On the Romney Tax Proposal

I've been meaning to address the potential issues related to Mitt Romney's tax proposal for a month now. And I've got a chance to do so this morning, so...


Princeton economics professor Harvey S. Rosen addressed the Tax Policy Center's analysis of Mitt Romney's tax proposal (the source, or at least support, for much of the "Romney's cutting taxes for the rich and lying about it" accusation) with one of his own. And it's a good read.

But I stumbled upon a footnote this morning that I hadn't noticed when I first read through it a couple of weeks ago, and I think it's very instructive. It makes absolutely clear the folly of static analysis of potential changes to the tax code. Indeed, the folly of any static analysis of any change to any government policy.

In the early 1990s, Senator Phil Gramm, a Ph.D. economist, wanted to call attention to what he viewed as this critical flaw in the way that tax policies were analyzed. He asked the Joint Committee on Taxation to produce an estimate of the revenue consequences of a 100 % tax on income. Under JCT conventions, such a confiscatory tax would produce a huge revenue yield, because people would continue working even though their take home pay was zero.

I didn't know that Gramm had done that.  I love it...

I love my job (at least most of the time, I love my job) but the number of days a year that I'd work it if the government were taking 100% of my income is approximately zero. I suspect that's true for the vast majority of people. People respond to incentives.  Changing incentives and assuming that there's not a corresponding change in behavior is one hallmark of a bad analysis.

There's a lot of good stuff in the paper.

[I]t seems odd to assume away possible increases in incomes associated with a given tax reform proposal when its explicit goal is to enhance growth. This observation raises another reason that is given for excluding macro-dynamic effects—the impact of taxes on economic growth is uncertain. To be sure, there is a lot of disagreement on this issue among professional economists. But that is not sufficient cause to assume that the right answer is exactly zero.

Rosen's conclusion?

Governor Romney has proposed a personal income tax reform that would lower marginal tax rates and broaden the tax base. Critics of the proposal have argued that high-income taxpayers would receive a tax cut, and given that the proposal is meant to be revenue neutral, this would inevitably lead to increased taxes for families with low and moderate incomes...While this discussion has been illuminating in some respects, something seems to be missing. Relatively little has been said about the possible effects of the Romney proposal on economic growth. This is curious because increasing growth is the motivation for the proposal in the first place.

In this paper, I analyze the Romney proposal taking into account the additional income that might be generated by economic growth. The main conclusion is that under plausible assumptions, a proposal along the lines suggested by Governor Romney can both be revenue neutral and keep the net tax burden on high-income individuals about the same. That is, an increase in the tax burden on lower and middle income individuals is not required in order to make the overall plan revenue neutral.

By the way, Harvard economics professor Martin Feldstein (who is a Romney advisor) has also weighed in on the feasibility of achieving rate reductions without "losing revenue" or shifting the tax burden.

It is impossible to calculate the exact effects of the future reforms since Gov. Romney hasn't specified what he would do. [LB: And, of course, he can't do it anyway without Congress, which has to pass bills. His proposal is a proposal only, a framework of the issue as he wants it to be handled and the goals that he'll be working towards. It isn't a bill that becomes law when he's sworn in. The American Constitutional Republic does not work that way. As he specifically noted last night, during the debate, it requires cooperation between the President and Congress, it requires that the President negotiate with both parties, as he has done in his position as Governor of Massachusetts, and Barack Obama has signally failed to do in the White House.] But refuting the Tax Policy Center's assertions doesn't require that. It only requires knowing if enough revenue could be raised from high-income taxpayers to cover the $186 billion cost.

The IRS data show that taxpayers with adjusted gross incomes over $100,000 (the top 21% of all taxpayers) made itemized deductions totaling $636 billion in 2009. Those high-income taxpayers paid marginal tax rates of 25% to 35%, with most $200,000-plus earners paying marginal rates of 33% or 35%.

And what do we get when we apply a 30% marginal tax rate to the $636 billion in itemized deductions? Extra revenue of $191 billion—more than enough to offset the revenue losses from the individual income tax cuts proposed by Gov. Romney.

This does not mean eliminating all deductions.

...

Since broadening the tax base would produce enough revenue to pay for cutting everyone's tax rates, it is clear that the proposed Romney cuts wouldn't require any middle-class tax increase, nor would they produce a net windfall for high-income taxpayers. The Tax Policy Center and others are wrong to claim otherwise.

So when Barack Obama talks about "tax cuts for the rich," when the fact-checkers come out and award Pinocchios or pants-on-fire to Romney's defense against that charge last night, keep in mind that there are two sides to the story. Anyone claiming that Romney's lying about this is not "checking facts" but simply offering his or her own commentary, based on his or her own beliefs. Such assertions tell us much about the asserters but little about Romney or his proposal.