Budget deal

Kevin Lewis

September 08, 2017

What is the potential growth rate of the U.S. economy, and how might policy affect it?
Jason Furman
Business Economics, July 2017, Pages 158–167


The answer to the question “What will future potential growth be?” is as important as it is unknowable. This paper attempts to predict future U.S. potential output growth by combining what is unknown (future productivity growth, the performance of the labor market) with what is known (the evolution of the age structure of the population). It does so in two ways. First, this paper uses the historical experience of potential labor productivity growth, labor force participation, and weekly hours to simulate a range of outcomes for future potential growth — finding a 90% confidence interval that ranges from 0.7% annual growth to 3.0% annual growth, centered by construction around the Congressional Budget Office projection of 1.8% annual growth. Second, the paper examines a range of specific economic policies that the Trump Administration might pursue in terms of their impact on economic growth both in the short run and over the next decade — finding that an outer bound of these policies could be plus or minus 0.5 percentage point on the annual growth rate, but that these policies would most likely subtract a small amount from growth.

Local and Aggregate Fiscal Policy Multipliers
Bill Dupor & Rodrigo Guerrero
Journal of Monetary Economics, forthcoming


Using a newly constructed panel of state-level defense contracts, this paper studies the effect of defense spending on the U.S. macroeconomy. Summing observations across states, we estimate aggregate income and employment multipliers. Comparing these to local multipliers estimated with the panel provides evidence that local multiplier estimates may be reliable indicators of fiscal policy’s aggregate effects. Furthermore, evidence of small positive spillovers is found. Across several specifications, we estimate income and employment multipliers between zero and 0.5. This result is reconciled with the greater-than-one multipliers found in Nakamura and Steinsson (2014) by analyzing the Korean War years’ impact on the estimation.

Short-run and long-run effects of capital taxation on innovation and economic growth
Ping-ho Chen et al.
Journal of Macroeconomics, September 2017, Pages 207–221


In this study, we examine the effects of capital taxation on innovation and economic growth in an R&D-based growth model. We find that capital taxation has drastically different effects in the short run and in the long run. An increase in the capital income tax rate has both a consumption effect and a tax-shifting effect on the equilibrium growth rates of technology and output. In the short run, the consumption effect dominates the tax-shifting effect causing an initial negative effect of capital taxation on the equilibrium growth rates. However, in the long run, the tax-shifting effect becomes the dominant force yielding an overall positive effect of capital taxation on steady-state economic growth. These contrasting effects of capital taxation at different time horizons may provide a theoretical explanation for the mixed evidence in the empirical literature on capital taxation and economic growth.

Federal Budget Policy with an Aging Population and Persistently Low Interest Rates
Douglas Elmendorf & Louise Sheiner
Journal of Economic Perspectives, Summer 2017, Pages 175-194


Some observers have argued that the projections for high and rising debt pose a grave threat to the country's economic future and give the government less fiscal space to respond to recessions or other unexpected developments, so they urge significant changes in tax or spending policies to reduce federal borrowing. In stark contrast, others have noted that interest rates on long-term federal debt are extremely low and have argued that such persistently low interest rates justify additional federal borrowing and investment, at least for the short and medium term. We analyze this controversy focusing on two main issues: the aging of the US population and interest rates on US government debt. It is generally understood that these factors play an important role in the projected path of the US debt-to-GDP ratio. What is less recognized is that these changes also have implications for the appropriate level of US debt. We argue that many — though not all — of the factors that may be contributing to the historically low level of interest rates imply that both federal debt and federal investment should be substantially larger than they would be otherwise. In conclusion, although significant policy changes to reduce federal budget deficits ultimately will be needed, they do not have to be implemented right away. Instead, the focus of federal budget policy over the coming decade should be to increase federal investment while enacting changes in federal spending and taxes that will reduce deficits gradually over time.

