The Heritage Foundation

WebMemo #192 on Taxes

January 27, 2003

January 27, 2003 | WebMemo on Taxes

Fact v. Fiction: Tax Rebates

Fiction: A small rebate or a refund to the American people will prompt renewed consumer spending leading to a revived manufacturing sector and US economy.These $300 rebates will be of particular importance to lower income Americans and promptly spent by them.This is the type of stimulus the economy needs: more consumer spending.

Fact: Consumers see tax rebates as transitory, they do very little to help the economy, and they generate little consumer spending.

Economic theory suggests that tax rebates will not increase net spending, and a recent study appears to bolster this theory.A survey, conducted by professors Joel Slemrod and Matthew Shapiro of Michigan University, examined what recipients expected to do with the rebates they received under President Bush's 2001 tax relief plan.This plan provided rebates of up to $300 for individuals and up to $600 for married couples.

 

Slemrod and Shapiro's study found that only 22 percent of households receiving the rebates expected to spend the money.Furthermore, the survey found that low-income households were no more likely to spend the rebates than were higher income households.This finding runs counter to the conventional wisdom that lower income individuals would be more likely to spend the rebates than higher income individuals.

 

Former President Gerald Ford's administration tried to "stimulate the economy" in 1975 by giving every American a tax rebate.This plan's failure caused the Carter administration to withdraw a similar proposal in 1977.The rebate idea has been tried and tried again and each time it has failed in its purpose.This idea should be tossed on the ash heap of discredited ideas with the rest of the outdated New Deal era economic principles.

 

It appears that individuals of all income levels understand that tax rebates do nothing to change the long-term outlook for their personal budgets.For example, when someone is unsure about his or her job-stability, a one-time tax rebate does nothing to change that insecurity.Permanent marginal tax rate cuts allow individuals to keep more of the next dollar they earn and permit taxpayers to make the crucial, long-term work and investment decisions that fuel solid expansion of the economic activity.

 

For more on the Slemrod/Shapiro survey, see the University of Michigan's Office of Tax Policy Research website at http://www.otpr.org.

About the Author

Norbert J. Michel, Ph.D. Research Fellow in Financial Regulations
Thomas A. Roe Institute for Economic Policy Studies

Related Issues: Taxes