Economy

Tax Cuts Do Not Stimulate the Economy

By Ryan McGreal
Published September 24, 2012

We keep hearing from so-called economic conservatives that we need to cut top marginal tax rates to stimulate the economy. As the thinking goes, when the wealthy keep more of their money, they can invest and spend it on things that create jobs and grow the economy.

Call it supply-side economics, call it Reaganomics, call it trickle-down, there's just one problem with this concept: it doesn't work and has never worked.

A new study by the Congressional Research Service, called Taxes and the Economy: An Economic Analysis of the Top Tax Rates Since 1945 [PDF link], draws the following conclusion, worth quoting at some length:

Throughout the late-1940s and 1950s, the top marginal tax rate was typically above 90%; today it is 35%. Additionally, the top capital gains tax rate was 25% in the 1950s and 1960s, 35% in the 1970s; today it is 15%. The real GDP growth rate averaged 4.2% and real per capita GDP increased annually by 2.4% in the 1950s. In the 2000s, the average real GDP growth rate was 1.7% and real per capita GDP increased annually by less than 1%. There is not conclusive evidence, however, to substantiate a clear relationship between the 65-year steady reduction in the top tax rates and economic growth. Analysis of such data suggests the reduction in the top tax rates have had little association with saving, investment, or productivity growth. However, the top tax rate reductions appear to be associated with the increasing concentration of income at the top of the income distribution. The share of income accruing to the top 0.1% of U.S. families increased from 4.2% in 1945 to 12.3% by 2007 before falling to 9.2% due to the 2007-2009 recession. The evidence does not suggest necessarily a relationship between tax policy with regard to the top tax rates and the size of the economic pie, but there may be a relationship to how the economic pie is sliced.

In other words, cutting the top marginal tax rate has not resulted in increased economic growth - quite the opposite, in fact. However, cutting the top marginal tax rate has resulted in increased economic inequality.

Nor have tax cuts resulted in higher rates of productivity growth. Again, over the past 65 years, productivity has tended to grow faster when tax rates were higher, not when they were lower.

All tax cuts do is help the very wealthy to keep more of their money, while starving government of the revenues it needs to provide the public and social services we have come to expect.

Indeed, that may be the real purpose of tax cuts: not to stimulate the economy (which they don't do) or even, necessarily, to enrich the already rich (which they do), but to compel governments to cut public spending in an ideological attack on the concept of a just and civil society.

Ryan McGreal, the editor of Raise the Hammer, lives in Hamilton with his family and works as a programmer, writer and consultant. Ryan volunteers with Hamilton Light Rail, a citizen group dedicated to bringing light rail transit to Hamilton. Several of his articles have been published in the Hamilton Spectator. He also maintains a personal website and has been known to post passing thoughts on Twitter @RyanMcGreal.

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By Barb (anonymous) | Posted September 24, 2012 at 14:40:29

I hope nobody is surprised by this, it's been obvious ever since Reaganomics. It's called "starving the beast".

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By randomguy (anonymous) | Posted September 24, 2012 at 16:19:22

How about a Canadian source? Might be more appropriate.

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By lorne (registered) - website | Posted September 24, 2012 at 17:31:47

There has been a great deal of press lately about the fact that corporate Canada is currently sitting on over $500 billion, much of which comes from federal and provincial tax cuts. As someone astutely has pointed out, those low taxes are disincentives to invest in new equipment, plant expansion, etc., as they no longer need the tax write-offs that such investments bring.

A good discussion of the situation can be found here: http://www.thestar.com/business/article/...

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By What is the real truth (anonymous) | Posted September 24, 2012 at 18:25:54

Tax Cuts: As of January 1, 2013 two benefits will be out of money, the discretinary Benfits, which inlcude things like eyeglasses, dental work, funerals and so on for those on Ontario Works.

The other is the Community Start Up Benefit, which helps those on Ontario Works, ODSP and the WORKING POOR, those who work but not a living wage, on issues of housing issues.

