Why the Supercommittee Should Reject “Dynamic Scoring”

October 18, 2011 at 2:41 pm

Senate Finance Committee Republicans have recommended that the Joint Select Committee on Deficit Reduction use “dynamic scoring” to estimate the budgetary effects of tax proposals.  In a paper released today, we explain why that’s a bad idea.

Contrary to widespread misunderstanding among policymakers and others, the standard estimates of tax and spending proposals that the Congressional Budget Office (CBO) and other federal agencies prepare are not “static.”  They incorporate many changes in individual and business behavior that occur in response to changes in tax rates and other policies.

They do not, however, include estimates of “macroeconomic feedbacks.” That is, they do not attempt to estimate whether, and by how much, a change in tax or spending policy would affect the overall economy.  They do not, for instance, include estimates of how a proposal would affect GDP growth and, therefore, do not include an estimate of how any change in GDP would affect revenues.

There are very good reasons that federal agencies do not use dynamic scoring:

  • Estimates of the macroeconomic effects of tax changes are highly uncertain.  Economists do not agree on the size of macroeconomic feedbacks from reducing marginal income tax rates or other tax changes.  According to most studies, however, they would likely be small and not have large enough effects on revenue estimates to justify the problems that dynamic scoring would create.
  • Dynamic scoring would impair the credibility of the budget process. Because the estimates of macroeconomic feedbacks are so uncertain, including them in revenue estimates would be highly controversial and inevitably viewed as biased and politically motivated.  A Joint Committee decision to include macroeconomic feedbacks for the first and only time in its estimate of any bill that it reports would appear arbitrary and would seem like a budgetary gimmick.

Finally, if the Joint Committee can craft a package of tax changes that would expand the income tax base by eliminating various tax preferences, the economy would benefit more from using the additional revenues to reduce budget deficits rather than to cut marginal tax rates.  When economic resources are fully employed, deficits reduce saving, investment, and economic growth and, according to most estimates, reducing deficits will have a larger effect in spurring economic growth than using budget savings to cut marginal tax rates.

State Tax Breaks a Costly, Ineffective Way to Attract Wealthy Seniors

October 17, 2011 at 4:42 pm

Can a state get an economic boost by giving senior citizens special tax breaks?  Maine’s governor, Paul LePage, claims so.  Last week he renewed his proposal to exempt all pension income from the state’s income tax.  (Maine already exempts Social Security income and some pension income.)  He argues that this tax cut would encourage wealthy retirees to move to Maine.  Other states have considered similar proposals.

Such tax breaks are costly and will grow much more costly as the senior population rises, as we pointed out in a major study a few years back.  Given the continued budget problems that Maine and other states face, such tax breaks inevitably come at the expense of schools, health care, roads, and other public services — all of which a state needs to compete economically.

With little evidence, LePage and others have argued that increased economic activity generated by seniors who move to (or remain in) the state because of the tax break would offset some of the revenue lost to the tax cut.  This is farfetched.

For one thing, a host of studies show that seniors choose where they live based on a variety of factors, including closeness to family, the weather, jobs, and the availability of services like health care.  Taxes matter very little.

In fact, a recent study by professors Karen Conway of the University of New Hampshire and Jonathan Rork of Reed College finds that state tax breaks for seniors enacted over the last four decades have had zero impact on senior migration patterns.  “Our results are overwhelming in their failure to reveal any consistent effect of state income tax breaks on elderly interstate migration,” they report.

As Conway and Rork’s report concludes, “Our results, as well as the consistently low rate of elderly interstate migration, should give pause to those who justify offering state tax breaks to the elderly as an effective way to attract and retain the elderly.”  Even if a few seniors were to move to Maine or stay there because of the added exemption, the cost of giving virtually every retiree in the state a tax break would far exceed the benefit to the state.

In this era of limited resources, every tax dollar is needed to maintain the services that contribute to a quality of life that actually attracts residents.  States should steer clear of tax breaks that have already proven ineffective.

Kleinbard on the Flawed Case for a Corporate “Repatriation” Tax Holiday

October 17, 2011 at 1:27 pm

On a conference call we hosted for journalists recently, Edward Kleinbard, a USC law professor and former staff director for Congress’ Joint Committee on Taxation, explained why the proposed tax holiday for overseas corporate profits “repatriated” to the United States would be a serious mistake.

