As Bush Brags on Tax Cuts, Some See Oversell

When President Bush talks about the U.S. economy, he presents his tax cuts as a kind of cure-all.

The recession was short and shallow because he cut taxes, he says. Job growth has rebounded because he cut taxes. Homeownership is up because he cut taxes.

“Tax relief put this economy on the path to growth,” the president said Saturday in his radio address, in which he also celebrated the government’s report Friday that the U.S. economy produced an unexpectedly high 308,000 jobs last month. Economists of all political stripes agree that the infusion of cash produced by three years of tax cutting gave a needed boost to a sagging economy.

Yet many economists say that the president is overselling the effect of the cuts. Some also have questions about whether the cuts were constructed in the most cost-efficient way to spur economic growth.

Recent studies suggest that businesses have been slow to take advantage of new tax incentives to invest in equipment; that people were more likely to save their tax windfall than to spend it; and that other factors, such as low interest rates, have been more important than tax cuts in spurring growth.

In a recent series of forums around the country, Bush has stated that the tax cuts enacted in the last three years helped end the recession by putting more money into the hands of consumers and by giving businesses new incentives to make capital investments.

It is politically crucial for Bush to make the case for his tax cuts, because Democrats and their presumptive presidential nominee, Sen. John F. Kerry, have been arguing that the president’s policies are too skewed to the wealthy, have produced enormous deficits and have not spurred enough job creation.

The tax cuts enacted since Bush became president include:

* A 2001 law that cut income taxes $1.35 trillion over 10 years.

* A $123-billion three-year stimulus bill in 2002 that increased business investment incentives.

* A 2003 bill, valued at $350 billion over 10 years, that cut taxes on dividend income and capital gains and sped up the 2001 income tax rate cuts.

“Almost any tax cut or spending increase would succeed in boosting a sluggish economy,” said William G. Gale, an economist at the Brookings Institution. “The key question is, therefore, not whether the proposals provide any short term stimulus but whether they are the most effective way to provide stimulus.”

Gale and others argue that a more effective economic stimulus would be tax cuts more narrowly targeted to lower-income people, who would tend to spend a larger portion of their tax cut than would wealthier people. According to an analysis of Bush’s 2001 and 2003 tax cuts by the Tax Policy Center, a joint venture of the Brookings Institution and the Urban Institute, more than half the tax relief this year went to taxpayers earning more than $100,000 a year.

“There are better ways to spend the money if your objective was to stimulate the economy,” said Mark Zandi, chief economist with Economy.com, a research and forecasting firm. “The president’s policies have certainly helped the economy, but they haven’t been very effective and they have been very costly.”

Former Treasury Secretary Paul H. O’Neill mounted a critique of the tax cuts while he was in the Bush Cabinet, warning that they would do little to help the economy but would have a damaging long-term effect on the deficit.

Now, Treasury officials defend the tax policy’s blend of investment incentives and individual tax breaks, including upper-income rate cuts that benefit many small businesses as well as wealthy individuals.

“It was the right medicine for the economy at the right time,” said Rob Nichols, spokesman for the Treasury Department.

What follows is a review of some of Bush’s central claims about his tax cuts and questions that have been raised by outside analysts and economists.

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“One of the main reasons why the recession ... is the shortest in modern history is because we acted with tax relief.” -- Washington, D.C., March 24

This claim is hard to prove or refute because no one knows how quickly the recession would have ended without tax cuts. The recession ran from March to November of 2001, according to the National Bureau of Economic Research, the research group that is considered the arbiter of business cycles.

“We don’t want to fall into the fallacy of Aunt Jane’s cold medicine: It always works because you take it and 10 days later your cold is gone,” said Joel Slemrod, a professor of economics at the University of Michigan’s business school. Recessions, like colds, eventually end regardless of attempted cures.

Although the tax cuts surely contributed to the spurt of economic growth in 2003, many analysts say that other factors, such as low interest rates, were more important. An analysis by Economy.com calculates that tax cuts will have accounted for less than one-third of real economic growth over the years of the Bush presidency.

