investment, which includes spending on research and development (which private businesses then adopt and use to make profits), improvements in public health, spending on infrastructure, and so on.  Yet the Republicans' bill specifically allows dynamic scoring only for tax cuts, not spending increases.  Are you surprised?

Notwithstanding the brazen partisanship, one might still say that the Republicans' are halfway there.  That is, if Kleinbard and others (including me) are so excited about the dynamic effects of some spending increases, then our arguments should not be against dynamic scoring at all, but only against the Republicans' limitation on dynamic scoring.  After all, I have argued in the past that the failure to treat public investment properly means that we are "definitely wrong," even though there is always uncertainty about the exact right answer.  Are Republicans not at least half right, saying that tax cuts have dynamic effects, and thus that it is also definitely wrong to act as if tax cuts have no effect on overall GDP?

Would that it were so.  As I noted above, the best evidence shows that the effect of tax cuts on the economy is, in fact, tiny to nonexistent, and that it is possible that the effect could be negative.  By contrast, spending increases have at worst zero effect on GDP, but spending that is devoted to increasing economic growth has positive effects of debatable size.  Scoring tax cuts as definite winners, in other words, is not the equivalent of choosing a point in the middle of a probability distribution.  Scoring tax cuts as having zero macroeconomic effect is not only not "definitely wrong," it is probably about right.

One further point bears mention here.  In Professor Kleinbard's excellent op-ed, he argues that the Republican-friendly dynamic scoring techniques either ignore or downplay the effects of tax cuts on deficits and thus the long-term path of the national debt.  But, he argues, there are "spiraling deficits" that these models ignore, and "[f]ederal deficits are on an unsustainable path."  Thus, he wishes to call out Republicans for their hypocrisy, as they deliberately ignore the "unsustainable" debt that they usually decry, in order to allow their tax cuts to pass, which will then only make the debt situation worse.

It is a powerful argument, but it is strategically troubling.  I applaud Professor Kleinbard for pointing out that the supposedly troubling fiscal future is "because of undertaxation, not excessive spending," but the fact is that the evidence that we are on an unsustainable fiscal path is exceedingly weak.  Yes, CBO continues to publish scary-looking graphs of the very long run, in which health care spending overwhelms the federal budget (and the economy) several decades out, but there is nothing about the most recent ten-year budget forecasts that looks unsustainable, and nothing is "spiraling."  And those longer-term trends continue to be based on the simple assumption that medical costs will rise inexorably.  That is not a macroeconomic forecast in itself, but rather a doomsday assumption.  If it turns out to be true, we will have bigger problems than the federal debt.

But let us say that the liberals who point to scary deficit projections are simply reading the evidence in a reasonable way, even if it differs from my also-reasonable view.  In "Is it Sometimes Good to Run Budget Deficits? If so, Should We Admit it (Out Loud)?" an article that I published in Virginia Tax Review in 2006, I described another version of the question of whether liberals should reinforce deficit hysteria, or instead should fight against it.  Referring to the strategy as a "noble lie," I asked whether it is a good idea for liberals to refuse to tell people that deficits can have good effects on the economy, because admitting the truth would potentially cause people to be insufficiently vigilant against the bad kinds of deficits (including the kinds that arise from Republicans' tax cuts that do not really have a positive dynamic impact).

My conclusion, as sappy as it sounds, was that honesty is the best policy.  Liberals make their own goals immeasurably harder to achieve when they play into deficit panic.  For one thing, honest commentators will call them out on their lies, and the best one can then hope for is that the public will be confused and conclude that the whole system is corrupt.  Feeding into the hatred of government is not a good liberal strategy.

In the current context, this logic suggests that one should resist the temptation to feed into the echo chamber about "unsustainable debt," even if there is short-term advantage to doing so.  This is true, again, even if one thinks that my reading of the forecasts is too rosy.  And it definitely is not necessary to use the bogeyman of deficits to argue against dynamic scoring.  The Republicans' adoption of dynamic scoring was inevitable.  It can be attacked without feeding a damaging narrative.