Government Spending. Research Papers. November 28, Share Tweet Print. Key materials. Sign Up for our Weekly Email. Lesson 1: Tax cuts without spending cuts are not tax cuts; they are tax deferrals. In fact, spending exploded in the decade following their implementation: Tax revenues fell from Spending rose from To the extent that taxpayers are forward-looking and can see that deficits require future tax hikes, they will forego current consumption in order to save for the inevitable tax increase.
To the extent that taxpayers are not forward-looking they will fall under the fiscal illusion that government spending is less expensive than it really is and will demand more government. Lesson 2: Good tax systems are stable and predictable. The paper illustrates that when the tax code picks winners and losers through credits, rebates, and exemptions, marginal incentives to work and invest are not improved.
Today there are more than temporary provisions in the tax code. There were fewer than a dozen in the s. Lesson 3: Low marginal rates tend to increase the incentive to work and save. Research by Matthew Shapiro and Joel Slemrod found that a majority of households did not use the extra money on consumer spending. Aside from the proposed goal of cutting the size government, tax cuts offered a number of ancillary benefits as well. Throughout the course of history there have seldom been unpopular tax cuts.
Human nature being what it is means that any mention of reducing what one will have to pay will be popular, even if such cuts are very narrow in scope and ultimately benefit a specific section of society more so than the general public.
Additionally, the if the popularity boost that tax cuts would create could be capitalized upon, this would mean the ability elect more Republican members to Congress and could help speed up the process in which the size of government is reduced or so went the thinking of many Republican fiscal conservatives 8.
During its inception the theory of starving the beast seemed sound and perhaps most importantly, it was to be a good mechanism for reducing government that remained popular with the electorate. However, it is not until the closing days of the Bush Administration is there a clear case study to suggest that the theory is flawed, or at least has not lived up to its expectations as of late. While Bush managed to cut taxes, the beast continued its consumption unabated and actually grew.
This seems to stem from a false belief that somehow arose wherein one could be fiscally conservative, regardless of everything, if one was a tax cutter. In reality, taxes can be cut, but a benefit is not derived unless spending is controlled. It would seem that government spending is currently little influenced by tax revenues and that an unbalanced budget is not an effective barrier to the growth or breadth of government spending. However, most important to this discussion is the negative effects that the tax policy had on the state of the public finances.
In , the federal government collected After the Bush cuts this number dropped to In addition to the declining tax revenues, these cuts occurred during a period of increased government spending. The result of the difference between increasing government spending and declining tax revenue is of course an increase in the national deficit.
As Figure 2 illustrates the deficit peaked at roughly 3. This left a huge void in tax revenues and all for virtually a nonexistent potential for growth or increased economic activity The cuts were more handouts to the rich than they were pieces of a coherent and productive economic strategy.
In many ways the rising deficits were a shock to both the Administration and the Congressional Budget Office. First the report acknowledged a recession that struck in and despite being relatively shallow and short-lived still managed to reduced GDP enough to throw off expected tax revenues. The second reason for the discrepancy was a reduced tax base as a result of the Bush cuts.
As has been noted by scholars and has been historically documented, budget deficits in themselves are not particularly dangerous. In fact from time to time, running a budget deficit can provide a Keynesian stimulus to a lagging economy. When deficits become dangerous is when they are carried over from year to year. The effect of such a course of events often begins subtly with cautious economists realizing the dangerous over the long term and then as debts mount real pressures begin to influence the economy.
As deficits increase so to due interest rates and thus the typical payment that services the principle becomes more expensive. As was the case during the Bush Administration the trade deficit increased and monies that may have gone into private enterprise went instead to the Federal Government, crowding out private business Aside from the long term national debt implication there are also a number of other consequences as a result of the Bush Tax Cuts.
The most notable being the narrow section of society that benefited from these cuts. While not the direct topic of this paper, this information is well in line with additional evidence that suggests income inequality grew substantially during the Bush presidency.
It has been theorized that one mechanism for controlling the spending of liberal government could be amassing such an unwieldy national debt that Democrats have no choice but to control spending While there is no evidence to suggest that this was the goal of the Bush Administration the mechanism may very well be relevant.
As a result of the increase in deficits during the Bush Administration and the economic collapse, the public has dramatically changed its attitude on deficit spending. What once was seen as a routine function of government, has become the epitome of fiscal irresponsibility. What this has meant for the Obama Administration is that its option in dealing with the current recession have been severely reduced and made politically unpopular.
Long a stable of the government have been the ability of the government to cut taxes and increase government spending during times of recession in order to help bring an economy back to growth. These Keynesian tactics call for increased government spending during recessionary times in order to prop up GDP and consumer demand.
