We Have a Revenue Problem: Government Debt to GDP Would Fall Without the Bush Tax Cuts

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Debt to GDP Ratio, FY1790 to 2038, no Bush Tax Cuts

A.  Debt to GDP Would Fall Without the Bush Tax Cuts

If the Bush tax cuts had not been extended at the start of this year for almost all households, the public debt to GDP ratio would be falling rapidly.  Even though health care costs are rising and Social Security payments will need to increase as baby boomers retire, the US would be generating more than sufficient tax revenues to cover such costs, if we simply had reverted to the tax rates that held prior to the Bush tax cuts.

The figures on this can be calculated from numbers provided by the Congressional Budget Office with its annual Long-Term Budget Outlook, which was published earlier this week.  Most of the attention paid to the report focussed on the base case projection by the CBO of the public debt to GDP ratio if nothing changes in current policy.   The ratio had risen sharply as a consequence of the economic collapse of 2008, in the last year of the Bush administration, and subsequent weak recovery.  But with the economy recovering and with other measures taken, the ratio is now projected to stabilize and indeed fall modestly for several years.  However, the ratio would then start to grow again in fiscal year 2019, and especially after 2023.  As the graph above shows, the CBO projects that, under current policy, the debt to GDP ratio would rise to 100% of GDP by fiscal 2038, reaching levels last seen at the end of World War II.

This has been interpreted by Republicans as a runaway spending problem, and have asserted this calls for further sharp cuts.  But the data issued by the CBO with its report allows one also to work out what the consequences were of allowing most of the Bush tax cuts (primarily – there were also some other tax measures) to be extended from January 1, 2013.  The Bush tax cuts had been scheduled to expire on that date.  They were instead extended and made permanent for all but the extremely rich (those households earning more than $450,000 a year, the richest 0.7% of the population).

Specifically, the CBO provided in the projections it had made last year (in 2012) what public revenues would have been if the tax cuts had expired, as scheduled, at the start of 2013.  The new report provides those figures for comparison, updated to reflect the new methodology for GDP that the BEA adopted in July.  One can combine those revenue projections with CBO’s current projections of non-interest expenditures, along with a calculation of what interest would then be on the resulting (lower) debt, to estimate what the fiscal deficit and debt to GDP figures would then be.

The resulting path of federal government debt to GDP is shown as the green line in the graph above.  The debt to GDP ratio plummets.  Instead of reaching 100% of GDP in fiscal 2038, it instead would fall to just 37% of GDP in that year.  And a simple extrapolation of that line forward would bring the debt all the way to zero in a further 24 years.

The extension of the Bush tax cuts for most households can therefore, on its own, more than fully account for the projected rise in the public debt to GDP ratio.  With tax rates as they had been under Clinton, there would be no debt issue.

B.  A Longer Term Perspective

The CBO report also provides data on the federal government debt to GDP ratio going back to the founding of the republic in 1790.  I have put the projected paths on a graph with the history to put them in that context.  The fall in the debt ratio that would follow if the Bush tax cuts had not been extended is similar to the falls seen in that ratio in the periods following the Revolutionary War, the Civil War, World War I, World War II, and during the Clinton years following the run-up during the Reagan and first Bush presidencies.

Public debt reached a peak of 106% of GDP in fiscal year 1946, at the end of World War II.  The ratio then fell steadily in the 1950s and 1060s, and was just 25% in 1981, at the end of the Carter presidency.  It fell during this period not because there were large budget surpluses, but rather because of generally strong economic growth.  This also shows that strong growth is possible even if the debt ratio is as high as 106%, undermining the argument made by the economists Carmen Reinhart and Ken Rogoff in a 2010 paper, that debt in excess of 90% of GDP will lead to a sharp reduction in growth.  Republican politicians had quickly jumped on the Reinhart and Rogoff conclusion, arguing that this work supported their views.  But aside from numerous counterexamples, such as the US after World War II, researchers later discovered that there had been a coding error in the spreadsheet Reinhart and Rogoff used to assemble their data.  More fundamentally, researchers showed that to the extent there is a relationship between high debt and slow growth, it is that downturns and slow growth lead to a rise in the debt to GDP ratio (as we saw in the US after the 2008 collapse), rather than that a high debt ratio leads to slow growth.

The debt ratio then rose sharply during the Reagan and first Bush presidencies, rising from 25% of GDP in fiscal 1981 to 48% in fiscal 1993.  This was the first such rise in the debt ratio in American history, aside from the times when the country went into war or at the start of the Great Depression.  During the Great Depression the ratio rose during the Hoover years from 15% in fiscal 1929 to 39% in fiscal 1933, and then to 43% in fiscal 1934.  But it is interesting that during the Roosevelt presidency, and in stark contrast to the common view that the New Deal was characterized by big increases in government spending, the ratio then stayed in the range of 40% to 44% until 1942, following the entry of the US into World War II.

