What Bruce Bartlett Really Meant to Say

Bruce Bartlett's The New American Economy is an odd mix of clear thinking and muddle. Let me briefly sketch the clear thinking and then see if I can explain him out of his muddle.

Start with the clear thinking. Bartlett has established himself as perhaps the one most independent commentator/analyst on issues of taxes and budget. Here, he doesn't disappoint. He says (a) that he hasn't given up his enthusiasm for small budgets and low public spending; but (b) he thinks it's a lost cause; so (c) he has decided to address the question of what of new taxation (sic) will best serve our needs. As he's done for a while now, he supports a European-style value-added tax (VAT). He presents the case for a VAT with crisp efficiency.

That's the last of seven chapters--about 30 pages of 200 (Bartlett writes tightly, and says a lot in a small space). The rest is virtually all--literally--history, perhaps best understood as Bartlett's own apologia for where he's been and how he got where he is now.

Of the history, the first half of the book is Bartlett at the top of his form. It is an able, even elegant, exposition of Keynesianism, its rise and fall. His core assertion is not exactly new: that Keynes was a conservative who wanted to refine capitalism in order to save it. This should be familiar to anyone except the raving ideologues (and perhaps to some of them). But in presenting the point, Bartlett offers the best brief, non-technical account of Keynes' program that I've ever seen. His analytical clarity also allows him to present a compelling account of where and how Keynesianism went off the tracks. Most of its defenders in the Democratic party had abandoned it by the beginning of the Reagan years, leaving them pretty much unarmed in the ideological wars (Bartlett says they embraced the cause of "industrial policy," but I think the embrace was pretty tepid).

But now, the 50-page heart of the book: an account and defense of supply-side economics. It--the account--is a mess. It is meandering, repetitive and tendentious, pure analytical porridge.
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I think the problem here is that Bartlett is too close to his subject.Well he might be: he is one of the intellectual godfathers of supply-side, and whatever his gifts, you could hardly expect him to present it with critical detachment. At any rate, he certainly doesn't. So let me see if I can help.

In lieu of Bartlett, start with a core ambiguity. "Supply side" is really two different doctrines. One--call it "supply side lite"--is uncontroversial and widely accepted today, though to be fair, it was not so widely accepted in 1980. The other--call it "supply side steroids"--is mostly nonsense, and it has almost no empirical support.

First, supply side lite. How much extra income will we garner if we tax all incomes over $200,000 at 100 percent? The answer is none: no one will work for nothing. Taxes are incentives, and incentives change behavior. As Bartlett correctly argues, this is really nothing new. Taxes on heroin, shotguns, human trafficking, are designed not for revenue: they are designed to discourage disfavored behavior.

But the devil is int he details. Suppose we have a gross domestic product of 100 and a tax rate of 25 percent; we collect 25 in taxes.* Suppose we cut the rate to 20 percent. How much revenue will we lose? You can't say in the abstract, but the answer is almost certainly not five. Some people, incentivized by the new, lower taxes, will work harder and make more money. So in the end, we may lose only three or four. It's an empirical question and it is not easy to answer precisely in the abstract, but the general principle is inarguable.

It works the same the other way around. Suppose we have GDP of 100 and a tax of 20 percent, so we collect 20. How much extra income will we get if we raise the rate to 25? Again, the answer is unkowable, but it is almost certainly not five. At the margin, some people will lighten up on work, and we may get only three or four.

By now this ought to be axiomatic although it is amazing to recall that the government just didn't do this kind of accounting until about 30 years ago. It's tricky: it is hard to get right and easy to get wrong (and, therefore, vulnerableto corruption). But the principle is beyond dispute.

Now, supply side on steroids. The trouble is that the original supply siders weren't content to stop there. They went the whole nine yards and argued that a government could cut taxes without loss of revenue if it simply cut taxes.

There are so many things wrong with this idea that it is difficult to know where to begin, but stick to our example--GDP of 100, tax rate of 25 percent, so revenue of 25. Suppose we cut the rate to 20. The question again becomes: by how much will GDP have to rise in order to make up the loss? The answer is 25 percent --from 100 to 125 (it's the reciprocal of the 20 percent tax cut). Does anybody think that we can generate that kind of growth from that kind of cut?

As baldly stated, I think the short answer is "no," although supply siders have done a lot of tap-dancing to distract attention away from their bare backsides on this one. For example, Arthur Laffer (quoted by Bartlett) liked to talk about what you might call "secondary effects"--for example, if taxes were but, maybe people would work harder, make more money and therefore create new jobs and therefore get people off welfare. So we get not only new jobs, but welfare cuts. Or as another example, if you cut rates you may reduce the problem of tax evasion. Both of these points are plausible in the narrow sense, but they have a distinct aroma of ad hockery about them, and it is hard to conjure up numbers where they really carry the ball.

