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WebMemo #849 on Taxes

September 19, 2005

Repealing Tax Cuts to Pay For Katrina Recovery Would Cost the Gulf Coast, and the Nation, Jobs

By , and

Some would use Hurricane Katrina, and the great expense of recovery efforts, as justification for letting the President's tax cuts expire. But while the fiscal impact of Katrina on federal spending is already setting records, national emergencies are the worst time to increase taxes. Indeed, if federal taxes are unexpectedly increased, the business climate and labor markets will be even more battered than they are now. In contrast, making the President's tax cuts permanent now would create 430,000 additional jobs in 2006 alone and an average of 624,000 jobs per year over the next decade. In local terms, making the tax cuts permanent would annually create 5,300 additional jobs in Mississippi and 9,100 additional jobs in Louisiana-about one-third of those in New Orleans. To pay for Katrina recovery efforts, Congress should prioritize spending programs and make cuts instead of raising taxes, which would only further damage the Gulf Coast and national economy.

 

Deep Impact

"[A]nnihilation in New Orleans is an irrefutable sign that the national tax-cut party is over," editorialized the New York Times on September 3, just as the extent of the damage to the Gulf Coast was becoming known.[1] Those who see every event as an opportunity to indict President George W. Bush's tax cuts were quick to employ Katrina. "This is a hell of a time to be thinking of cutting taxes, especially on stock dividends and capital gains,'' said Rep Charles Rangel (D-NY), ranking member on the House Ways and Means Committee.[2]

 

The anti-tax cut message is not just about fiscal deficits. Rather than see Katrina as an act of nature, some pundits shamelessly blame the tax cuts for "bloated corpses float[ing] down the boulevards of a historic city."[3]

 

How would repeal of the 2003 tax cuts affect the national economy? Americans know the storm's economic impact was severe just by its impact on gasoline prices, but the main concern now is about jobs. Recent measures show that new jobless claims spiked to 398,000 following the hurricane-an increase of 22 percent in just one week.

 

Economists are uncertain about the severity of Katrina's damage on the economy. New Orleans is a vital port and transportation hub, and it was a center for oil refining. Fortunately, New Orleans is not entirely destroyed, and many areas will be back in business in weeks, not months. Nationally, however, the fundamental reduction of aggregate supply, mixed with government-back increase in aggregate demand means that generally higher inflation over the next year is a sure thing. In terms of employment, the migration of people is more likely to create a boom than a burden in cities where those displaced from the Gulf Coast settle-consider, for example, the prospect of a hundred thousand new customers on restaurants in Texas.

 

A Choice: To Contract or Expand?

The enduring lesson of the Great Depression is that economic policy should not be contractionary in the face of a contraction. That fundamental rule is adhered to by neoclassical economists and is also one of the sacred commandments of Keynesians-a rare point of agreement between the two groups. So it was rather bizarre, and likely driven by partisanship more than economic thinking, to hear Sen. Hillary Clinton (D-NY) say that "...[rebuilding New Orleans] comes from the first instance in not making those tax cuts for rich people like us permanent."[4]

 

The Heritage Foundation projected that the passage of the Jobs and Growth Tax Relief Reconciliation Act (JGTRRA) of 2003 would create millions of additional jobs above and beyond what the economy would generate normally. These projections were driven by the strong expansionary components of the bill.

 

JGTRRA accelerated the phase-in of incentives to work and invest from the President's 2001 tax cuts, while also providing major new incentives:

  • Lower tax rates on personal income for all taxpayers. The top marginal tax rate was reduced from 39.6 percent to 35 percent, and a 10-percent bracket was introduced.
  • Lower taxes on business investment, including a much lower tax rate, 15 percent, on dividends and on long-term capital gains. Equally important, JGTRRA allowed businesses to more quickly deduct the expenses of their investments in machinery, computers, and software.
  • An increased child tax credit, from $500 to $1,000 per child.
  • The end of the marriage penalty. Married couples no longer pay higher taxes than equivalent singles, which eliminates a perverse incentive against families.
  • A phased-in repeal of the estate tax.

