Photo: Flickr/Gage Skidmore
Recall the now infamous Tax Policy centre study that guesstimated Mitt Romney’s tax plan would a) cut taxes for high-income earners by $86 billion in 2015 and thus b) require an $86 billion tax increase on the middle class so as to not increase the deficit.There have been roughly a kajillion Obama ads based on the TPC study.
But here are three simple reasons, via commentary by AEI’s Alex Brill in The American, on why the whole criticism is fiscal hogwash:
1. More base-broadeners are on the table. TPC originally claimed that the Romney plan would raise taxes on the middle class by $86 billion. After a critique by AEI colleague Matt Jensen, who pointed out additional opportunities for base-broadening, TPC downgraded its estimate considerably.
Specifically, Jensen pointed out that the exclusion of interest on state and local bonds and the exclusion of inside buildup on life-insurance products could yield more revenue. TPC then acknowledged that repeal of these provisions would raise approximately $45 billion from high-income taxpayers, reducing any need to tax the middle class by the same amount. The result: A purported $86 billion tax increase on the middle class shrinks to $41 billion.
2. The TPC revenue baseline assumption is inflated. TPC assumed that the baseline against which Romney is seeking revenue neutrality includes a 0.9 per cent surcharge on “earned” income and an additional 3.8 per cent surcharge on “unearned” income of high-income taxpayers that were adopted in the healthcare law. Romney has proposed repealing these taxes, but has not suggested that the cost of repeal would be paid for by tax reform. Instead, the budget effect of repealing these taxes should be analysed in the context of the repeal of various other healthcare provisions.
Despite TPC’s assertion that adjusting its baseline assumption “does not alter our primary conclusion,” the revenue consequence of repealing this tax in 2015 is a full $29 billion, all of which falls on high-income earners. Correcting the baseline by removing this provision means that more of the revenue raised by broadening the tax base on high-income taxpayers can be used to finance tax reductions for the middle class. The result: A $41 billion tax increase shrinks to $12 billion.
3. Even modest economic growth makes a difference. TPC also misconstrues analysis on the relationship between tax reform and economic growth. Not only does the TPC model assume zero economic growth, but the centre’s analysis (subsequently echoed by many other commentators) points to research I published with AEI colleague Alan Viard to argue that economic growth is not possible from revenue-neutral income tax reform. This conclusion is a false interpretation of our research.
An increase in labour supply is one means by which an economy can grow; as Viard and I pointed out, revenue-neutral tax reform is indeed unlikely to yield gains on that front. But tax reform can also grow the economy by encouraging capital formation and promoting the proper allocation of capital across the economy. Romney’s plan will do just that.
Based on Table 3-1 of the “Analytical Perspectives” report by the president’s Office of Management and Budget, I compute that if the economy were to grow just 0.1 percentage point faster per year as a result of the reform, the additional revenue in 2015 would be approximately $13 billion. The result: A $12 billion tax increase on the middle class actually becomes a tax cut.
And just like that, the Democrats’ attacks that Romney wants to raise taxes on the middle class become false.
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