Perhaps there is one plausible scenario where supply side will actually increase revenue, but it is a special case and a one-off. I'm thinking of the capital gains tax. The point is that the capital gains tax is near-discretionary. For the most part, the investor doesn't have to sell if he doesn't want to. So if he thinks the capital gains tax is too high he simply holds on. It is entirely conceivable that if the capital gains tax is cut "enough," it will generate a flood of pent-up selling, perhaps large enough to compensate --or more than compensate--for the rate reduction. Perhaps this is particularly true if investors feel the rate will go up again later. In any event, it is a one-off: once the pig gets through the python, we are back to ordinary collections again.

Bartlett makes all of the points that I've made so far, sometimes glancingly and indirectly and often without stressing them (he makes no effort, for example, to press the distinction between lite and steroids). More that that, he seems to through in comments on a range of other issues which may be related to supply side-or may not be, but at best, whose relationship has to be defined and examined. I mean: the question of "rate progressivity;" of deadweight losses; of stocks v.flows--stuff like that. All important issues, but if you are going to talk about them, you'd better be prepared to spell out what you are saying and why it matters.

Indeed, Bartlett is similarly coy about the whole context of the early Reagan years when supply side was born. He talks about the 1981 tax cuts and (much later) about the later tax increases, but he doesn't make any general effort to assess the fiscal landscape of the early years. He doesn't say anything one way or the other about the extent to which the "Reagan recovery" is really a "Carter recovery"--the natural happy ending to the earlier bad times. And any book that can write about economics in the early Reagan years without mentioning Paul Volcker--I almost want to say it just shouldn't be taken seriously.

But Bartlett should be taken seriously. When he is on his game, he is a master of crisp and comprehensible analysis. He seems to have his thumb on just about everything thaat has happened in tax and spending policy over the last 70 years (possible exception: Paul Volcker). And you've got to be impressed by anybody with his independence of mind. So, read the Keynes stuff, it is first-rate. Read the policy prescription in the last chapter if you want to know why Bartlett favors a VAT. Even read the middle on supply-side if you like but on that one, you'll have to do the heavy lifting yourself.
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*I have a vague sense I have used this example before. No matter, it's a good one.

Bartlett on What the Republicans Should Do Next

I never know quite what to do with Bruce Bartlett. As a former adviser to Jack Kemp, he has his thumbprints all over one of the silliest initiatives in modern public finance : the supply-side revolution which held (in its extremest form) that you can make big tax cuts without losing a penny--not a penny!--in public revenue. In fairness, I'd have to concede that Bartlett himself never ventured quite so far into moonbat land as some of his allies. He remains one of the most adventurous and (mostly) intellectually honest figures on the "conservative" (if you can call it that) side of public revenue discussions.

He's back this week (in Forbes), arguing that it's time for conservatives to put the past behind:

The original [supply-side] idea was to cut marginal tax rates--the tax on each additional dollar earned--in order to revive the supply side of the economy by stimulating work, saving, investment and entrepreneurship. Now that argument is generally accepted. I am not aware of any reputable economists on the left who want to raise the top rate back to 70%, or even 50%. The most that they talk about is going back to the 40% top rate that existed under Bill Clinton. Contrary to what some Republicans think, this will not destroy the economy; it did pretty well after Clinton raised the top rate in 1993, despite Republican claims of doom.

Republicans also have to accept that there is a limit to tax-rate reduction. Cutting the top rate from 70% to 50%, as Reagan did in 1981, provided a huge increase in the after-tax rate of return. Some taxpayers went from keeping 30 cents on a dollar of interest or dividend income to keeping 50 cents--a 66% increase. But dropping the top rate from 40% to 35%, as George W. Bush did, only increased the after-tax return by 8.3%.

That's not nothing. But one can hardly expect the same kind of economic gain from reducing the top rate a little from an already low level as one would get from reducing a very high rate a lot. Nor can we expect a small increase in the top rate from a historically low level to have disastrous effects. Yet some Republicans continually make extravagant claims for small tax cuts and predict disaster from small increases when there is no evidence to support either proposition.

Instead of defending the Bush tax cuts, most of which expire next year under laws that Republicans wrote, I think it would be better for them to abandon Bush's tax policies altogether. The evidence is pretty clear that they did little good for the economy. Therefore, getting rid of them will do little harm.

