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InsiderOnline Blog: September 2012

Cutting Government Spending Needs to Be Part of the Program for Getting the Economy Going

… explains e-21:

A 2006 Treasury paper found that a permanent extension of current (2012) tax rates would result in a 2.3% larger capital stock if those tax reductions were financed by corresponding cuts in spending. With the exception of lower taxes on dividends and capital gains, which increase growth even when deficit-financed, all other tax components of the “fiscal cliff” would actually reduce long-run growth unless they are financed by spending restraint. Higher marginal income tax rates reduce work, effort, savings, and investment by reducing the household or business’ share of the incremental income generated by these activities. This is the same channel through which debt overhang operates, as the implied higher future tax rates generated by large deficits reduce work, savings, and investment. Indeed, because no one is sure who will pay the ultimate costs of the looming fiscal adjustment, persistently large deficits could be worse than higher taxes if households and businesses overestimate their likely share of the future tax burden.

Posted on 09/26/12 03:57 PM by Alex Adrianson

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