The city is just over 7.2 million shortfall as of Jan 1, 2013 on budgeted amounts based on 2012 figures. Hard times, next year for many.

Time to start coming together



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By A Smith (anonymous) | Posted September 25, 2012 at 21:45:03 in reply to Comment 81221

Canadian business investment as a percent of GDP, by decade...

60's: 12.34%, free health care, old age pensions
70's: 12.70%, expanding social programs
80's: 12.93%, high unemployment, higher welfare/EI
90's: 11.38%, big deficits leading to spending cuts
00's: 11.99%, corporate tax cuts

Canadian business actually invested more when we had larger social programs.

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By Shempatolla (registered) - website | Posted September 29, 2012 at 20:26:48 in reply to Comment 81245

Health care has NEVER been free. We pay for it through taxation. Health care spending has ballooned over the same periods you cite yet health services are not improving because we cling to this myth that our "public" health care system is the best there is. It isn't and never was. There are plenty of models out there that are better and we need to have a serious adult discussion in this country about how to fix what we got.

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By Rimshot (anonymous) | Posted September 25, 2012 at 22:48:46 in reply to Comment 81245

Time to bring back the free health care and old age pensions!

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By MVH (anonymous) | Posted September 25, 2012 at 09:34:44

I have always found discussion on income tax breaks as economic drivers confusing. The reason being the timing of the tax. Income taxes (or any tax for that matter) is supposed to be the governments share of the revenue generated by economic activity. So why would changes in the amount of tax payable be an incentive to spend more? Taxes are simply the governments share. Whether you have $1, or $100,000 left over, the amount you are allowed to keep does not translate into an incentive to spend.

What there should be more of are creative tax breaks based upon investment of earnings. For example a large income earner could receive tax breaks for investments in designated community projects designed to help low income earners. That way the tax break is designed to help those less fortunate.

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By seancb (registered) - website | Posted September 25, 2012 at 10:26:12

A Smith seems to be asleep at the wheel. 6 comments in and no word form him :-)

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By Undustrial (registered) - website | Posted September 26, 2012 at 00:19:46

What I find most interesting about Reaganomics and related ideas is how often they tend to be stated as fact in the 'news' section of the paper and 'theory' in the business section. Having watched the business press pretty closely over the last year or so, I'm still shocked by their honesty in these matters. Economists like Paul Krugman (NYT) have painstakingly dismantled "austerity" arguments countless times, but to hear about it you'd have to go looking, and probably require some background in economics. If you just read the big news stories and op-eds, though, you'd think this lunacy was some kind of consensus.

"Austerity" just doesn't work. Look at Europe at the moment - austerity programs have destroyed the Greek economy and are leading Spain, Italy and Portugal down a similar path. Britain's austerity attempts were quickly met by a nationwide slip back into Recession, and even Germany is starting to sputter. The constant mantra of "more cuts" has done nothing to stop this constant economic train-wreck, and have wrought considerable political chaos.

Those who wish to push austerity on Canada need to be reminded of these facts, before they send us spiralling down this path too.

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By Shempatolla (registered) - website | Posted September 29, 2012 at 20:31:41 in reply to Comment 81250

Paul Martin, largely lauded by the left as the saviour of the Canadian economy when he was federal finance minister, brought fiscal sanity back to this country by SLASHING federal spending, including massive cuts to transfer payments, eliminating the deficit, and paying down Canada's debt. These acts are largely contributing factors in why our financial house is in relative order compared to the drunken sailor spending that has occurred in Europe for the last 30 years. So it would seem that austerity programs do in fact work when done properly. The problems in Greece are NOT in fact from austerity plans. The problems have occurred because there weren't any in effect for far too long.

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By A Smith (anonymous) | Posted September 30, 2012 at 18:31:34 in reply to Comment 81325

>> These acts are largely contributing factors in why our financial house is in relative order compared to the drunken sailor spending that has occurred in Europe for the last 30 years.