Going forward, I think Republicans should try to be the party of investment, because Democrats are basically the party of consumption. While there is certainly a case to be made for raising consumption in the short run, the fact is that many of the consumption-oriented policies being proposed by Democrats in Congress would be proposed even if the economy was booming. There is never a time when Democrats aren't in favor of more health and education spending, aid to state and local governments, and so on--just as there is never a time when Republicans aren't for tax cuts.

"Investment" for present purposes, apparently means support for privatization and revival of the Investment Tax Credit. Somewhat surprisingly, "education" in this model turns out to be "consumption" not investment (I assume this is a swipe at English majors?).

A side issue: supporting privatization, Bartlett says as if beyond controversy tdhat "Amtrak and the Post Office don't work very well." Really? I use the post office a lot these days: brisk, efficient, and the price is right. And Amtrak--back in 2006, I did a Wash/NYC commute for a few months on Acela, and I loved Amtrak. Thank you, taxpayers, for making my life so much easier, but at least you can take consolation from the fact that you have at least one happy camper.

Two Questions and a Hypo for Supply Siders

I grew up in an age when conservatives paid their bills. Which may explain why I can’t think of anything that bespeaks the intellectual bankruptcy of modern “conservatism” than the idea of “supply-side economics”—the idea that you can retain or even increase revenues by cutting taxes. I suppose it was possible to give it grudging respect back in the 80s when the idea was new and untested. But now that we’ve had a chance to think of it. Well, maybe “think” isn’t the word.

Anyway, this is all a ranting intro to a couple of helpful snippets that offer ammunition in the supplied “debate” (I can see I’m overdoing the quotation marks here—but it is stretch to use the word “debate” in any discussion that is so much an article of faith).

First, from Andrew Samwick, former Chief Economist at W.’s Council of Economic Advisers (link):

Here are the two questions [supply-siders] should answer if they believe that the 2001 and 2003 tax cuts raised revenues:

1. How much wider would the deficit be now if those tax cuts had not been enacted?

2. How much lower would tax rates have to go in order for you to stop insisting that further tax cuts would raise more revenue?

I would press it a step further: if they believe taxes decrease revenues, would they offer subsidies to increase revenues. And if so, to whom and by how much?

The second, by “Bill,” hoisted from the comments at Dani Rodrik’s weblog:

Assume an economy with a $10 trillion GDP. Let's say that current taxes give 30% of that ($3 trillion), to the federal government.

Supply-siders come along and cut tax rates. The net effect of the cuts is that the federal government receives only 25% of GDP, or $2.5 trillion.

To even EQUAL the previous tax revenues (let alone exceed them, as the argument often goes), growth alone will have to supply $500 billion of tax revenues.

So, at the new 25% rate, we need a GDP of $12 trillion to bring in the pre-cut amount of tax revenue: $3 trillion.

In other words, we need to achieve growth of *almost 20%* to equal those revenues.

A little more formally: suppose a tax rate of 10 percent yields $100. Then the value of the economy must = 100/0.1=1,000. If we want to raise $100 at a rate of 8 percent, how big an economy will we need? The answer is 100/0.08=1250. So, a 20 percent drop in rates requires a 25 percent increase in base. Not plausible.

Samwick also points to Jeff Frankel’s commendable catalogue of supply-side looniness here. This might all seem abstract and hypothetical except it seems like we’re going to be hearing this stuff recycled my the McCain campaign all summer.

Supply Side as Fantasy

I’m no economist, but I have long suspected that supply-side had a lot more to do with political marketing hype than it did with true economics. Comes now Paul Krugman (and Brad DeLong) weighing in with a more explicit articulation of the point (link). Part of what seems to be a burgeoning on-line discussion of the nature of supply-side, kicked off by the estimable Mark Thoma (link).

I’ve always been particularly irritated by the legendary Laffer Curve. I mean—of course it is true that “too much” taxing reduces revenue; the question is “how much.” And to draw a curve and find a limit, applying the methods of first-semester calculus—why, from 1870 to 1950, economists did almost nothing else. Laffer has about as much to do with the invention of supply-side as Abner Doubleday has to do with the invention of baseball (remarkably, one person who seems to agree with me on this is Laffer himself—see the Wiki article supra; he attributes it to, inter alia, John Maynard Keynes).

A somewhat more charitable view of supply-side comes from Greg Mankiw (link), who dredges up what may be the money quote (from Herb Stein): “"There is nothing wrong with supply-side economics that division by ten wouldn't fix."

Supply Side Seminar

Earlier I gave a Google favorite link to Bruce Bartlett's valediction to supply-side economics (link). Brad DeLong points out that it has morphed into a first-rate on-line seminar (link).