Former White House Official: Tax Increases “Highly Contractionary”
Christina Romer Knows Tax Hikes Will Kill the Recovery — Charles Kadlec, Forbes.com
A powerful analysis by President Barack Obama’s first Chair of his Council of Economic Advisers (CEA) indicates the President’s proposed tax increases would kill the economic recovery and throw nearly 1 million Americans out of work. Those are the extraordinary implications of academic research by Christina D. Romer, who chaired the CEA from January 28, 2009 – September 3, 2010. In a paper entitled: “The Macrcoeconomic Effects of Tax Changes” published by the prestigious American Economic Review in June 2010 (during her tenure at the White House), she stated: “In short, tax increases appear to have a very large, sustained, and highly significant negative impact on output.”
Although Dr. Romer’s analysis is full of equations and econometric jargon, the clarity of her conclusions are a fatal indictment of the Obama Administration’s demand for tax increases. In what may be the first time since David Stockman’s “Trojan Horse” comment regarding the Reagan tax rate cuts, a high White House Official has completely undermined her own Administration’s policy while serving. Had this happened during a Republican administration, a la Stockman’s Atlantic interview, it would have been Page One news. “Obama To America: Drop Dead.”
The AER paper, co-authored with her husband and fellow UC Berkeley Professor, David H. Romer, examines the impact of tax increases and reductions on U.S. economic growth for the period 1945 to 2007. One of the innovations in the paper is its focus on “exogenous” changes in taxes, that is changes in taxes that were meant to either increase the rate of economic growth (not simply offset a recession), such as the Kennedy, Reagan and Bush tax cuts, or to reduce the budget deficit, such as the Clinton tax increase. Excluded were “endogenous” tax changes that were purely countercyclical, such as the 1975 tax rebates, or were used to “offset another factor that would tend to move output growth away from normal”, such as the tax increases to finance the Korean war and the introduction of the payroll tax to finance Medicare.
“The behavior of output following these more exogenous changes indicates that tax increases are highly contractionary. The effects are strongly significant, highly robust, and much larger than those obtained using broader measures of tax changes.”
Wow! That’s about as strong a statement as you will ever read in a paper published in the AER.
The Romers’ baseline estimate suggests that a tax increase of 1% of GDP (about $160 billion in today’s economy) reduces real GDP by 3% over the next 10 quarters.
In addition, the Romers used a variety of statistical tests to take into account other factors that could influence economic growth at the time of the tax changes, including government spending, monetary policy, the relative price of oil, and even whether the President was a Democrat or Republican (it doesn’t matter much). A summary of the statistical work estimates that a tax increase of 1% of GDP would lead to a fall in output of 2.2% to 3.6% over the next 10 quarters.
“In all cases, the effect of tax changes on output remains large and highly statistically significant,” they write.
“Thus the finding that tax changes have substantial impacts on output appears to be very durable. That including controls for known output shocks has little effect on the estimated impact of tax changes is important indirect evidence that our new measure of fiscal shocks is not correlated with other factors affecting output.”
In other words, the tax increases proposed by President Obama would have a major contractionary impact on economic growth, and by implication, job creation and employment regardless of changes in government spending, what the Fed does or what happens to the price of oil etc.
How big an impact? In his 2013 budget, President Obama proposes $103 billion in 2013 tax increases, including $83 billion of higher income taxes on those who make more than $250,000 a year, or about 0.65% of GDP. Using the Romer baseline estimate, that would reduce real GDP by 2 percentage points over the next 10 quarters. Based on the general relationship between economic growth and unemployment, such a fall in output implies a loss of more than 800,000 jobs.
The President’s budget fails to mention, far less include, the negative effects of its proposed tax increases in its economic assumptions. Instead, it assumes real GDP growth will accelerate to 3.0% next year and to 3.6% in 2014. Based on the Romers’ study, it is far more likely real GDP growth would slow to near 2% next year and remain well below 3% in 2014.
Slower growth would shrink the tax base by a cumulative $700 billion over the next 3 years. And, with tax revenues estimated at 19% of GDP, that implies tax collections would fall $130 billion below forecast over the next 3 years, and by more than $600 billion over the next 10 years. Pressure for increased spending to provide relief to individuals who lose their jobs or who no longer can get a job in the form of unemployment benefits, food stamps, Medicaid and the like would make it all the more difficult to restrain spending, further offsetting any forecasted reductions in the federal budget deficit due to the tax increases.
Such a growth recession would also create havoc with state and local government budgets, where revenues have just now recovered to their pre-recession levels. Unlike the federal government, states would not receive any additional revenues from the hike in federal taxes. But, they would suffer the full loss of revenues and increased spending due to a smaller economy.
The publication of the Romers’ research and the soon thereafter resignation of Dr. Romer from the Obama White House to return to Berkeley undermines the authenticity of President Obama’s oft repeated claims that his proposed budget would increase economic growth and produce an “economy built to last.” Given the importance of her work — only the most important research is published by the American Economic Review — it is hard to imagine Professor Romer failed to inform her boss she was publishing an analysis that said the administration’s proposed tax increases would almost certainly be “highly contractionary.”
If she failed to so advise the President, she would be guilty of unimaginable treachery and betrayal in her role as the President’s chief economist.
If she did convey her findings and the White House chose to ignore them, the implications are staggering and deserve to be the subject of Congressional hearings. In such a case, it would appear President Obama’s zeal for massive tax increases trumps all of his talk about the importance of job creation and economic growth.
The vital questions that remain are:
• Does the Obama administration fail to grasp the implications of its own analysis — that the President is proposing tax increases that would throw hundreds of thousands of people out of work?
• Or, does the President’s allegiance to his ideology and his version of fairness mean that he simply does not care about the lives and fortunes of those who would suffer as a consequence of his policies?
• Has “putting government first” become the new mantra of the president and the Democratic Party?
And will the White House press corps — or Democrats and Republicans alike — demand that the American people be given an answer?