Snake Oil Salesmanship
10.16.12 1:08 PM ET
Can Tax Reform Jump-Start the Economy?
[E]conomic theory is unambiguous that holding taxes constant and reducing marginal rates will increase growth. But it is important to understand that this effect is neither large nor instantaneous. At best, it will raise the long-term trend rate of growth by perhaps tenths of a percent. With compounding, the effect can eventually be large.
But the idea that tax reform will jump-start an economy suffering from the after-effects of a cyclical downturn is nonsense. This can be illustrated by looking at the impact of the 1986 tax reform.
Real gross domestic product growth was about the same after the 1986 act took effect in 1987 as it was before, and tax reform obviously did nothing to forestall the 1990-91 recession. Unemployment fell, but it had been trending downward before tax reform, and the 1986 act probably had nothing to do with it. Within a couple of years it was trending upward again. By the mid-1990s, it was the consensus view of economists that the Tax Reform Act of 1986 had little, if any, impact on growth.