In fact, five million more Americans were employed in August 2005 than in May 2003, when President George W. Bush signed the tax cuts into law. Recoveries normally create jobs anyway, but lower taxes increased incentives to work and incentives to hire more workers.

 

Making the Bush tax cuts permanent would create 430,000 additional jobs nationally in 2006 alone and an average of 624,000 per year over the next decade, according to our macroeconomic modeling. These numbers include 5,300 additional jobs in Mississippi and 9,100 additional jobs in Louisiana annually-one-third of those in New Orleans-just due to making the tax cuts permanent.

 

Congress now has a very tough political decision: whether to make the 2003 tax cuts permanent, to let them to phase out as scheduled, or to repeal them promptly in order to help "pay for" Katrina. There is an alternative to taxing more, and that is spending less. It may be tough politically, but re-prioritizing spending and limiting its future growth is the only way to change fiscal policy without harming the economy. Spending discipline is the path to making tax cuts permanent and creating more jobs.

 

Rea S. Hederman, Jr. is Senior Policy Analyst, Tim Kane, Ph.D. is Bradley Fellow in Labor Policy, and Scott Moody is Senior Policy Analyst, in the Center for Data Analysis at The Heritage Foundation.



[1]"Katrina's Assault on Washington," The New York Times, September 3, 2005, at http://www.nytimes.com/2005/09/03/opinion/03sat1.html.

[2]Bloomberg News, "Katrina Imperils Tax Cuts Aiding Investors, Boeing, Microsoft," September 12, 2005, at http://www.bloomberg.com/apps/news?
pid=10000103&sid=aiaGXkB8YAZc&refer=us

[3]Marie Cocco, "Conflict in Congress: Katrina and tax cuts," Newsday.com, September 6, 2005, at http://www.newsday.com/news/columnists/
ny-vpcoc4413274sep06,0,7015875.column?coll=ny-rightrail-columnist

[4]"Hillary Clinton Proposes Katrina Tax Hike," Newsmax, September 7, 2005, at http://www.newsmax.com/archives/ic/
2005/9/7/215138.shtml
.

Some would use Hurricane Katrina, and the great expense of recovery efforts, as justification for letting the President's tax cuts expire. But while the fiscal impact of Katrina on federal spending is already setting records, national emergencies are the worst time to increase taxes. Indeed, if federal taxes are unexpectedly increased, the business climate and labor markets will be even more battered than they are now. In contrast, making the President's tax cuts permanent now would create 430,000 additional jobs in 2006 alone and an average of 624,000 jobs per year over the next decade. In local terms, making the tax cuts permanent would annually create 5,300 additional jobs in Mississippi and 9,100 additional jobs in Louisiana-about one-third of those in New Orleans. To pay for Katrina recovery efforts, Congress should prioritize spending programs and make cuts instead of raising taxes, which would only further damage the Gulf Coast and national economy.

 

Deep Impact

"[A]nnihilation in New Orleans is an irrefutable sign that the national tax-cut party is over," editorialized the New York Times on September 3, just as the extent of the damage to the Gulf Coast was becoming known.[1] Those who see every event as an opportunity to indict President George W. Bush's tax cuts were quick to employ Katrina. "This is a hell of a time to be thinking of cutting taxes, especially on stock dividends and capital gains,'' said Rep Charles Rangel (D-NY), ranking member on the House Ways and Means Committee.[2]

 

The anti-tax cut message is not just about fiscal deficits. Rather than see Katrina as an act of nature, some pundits shamelessly blame the tax cuts for "bloated corpses float[ing] down the boulevards of a historic city."[3]

 

How would repeal of the 2003 tax cuts affect the national economy? Americans know the storm's economic impact was severe just by its impact on gasoline prices, but the main concern now is about jobs. Recent measures show that new jobless claims spiked to 398,000 following the hurricane-an increase of 22 percent in just one week.