The Asymmetric Experience of Positive and Negative Economic Growth: Global Evidence Using Subjective Well-Being Data
Jan-Emmanuel De Neve et al.
Review of Economics and Statistics, forthcoming


Are individuals more sensitive to losses than gains in terms of economic growth? We find that measures of subjective well-being are more than twice as sensitive to negative as compared to positive economic growth. We use Gallup World Poll data from over 150 countries, BRFSS data on 2.3 million US respondents, and Eurobarometer data that cover multiple business cycles over four decades. This research provides a new perspective on the welfare cost of business cycles, with implications for growth policy and the nature of the long-run relationship between GDP and subjective well-being.

Simulating Business Cash Flow Taxation: An Illustration Based on the "Better Way" Corporate Tax Reform
Seth Benzell, Laurence Kotlikoff & Guillermo LaGarda
NBER Working Paper, August 2017


The U.S., according to some measures, has one of the highest marginal effective corporate tax rates (METRs) of any developed country. Yet the tax collects less than 2 percent of GDP. This paper studies the impact of replacing the U.S. corporate tax with a Business Cash Flow Tax (BCFT). Our paper studies BCFT reform with reference to a particular, but reasonably generic, proposal, namely the House Republican “Better Way” tax plan. We use the Global Gaidar Model – a 17-region, global, overlapping-generations model, calibrated to U.N. demographic and IMF fiscal data – to simulate the dynamic, general equilibrium impact of this reform. In the short run, the U.S. capital stock, pre-tax wage rates, and GDP rise by roughly 25 percent, 8 percent, and 9 percent, respectively. Over time, the capital stock and wage rates remain significantly above their baseline values. There is a smaller long-run increase in GDP as workers spend some of their higher wages on additional leisure. The tax reform produces enough additional revenues to permit a reduction in personal income tax rates while maintaining the economy's initial debt-to-GDP ratio. The beneficiaries of the House plan are today's and tomorrow's workers. We also simulate a matching METR cut by the rest of the world, which raises the world interest rate. The short-run increases in the capital stock, pre-tax wage rates, and GDP are smaller. However, along the transition path, all U.S. agents experience slightly higher welfare than under the House plan. This reflects the combination of a higher post-corporate tax world interest rate and Americans' disproportionately large holdings of global assets.

Persistence in Industrial Policy Impacts: Evidence from Depression-Era Mississippi
Matthew Freedman
Journal of Urban Economics, forthcoming


This paper studies the effects of a large-scale industrial policy implemented in 1930s Mississippi on contemporaneous and modern-day labor market outcomes. Attracted by unprecedented government incentives under Mississippi’s Balance Agriculture with Industry (BAWI) Program, 13 large manufacturing plants established operations in the state between 1936 and 1940. Using difference-in-differences and synthetic control matching techniques, I find that counties that received these plants experienced an over 15% increase in female labor force participation on average in the short run. Moreover, these effects persisted decades into the future, well after many of the original companies shut down. I also find suggestive evidence of an increase in educational attainment among women in counties where BAWI investment occurred. The results highlight the potential for even transitory government interventions to have long-lived effects on labor markets.

The Effect of Tax Expenditures on Automatic Stabilizers: Methods and Evidence
Hautahi Kingi & Kyle Rozema
Journal of Empirical Legal Studies, September 2017, Pages 548–568


We study the effect of tax expenditures on the stabilizing power of the tax system. We propose a micro-simulation strategy that exploits links that we identify between automatic stabilizers, tax expenditures, and effective marginal tax rates. Using U.S. tax return micro data from 2000 to 2010, we estimate that, on average, the mortgage interest deduction and the charitable contributions deduction decreased the ability of the tax system to absorb fluctuations in aggregate consumption by an average of 7.4 percent and 3.9 percent, respectively.