Through the circular flow of money through the economy, a large boost in government spending could create subsequent waves of increased economic activity which in theory would increase output and government output over a longer period. This multiplier effect would mean that if the economy was returned to growth with this inject of stimulus, the deficit incurred by the maneuver could be retired as government tax revenue increased as a result of increased economic activity, or so the theory held.
What was unique about the economy Obama inherited was that such government spending was seen in very unpopular terms. Whether the product of the many bailouts to corporate America during the Bush Administration, or the early days of the Obama Administration, government spending during recessionary times was not given the traditional exemption that it has normally received.
Put in another way, increased government spending during a recession was not traditionally seen as the same as government spending during more stabilized economic times. For instance a key comparison be drawn between the Bush Tax cuts and the American Recovery and Investment Act of Both measures were designed to provide stimulus to economies in recession, however the economic times could not have been more different.
In , an estimated The foreclosures rates were also different at. Despite these numbers and the vast difference in the overall magnitude of their respective recessions, the Bush tax cuts proved to be incredibly popular while the Obama stimulus bill was passed on strictly party lines and was the subject of substantial political backlash.
While the economic cost is often the same as far as the national accounts are concerned, somehow the political environment viewed the Bush response as responsible and the Obama response as over the top. This often times means that Democrats are compelled to embrace fiscal austerity more zealously than their Republican counterparts.
What Obama inherit was a unique paradox, in order to tackle the longer term of issue of the national debt, he must boost the economy out of recession. In order to get the economy out recession he must deficit spend and increase the national debt. Such a position required either a basic understanding of economics or a certain mental flexibility. The public seemed to posses neither and it provided Republicans with ammunition and the opportunity to score political points.
Realizing that the supermajorities in Congress would ensure passage of the necessary stimulus bills, the Republicans did not have to worry about the fallout that would have incurred from what may have happened to the economy had they been able to hold up the stimulus bill, but could voice their displeasure with it so when it passed and its longer term effects on the national debt could be blamed squarely on irresponsible democratic spending.
So the Republicans were able to gain credibility on the issue of the national debt, without having to risk the prospect of what have happened if the government took no action to stimulate the economy. How this connects to the Bush Administration is somewhat complex and indirect. By decreasing tax revenues through his tax cuts and by his huge increase in government spending as result of the two wars abroad and his expansion of Medicare, George Bush transformed the budget surpluses from the Clinton Administration into remarkable deficits.
These two elements made spending unpopular and government spending exceedingly unpopular. A fair discussion cannot place all of the blame entirely on the Bush Administration as some does fall on Bill Clinton and his control of the economy.
While scholars will long debate the standing of the Clintonian deregulation, much of the obligation of government to prop up failing financial institutions may be a direct effect of a free market that was not properly regulated. However, one cannot ignore that the Bush Administration had two terms to correct this problems and failed to appreciate their destructive power. While monetary policy is created by the Federal Reserve independent of the White House it is not unusually for presidents to have success in persuading Federal Reserve Chairmen in their policies.
Often times during a recession, the economic activity and specifically liquidity can be increased through the reduction of interest rates. With the interest rate at zero, the only real option that Obama had at his disposal for stabilizing the economy was through government spending, something that was by that time hugely unpopular.
In sum there a few conclusions that can be drawn from the Bush Tax Cuts. The first is that as a whole they failed to prove themselves to make economic sense. Having had a substantial period to understand their effects the general consensus is that they have provided little economic incentive when compared to their cost. Furthermore, the tax cuts ability to restrain spending seems to have failed greatly.
As the theory goes, as tax revenues fall government would be forced to reduce its spending. What the Bush Tax Cuts have shown is that such a mechanism is at best not suited for certain economic times or at worst a failed theory.
From the period of the Bush Cuts spending increased substantially and deficits grew. The Bush administration claimed that, since investors would have more money to spend, they would more readily invest in innovative projects and create more jobs for the country through their businesses. This option would have allowed for wealthy Americans to invest in portfolios that were tax free while the tax burden would shift primarily to wage earners or, in other words, to lower- to middle class families whose incomes came mostly from wage paying jobs.
Fortunately, Congress passed into law reductions on the taxes of capital gains and stock dividends for a temporary amount of time instead of permanently eliminating them. Despite the grand claim that lower taxes would allow for more money in the pockets of all American citizens, the tax cuts of the Tax Policy were aimed primarily at the top tax bracket of the tax code.
The lowest two tax brackets, the 10 and 15 percent, either received no tax cuts at all or were dropped into the brand new 10 percent tax bracket which insignificantly decreased their income taxes. On the other hand, the top tax bracket of The original Tax Policy would have allowed for the The drop in almost 5 percent in taxes for the wealthy was an enormous tax cut, especially when compared to the almost nonexistent drop in taxes on the top two brackets. Although it would appear as if a 5 percent reduction occurred in taxes for both ends of the spectrum, the reality is that most individuals remained in the 15 percent tax bracket and very few individuals were able to have their entire income covered by the new 10 percent bracket.