The debt ratio then fell during the Clinton presidency, from 48% in fiscal 1993 to 31% in fiscal 2001.  But with the Bush tax cuts and then the 2008 collapse, the ratio rose to 52% in  fiscal 2009, and to 73% this year.   As noted above, the ratio would now start to fall again if the Bush tax cuts had not been extended, reaching a projected 37% in fiscal 2038.  But with most of the Bush tax cuts made permanent, the ratio (with the same government spending levels) is instead projected to rise to 100% in that year.

C.  Conclusion

The first step in addressing some problem is to understand the cause.  The cause of the current fiscal problems, which if not addressed would lead to a public debt rising to 100% of GDP by fiscal 2038, is the Bush tax cuts.

An earlier post on this blog looked at what the debt to GDP ratio would have been had the Bush tax cuts never been enacted (in 2001 and 2003) and the Afghan and Iraq wars had not been launched.  It found that even assuming the 2008 economic downturn would still have occurred, the public debt to GDP ratio would have risen only to about 35% by fiscal 2014, and would then start to fall.  That post also showed that even assuming the cost of the wars and with the Bush tax cuts in place from 2001 to 2013, phasing out the tax cuts starting in fiscal 2014 would have led the public debt to GDP ratio to fall until at least fiscal 2022 (the last year in the CBO figures then available).

The current post has made use of the CBO’s new long term projections, and finds that if the Bush tax cuts had not been extended at the beginning of 2013, the debt to GDP ratio would be on a sharp downward path to at least fiscal 2038.  The current conventional wisdom appears to be that rising health care costs and the increase in the number of retirees as the baby boom generation reaches 65 means that a rise in the debt to GDP ratio is inevitable, unless there are sharp cut-backs in Medicare and Social Security.

But that is not the case.  The debt ratio would be falling rapidly if it were not for the Bush tax cuts.

Virginia’s Falling Tax Revenues: Cuccinelli Would Cut Them Further

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Virginia State Taxes as share of Virginia GDP, FY 1972-2012

A.  Virginia’s Falling State Tax Share

Virginia state tax revenues have been falling as a share of Virginia GDP for decades, as the graph above shows.  Yet predictably, a major plank in the proposals of the Republican candidate for governor, Ken Cuccinelli, is that Virginia state taxes should be cut further.

The line in the graph was calculated from figures on state tax revenues from the US Census Bureau (which collects such data on a consistent basis for all fifty states), with the figures on Virginia state GDP from the Bureau of Economic Analysis (which publishes state figures with its regular GDP accounts).  The downward trend is clear, and a regression line fitted to those figures (in red) confirms it.

With Virginia taxes lower now as a share of income than they were before, it is hard to see how one can argue, as Cuccinelli does, that they are too high and act as a hindrance to economic performance.  The taxes were higher as a share on income in the past, and economic performance then was good.

But the lower share of state taxes in income, coupled with the implications of Baumol’s Cost Disease (discussed in a previous post on this blog), does explain why Virginia state government services are so much worse now than they used to be.  Sub-national governments must over time limit their public expenditures to what they raise in tax revenues (with a limited ability to shift some of these across time through issuance of state bonds), and Virginia has been a particularly strict adherent to such budgetary rules.  With lower revenues, the state government has no longer been able to provide the public services it once had.

I grew up in Virginia in the 1960s, and at that time Virginia took pride in the quality of its public services.  The state highway system was one of the best in the nation.  State universities such as the University of Virginia and William and Mary were among the best state schools in the country, and also ones where good students graduating from high schools in Virginia could reasonably aspire to getting in as spaces were adequate.  This is no longer true.

B.  The Cuccinelli Tax Plan

Virginia is one of only two states holding gubernatorial elections in this off-year (New Jersey is the other).  The Republicans nominated Ken Cuccinelli, the current Attorney General, as their candidate.  Cuccinelli is best known for his support of a radically conservative social agenda.  His tax plan is similarly a radically conservative proposal which would cut revenues drastically.

The key elements of Cuccinelli’s plan are to:

1)  Eliminate the current top individual income tax bracket in Virginia of 5.75%, replacing it by extending the current 5% second highest bracket;

2)  Cut the Virginia corporate income tax rate from 6% to 4%;

3)  Establish a commission to propose further tax cuts;

4)  Close “loopholes” to raise as much in revenue as would be lost through the cuts in the tax rates;

5)  Cap growth in Virginia state government expenditures to the rate of inflation plus population growth.

But note on each of these proposals:

1)  Eliminating the top tax bracket, and only the top tax bracket, of 5.75%, means that only those households paying the top tax bracket will benefit from lower rates.  By construction, only the richest households will benefit.  The Commonwealth Institute for Fiscal Analysis, a nonpartisan institute based in Richmond, has estimated that fully three-quarters of the benefits from this lower tax rate will accrue to households earning more than $108,000 a year, and that 25% will go to the richest 1%.

