HEADLINE: BAD TIMING Bush Tax Cut Is Far Too Small Upfront And Far Too Large In Later Years
Randall Dodd and Max B. Sawicky
4 February 2001
WASHINGTON - Preventing a recession is like courtship. Timing is
everything. The economy will never love a tax cut that gives too little
when it yearns for more. Nor will it love one that gives too much when
it needs some space. </FD:"Lead"> This is roughly the problem
with President Bush's tax policy. It is too small now, when less is not
more, and too large later, beyond the horizon of the current economic
Since economic growth is flagging, any proposed stimulus should be one
that takes effect immediately. The effects of President Bush's
proposal, in an effort to hold down costs over the next 10 years, are
delayed. The initial impact of his tax cut is about $21 billion, or 0.2
percent of U.S. output - too little for any meaningful stimulus.
Most of the Bush tax cut benefits the richest Americans. These
high-income beneficiaries are likely to bank a good bit of their
windfall. But low- and middle-income people need to spend every dollar
they get in order to support their living standards.
If half of the first year's tax cut is saved, then the tiny 0.2 percent
becomes 0.1 percent. The huge cost of permanent tax cuts could spook
the bond markets and their champion, Alan Greenspan. Fears of the
long-term effect on the budget could push interest rates up and the
In his congressional testimony, Green-span said that there should be an
option of reducing the size of a tax cut if the surplus turns out to be
smaller than expected.
These higher rates will raise the cost of short-term debt, variable
rate debt and any new borrowing, thereby hurting heavily indebted
businesses, new borrowing for investment and interest-sensitive
purchases (like houses and cars). Higher rates also have a strong
depressing effect on securities prices, as we have seen in the past
Here again, timing makes matters worse. Financial markets will react to
the tax cuts and hike interest rates well before the cuts show up in
paychecks and tax returns. These negative effects will block the tiny
stimulus. No wonder that we saw Bush's own nominee for Treasury
secretary, Paul O'Neill, disclaim the notion that Bush's tax cuts could
avert an economic downturn.
We have to hope that Greenspan's Fed will further reverse last year's
tightening policy with additional decreases in short-term interest
rates. With significantly lower intermediate and long-term rates,
households, businesses and municipal governments can refinance their
debts, clearing the way for more consumption, investment and local
Besides waiting for Greenspan, the best fiscal policy is a quick kiss
on the cheek for consumers. This could be accomplished in a variety of
ways, both on the tax and spending sides.
In thinking of suitable tax-cut beneficiaries, we ought to consider
those working families who will suffer the most in a downturn. The vast
majority of taxpayers owe more in payroll taxes than in income taxes;
they should be first in line for tax cuts.
We should be especially wary of recession fears being exploited to
provoke an unthinking stampede toward permanent income tax cuts.
Permanent cuts that are considered affordable in the long run are
likely to be insignificant in the short term.
Conversely, a cut that would be large enough to matter over the next
six months would be inordinately large, if it remained in law for an
extended period of time.
We will know the new administration is serious about averting a
recession when it proposes measures that kick in today and
automatically sunset when economic indicators improve; otherwise, it'll
just prove lovesick.