The Bush Tax Cuts lower revenue by 1.7% of GDP

How big are the Bush Tax cuts? There is some confusion about these numbers. The right uses wildly overstated supply-side arguments to claim that Bush tax cuts didn’t cost anything while the left uses accounting tricks to inflate numbers and to claims that the tax cuts are the main cause of the deficit.

There are two tricks to be aware of.

1. Don’t confuse the “Bush Tax Cuts” with “Bush Tax Cuts For The Rich”. Obama’s plan to repeal the Bush Tax Cuts only for those making $250.000 per year will raise one quarter as much revenue as the entire tax cut.

2. Don’t accept analyses which add the AMT-fix to the Bush-tax cuts. This is an accounting trick. Every modern administration, including Obama, passes an AMT-fix. The Alternative Minimum Tax was designed not to allow the rich to use too many deductions, but wasn’t inflation indexed. Therefore in order to prevent it from hurting the middle class each administration has to pass a law postponing it.

Over the next decade, the Total Bush tax cuts reduce revenue by about 1.7% of GDP per year (0.4% of which represents tax cuts for the rich). During this period the deficit is expected to average about 6.7% of GDP.

Over ten years, the deficit is expected by the CBO to be about $13 trillion dollars. Repealing the Bush tax cuts on the rich as President Obama proposes will raise $0.7 trillion. Repealing *all* Bush tax cuts would raise $3.3 trillion. In addition, if all tax cuts are repealed, the U.S will save $0.7 trillion in interests on debt.

The Bush tax cuts on the rich (the part Obama wants to repeal) barely makes a dent on the deficit. If you include the cuts for the middle class the Bush tax cuts is a non-negligible cause of the deficit, but even then not the main cause.

Yet the left often inflates the role of the tax cuts, I suppose in order to give the impression that easy choices can fix the deficit. CNN;s Fareed Zakaria for instance claimed recently that allowing the Bush tax cuts to expire would:

“provide the federal government with $3.9 trillion in revenues over the next decade and basically solve the deficit problem.”

Fareed Zakaria’s revenue numbers are somewhat incorrect. I think he is mixing increased revenue with reduced deficits (which is not a major error, since he is concerned with the deficit, not revenue, though he writes ”revenues”).

Another example of exaggerated numbers is Obama former car szar Steven Rattner who claimed yesterday that tax cuts represented $400 billion of the current deficit. The figure for 2011 is less than half of that. My guess is that he includes the AMT fix, the Obama payroll tax cuts and some other accounting tricks to arrive at this inflated figure.

Zakaria’s claim – common among the left – that the Bush tax cuts would “basically solve the deficit problem” is an exaggeration, seventy percent of the ten year deficit and an even larger part of the long term deficit would remain even should all Bush tax cuts be repealed, since the main cause of the fiscal imbalance is expanding expenditure as a share of GDP.

For the long term deficit the Bush tax cuts are even less important. The tax cuts represent about 1.7% of GDP in increased revenue per year, while the federal deficit on its current path is projected to explode to above 10% of GDP by 2026.

Let me finish by citing the Congressional Research Service:

“The Obama Administration has proposed allowing the Bush tax cuts to expire for high income taxpayers and permanently extending the tax cuts for middle class taxpayers….this proposal is projected to increase tax revenues by … $678 billion over 10 years, but still leaves federal debt on an unsustainable path.”

UPDATE:

Reader Tim correctly pointed out that I was making a misstake by not including the interaction effect with the AMT. If we both keep the tax cuts and pass an AMT-fix (which almost certainly will happen), that adds about a quarter to the cost of the tax cuts. I have adjusted the figures.

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