Dynamic Benefits of the Tax Reform Panel's Recommendations

May 30, 2006

The U.S. Treasury's Office of Tax Analysis (OTA) has released a dynamic scoring of the economic benefits of three fundamental tax reform plans—including two plans suggested in the final recommendations of the President's Advisory Panel on Federal Tax Reform last November.

The OTA analyzed two tax plans recommended by the tax reform panel—the "Growth and Investment Tax Plan" and the "Simplified Income Tax Plan"—as well as a progressive consumption tax plan modeled after the late David Bradford's "X Tax."

The OTA scored the plans using three popular macroeconomic growth models: the Solow growth model, the Ramsey growth model, and an overlapping-generations life-cycle model.

Here's the bottom line on the likely economic benefits of enacting the tax plans:

This paper examines the economic growth effects of three of the tax reform options discussed by the Tax Panel. We find that the options that move the tax system in the direction of a consumption tax base the most, the Progressive Consumption Tax and Growth and Investment Tax Plan, provide the greatest increases in capital accumulation and national output. This result is consistent with a wide body of previous research...

Table 3 shows the effects of the Progressive Consumption Tax on selected economic aggregates. We expect that a switch to a consumption tax would lead to more saving and investment which would translate into higher levels of output and eventually into higher levels of consumption.

Each of our three models obtains these qualitative results. In the long-run, for  example, the capital stock compared to the baseline increases by 27.9 percent in the Ramsey  model, 14.0 percent in the OLG model, and by 8.0 percent in the Solow model.

This leads to an increase in national income (Net National Product) of 6.0 percent in the Ramsey model, 2.8  percent in the OLG model and by 1.9 percent in the Solow model, while consumption rises by  5.5 percent in the Ramsey model, 2.2 percent in the OLG model, and 1.9 percent in the Solow  model.

These results are similar to other estimates of consumption tax reforms found in the literature.

Here's Table 3 from the paper, which contains the estimates of the plans' effects on growth, labor supply, consumption and more (click to enlarge):

Read the full paper here (PDF).

(Link via Tax Prof Blog.)

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