Heritage Foundation Leadership for America

The Issue in Brief

The President and Congress can take at least one important step toward fundamental tax reform this year. The President can instruct the Treasury Department and the Office of Management and Budget (OMB), and Congress can instruct the staff of the Joint Committee on Taxation (JCT) and the Congressional Budget Office (CBO), to employ dynamic economic models as a matter of routine when estimating the fiscal effects of tax policy changes. Any fundamental reform of the tax code is highly unlikely unless policymakers have the ability to estimate and compare the likely economic benefits from competing tax reform proposals.

Congress for too long has regularly debated tax policy changes without seriously considering how those changes might affect the economy. Absent an understanding of how tax and fiscal policies influence economic behavior, the static "cost" estimates produced by the official revenue estimators (the staffs of the JCT, CBO, and the Treasury Department's Office of Tax Analysis) often are shockingly wrong and nearly always misleading. The Joint Committee's routine analysis of tax bills, for instance, implies that tax policies have no effect on the general economy, never produce a feedback of higher or lower revenues, and never cause resources to shift from one use to another.

As a result, the current static approach creates an artificial and incorrect bias in favor of tax rate increases and against pro-growth tax rate reductions. Without a change in this policy, that bias will persist and meaningful tax reform will be nearly impossible to accomplish.

An important example of the flaws and inconsistency resulting from the failure to use reality-based scoring is the JCT's analysis of death tax repeal in the 2001 tax bill. The Joint Committee's "scoring" of the death tax provisions of the President's plan changed dramatically between April 3 and May 4, 2001.1 On April 3, it was estimated that the phaseout of federal death taxes would lower revenue by about $186 billion over the 10-year period from 2002 through 2011. By May 4, just one month later, the JCT estimate of the costs of phasing out death taxes was $306 billion.

This dramatic revision undermined plans by the House leadership and the President to repeal death taxes permanently. In fact, it appeared just a week before the Ways and Means Committee was scheduled to report the President's tax plan to the full House. Not only did this additional amount put the total cost of the bill well beyond the congressional budget resolution and the President's own budget proposal, but it also forced the bill writers to create the oddest loophole in recent tax history: All of the changes in tax policy made by the law were to be reversed in 2011.

The JCT staff should have included in their revenue estimates any effects from positive taxpayer behavior (such as more and better investment, harder work, and lower taxpayer compliance costs). Had they done so, the total "cost" of the death tax repeal--and, indeed, all of the provisions of President George W. Bush's tax plan--would have been significantly less. Heritage economists have estimated that the President's overall tax plan has an economic feedback of about 33 percent, which would reduce the revenue loss of the plan by $568 billion--more than enough to pay for full repeal of the death tax.

Clearly, Congress and the Administration would do a better job of enacting pro-growth tax legislation if they routinely and seriously considered the economic effects of their actions. Thus, the President and congressional leaders should insist on the routine use of dynamic analysis (reality-based scoring) by their official revenue estimators.