Understanding the Effects of the
Bush Tax Cut Expiration
Presented by:
Dr. Frederick R. Treyz
Chief Executive Officer
Fall 2010 WebEx Series
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Bush Tax Cuts
• Economic Growth and Tax Relief Reconciliation Act of 2001 (EGTRRA)
– This legislation significantly reduced tax liabilities between 2001 and 2010 by
cutting individual income tax rates, increasing the child tax credit, repealing estate
taxes, raising deductions for married couples who file joint returns, increasing tax
benefits for pensions and individual retirement accounts, and creating additional
tax benefits for education.
• Jobs Growth Tax Relief Reconciliation Act of 2003 (JGTRRA)
– This legislation reduced taxes by advancing to 2003 the effective date of several tax
reductions previously enacted in the EGTRRA. JGTRRA also increased the
exemption amount for the individual alternative minimum tax, reduced the tax
rates for income from dividends and capital gains, and expanded the portion of
capital purchases that businesses could immediately deduct through 2004.
• Although some of these law’s provisions have been made
permanent, most are scheduled to expire on or before
December 31, 2010.
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Economic Considerations
Source: BLS
Source: CBO
• Federal expenditures
are exceeding federal
revenues at an
increasing rate
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• Raising taxes in a time of
high unemployment may
slow the economic
recovery
Capitol Hill Agendas
Democrats
Republicans
•
•
•
•
Let taxes increase for high-income
households; extend tax cuts for
middle and low-income households
Economic Rationale:
– High-income earners, investors
and descendents have lower
marginal propensities to
consume
– Keeping the rates low has less
“bang for the buck” in terms of
short-term stimulus
– Having rates increase helps
manage long-term deficit
problems
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Extend tax cuts for all households
Economic Rationale:
– While high-income earners,
investors and descendents may
have lower marginal
propensities to consume, low
tax rates incentivize investment
– Keeping the rates low
encourages investment
– Higher investment levels are
worth short-term increases in
the deficit
Possible Scenarios
• Allow all tax cuts to expire (do nothing)
• Extend all tax cuts to all taxpayers for a
limited time (i.e. 2 years)
• Extend all tax cuts to some taxpayers (i.e.
individuals making less than $200K and married couples
making less than $250K … “Obama’s Plan”)
• Make all tax cuts permanent
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Scenario 1
Scenario 1: Offset Dividend Tax Rate Increase with Increased Government Spending
•
$10B/year for 10 years in dividend taxes (modeled as increases in capital costs) spread
across all 169 industries
•
$10B/year for 10 years increase in government spending
•
Run using Historically Observed model closure
–
•
•
assumes that capital markets do not adjust during the first two years following an exogenous
shock – during the third and fourth year of a policy simulation, an implicit Federal Reserve
reaction function changes the cost of capital sufficiently to restore employment to a level that
is consistent with a non-accelerating inflation rate of unemployment
Note: According to Bloomberg Businessweek article, extending current dividend and
capital gains tax rates will cost ~$315B over 10 years (~$238B under Obama’s plan)
Note: According to CBO, extending current dividend and capital gains tax rates will cost
~$348B over 10 years
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Scenario 2
Scenario 2: Differ Income Tax Rate Increase for 2 Years
•
Two year extension for higher-income individuals/households ($70B/year)
•
After sunset period (2013) assumes a corresponding $70B/year tax increase
•
Run using Historically Observed model closure
–
•
•
•
assumes that capital markets do not adjust during the first two years following an exogenous
shock – during the third and fourth year of a policy simulation, an implicit Federal Reserve
reaction function changes the cost of capital sufficiently to restore employment to a level that
is consistent with a non-accelerating inflation rate of unemployment
Note: According to Bloomberg Businessweek article, extending current income tax rates
for higher income individuals will cost $700B over 10 years.
Note: This scenario is entirely hypothetical. We impose an additional $70B/year
increase in personal taxes to balance the extension. While total net income tax changes
for high income individuals is equivalent to that proposed by democrats, the timing is in
line with those who propose a two year extension.
Note: We have assumed that the propensity to consume for higher income tax payers is
the same as the average tax payer.
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Issues Not Considered
• Differing rates of marginal propensity to
consume
• Changes to levels of savings
• Long-term expiration
• Feedbacks
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Tax PI Model Integration
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Tax PI Model Overview
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Economic-Fiscal Dilemma
• Federal and States are in a dual crisis
– Economic
– Fiscal
• Fiscal crisis solution options
– Raise taxes
– Cut government spending
• Economic crisis problems
– Fiscal solution options harm economy
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Tax PI Model Linkages
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Importing Tax Data
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Tax Inputs and Variables
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Policy Variables
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Shortfalls in the U.S.
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Questions/Comments?
Frederick R. Treyz
Christopher S. Gerlach
Chief Executive Officer
Associate Economist
Headquarters:
433 West St.
Amherst, MA 01002
District Office:
700 12th St. NW, Suite 700
Washington, DC 20005
Ph: 413.549.1169
fred@remi.com
www.remi.com
Ph: 202.904.2490
chris.gerlach@remi.com
www.remi.com
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Structural Model
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New Economic Geography
Model Structure
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