Geographic Cross-Sectional Fiscal Spending Multipliers: What Have We Learned?
Gabriel Chodorow-Reich
NBER Working Paper, July 2017


A geographic cross-sectional fiscal spending multiplier measures the effect of an increase in spending in one region in a monetary union. Empirical studies of such multipliers have proliferated in recent years. In this paper, I review this research and what the evidence implies for national multipliers. Based on an updated analysis of the American Recovery and Reinvestment Act and a survey of empirical studies, my preferred point estimate for a cross-sectional output multiplier is 1.8. Economic theory of how to map these multipliers into a national multiplier has also advanced. Drawing on the theoretical literature, the paper discusses conditions under which the cross-sectional multiplier provides a rough lower bound for a particular national multiplier, the closed economy zero lower bound multiplier. Putting these elements together, the cross-sectional evidence suggests a national zero lower bound multiplier of about 1.7 or above, at the upper end of most studies based on time series evidence. The paper concludes by offering suggestions for future research on cross-sectional multipliers.

Social Security Dependent Benefits, Net Payroll Tax, and Married Women's Labor Supply
Hee-Seung Yang
Contemporary Economic Policy, forthcoming


This paper examines how Social Security dependent benefits impact the labor supply of married women aged 25–54. Specifically, I investigate whether the decrease in the rate of return to women's work discourages them from participating in the labor force by simulating expected net payroll tax rates and dependent benefits. Dependent benefits may reduce the net return to women's work, as they usually pay the full payroll tax without receiving marginal benefits for additional earnings if they claim benefits based on their husbands' earnings records. The results show that high net payroll tax rates reduce married women's work incentives, particularly those near retirement age.

Does the National Flood Insurance Program Have Redistributional Effects?
Okmyung Bin, John Bishop & Carolyn Kousky B.E.
Journal of Economic Analysis & Policy, forthcoming


This study examines possible redistributional effects of the National Flood Insurance Program (NFIP), using a nationwide database of flood insurance policies and claims between 2001 and 2013 from the Federal Emergency Management Agency. Applying methods from the tax and transfer progressivity literature, we use the departure from per capita income proportionality at the zip code level as our measure of progressivity. Our findings indicate that premiums as a percentage of coverage purchased are regressive: premium shares are larger than income shares for lower-income zip codes. Payouts, however, also as a percentage of coverage purchased, are progressive, meaning lower-income zip codes receive a larger portion of claims paid. Overall net premiums (premiums – payouts) divided by coverage are also regressive. Our findings are driven by certain aspects of the current rate structure of the NFIP, as well as how income is related to risk. We discuss potential policies to provide assistance to lower-income households in purchasing flood insurance.

U.S. Firms on Foreign (Tax) Holidays
Travis Chow, Jeffrey Hoopes & Edward Maydew
University of North Carolina Working Paper, August 2017


We undertake the first large-sample examination of foreign tax holiday participation among U.S. corporations. Tax holidays are temporary reductions of tax granted by governments, usually in conjunction with new business investment. We find that foreign tax holidays are economically important phenomena and participation in them has increased over time. The percentage of publicly-traded U.S. firms reporting participation in at least one foreign tax holiday increased more than five-fold since the beginning of our sample in 1995. We estimate that the average foreign tax holiday reduces the firm’s effective tax rate by 4.5 percentage points during the holiday period, which is over four times as large as the average effect of having a tax haven subsidiary. We find an unintended consequence of foreign governments granting tax holidays is that, over the long run, they increase the amount of U.S. tax on foreign income. Indeed, our estimates imply that participating in a foreign tax holiday roughly doubles the eventual U.S. tax on foreign income. Until now, research on foreign tax holiday participation has been hampered by a lack of data. We hope that our initial evidence encourages others to investigate these economically important phenomena.

Shops and the City: Evidence on Local Externalities and Local Government Policy from Big-Box Bankruptcies
Daniel Shoag & Stan Veuger
Review of Economics and Statistics, forthcoming


We report three findings: (1) Using evidence from chain bankruptcies and data on 12-18 million establishments per year, we show that large retailers produce significant positive spillovers. (2) Local governments respond to the size of these externalities. When a town’s boundaries allow it to capture a larger share of retail spillovers, it is more likely to offer retail subsidies. (3) These subsidies partially crowd out private-sector mechanisms that also subsidize large retailers, such as shopping malls. These facts provide powerful evidence of the Coase theorem at work and highlight a concern for local development policies even when externalities can be targeted.

