Tax Rates and Economic Growth [December 5, 2011]   [open pdf - 319KB]

"This report summarizes the evidence on the relationship between tax rates and economic growth, referring in a number of cases to other CRS [Congressional Research Service] reports providing more substance and detail. Potentially negative effects of tax rates on economic growth have been an issue in the debates about whether to extend the 2001-2003 income tax cuts, whether to increase taxes to reduce the deficit, and whether to reform taxes by broadening the base and lowering the rate. Initially, it is important to make a distinction between the effects of policies aimed at short-term stimulation of an underemployed economy and long-run growth. In the short run, both spending increases and tax cuts are projected to increase employment and output in an underemployed economy. These effects operate through the demand side of the economy. In general, the largest effects are from direct government spending and transfers to lower-income individuals, whereas the smallest effects are from cutting taxes of high-income individuals or businesses. […] Claims that the cost of tax reductions are significantly reduced by feedback effects do not appear to be justified by the evidence, where feedback effects are in the range of 3% to 10% and can, in some cases, be negative. Because of the estimated realizations response, capital gains tax cuts have in the past been estimated to have a large revenue offset (about 60%), but more recent empirical estimates suggest one of about 20%. In general, for stand-alone rate reductions the additions to the deficit would cause tax cuts to have a larger cost both because of debt service and because of crowding out of investment which would swamp most behavioral effects."

Report Number:
CRS Report for Congress, R42111
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