More Jobs versus More Children

August 21, 2014

Dan Mitchell’s article today in the Wall Street Journal about why we need marginal tax rate cuts rather than child tax credits has elicited a response from Jim Pethokoukis of AEI:

From 1987 through 1992 — after the much ballyhooed 1986 tax reform — the top marginal rate was around 31%, yet real GDP growth averaged just 2.8%. And from 2003 through 2007 when the top marginal rate was 35%, GDP growth averaged 2.9%. This is not to say lower tax rates aren’t good for economic growth. But marginal rates at those levels are almost certainly already deep on the good side of the Laffer Curve. Also, while it’s true that other things were happening in the economy during those years, that’s the point. The top tax rate isn’t the only factor influencing economic growth, either short- or long-term.

First, the Laffer Curve refers to tax revenue, not economic growth. It says there is a tax rate at which tax revenue is maximized. The tax rate at which economic growth is maximized is almost certainly well below that.

Second, not only were other things happening in the economy, other things were happening in the 1986 and 2001-2003 tax changes besides tax rate cuts. Namely, the 1986 Tax Reform Act involved a number of tax increases on saving and business investment, especially through higher capital gains taxes and longer depreciation lives. The net effect was to increase the cost of capital. Slow growth ensued.

The Bush tax cuts involved… a doubling of the child credit, among other changes that made the tax code more progressive. Slow growth ensued.

More from Pethokoukis:

[E]xpanding the child tax credit would serve as a sort of human-capital gains tax cut for worker creators (also known as families). It might just be nudge enough for financially-stressed families to have another kid since surveys suggest parents don’t have as many as they would otherwise prefer due to money concerns. Modern pro-growth policymakers should fret as much about the nation’s birthrate as productivity and labor-force participation rates. Lower birthrates and older populations are associated with less economic growth. A younger American society with a higher birth rate, helped by a tax code that offsets anti-family government policy, would be more dynamic, creative, and entrepreneurial.

Our current economic malaise is defined by the lack of jobs, not the lack of children. In fact, that is how economic malaise is defined in general. We would need to come up with a new word to describe a lack of children (demographic malaise?).

I, like most humans, think that children are blessing. I am also one to think we as a society should have more kids. I also think that in the very long run, say decades, demographics are destiny, i.e. we cannot expect to be a large, flourishing economy a generation from now if our birth rate continues to be at or below the replacement rate.

However, boosting the birth rate is not as simple as boosting the child credit. Even if people were robots that cared only about monetary incentives, we are talking about a tax benefit of a few hundred dollars a year compared to a cost of many thousands of dollars per year and a long term cost in the hundreds of thousands of dollars. No self-respecting robot would have a child for the child credit. Of course, we are not robots, and we have children for lots of non-monetary, sentimental reasons.

People do think of money, of course, when planning out whether or not to have kids. In that sense, the best way to get the birth rate back up is to get people back to work with wages that can support a family. Remember, for the vast majority of Americans, wages come from private sector employers, not the federal government. There are currently far more job seekers than job openings, hence unemployment. The best way to fix that is to lower the cost of hiring by lowering taxes on employers.

Pethokoukis is right, that a good way to do that is to lower the corporate tax rate and to move towards full expensing of investment. Another good way is to lower the top individual tax rate, in part because so many businesses are taxed at that rate, i.e. the pass-through businesses that now make up the vast majority of all businesses and more than half of all business profits.

More from Pethokoukis:

American needs more growth, and worker creators (strong families) are just as important to achieving that as job creators (strong companies). Let’s have both.

Life is about tradeoffs, and so is the federal budget. Whatever tax benefits we shell out to parents we cannot then shell out to workers or to businesses. We could cut taxes for everybody, but then we’d have to shrink the federal budget. That’s a debate worth having.

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