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Higher Taxes Boost Deficits, Not Revenues


Economic Viewpoint

HIGHER TAXES BOOST DEFICITS, NOT REVENUES

Tax increases don't produce what they promise but create instead deeper pits of red ink. That is the conclusion to be drawn from the tax hikes of the past decade.

Thanks to a long campaign of propaganda and disinformation conducted by the spending lobbies and their apologists, many Americans mistakenly believe that the Reagan tax cuts denuded the government of revenues, producing "public-sector poverty." The 10-year string of triple-digit budget deficits that currently extends another five years into the future is cited as proof that a tax-cutting decade left government unable to fund its commitments. In fact, despite Ronald Reagan -- the tax-cuttingest President ever -- tax hikes in the 1980s added $ 366 billion more to the Treasury's coffers than tax cuts took out.

On a static-revenue basis (which assumes that tax-law changes affect only revenues and have no incentive or disincentive effects on economic activity), the Economic Recovery Tax Act of 1981 "lost" revenues of $ 1,490 billion during 1981-90. But this tax cut was followed by a tax increase every year. The combination of the Tax Equity & Fiscal Responsibility Act of 1982 (TEFRA), the Highway Revenue Act of 1982, the Social Security tax increases (1983), previously scheduled Social Security tax-rate and base increases, the Deficit Reduction Act of 1984, various "revenue enhancements" during 1985-88, and bracket creep (resulting from inflation pushing incomes into higher tax brackets) produced a revenue "gain" of $ 1,856 billion over the same period. Thus, according to the way Treasury and the Congress measure the revenue effects of taxation, tax legislation and bracket creep took $ 366 billion more out of our pockets than the 1981 tax cut put in.

FUZZY THINKING. The idea that tax cuts do nothing but lose revenues, while tax increases do nothing but raise revenues, is absurd. The long Reagan boom, which produced growing state- and local-budget surpluses leading to tax cuts in some states in the mid-1980s, did not lose the federal government $1.49 trillion in revenues. Nor did the tax hikes raise the predicted revenues. For example, in the summer of 1982, the Reagan Administration predicted that TEFRA would raise $229 billion in additional revenues and reduce the 1983-87 deficit projections from $636 billion to $407 billion. Instead, by December, the deficit estimate had tripled, to $1,248 billion. The actual deficits for that period totaled $976.2 billion--240% larger than predicted.

It is now standard for tax hikes and "deficit-reduction" packages to generate bigger, rather than smaller, deficits. Last year, President Bush said

he broke his promise against new taxes in order to achieve a $500 billion deficit-reduction package for 1991-95. Instead, the result was a record deficit and an $803 billion increase in red ink.

The same result occurs when states raise taxes. Last year, the New Jersey legislature, at the behest of Governor James J. Florio, passed the largest single tax increase in the history of the finances of the 50 states. But, as Jude T. Wanniski's firm, Polyconomics Inc., predicted, the state continues to sink in red ink. In March, state Treasurer Douglas C. Berman admitted that the state had come up short again in both state income and sales-tax collections, despite the tax hikes. He claims it is "too early to reach any long-term conclusions" about the fall in sales and income-tax revenues, but the Republican minority leader in the state assembly, Garabed Haytaian, says New Jersey's income tax revenues are running $57.5 million a month below projections.

GREAT DESTROYER. Tax hikes produce higher deficits for two reasons. As every economics textbook teaches, tax rises dampen economic activity and reduce the revenue base. At the same time, the forecasts of higher revenues encourage more spending and lead to what New Jersey Republican Assemblyman Robert D. Franks calls the creation of new "programs we simply cannot afford based on revenue that isn't there."

The same thing happens at the federal level. Once Bush made it clear that a tax increase was in the cards, federal spending exploded, moving from 22% to 25% of gross national product in two years. Not even Reagan was immune. By January, 1983, the $229 billion in promised TEFRA revenues had called forth an extra $207.5 billion in nondefense spending.

The record shows that the greatest destroyer of tax revenues is not tax cuts but economic slowdowns. In 1981, revenues grew strongly by $82.2 billion. The Volcker recession, however, produced zero revenue growth for the next two years, adding greatly to the "Reagan deficit." The 1986 slowdown caused revenue growth to fall by half, adding $35 billion to that year's deficit. Again, tight Federal Reserve Board policy in 1989 and 1990 caused 1990 revenue growth to fall by half and contributed to the 1991 recession, which will deprive the government of revenues in 1991 and 1992. Indeed, the current recession has already wiped out all the expected revenue increases from the Bush tax hike for the next five years.

It is a foolish government that raises taxes when recession beckons. If the states and cities attempt to deal with their revenue shortfalls by raising tax rates, the recession will get a second wind.PAUL CRAIG ROBERTS; PAUL CRAIG ROBERTS IS CHAIRMAN OF THE INSTITUTE FOR POLITICAL ECONOMY IN WASHINGTON


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