Since the numbers appear to be almost identical, at least on paper, President Bush and his administration were able to trick the American public into believing that the Tax Policy would equally benefit all citizens of the United States when it fact it disproportionately benefitted the wealthy. Many Americans did not support the Bush Tax Policy of or the Tax Cuts of after the relentless campaigning of President Bush or after the two policies were enacted by Congress.
In fact, in , after both policies had gone into effect, a poll revealed that most Americans felt their taxes had not been cut enough, stayed the same, or believed they had risen.
A similar poll conducted before the Tax Policy went into effect, in , revealed that 67 percent of Americans favored domestic spending over tax cuts. This bit of information reveals that the tax policies of President Bush were not needed, or wanted, especially when more than two thirds of the United States viewed governmental programs as more important than a little more money in their paycheck.
Despite the fact that the American public made it clear the tax cuts were unnecessary, President Bush pushed forward with his and tax cuts. Although this appears as a discrepancy, the Bush tax policies benefitted wealthy Americans and big businesses the most.
Since the tax policies of the Bush administration were not meant to help the lower to middle class families of America, any poll that suggested governmental programs should receive money from the surplus was cast aside in favor of the big business friends of President Bush. Still, in order to pay for the Tax Policy of and the Tax Cuts of , the federal government had to cut spending, or borrow money, in order offset the lost income.
In the past, presidents that have advocated for tax cuts have ended their insistence during times of economic stagnation, large budget deficits, and war. Unfortunately, after the Tax Policy of , Bush refused to eliminate, or even reduce, the tax cuts after it became apparent that the budget deficit was increasing beyond control, due in large part to the wars in Iraq and Afghanistan; instead, President Bush stuck firm to his belief that lower taxes would allow for a robust economy to exist and that the budget deficit would eventually decrease.
The dual wars in Iraq and Afghanistan allowed for Bush to push his tax cuts through Congress despite mounting deficits and growing public opposition; many senators did not want to undermine the President during a time of war but instead wished to portray an air of unity behind the President. President Bush skillfully understood that he could push for hard policies during wartime due to the unprecedented popular support he enjoyed at this time. All thirteen economists President Bush met with to discuss his proposal unanimously supported the Tax Cuts of ; this is understandable since all of the economists he met with had strong tied to Wall Street.
This fiscal deterioration will reduce the capacity of the government to finance Social Security and Medicare benefits as well as investments in schools, health, infrastructure, and basic research.
The budget surplus that had been left behind by President Clinton was quickly used when the Tax Policy of was enacted. The United States fell deeper into debt once the wars in Afghanistan and Iraq began, and furthermore when the Tax Cuts of were implemented. Upon evaluation of the Tax Policy of and the Tax Cuts of , it becomes obvious that the tax policies of the Bush administration were short term goals implemented in order to reward the wealthy and big business friends and allies of President Bush.
Although President Bush promoted all of his tax policies as either a reward for all American citizens or as a unique way to stimulate the economy, in the end the Bush tax policies were simply designed to pay back wealthy Americans. Sadly, the tax policies of President Bush were not thought out long enough to consider the impact on the deficit of the United States or, more likely, the creators of the policy truly did not care about the long term effects of the tax policies like the depletion of the surplus and the rise in the deficit.
Thankfully, members of Congress were able to limit the impact of the Bush tax policies to a period of only ten years; if these policies had been made permanent, the United States would be headed down a road of total insolvency. In the end, it is obvious that the Bush administration worked for the big businesses of the United States and their tax policies prove that. President Bush entered the presidency with a budget surplus but when he finally left office President Bush had enacted tax policies that had completely depleted the surplus and created a budget deficit that will take much longer to pay down.
Although the economic recession is another issue altogether, it is safe to say that the all encompassing idea President Bush had had regarding his tax policies, that tax cut will help bolster the economy, was blatantly incorrect. Overall, the federal deficit of the United States cannot be controlled until the Tax Policy of and the Tax Cuts of have ended in Until that time, the United States must borrow money from other countries in order to run the governmental programs that are needed, especially now during the economic recession.
Unfortunately, the national deficit of the United States has continued to grow unabated due to the tremendous effects of the Tax Policy of and the Tax Cuts of as well as the current global recession. In order to stimulate the economy, which the tax policies of President Bush failed to do, the federal government must pump money into social welfare programs and aid for all the citizens of the United States that are currently out of work.
In , the tax policies of the Bush administration will finally expire. At that time, the United States will be able to tax the wealthy and give actual tax breaks to the members of the lower to middle classes.
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Jacob S. Richard A Opel, Jr.
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