Tax cuts for the rich don’t help the economy grow, but they do help inequality rise

by pdxblake

The Congressional Research Service tells us what we all pretty much new before: tax cuts for the wealthy are not that stimulative (ht Mark Thoma).  The report concludes:

“The evidence does not suggest necessarily a relationship between tax policy with regard to the top tax rates and the size of the economic pie, but there may be a relationship to how the economic pie is sliced,”

The relationship between economic growth and tax cuts relies upon strong ‘supply side’ effects.  That is, when you give the wealthy more money by cutting their tax cuts, they will take that money and invest in businesses to supply the economy with more goods.  However, when taxes on the wealthy are already at low rates and the economy is constrained not by lack of supply but by lack of demand for goods and services, the effect that is already small will decline, at the cost of higher long-term deficits.

The evidence that tax cuts for the wealthy benefit them (and not the rest of the country) is common sense: when you give people with the most wealth already more money, their share of after-tax income will rise relative to the rest of the economy.  The slanting of tax cuts for the wealthy will also affect the relative after-tax inequality of the US compared to other countries, and will limit the ability of government policy to reduce poverty.  Jared Bernstein at the Center on Budget and Policy Priorities posted this chart on his blog:

What this shows is the poverty levels of the countries before taxes and transfers (social programs to help the poor) for a bunch of countries.  The poverty level before taxes and transfers is relatively equal and the US is close to the average (26.4% poverty rate).  However, once the impact of tax policy and government social safety net programs is included, the picture changes dramatically.

The US has a much higher after-taxes and transfer poverty rate than the other countries–17.1% versus the average of 9.8%.  This comes from both less progressive taxation (relative to other countries the difference between the tax rates paid by the wealthy and the rate paid by the poor is lower in the US) and fewer social programs that reduce poverty (transfers).

If the government gives more tax cuts for the wealthy, the progressivity of the tax system will be reduced and the ability of the government to provide more generous social safety net programs will be reduced by higher deficits (and not the cyclical type of deficits the US is currently running which should decline once the economy begins to grow more rapidly).  Both of these effects will contribute to higher after-tax and transfer poverty rates and the US is already has much higher poverty rates after taxes and transfers than many other high-income countries.

Think about that the next time a Republican tells you we need to cut taxes on the wealthy rich job creators.