A Few Thoughts About the Raise Spending or Cut Taxes Debate

February 3, 2009

It has become cliche in American politics that every effort by Washington to stimulate fiscally has divided Democrats and Republicans in a predictable way about the composition of the relief.  Republicans always want to reduce taxes, and the Democrats favor an increase in public spending.  If Republicans have a minimum amount of necessary taxation in mind, it lies far beneath the current level, because their argument is not framed around the concept of an optimal level of taxation.  Less tax is always deemed better, since the private sector is presumed to spend its resources more wisely than the public sector.   In truth, waste occurs in both sectors.  A mission to spend over half a trillion dollars quickly is bound to elicit a greater share of questionable outlays than attempts to spend a much smaller sum, regardless of whether elected officials or private citizens are deciding where to deploy the funds.  The textbook argument for more government taxation instead of less taxation to combat a deep recession is that all spending enters the economy’s bloodstream as income for someone.  In contrast, while reduced taxes boost discretionary purchasing power fully, households and businesses will not necessarily take advantage of the windfall immediately.  Some of it will be saved for spending at a future time.  Because of this leakage at the first stage of incidence, the immediate impact is diluted relative to an equivalent increase in public spending.

Tax cut proponents have had ample opportunity to prove their position.  Republicans occupied the White House for 71.4% of the last 28 years.  Presidential power was divided for an equal sixteen years apiece over the previous 32 years from end-1948 to end-1980, by comparison. U.S. real GDP in the most recent 28 years averaged 2.9% per annum, significantly less than the pace of 3.6% per annum during the earlier period.  While other factors have no doubt been at play, a live empirical experiment to settle the best composition of fiscal relief did not create a compelling case at first glance that less taxation does always yield the biggest bang for the buck.

Copyright 2009 Larry Greenberg. All rights reserved. No secondary distribution without express permission.



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