The Bush administration vs. its economists
The Economic Report of the President contradicts President Bush and other top officials.
Last week, President Bush's Council of Economic Advisors (CEA) released the 2003 Economic Report of the President (ERP) to little notice from the press or public [2.7 MB PDF]. Yet the report, which is produced by the professional economists and staff of the CEA, directly contradicts a number of public statements by the President and other administration officials on two key economic issues: the effects of tax cuts on revenue and the relationship between budget deficits and interest rates.
As the federal budget has slid into deficit, President Bush has become more outspoken in his claims that tax cuts actually increase revenues for the federal government, as Dana Milbank has documented in the Washington Post. On November 13, the President stated, "Well, we have a deficit because tax revenues are down. Make no mistake about it, the tax relief package that we passed -- that should be permanent, by the way -- has helped the economy, and that the deficit would have been bigger without the tax relief package."
Then, on January 7, he made a similar claim in promoting his new tax cut package, claiming that the proposals "are essential for the long run... to lay the groundwork for future growth and future prosperity. That growth will bring the added benefit of higher revenues for the government -- revenues that will keep tax rates low, while fulfilling key obligations and protecting programs such as Medicare and Social Security."
Other administration officials have followed Bush's lead, including Vice President Cheney during a speech on January 30 at the Conservative Political Action Conference:
The President's proposals will reduce the tax burden on the American people by $670 billion over the next 10 years. By leaving more money in the hands of the people who earn it, people who will spend and invest and save and add momentum to our recovery, we'll help create more jobs and ultimately increase tax revenues for the government.
And Press Secretary Ari Fleischer added this during a January 8 press briefing: "The entire package the President does believe will lead to growth, which will over time grow the economy, create additional revenues for the federal government and pay for itself."
The reality is that almost all economists view these claims as implausible, and even the most ardent proponents of so-called supply-side economics have disowned their previous claims to this effect, as Jonathan Chait pointed out in The New Republic. The ERP echoes the vast majority of economists in this respect, stating that tax cuts are "unlikely" to recover all lost revenue (much less increase net revenue):
The modest effect of government debt on interest rates does not mean that tax cuts pay for themselves with higher output. Although the economy grows in response to tax reductions (because of higher consumption in the short run and improved incentives in the long run), it is unlikely to grow so much that lost tax revenue is completely recovered by the higher level of economic activity.
In an administration that almost never deviates from its official message, this is an extraordinary statement from Bush's own hand-picked experts. The ERP likely deviates from the administration's talking points because it is produced by professional economists with a desire to protect their intellectual reputations in a field with virtually unanimous agreement that income tax cuts almost always reduce revenue (there is significant disagreement, however, over the size of these revenue losses, which are reduced by positive feedback effects).
Bush administration officials have also aggressively denied a link between federal budget deficits and increased interest rates in response to criticism from former Clinton administration officials and others, a view that is also contradicted by the ERP. For example, Vice President Cheney said during a January 10 speech that "[t]hey argue that increased deficits necessarily lead to increased interest rates, which, in turn, slows economic growth. But the argument has one slight flaw. The evidence of recent years simply doesn't support it." He then cited the low interest rates seen today despite federal budget deficits.
Office of Management and Budget Director Mitch Daniels offered an even bolder version of the claim during a February 3 press briefing, arguing that there is "just no evidence" for a relationship between deficits and interest rates:
Well, the idea that there is some connection between deficits and interest rates is an article of faith for some people, but I say "faith" because there's just no evidence, zero. And at least at the levels that we are now experiencing, historically very moderate -- and as we see it, declining deficits -- one would not expect an impact. You can expect an impact from greater economic growth, which we all hope will occur and which this budget attempts to make more likely. But as a direct effect of these deficits, no. We've gone from surplus to deficit, and interest rates have gone down. So I do not see that correlation.
Cheney and Daniels obfuscate by arguing that low interest rates in a time of budget deficits disprove the theory that higher deficits lead to increased interest rates. While some may crudely posit a lockstep linkage, the key issue is whether deficits, particularly long-term deficits, cause interest rates to go up by crowding out private investment when other factors are held constant. The fact that interest rates have gone down recently may be evidence that the strength of the relationship is less than some claim, but it does not necessarily disprove the argument that a relationship exists.
CEA chairman Glenn Hubbard has joined Cheney and Daniels in castigating the view that higher budget deficits increase interest rates and therefore hurt economic growth, calling it "nonsense" and "Rubinomics" (referring to former Treasury Secretary Robert Rubin) [Wall Street Journal online subscription required]. He also told the New York Times in November, "As an economist, I don't buy that there's a link between swings in the budget deficit of the size we see in the United States and interest rates. There's just no evidence."
But when he's being less rhetorical, Hubbard has admitted some connection between the two. UC-Berkeley economist and former Clinton administration official Brad DeLong points out (here and here) that Hubbard's statements contradict those he has previously made in his economics textbook. And when pushed on details, Hubbard concedes a relationship; CBS Marketwatch reported that Hubbard believes "an extra $200 billion of deficit that lasted a year would only raise interest rates by a tenth of a percentage point at the most, hardly enough to crimp investment." (Note: He is eliding the criticism that long-term deficits raise interest rates significantly more here.)
The ERP expresses a similar view, again in contradiction with the administration's talking points, conceding that a relationship exists between deficits and higher interest rates but describing it as a "modest effect":
Some calculations ... imply that interest rates rise by about 3 basis points for every $200 billion in additional government debt. Given this relationship between government debt and interest rates, concerns that higher interest rates would choke off the stimulative effects of recent tax reductions seem unwarranted. For example, this relationship implies that the $1.3 trillion in tax relief included in EGTRRA would raise interest rates by only about 19 basis points--a modest cost to be set against the long-term incentive-based benefits expected from lower marginal tax rates.
In both cases, the ERP is simply inconsistent with the statements of Bush, Cheney, Fleischer and Daniels. The administration owes it to the public to get its story straight and stop making pronouncements about economics that its own experts disagree with. Unfortunately, few people read the ERP, an obscure federal document that - this year at least - deserves serious attention.
Postscript: Despite the CEA's willingness to make a few politically sensitive admissions in the ERP, it fails to admit the relationship between the Bush tax cuts and the federal budget deficit, stating that the standard administration line that "[t]he return of the deficit was primarily due to four factors: the lingering effects of the recession of 2001, the stock market plunge, increased Federal expenditure necessitated by the war on terrorism, and the costs of homeland security." But according to the respected liberal budget analysts at the Center on Budget and Policy Priorities, Congressional Budget Office data show that tax cuts enacted in the last two years are responsible for 30% of the short-term deterioration of the federal budget since 2000 (228K PDF). CBPP found that the tax cuts are also responsible for 31% of the overall deterioration of the projected ten-year surplus from 2002-2011, and that these figures changed only slightly when they were re-calculated using estimates from CEA that project increased levels of economic activity in response to the tax cuts.
Update 2/16 4:08 PM EST: Dana Milbank cites this column as a primary source for a Washington Post article today.
Related links: -Taxing the public's trust (Bryan Keefer, 1/10/03)