 

Economists are uncertain about the severity of Katrina's damage on the economy. New Orleans is a vital port and transportation hub, and it was a center for oil refining. Fortunately, New Orleans is not entirely destroyed, and many areas will be back in business in weeks, not months. Nationally, however, the fundamental reduction of aggregate supply, mixed with government-back increase in aggregate demand means that generally higher inflation over the next year is a sure thing. In terms of employment, the migration of people is more likely to create a boom than a burden in cities where those displaced from the Gulf Coast settle-consider, for example, the prospect of a hundred thousand new customers on restaurants in Texas.

 

A Choice: To Contract or Expand?

The enduring lesson of the Great Depression is that economic policy should not be contractionary in the face of a contraction. That fundamental rule is adhered to by neoclassical economists and is also one of the sacred commandments of Keynesians-a rare point of agreement between the two groups. So it was rather bizarre, and likely driven by partisanship more than economic thinking, to hear Sen. Hillary Clinton (D-NY) say that "...[rebuilding New Orleans] comes from the first instance in not making those tax cuts for rich people like us permanent."[4]

 

The Heritage Foundation projected that the passage of the Jobs and Growth Tax Relief Reconciliation Act (JGTRRA) of 2003 would create millions of additional jobs above and beyond what the economy would generate normally. These projections were driven by the strong expansionary components of the bill.

 

JGTRRA accelerated the phase-in of incentives to work and invest from the President's 2001 tax cuts, while also providing major new incentives:

  • Lower tax rates on personal income for all taxpayers. The top marginal tax rate was reduced from 39.6 percent to 35 percent, and a 10-percent bracket was introduced.
  • Lower taxes on business investment, including a much lower tax rate, 15 percent, on dividends and on long-term capital gains. Equally important, JGTRRA allowed businesses to more quickly deduct the expenses of their investments in machinery, computers, and software.
  • An increased child tax credit, from $500 to $1,000 per child.
  • The end of the marriage penalty. Married couples no longer pay higher taxes than equivalent singles, which eliminates a perverse incentive against families.
  • A phased-in repeal of the estate tax.

In fact, five million more Americans were employed in August 2005 than in May 2003, when President George W. Bush signed the tax cuts into law. Recoveries normally create jobs anyway, but lower taxes increased incentives to work and incentives to hire more workers.

 

Making the Bush tax cuts permanent would create 430,000 additional jobs nationally in 2006 alone and an average of 624,000 per year over the next decade, according to our macroeconomic modeling. These numbers include 5,300 additional jobs in Mississippi and 9,100 additional jobs in Louisiana annually-one-third of those in New Orleans-just due to making the tax cuts permanent.

 

Congress now has a very tough political decision: whether to make the 2003 tax cuts permanent, to let them to phase out as scheduled, or to repeal them promptly in order to help "pay for" Katrina. There is an alternative to taxing more, and that is spending less. It may be tough politically, but re-prioritizing spending and limiting its future growth is the only way to change fiscal policy without harming the economy. Spending discipline is the path to making tax cuts permanent and creating more jobs.

 

Rea S. Hederman, Jr. is Senior Policy Analyst, Tim Kane, Ph.D. is Bradley Fellow in Labor Policy, and Scott Moody is Senior Policy Analyst, in the Center for Data Analysis at The Heritage Foundation.



[1]"Katrina's Assault on Washington," The New York Times, September 3, 2005, at http://www.nytimes.com/2005/09/03/opinion/03sat1.html.

[2]Bloomberg News, "Katrina Imperils Tax Cuts Aiding Investors, Boeing, Microsoft," September 12, 2005, at http://www.bloomberg.com/apps/news?
pid=10000103&sid=aiaGXkB8YAZc&refer=us

[3]Marie Cocco, "Conflict in Congress: Katrina and tax cuts," Newsday.com, September 6, 2005, at http://www.newsday.com/news/columnists/
ny-vpcoc4413274sep06,0,7015875.column?coll=ny-rightrail-columnist

[4]"Hillary Clinton Proposes Katrina Tax Hike," Newsmax, September 7, 2005, at http://www.newsmax.com/archives/ic/
2005/9/7/215138.shtml
.

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