The Structure of State Corporate Taxation and its Impact on State Tax Revenues and Economic Activity
Juan Carlos Suárez Serrato & Owen Zidar
NBER Working Paper, August 2017


This paper documents facts about the state corporate tax structure — tax rates, base rules, and credits — and investigates its consequences for state tax revenue and economic activity. We present three main findings. First, tax base rules and credits explain more of the variation in the state corporate tax revenue than tax rates do. Second, although states typically do not offset tax rate changes with base and credit changes, the effects of tax rate changes on tax revenue and economic activity depend on the breadth of the base. Third, as states have narrowed their tax bases, the relationship between tax rates and tax revenues has diminished. Overall, changes in state tax bases have made the state corporate tax system more favorable for corporations and are reducing the extent to which tax rate increases raise corporate tax revenue.

Who Would Benefit from Repealing Tampon Taxes? Empirical Evidence from New Jersey
Christopher Anthony Cotropia & Kyle Rozema
University of Chicago Working Paper, July 2017


Many state and local governments exclude some medical products from the sales tax base, including some that are primarily used by men such as hair growth products. However, tampons and other menstrual hygiene products are subject to sales taxes in most states. A recent social movement advocates for the repeal of these “tampon taxes” on the grounds that tampon taxes (a) create an unequal tax burden between men and women because only menstruating women must pay a tax on products that men do not use, and (b) decrease the affordability of these necessary products, particularly for lower income women. To date, however, no empirical research has documented the extent that repealing tampon taxes would benefit women by lowering consumer prices, and how any tax benefit is distributed among women of different socio-economic backgrounds. It is possible that eliminating tampon taxes would lead to an increase in before-tax retail prices such that consumer prices for the products do not decrease by the full size of the repealed tax. This would imply that consumers and producers share the benefit of the tax repeal. In this article, we use the 2005 elimination of menstrual hygiene products from the sales tax base in New Jersey as a natural experiment to study who benefits from the repeal of tampon taxes. We find that consumers obtain most of the tax benefit from the repeal, but that the tax benefit is not distributed equally. Low income women obtain a benefit from the repeal of the tax law by more than the size of the repealed tax. For higher income women, however, the benefit of the tax repeal is shared roughly equally with producers. The results suggest that repealing tampon taxes removes the unequal tax burden for menstruating women and could make tampons more accessible for low income women than previously thought.

Impact of Bankruptcy Eligibility Requirements and Statutory Liens on Borrowing Costs
Tima Moldogaziev, Sharon Kioko & Bartley Hildreth
Public Budgeting & Finance, forthcoming


While bankruptcy protection remains an instrument of last resort, a recent wave of petitions has aroused the interest of key participants in the municipal bond market. To date, 12 states unconditionally authorize municipalities to file for bankruptcy protection, 15 states require that municipalities satisfy certain threshold requirements, while the remaining 23 states either explicitly prohibit or have not specifically provided this authority to municipal governments. As bankruptcy protection rules influence bondholder risk exposures, we empirically test the significance of the state-specific bankruptcy eligibility requirements on borrowing costs. In a representative sample of general obligation bonds, empirical results suggest that municipalities eligible to file for bankruptcy protection pay a premium. The premium is higher if issuers are unconditionally authorized to file for bankruptcy protection, especially for debt with longer maturities. Findings also show that there are benefits associated with statutory liens; however, these benefits diminish with maturity.

Rules versus Home Rule: Local Government Responses to Negative Revenue Shocks
Daniel Shoag, Cody Tuttle & Stan Veuger
Harvard Working Paper, August 2017


Local governments rely heavily on sales tax revenue. We use national bankruptcies of big-box retail chains to study sudden plausibly exogenous revenue shortfalls. Treated localities respond by reducing spending on law enforcement and administrative services. We further study how cities with different degrees of autonomy vary in their response. Cities in home rule states react more swiftly by raising taxes or issuing bonds. A regression discontinuity analysis of cities in Illinois emphasizes that this effect of local autonomy is causal. Home rule cities do not abuse their discretion: their bond ratings are more likely to be strong.


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