Yesterday, the Joint Committee on Taxation (JCT) released their analysis (PDF) of a bill to extend several lapsed 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. provisions through 2016. The most significant of these lapsed is called 50 percent expensing, a policy that lets businesses deduct some costs up front rather than over a long schedule.
An important feature of this analysis was that it included the effects of macroeconomic growth, as measured by the committee’s Macroeconomic Equilibrium Growth (MEG) model to simulate the economy. This is a new and commendable effort by JCT to include such analysis in its study of tax bills Congress considers.
In total, the growth effects measured by the MEG model helped the $97 billion package recoup a little over $10 billion due to increased revenues. The key portion of the analysis can be found in the overview. The provisions for individuals were mostly projected to have “little effect,” but the impact of some of the business provisions was more powerful:
The provisions affecting businesses, especially the extension of 50 percent expensing, are expected to have a more significant, although temporary, impact on the after-tax cost of capital. Thus, the primary effect of the bill on the economy is expected to be an initial increase in the stock of business capital of about 0.3 percent in the first half of the budget period, resulting in an increase in production, output, and receipts by about 0.1 percent during that period.
This is a sensible result driven by the model’s basis in standard economic production functions:
While the model is based on economic data from the National Income and Product Accounts, taxable incomeTaxable income is the amount of income subject to tax, after deductions and exemptions. For both individuals and corporations, taxable income differs from—and is less than—gross income. is adjusted to reflect taxable income as measured by reporting on tax returns. The MEG model is based on the standard, neoclassical assumption that the amount of output is determined by the availability of labor and capital, and in the long run demand for labor and capital equals the amount supplied by households. Individuals are assumed to make decisions based on observed characteristics of the economy, including wages, prices, interest rates, tax rates, and government spending levels.
Essentially, in the MEG model, people work together with capital (that is, the sorts of tools and machinery that would be covered under 50 percent expensing) in order to create output. If output goes up, so do tax revenues. Simple enough.
This is sound economic analysis, and it’s a great step forward for JCT. The process could probably be improved further with even more information. (For example, showing the line-item effects of each provision.)
The analysis offered by JCT is similar in method to what Tax Foundation’s Taxes and Growth (TAG) model does. The TAG model is also based on a standard economic production function, and also changes people’s behavior in response to taxes. The TAG model last year evaluated 50 percent expensing under the same general mode of analysis as the MEG model. The TAG model found the effects of a permanent bonus depreciationBonus depreciation allows firms to deduct a larger portion of certain “short-lived” investments in new or improved technology, equipment, or buildings in the first year. Allowing businesses to write off more investments partially alleviates a bias in the tax code and incentivizes companies to invest more, which, in the long run, raises worker productivity, boosts wages, and creates more jobs. on the capital stock and GDP to be 3% and 1%, respectively.
A permanent extension is obviously a larger and more powerful change than the temporary extension that JCT evaluated. (You could think of it as the sum of several temporary extensions.) Temporary policy is less effective than permanent policy, especially when it comes to the sort of provisions involved in the tax extenders debate.
While JCT – by rule – does not make specific policy recommendations, their macroeconomic analysis is a helpful tool for lawmakers considering the package, and it reveals some important information: that is, that some tax extenders – like bonus depreciation – are better than others when it comes to economic growth.
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