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A Simple Thought Experiment

By: Alan Cole

I have a simple exercise for the reader. This shouldn’t be difficult to follow, nor should it require any kind of advanced education in economics, nor should it even require you to agree with me about a lot of basic axioms or assumptions of economics. It just requires you to think along with me. Are you ready? Here goes.


I want you to think about the best possible revenue-neutral taxA tax is a mandatory payment or charge collected by local, state, and national governments from individuals or businesses to cover the costs of general government services, goods, and activities. reform that you can come up with. What I mean by revenue-neutral is that you can put together any combination of tax increases or tax cuts, using any of the different kinds of taxes available, as long as the combination you choose doesn’t change overall revenues when you apply it to today’s economy. You have both tax cuts and tax increases, but they cancel themselves out at the end under the current size of the economy.

What I mean by “best” is up to you. I’m not telling you, for the purposes of this thought experiment, how to create a good tax policy. You can use your own judgment and your own principles here. I’m just telling you to create one.


If your revenue-neutral tax reform is good policy, presumably it’s going to grow the economy, at least a little bit. At a minimum, it should create a few hundred thousand jobs, maybe, or raise wages by a couple tenths of a percent, right?

Your tax provision, though it won’t increase revenues under the current size of the economy, is going to expand the economy, bringing about new production and expanding your tax baseThe tax base is the total amount of income, property, assets, consumption, transactions, or other economic activity subject to taxation by a tax authority. A narrow tax base is non-neutral and inefficient. A broad tax base reduces tax administration costs and allows more revenue to be raised at lower rates. . It may be statically “revenue-neutral,” but after accounting for the macroeconomics, it will probably increase revenues, probably by billions or even trillions of dollars over the long run.


There’s one last step in this thought experiment. I want you to take your static revenue-neutral tax plan of choice, and add a tax creditA tax credit is a provision that reduces a taxpayer’s final tax bill, dollar-for-dollar. A tax credit differs from deductions and exemptions, which reduce taxable income, rather than the taxpayer’s tax bill directly. for yourself, as a bonus for your hard work in making the economy better. This tax credit turns your revenue-neutral reform into a tax cut, but changes very little about the reform on a grand scale. Presumably it will have the same macroeconomic effects as it did in the second step, and continue to produce far more revenue than the static estimate suggests.

If you’ve followed me so far, I’m curious what implications you’ve drawn about what is possible in tax policy. I am curious for an answer from left-leaning economists generally, and I am especially curious about the thoughts from left-leaning economists who think the distinction between gross figures and net figures doesn’t matter.