Is that why our dollar now trades at $1,741/ounce of gold, rather than the $500 it averaged between 1981-2005?

If our economy is so great/productive, why is auto production down from 2.9M in 2000, to 2.1M in 2011? Why are exports flat over the last decade, while they doubled in the nineties? Manufacturing shipments grew over 9%/yr in the nineties, but remained flat in the 00's.

Even the oil industry has not performed as strong as we have been led to believe. From 1990-2000, oil production growth averaged 2.14%/yr (by volume). In the most recent decade, they are up by only 3.27%/yr. While prices have climbed for oil, our productive capacity has only increased marginally.

Then look at the cost to buy a house. From 1990-2000, Canadian house prices fell from 5.73X GDP/capita, to 5.11X. If that trend continued, eventually people could buy a house without any mortgage at all.

But the thing that matters the least, our "paper" public debts, have indeed fell. But since were not running out of trees, why does this matter at all?

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By Shempatolla (registered) - website | Posted September 30, 2012 at 18:46:57 in reply to Comment 81329

You must think we live in a bubble. Canada is a tiny part of the global economy and as such has little control over the factors you cite. More telling is our dollar in comparison to the U.S. which is now at par or better. You'll note the Americans seem to be adopting the policy you espouse and are simply printing more money they don't really have.
Ontario is now the largest auto producing jurisdiction in North America. Again more telling than your raw unit production figures. (We export most of the cars we make. Hence if the rest of the world is in the tank economically we are going to make less). Again in oil production you seem to want to pick statistics that fit your argument. Production growth has had to overcome issues with transportation capacity and refining limitations both here in Canada and in the US. Hear of Keystone XL and Northern Gateway?

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By A Smith (anonymous) | Posted October 01, 2012 at 04:19:11 in reply to Comment 81330

>> You'll note the Americans seem to be adopting the policy you espouse and are simply printing more money they don't really have.

This is what the Fed has bought with the money ($2 trillion) it has printed...

http://www.mybudget360.com/wp-content/uploads/2012/04/Fed-reserve-balance-sheet-2012.png

As you see, most of what they have printed has been used to buy existing assets (mortgages and treasuries). The banks have received cash (reserves), which doesn't pay interest, in exchange for interest bearing securities.

Furthermore, the government bonds that are held by the public are now paying lower yields, which acts as an anti-stimulus for the economy.

A real stimulus (new cash) can only come from the fiscal authorities, through the sales of treasuries, whereas the banking system creates credit that has to be paid back.

The fact that interest rates are so low is indicative of the fact that there is a great demand for U.S. savings. In this environment, the market is telling the U.S. Government to spend more, not less. In 1993, Canadian interest rates were 8%, telling us the market didn't need much in the way of new spending.

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By LOL all over again (anonymous) | Posted September 29, 2012 at 16:20:56 in reply to Comment 81250

I believe you have the timing a little off. The austerity programs did not destroy Greeces economy since they were implemented after the EU had to bail them out of bankruptcy and the austerity programs were the cost as insisted upon by the nations funding the majority of the huge monies involved.

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By A Smith (anonymous) | Posted September 26, 2012 at 14:52:20 in reply to Comment 81250

>> Those who wish to push austerity on Canada need to be reminded of these facts, before they send us spiralling down this path too.

In 1981, Canada's GDP (as measured in ounces of gold) was approximately 600M. In 2005, it was 2,746M. Today, after cutting corporate taxes, social programs and interest rates, it has fallen to 1,022M ounces.

If we assume that investors don't want to lose money, the market is telling us that our economy and the policies we have embraced, are not working to create real wealth.

A major part of the free market is price setting. Prices for goods/services and also the price of money. If capital is artificially priced to low, people use too much of it, which can cause shortages in parts of the economy that actually need it.

I would argue that too much money is currently being funneled into housing and not enough into productive investments. This would explain why household incomes are not keeping up with household debt and also why commodities are so expensive.

