Tuesday, September 14, 2010

Time Horizons: Tax Cuts Edition

Matt Yglesias addresses tax cuts as stimulus in a way that appeals to FLG -- long time horizons:
Every time you earn a dollar that you don’t spend on consumption goods, you’re saving a dollar. If you just let those dollars pile up in your sock drawer, nothing happens. But assuming you do something with it—even just leaving it in a checking account—then the financial system turns that dollar of saving into a dollar of investment. And those investments can drive long-term economic growth by increasing society’s ability to produce goods and services. Lower-income people have a higher marginal propensity to consume, so there’s a case to be made that a regressive tax cut will do more to boost long-term growth.

FLG isn't quite sure about Matt's final conclusion/assertion:
Long story short, there are circumstances in which a debt-financed tax cut aimed at the low end can boost growth and there are circumstances in which an offset tax cut aimed at the rich can boost growth, but the debt-financed tax cut for the rich that is the hallmark of post-Reagan conservatism is just an exercise in upward redistribution of wealth.

Matt's argument is that if you borrow money to increase savings, then they cancel each other out. FLG gets that, but he's not so sure that they do in practice. In autarky, FLG agrees, but if you borrow internationally, then FLG thinks it might work to stimulate long-term growth because in a sense you are importing savings at Treasury rates and your country is still getting investment that it can benefit from. Probably by more than the Treasury rate interest.

Although, FLG'd have to think about it more. These things get tricky and he may be forgeting an identity somewhere that disproves this.

3 comments:

Alpheus said...

So many contingencies here. A tax cut might well keep the government from spending money on something else, and thus help keep the deficit down over the long run (since government spending tends to become permanent).

FLG said...

Alpheus:

I was thinking along straight economics lines, leaving aside the political aspects. Politics is so mercurial that I can't really say anything substantial about the potential policies at any given time.

From an economic perspective though, I'm still not sure. From an identity perspective, an increase in international borrowing also means an increase in imports.

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