WASHINGTON - July 14 -
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The mid-year budget estimates released this week by the Office of Management and Budget (OMB) forecast higher revenues and a lower deficit for fiscal year 2006 than OMB had projected earlier this year. The Administration has greeted the projections as evidence that its tax cuts are “working,” by generating strong economic and revenue growth. The President even suggested that the tax cuts are paying for themselves — i.e., that they have not reduced revenues at all. The reality, however, is quite different.

After adjusting for inflation and population growth, revenues have simply returned to the level they reached more than five years ago. Real per-capita revenue growth since the current business cycle started in March 2001 has been near zero. In previous post-World War II business cycles, in contrast, real per-capita revenues grew an average of about 10 percent during the business cycle’s first five and a half years.

While revenues have picked up in 2005 and 2006, these revenue “surprises” followed negative revenue “surprises” in 2001, 2002, and 2003, in which revenues came in well below the levels OMB had projected earlier in the year (even after adjusting for the cost of enacted tax cuts).

In 2001-2003, revenues fell in nominal terms for three straight years for the first time since before World War II. By 2004, revenues were at their lowest level since 1959 as a share of the economy. The recent so-called “surge” in revenues is essentially a rebound from unusual revenue declines.

Rather than booming, the economy actually remains weaker than in the average post-World War II business cycle, especially in employment and wages/salaries. Economic growth during the current business cycle has been somewhat below — and investment growth has been considerably below — the average for previous postwar business cycles. Further, employment growth has been exceptionally weak in this business cycle, and wage and salary growth has been weaker than in any previous postwar business cycle.

The only key economic indicator in which the current business cycle has significantly outperformed the postwar average is corporate profits. This combination of strong corporate profits and weak wages and salaries is consistent with other evidence that the lion’s share of the gains of the current recovery has gone to those at the top of the income spectrum. As the Congressional Budget Office recently suggested, increased income concentration may also help explain this year’s stronger-than-expected revenues, since high-income taxpayers pay taxes at higher rates than less-affluent ones.

The President’s claim that his tax cuts have paid for themselves is refuted by the Administration’s own analysis. In remarks on July 11 touting OMB’s revised deficit projections, President Bush stated, “Some in Washington say we had to choose between cutting taxes and cutting the deficit. . . . Today’s numbers show that this was a false choice. The economic growth fueled by tax relief has helped send our tax revenues soaring.”

These remarks mirror previous statements by the President, the Vice President, and key congressional leaders that the increase in revenues in 2005 and the increase now projected for 2006 prove that recent tax cuts are paying for themselves — that the economy expands so much as a result of tax cuts that it produces at least as much revenue as it would have without the tax cuts.

But a Treasury Department analysis presented in OMB’s Mid-Session Review now confirms what outside experts have consistently said: tax cuts do not come anywhere close to paying for themselves. According to the Mid-Session Review, extending the President’s tax cuts could have positive long-term economic effects that might raise national income by “as much as” 0.7 percent over the long term. (Treasury’s other models show even weaker responses.) Even if this best-case estimate is accepted, the projected increase in national income would pay for less than 10 percent of the cost of the tax cuts.

For example, in 2016 the tax cuts will cost $314 billion, according to the Joint Committee on Taxation. In that year, a 0.7 percent increase in national income would be equivalent to $146 billion, of which no more than 20 percent would be paid in taxes. The additional economic growth would offset at most about $29 billion (20 percent of $146 billion) of the tax cuts’ $314 billion cost, or less than 10 percent of it. The tax cuts would still add substantially to the deficit.

Estimates from non-Administration sources are even more sobering. The Congressional Budget Office, the Joint Committee on Taxation, and academic economists have all found that deficit-financed tax cuts, such as those enacted since 2001, are as (or more) likely to reduce national income over the long run as to increase it, because of the corrosive effects over time of persistently high deficits. If the tax cuts’ long-run economic impact is negative, their long-run cost would be even higher than anticipated, rather than lower.

A $300 Billion Deficit in the Fifth Year of an Economic Recovery Isn’t Good News

The bottom of the most recent recession is now four and a half years behind us. With the economic recovery in a mature phase, the government should be running small deficits or even surpluses in order to increase national saving (which is at historic lows) and help prepare the nation for the baby boomers’ impending retirement, which will place new pressures on Medicare, Medicaid, and Social Security.

Instead, the Administration is now celebrating a revised 2006 deficit projection of about $300 billion. Deficits at this level mean that the national debt is growing faster than the economy, which puts an increasing burden on future generations of taxpayers.

Moreover, deficits inevitably will rise when the current expansion ends and the next recession starts, or even sooner; the Administration itself projects that the deficit will rise in 2007. And the new projections do not materially alter the grim long-term budget picture. When asked whether the new projections indicate that deficits will be lower in future years, former Congressional Budget Director Douglas Holtz-Eakin answered: “No.”

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