Raise real interest rates, stop worrying about federal deficits (we print debt on paper) and take care of the poor. If we do these things, Canada will continue to be a great and prosperous country.

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By Knox (anonymous) | Posted September 26, 2012 at 15:22:36 in reply to Comment 81276

Anything noteworthy other than austerity take place between 2005 and 2012 that might have adversely impacted Canada's economy?

Gov't revenue, Percent of GDP

1980 39.14
1981 41.11
1982 41.51
1983 40.61
1984 40.82
1985 40.48
1986 41.64
1987 42.06
1988 42.32
1989 40.79
1990 42.47
1991 43.72
1992 44.03
1993 43.32
1994 42.88
1995 42.94
1996 43.51
1997 43.97
1998 44.02
1999 43.60
2000 43.53
2001 42.18
2002 40.81
2003 40.73
2004 40.59
2005 40.75
2006 40.84
2007 40.74
2008 39.66
2009 39.17
2010 38.26
2011 38.12

Govt total expenditure, Percent of GDP

1980 43.21
1982 43.93
1983 48.54
1984 48.78
1985 48.60
1986 49.07
1987 48.78
1987 47.48
1988 46.65
1989 45.38
1990 48.30
1991 52.08
1992 53.16
1993 52.04
1994 49.58
1995 48.27
1996 46.31
1997 43.78
1998 43.94
1999 41.98
2000 40.59
2001 41.52
2002 40.90
2003 40.81
2004 39.73
2005 39.20
2006 39.27
2007 39.16
2008 39.54
2009 44.06
2010 43.82
2011 42.66


http://econstats.com/weo/CCAN.htm

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By A Smith (anonymous) | Posted September 26, 2012 at 18:05:51 in reply to Comment 81277

This is a chart of Canada's industrial production (not including construction)....

http://www.gecodia.com/Canada-Industrial-Production_a660.html

As you can see, in periods of time when gold shoots up (1973-81, 2005-2012)...

http://goldprice.org/charts/history/gold_all_data_o_b_cad.png?0.7665186466770101

... industrial production is slowing down. The price of gold is telling us that the underlying productive capacity of the economy is being lost.

In fact, from Oct 1990, to July 1995, when Bob Rae was "killing" Ontario's economy, Canada's industrial production grew by about 15.9%, an average of 3.16%/yr. In that time period, gold went from about $420CDN/ounce, to $510CDN/ounce and GDP grew by 22.1%. Measured in ounces of gold, Canada's economy still grew by 0.55% in that recession period.

In the six years from Sept 2005, to Oct 2011, industrial production fell an average of 1.39%/yr. Moreover, as measured in ounces of gold, Canada's GDP has fallen by an average of 14.8%/yr. In other words, our productive capacity has slowed considerably.

Even with corporate tax cuts and welfare cuts, our production of real goods and services has slowed considerably. While unemployment has been fairly low, the true goal of an economy is production, NOT hours worked.

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By WRCU2 (registered) | Posted September 26, 2012 at 09:09:55 in reply to Comment 81250

Those who wish to push austerity on Canada need to be reminded of these facts, before they send us spiralling down this path...

I can see the rhyme in your reason Undustrial.

What we really need is a Robin Hood Tax rather than cuts that are robbing our hoods to the max.

Kudos to Ryan for stepping outside of his comfort zone and writing an article that applies to almost everyone.

Cheers

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By Haruspex (anonymous) | Posted September 26, 2012 at 04:19:51

This is "the dismal science," yes?

Might there be multiple correlative variables contributing to this picture? What role, if any, might factors like the Cold War, globalization and the maturing Baby Boom play?

Here's what made me think of the last: StatsCan's take on the proportion of individuals under LICO aged 65+:

1981: 20.7%
1991: 10.4%
2001: 7.6%

http://www.statcan.gc.ca/pub/75f0002m/2012001/fig/fig3.2-eng.htm

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By Haruspex (anonymous) | Posted September 26, 2012 at 09:43:38

Also: Out of curiosity, how does Mexico's GDP chart, 1945-2010?