2)  The corporate tax rate would be cut by a third, a huge cut, and would bring Virginia’s rate to the lowest of any of the 44 states in the US that have a corporate income tax.  The other six states follow a different tax structure.

3)  The mandate of the proposed commission would be to make even further tax cuts.

4)  It has now become the norm in Republican tax plans that while there is great specificity in the taxes that would be cut, there is no specificity at all on what taxes would be raised (other than that they are all “loopholes”) so that overall tax collections will remain unchanged.  Mitt Romney did this for his presidential campaign last year, and independent analysis showed that his plan was simply not mathematically possible.  Paul Ryan has similarly left undefined what loopholes he would close to raise sufficient revenues to offset his proposed cuts in tax rates, in the budget plans he has set out for the Republicans in Congress.

It would probably not be correct to say that Cuccinelli is keeping secret what tax loopholes he would close.  Keeping them secret would imply that he has looked at the issue and has a plan that he refuses to disclose.  There is no evidence that any such plan exists, much less any assessment of whether the revenues thus raised would offset the losses.  But it may be astute politically to propose sharp reductions in tax rates, while asserting that he will come up with the same in revenues by closing unspecified loopholes that one can believe only others benefit from, and not yourself.

5)  Capping growth in Virginia government expenditures at inflation plus population growth implies absolutely zero growth in real per capita terms.  But for an economy to grow, you need to grow supportive public services.  Hindrances such as a totally inadequate road and public transportation network result when you do not.

Cuccinelli’s tax plan is radically right wing, with sharp cuts in tax rates focussed on the rich and the corporate sector, while asserting with no evidence that it will be made revenue neutral by closing unspecified “loopholes”.  But this is consistent with Cuccinelli’s history of radically right wing policies, although in the past on social issues.  Cuccinelli has been strongly opposed to equal rights for homosexuals; believes that the police powers of the state should be used against couples for engaging in certain sexual acts in what most thought would be the privacy of their bedrooms; has insisted, as Attorney General, that new regulations be applied retroactively to shut down clinics providing health care services to women, in particular poor and minority women, since these clinics have provided also fully legal (and constitutionally protected) abortion services to women in need; has attacked basic academic freedoms by insisting that the University of Virginia turn over to him materials, including private emails, of a scientist doing research on global warming (he lost the case); co-sponsored a bill which would have declared that human life begins at the moment of conception under Virginia law, and hence women using certain forms of birth control (and presumably also their doctors) would be guilty of murder; within five minutes of Obama signing into law the Affordable Care Act to extend health care to the currently uninsured, Cuccinelli filed a case in court to block the act (he lost the case, and well before the Supreme Court ruling on the law); sponsored legislation which would not allow children of undocumented immigrants to become citizens, despite the US Constitution saying that they are; and more.

The one point on which all agree, liberal and conservative, is that Cuccinelli would radically change Virginia, if he has the chance.

Armed Guards Cannot Stop Mass Shootings

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Following the horrific shootings at  Sandy Hook Elementary school in Connecticut last December, many called for strengthened controls on access to guns in the US.  Most of us thought that even the NRA would now support sensible measures.  However, the NRA then surprised us when, in a flamboyant press conference, NRA head Wayne LaPierre instead called for armed guards to be posted at all schools in the country.  As I noted in a blog post at the time, there is no evidence that this would do any good, that placing more loaded weapons in the schools would indeed make more weapons available to shooters who made the guard one of their first victims, and that even if it were possible to place armed guards in all of the over 130,000 schools in the US, how would one also do this in all of the movie theaters, college campuses, shopping malls, fast food restaurants, churches, commuter trains, Christian prayer rallies, post offices, other work places, and all the other locations where mass shootings had been inflicted in the US in recent years.

The mass shooting at the Washington Navy Yard on September 16 has now provided us a test of the NRA proposal.  The Navy Yard is a military facility, with armed guards and secure entrances.  The shooter, a former full-time Navy reservist, was now a private contractor working at the facility, and came in on morning of September 16 with a shotgun in a backpack.  He had purchased the shotgun, legally, two days before at a gun store in Virginia not far from DC.  He went to a bathroom on the fourth floor of the building, took out his gun, and started to shoot innocent people.  At one point he shot an armed guard, took the guard’s weapon, and then used that weapon to shoot more people.  Police arrived at the scene within two minutes of receiving notice of the shootings, and were inside the building within six minutes.  The police, not the armed guards posted at the facility, eventually shot the killer.  But 13 died, including the shooter.

If armed guards at a military facility cannot stop such mass shootings, how can anyone believe that the NRA’s plan of armed guards in our schools will protect our school children?