Contrary to claims that corporations are cash-constrained and would significantly boost their domestic investments if they could repatriate foreign earnings at a much lower tax rate, Kleinbard explained:

I find it very difficult to come up with a list of cash-constrained American firms that nonetheless have large offshore pots of unrepatriated earnings.  [Northwestern University law professor] Tom Brennan in his academic analysis of [a similar tax holiday enacted in 2004] concluded that 73 firms accounted for 79 percent of all of the repatriations that came back. . . .  [W]ithout exception, those firms have tremendous financial resources in the United States in the form of cash in the United States and in borrowing capacity at the lowest rates in decades in the capital market.  So a cash-constrained story is a very, very difficult one to actually construct. . . .

Click on the button below for the audio of the presentation portion of the call.

 Download as mp3

Click here for the Center’s new report on this issue, which explains why a repatriation holiday would cost tens of billions of dollars in federal revenue.  Click here for our report explaining why the first holiday failed to produce the promised economic benefits and a second one would create even bigger problems.

In Case You Missed It…

October 14, 2011 at 5:07 pm

This week on Off the Charts, we talked about the economy, the federal budget, federal taxes, state budgets, and housing.

  • On the economy, Arloc Sherman highlighted new information showing that the 2009 American Recovery and Reinvestment Act (ARRA) had an even greater effect on preventing struggling Americans from falling into poverty than previously thought.
  • On the federal budget, Richard Kogan explained why a recent proposal to insert the President into the process of crafting and adopting a budget resolution would do more harm than good.
  • On federal taxes, Chuck Marr noted the importance of a Senate report that outlined the failure of the 2004 repatriation tax holiday, and Chye-Ching Huang pointed to new data from the Congressional Research Service showing the extent to which the federal tax system violates the so-called “Buffet rule.”
  • On state budgets, Nick Johnson discussed the cuts that states have made this year in per-pupil spending on K-12 education and how they compare to what states spent on K-12 education in 2008.
  • On housing, we featured a portion of Will Fischer’s testimony before the House Financial Services Subcommittee on Insurance, Housing, and Community Opportunity on the need for Congress to pass core provisions in the Section 8 Savings Act (SESA).

In other news, we released reports on the threat that House and Senate funding bills pose to low-income rental assistance and on why a proposed second repatriation tax holiday would increase deficits and push investments overseas without generating the promised increase in jobs. We also published a statement by Paul Van de Water on the CLASS Act and Will Fischer’s testimony on SESA before the House Financial Services Subcommittee on Insurance, Housing, and Community Opportunity.

A “Joint” Budget Resolution? More Harm Than Good

October 14, 2011 at 9:47 am

The House and Senate Budget Committees have held hearings in recent weeks on ways to improve the congressional budget process. Unfortunately, many of the proposed changes would do more harm than good — including a proposal to insert the President into the budget resolution process.

Congress is supposed to design its own budget plan each spring, after examining the President’s proposals. That plan, called a budget resolution, isn’t a law; it provides the framework for Congress then to enact legislation to meet its budget targets: e.g., the annual appropriations bills and perhaps changes to tax and entitlement laws. The President can veto that later legislation if he disagrees with it.

Recently, some have suggested turning the budget resolution into a law (technically, a “joint resolution”) that the President could then sign or veto. This, they say, would enhance budget coordination — or if Congress and the President disagree, it would enable them to begin addressing the issues in the spring so they could work out compromises earlier than under the current system.

But upon close examination, the proposal appears to do more harm than good. As Rudy Penner, former CBO Director, recently told the House Budget Committee, “… [I]t would be impractical to reach an agreement between the president and the two houses of Congress early in the year. … [T]he Congress has had problems agreeing with itself. Finding an agreement with the president would probably involve a protracted bargaining session that would take far too much time.” We’d add that when Congress and the President are on the same wavelength, there is no need for a joint resolution.

Moreover, as we have warned, turning the budget resolution into a joint resolution signed by the President may tempt the President, the Congressional leadership, and the Budget Committees to start writing major budget laws — not just plans and targets — into that joint resolution, which would usurp the budgetary powers of the other committees.