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By Frankenrogers (registered) | Posted September 26, 2012 at 12:43:50

A few questions on the tax rates. I haven't really thought too much on this before but...

Would the tax rates in the 40s-50s be higher because: There were fewer options in terms of countries to make real money so they had to stick around? There were more bricks and mortar businesses and the opportunities to move them were limited. In other words, wealth can be more mobile now so do you think countries have to kowtow more.

Or were there more tax credit opportunities then?

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By DowntownInHamilton (registered) | Posted September 27, 2012 at 07:26:27 in reply to Comment 81270

I'd say things like globalization and free trade have to do with it, as do easier and cheaper modes of transportation of goods than 60 years ago.

Also, there were not the same large chain stores there are today, meaning more independent/local business competing for the same piece of the pie. More corporate tax on more business = more money coming in, no?

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By Plainfield (anonymous) | Posted September 26, 2012 at 14:03:32

“…you can draw a straight line between oil consumption and gross-domestic-product growth. The more oil we burn, the faster the global economy grows. On average over the last four decades, a 1 percent bump in world oil consumption has led to a 2 percent increase in global GDP. That means if GDP increased 4 percent a year -- as it often did before the 2008 recession -- oil consumption was increasing by 2 percent a year.”

http://www.bloomberg.com/news/2012-09-23/how-high-oil-prices-will-permanently-cap-economic-growth.html

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By mainstreet (anonymous) | Posted September 28, 2012 at 08:24:45

perhaps my property taxes could be lowered. If our local politicos would alow me to have some money left over for discretionary spending,I may go and buy a ticket to a local play or out to dinner once in a while,But no thats not going to happen any time soon.My politicians would rather take my hard earned dollars and squander it to finance more city debt.Wake up Hamilton!

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By Shempatolla (registered) - website | Posted September 29, 2012 at 20:43:36

Here's an article for those of you who think the "wealthy" are getting off lightly at the expense of the "poor" Fully 49% of American households pay NO INCOME TAX AT ALL and its the bottom half, while the upper Half pay virtually 100% of the income tax collected by the IRS, with the top 10% of those pay well over 38% of the total collected. http://www.investopedia.com/financial-ed...

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By A Smith (anonymous) | Posted October 01, 2012 at 13:44:30 in reply to Comment 81326

The Ontario minimum wage is currently $10.25/hr ($10.25 vs $49.967k GDP/capita = .205). If we used the 1970 minimum wage ($1.50/hr vs $4.236k GDP/capita = .354), it would need to be raised to $17.69/hr.

If you look at economic growth between 1968-72, real GDP averaged 2.60%/yr. From 2007-11, Canada's real GDP averaged only 0.86%/yr.

By 1979, the minimum wage was down to $12.96 (2011 equivalent) and by 1989 it was at the level we see today ($10.34, in 2011 dollars).

The story in the U.S. is even worse, which likely explains why their economy is currently in hibernation. Too much money in the hands of a few just isn't good for economic growth.

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By fed (anonymous) | Posted October 01, 2012 at 06:45:07 in reply to Comment 81326

No FEDERAL income tax. They still pay state income tax, sales tax, property tax etc. etc.

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By Undustrial (registered) - website | Posted October 01, 2012 at 00:35:22 in reply to Comment 81326

Keep in mind that these numbers are reflective of enormous pre-tax income inequalities. How many of that "lower half of Americans" are even employed?

In any case, the top half or even the top 10% aren't the best ways to chart this. The real tax savings start around 1% and above, that's where you can afford accountants, Cayman Island bank accounts and endless tax shelters.

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By Shempatolla (registered) - website | Posted September 30, 2012 at 18:48:28 in reply to Comment 81326

Funny. Someone down votes me for posting publicly accessible information from the IRS ! Oh my side.

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