Today’s Brew 12-8-07

Talking to Arthur Laffer about taxes, taxes, taxes and Barack Obama

Laffer:

You’re getting close in there, and let me talk to you a little bit about getting close. And I don’t know the answer to these things obviously, so I’m just talking with you. Let’s imagine we cut tax rates just on the upper income groups, how do you go about calculating what the revenue feedback is?

No. 1, the cost to collect a dollar from a guy is a far more than the dollar you collect from him. When you look at the government, when the government collects a buck, it’s not free. They have to spend resources, the IRS, audits, all this sort of crap, to collect the dollar. I’m not assuming any Laffer curve effect here at all. There are just transactions costs of collecting that money. None of these guys look at that.

No. 2, in addition that, there are all sorts of costs of evasion, avoidance, underground economy, going out of work, moving to another location, or producing more or less. All of that goes in the calculation as well.

I’m just raising these as thoughts to you, Justin, not to give you answers. You’ve got to make up the answers youself. But if you cause that guy to work another hour by cutting his tax rate by 1%, what happens to all the people he employs, to the people he works with, all this other sort of stuff? You will collect more payroll taxes. You will collect more capital gains taxes. You’ll collect more tariffs. Sales taxes, all these other taxes in the system.

You want to look at the overall long-term dynamic impact here. Let’s imagine that I have a profits tax rate of 10%, and, based on that presumed tax rate of 10%, I build a factory. I finish the factory and on exactly the day that I finish the factory you bop that tax rate up from 10% to 90%. What do I do? Do I tear that factory down? Of course not. I operate with it. You’ve got me in an inframarginal position. But when the factory wears out, I don’t replace it. You’re going to collect a lot more revenues in the first year and as the years go on you’re going to collect less and less and less. You follow me?

Let’s take the Bush tax cuts, although I’d much prefer to stay with Kennedy because it’s so far away no one gets emotionally involved. The question is, did the Bush tax cuts change output growth? Did they change retail sales tax receipts? Did they change state and local taxes? Did they change property taxes? If they did, how much? And how long did it take to materialize?

Now I’m going to tell you what I believe to be true. Bush put in his tax cuts in 2001 and he phased his tax cuts in, the tax cuts actually came into full effect on Jan. 1 2003. If you know they’re going to cut tax rates next year, what do you do this year? You defer all the income you can, don’t you? So what happened to GDP growth in the first quarter of 2003. It went from almost zero to 6.5%. [I just checked; it really went from 0.2% to 1.2%.] And we’ve just seen the last quarter, the third quarter of 2007, at 4.9%. Do you believe those tax rate reductions influenced the growth path? Then if so by how much.

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