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The · Psychohistorian

Tax cuts and revenue - Clinton and Bush

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During the Clinton years, there was a tax increase, but also a subsequent tax cut before the budget surplus; Bush cut taxes, but also increased tax revenue.

Ronald Reagan popularized the Laffer curve, which states that maximal tax revenue occurs at a tax rate that is higher than 0% - where no taxes are collected - and 100% - where people don't bother working for pay and there's nothing to tax. He contended that the 70% maximum marginal income rates for federal income tax at the time were above the peak of the curve, and that a reduction in those tax rates could increase overall federal tax revenue. There is widespread recognition that his reduction of tax rates actually did accomplish this, boosting the tax base by fueling the economic boom of the 1980s and 1990s.

There is less widespread agreement about the tax changes of the Clinton and Bush the younger administrations. The common wisdom seems to be that Clinton raised taxes, and Bush's tax cuts decreased revenues. Until recently, I accepted that common wisdom myself. However, the actual data do not really support that conclusion.

The data on the Clinton administration is this: there was a tax increase early in the administration. However, there was also a substantial capital gains tax cut in 1997, from 28% to 20%, along with an income tax cut in the lower brackets. The capital gains tax decrease preceded the internet bubble and the federal budget public surpluses of 1998-2001 and total surpluses of 1999-2000. The common wisdom may be incorrect: possibly the early tax rate increases resulted in the surplus, but maybe it was the later tax cuts that resulted in the surplus.

The data on the Bush administration is this: there were tax cuts in 2001 and 2003. Revenues then increased in every subsequent year until the 2008 recession, faster than they did during the Clinton years, as illustrated in the above graph.
Now, possibly, revenues would have increased more without the tax cuts. On the other hand, possibly they would have increased less. The common wisdom that the Bush tax cuts increased the deficit is far from clearly true.

What does seem true is that we are still within the broad peak of the Laffer curve, where tax rates don't affect revenues very strongly. A corollary is that if we want to reduce the deficit, our primary tool needs to be spending cuts, rather than mucking with the tax rate one way or the other.

Image source: http://winteryknight.wordpress.com/2011/08/15/did-george-w-bushs-tax-cuts-cause-obamas-trillion-dollar-budget-deficits/
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