The Incredible Shrinking Middle Class Tax "Increase"

We should be all skeptical of the appeal to non-partisan authority; to the argument that some "Center" or "Institute" or "Foundation" - or even college professor - has done a study that has come to a conclusion that we all should accept on its face because the people who did it are smart. 

A case in point is the study by the Tax Policy Center purporting to show that Mitt Romney's across the board reduction in tax rates "must" result in tax increases on the middle class. The claim is being trumpeted by the Obama campaign in speeches by the President and Vice President and ads running in Wisconsin and elsewhere. 
The study is interesting but this claim - which to its discredit, the Tax Policy Center encouraged – is, at best highly misleading and, at worst, an outright lie. 

Here's what the Tax Policy Center did. It calculated the revenue that would be lost by an across the board rate increase by using "static scoring," i.e., the reduction in rates is assumed to have no impact on economic growth. That is generally a bad assumption. One might be able to make a stronger case for it here because Romney wants his plan to be revenue neutral, i.e., it should not result in a loss of tax revenue. But reducing rates and eliminating so called tax expenditures is likely to result in a more efficient allocation of capital and, it is reasonable to suppose, result in some increase in economic growth and tax yield. 

In addition, in calculating the “baseline” from which the "shortfall" in revenue is calculated, the Tax Policy Center takes into account revenue that would be raised by the various taxes imposed by ObamaCare. Romney proposes to repeal these along with much of the spending proposed by the health care plan. These ought to be considered separately.  

So the revenue shortfall – the money to be lost by Romney’s proposed across the board rate reduction – is overstated. 

But even Romney admits that these cuts will still have to be "paid for," i.e, revenue from additional growth will not completely "pay for" the reductions. So he proposes eliminating deductions and credits. The weakness of his position is that he hasn't said which ones these will be. 

And that left him open for what seems like a bit of hackery by the generally respectable Tax Policy Center. It looked at the various deductions, credits and exclusions of income and unilaterally decided which ones were "off the table." In other words, it made up a Romney plan and then proceeded to analyze it. 

The deductions, credits and exclusions that it "took off the table" were presumably selected because  Romney has said that he does not want to raise taxes on savings and investments. There are two problems with this. First, if you to hold Romney to his promise not to raise taxes on savings and investment such that you assume he will never depart from it, you must also hold him to his promise to raise taxes on the middle class such that you assume he will never depart from it. That would make the criticism of the plan focus on its claim to be revenue neutral – which is not the criticism that the Tax Policy Center and Obama campaign have advanced. 

More fundamentally, saying that one will not raise taxes on savings and investment, does not remove from the table all of the deductions, credits and exclusions that the Tax Policy Center assumed. As economists at the American Enterprise Institute have pointed out, one could eliminate the shortfall by eliminating the exclusion of interest on government bonds and interest earned by life insurance policies – preferences for one kind of “investment” or “saving” over others. One could eliminate more by repealing the "stepped up basis" for capital gains taxes imposed on the sale of inherited assets – something that makes no sense if we repeal the estate tax – as Romney proposes to do. All of these predominately benefit wealthier taxpayers. 

AEI points out – and the Tax Policy Center does not say otherwise – that when you make these adjustments and put these exclusions, deductions and credits back on the table, the supposed "need" for a middle class tax increase is eliminated by a very small increase in the rate of growth. In other words, what the Tax Policy Center initially said “must happen” need not happen at all. 

The point is not that the Tax Policy Center got the math wrong - it doesn't appear that there is much disagreement about the math. It's that it approached the issue in a tendentious way - making assumptions that advanced its preferred narrative and that played into the hands of one of the campaigns. It would have done a better study had it played it straight.

It would be fair to ask Romney to be more specific about his plan - a question that might also be asked of the President about his. It's fair to say that its tough to design an across the board rate decrease that would be revenue neutral without raising rates on capital gains and dividends - although neither would raise much more money. But saying that Romney proposes a middle class tax increase is wrong. So wrong, I think, as to be perilously close to a lie.

Cross posted at Purple Wisconsin.