Naked Economics by Wheelan, Charles (best books to read .TXT) 📗

this point, I am. The problem with the tax-cuts-increase-revenue fallacy is that it confuses the debate over our public finances by giving the illusion that we can get something for nothing. You should recognize by now that this is not usually the case in economics. There are a lot of good things about tax cuts. They leave more money in our pockets. They stimulate hard work and risk-taking. In fact, the increased economic activity caused by lower tax rates usually does help to make up for some of the lost revenue. One dollar in tax cuts may only cost the government eighty cents in lost revenue (or fifty cents in extreme cases), as government is taking a smaller slice of a bigger pie.

Think about a simple numerical example. Suppose the tax rate is 50 percent and the tax base is $100 million. Tax revenues would be $50 million. Now suppose that the tax rate is cut to 40 percent. Some people work extra hours now that they get to keep more of their earnings; a few spouses take second jobs. Assume that the tax base grows to $110 million. Government revenue is now 40 percent of that bigger economy, or $44 million. Government has lost revenue by taking a smaller percentage of preexisting economic activity, but some of that loss is offset by taking a percentage of the new economic activity. If there had been no economic response to the tax cut, the 10 percentage point cut in the tax rate would have cost the government $10 million in lost revenue; instead, only $6 million is forgone. (In the case of a tax increase, the same phenomenon is likely in reverse: The increase in new revenues will be offset in part by some shrinking of the economic pie.) Tax experts typically take these behavioral responses into account when projecting the effects of a tax cut or a tax increase.

In all but the most extraordinary of circumstances, there is no free lunch. Lower tax rates mean less total government revenue—and therefore fewer resources to fight wars, balance the budget, catch terrorists, educate children, or do anything else governments typically do. That’s the tradeoff. The bastardization of supply-side economics has taken an important intellectual debate—whether we should pay more in taxes to get more in government services, or pay less and get less—and transformed it into an intellectually dishonest premise: that we can pay less and get more. I wish that were true, just as I wish that I could get rich by working less or lose weight by eating more. So far, it hasn’t happened.

Having said all that, the proponents of smaller government have a point. Lower taxes can lead to more investment, which causes a faster long-term rate of economic growth. It is facile to dismiss this as a bad idea or a policy that strictly favors the rich. A growing pie is important—perhaps even most important—for those with the smallest slices. When the economy grows slowly or sinks into recession, it is steelworkers and busboys who are laid off, not brain surgeons and university professors. In 2009, in the midst of the recession induced by the financial crisis, the American poverty rate was more than 13 percent—the highest rate in more than a decade.

Conversely, the 1990s were pretty good for those at the bottom of the economic ladder. Rebecca Blank, a University of Michigan economist and member of the Council of Economic Advisers in the Clinton administration, looked back on the remarkable economic expansion of the 1990s and noted:

I believe that the first and most important lesson for anti-poverty warriors from the 1990s is that sustained economic growth is a wonderful thing. To the extent that policies can help maintain strong employment growth, low unemployment, and expanding wages among workers, these policies may matter as much or more than the dollars spent on targeted programs for the poor. If there are no job opportunities, or if wages are falling, it is much more expensive—both in terms of dollars spent and political capital—for government programs alone to lift people out of poverty.16

So, for two chapters now I have danced around the obvious “Goldilocks” question: Is the role that government plays in the United States economy too big, too small, or just about right? I can finally offer a simple, straightforward, and unequivocal answer: It depends on whom you ask. There are smart and thoughtful economists who would like to see a larger, more activist government; there are smart and thoughtful economists who would prefer a smaller government; and there is a continuum of thinkers in between.

In some cases, the experts disagree over factual questions, just as eminent surgeons may disagree over the appropriate remedy for opening a clogged artery. For example, there is an ongoing dispute over the effects of raising the minimum wage. Theory suggests that there must be a trade-off: A higher minimum wage obviously helps those workers whose wages are raised; at the same time, it hurts some low-wage workers who lose their jobs (or never get hired in the first place) because firms cut back on the number of workers they employ at the new higher wage. Economists disagree (and present competing research) over how many jobs are lost when the minimum wage goes up. This is a crucial piece of information if one is to make an informed decision on whether or not raising the minimum wage is a good policy for helping low-wage workers. Over time, it is a question that can be answered with good data and solid research. (As one policy analyst once pointed out to me, it may be easy to lie with statistics, but it’s a lot easier to lie without them.)

More often, economics can merely frame issues that require judgments based on morals, philosophy, and politics—somewhat as a doctor lays out the options to a patient. The physician can outline the medical issues related to treating an advanced cancer with chemotherapy. The treatment decision ultimately resides