 here
is an old joke about some people who fell down a well. When they were
unable to climb out, the economist among them said, "Assume a
ladder." The joke is funny because it's true. Economists make
a lot of assumptions in their work. They have to, because the enormity
and complexity of the economy defy comprehension.
This is perfectly
fine for college professors, who write only in obscure academic
journals that no one reads, which exist only so people can get tenure
at universities by publishing in them. But making too many assumptions
can be very, very dangerous when it comes to public policy. Too
often, economically unsophisticated politicians are led to adopt
policies that sound good in theory, but in practice never work.
A recent example
of this can be found in "Economic Stimulus: Evaluating Proposed
Changes in Tax Policy," a new paper by the Congressional Budget
Office. It is the sort of thing that would probably get an "A"
if written by a graduate student at Harvard, but it can cause great
mischief when put in the hands of politicians. (Keep in mind that
getting an "A" at Harvard is not much of an accomplishment
these days — half of all grades given out there are A's.)
The purpose
of the CBO paper is to grade various tax proposals that have been
put forward to increase economic growth in the short-run. Since
it deals only with tax initiatives, monetary policy is ignored,
as are proposals for increased government spending. Moreover, the
initiatives
examined are not necessarily real proposals, in the sense that there
is actual legislation that is being seriously pushed by the White
House or members of the leadership in Congress.
The CBO report
goes on to assert that certain proposals are being offered as measures
to increase short-term growth, when in fact this is not the case
at all. For example, it cites "industry representatives"
as advocating changes in taxes on multinational corporations in
order to stimulate short-run growth. Well of course that is what
lobbyists are going to say. They have said the same thing about
every single tax and spending proposal they support ever since Sept.
11. By treating such measures as serious stimulus proposals, all
the CBO is doing is setting up straw men that are easily knocked
down.
A more serious
criticism of the CBO analysis is that it just assumes away all of
the implementation problems of the proposals that it analyzes. Tax
policy is treated like a water hose that can be turned on and off
at a moment's notice, with the flow directed precisely where needed
and nowhere else. This is the equivalent of assuming a ladder.
Consider the
proposal for a payroll tax holiday, which the CBO rates highest
in terms of its "bang for the buck." Although it acknowledges
that changing payroll-tax withholding would take time for employers
to prepare, the CBO seems unaware of a report by the National Payroll
Consortium that it would take up to 6 months for payroll systems
to be adjusted to accommodate it. For this reason, the Democratic
staff of the Joint Economic Committee gives the payroll-tax holiday
low grades for stimulus.
The CBO also
says that the proposal for a sales-tax holiday has merit. The problem
here is that there is no national sales tax to suspend in order
to encourage consumers to spend. To have a sales tax holiday, therefore,
would require states and localities to suspend their sales taxes.
Not only would this require legislative action in hundreds of different
jurisdictions, but it would force the federal government to estimate
the revenue loss in each case in order to reimburse state and local
governments properly.
Again, the
CBO acknowledges in passing the difficulty of actually implementing
a sales-tax holiday. Indeed, it even notes that the plan could be
counterproductive, because people will put off buying in expectation
of a tax holiday. So unless someone can figure out a way to wave
a magic wand and make this proposal take effect almost instantaneously,
it could easily do more harm than good. Nevertheless, the CBO says
that a sales-tax holiday has a lot of bang for the buck, which will
surely make it attractive to many politicians.
What the CBO
report really represents is fine-tuning at its worst. By focusing
only on the short-term and grading proposals mainly on their static
budgetary effect, the CBO implicitly endorses proposals that it
knows will be bad for growth in the long-term. At this point in
the business cycle, it makes more sense for the federal government
to forget about short-term stimulus altogether, and just focus on
sustaining the economic recovery that is already visible on the
horizon.
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