While the recession was short -- eight months -- it was not the shortest in modern history. There was a six-month recession in 1980, according to the National Bureau of Economic Research, and several other eight-month recessions since World War II.

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“If a family has more money to spend, it means they’re going to demand an additional good or a service. And when they do, somebody is going to produce the good or a service. And when somebody produces it, somebody is going to work.” -- Bay Shore, N.Y., March 11

Bush implies that most people used their tax windfall for additional spending rather than savings, but that assumption is in doubt. Slemrod estimates that only about one-third of the aggregate tax cut was spent by consumers. His survey of how recipients used the 2003 tax cut found that 26% said they mostly spent the rebate check they got midyear from the increased per-child tax credit; 21% said they mostly spent the extra money they saw in their paychecks.

That spending produced some economic stimulus, “but not as big as one might have thought,” said Slemrod. “The short-term stimulative effect was fairly modest.”

In addition, there are some signs that the tax cut is putting less money in consumers’ hands than had been expected. Analysts at Merrill Lynch predicted that refunds on 2003 tax returns would run 30% higher than last year. But as of mid-March refunds were running 11% higher than at the same point last year.

What’s more, for many taxpayers, the extra money in their pockets is quickly diminished because their state and local taxes are going up. According to the National Assn. of State Budget Officers, 36 states raised taxes last year.

At the same time, the solid job gains reported in March -- 308,000 new jobs marked the largest increase in nearly four years -- gave the Bush administration ammunition to bolster its argument that the tax cuts caused people to spend more money, generating more economic activity. “The president’s tax relief for millions of American families and businesses has reinvigorated the economy and is driving job creation,” Treasury Secretary John W. Snow said on Friday.

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“We’re trying to encourage the [small business owners] of the world to go out and buy some equipment. That was part of the tax plan. Some businesses need additional equipment -- additional computers, additional software -- and there was an incentive to go out and purchase them.” -- Bay Shore, March 11

The 2002 tax cut temporarily allowed businesses to write off capital purchases more quickly, a bonus that was expanded in 2003. But it is not clear that it will make a big difference in business decisions.

A January 2004 survey of business officials by the National Assn. of Business Economics found that 73% of those surveyed said their firm had not increased its equipment purchases because of the tax break.

Zandi said the survey results suggest that surprisingly few companies are taking advantage of the tax break, but that may be because they are postponing the investment or did not initially understand it.

Another survey of manufacturers by the National Assn. of Manufacturers found that 30% said the tax break had a “significant or major impact” on their investment plans. Dorothy Coleman, a tax policy expert with the association, said she was not surprised that the response was not more positive because the manufacturing sector is still coming out of a recession and many companies are still learning about the tax break.

“Companies don’t change their investment plans overnight,” she said.

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“We cut the taxes on dividends and capital gains to help encourage investment and savings. This action particularly helped many seniors because a lot of seniors rely upon investment income to live on.” -- Milwaukee, Wis., Oct. 6, 2003

Company payouts have increased in the wake of the tax cut on dividend income. According to the American Shareholders Assn., 1,630 companies increased their dividends in 2003 and 20 began offering them.

At the same time, there is some data to suggest that company insiders benefited most from the dividends tax cut.

Three business school professors, Jana Smith Raedy and Douglas A. Shackelford of the University of North Carolina and Jennifer Blouin of the University of Pennsylvania, analyzed 1,202 companies in the first quarter after the dividend tax cut passed. Although 292 companies had some dividend increase during that period, the vast majority of the money came in the form of special one-time payouts by just 17 companies where most of the stockholders are officers or managers of the firm.

Joseph Lisante of Standard & Poor’s has spotted a similar trend in the S&P; 500, where the biggest dividend boosters were companies with big holdings by insiders. “This is a great way to pay a bonus to insiders” at a lower tax rate, he said.

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“Because of tax relief, Americans have more to save, spend and invest -- and that means millions of American families have moved into their first homes.” -- Radio address, March 27

In hailing today’s record-high rate of homeownership, Bush is virtually alone in suggesting that the tax cuts played an important part. A far bigger factor is record-low interest rates, as well as demographic trends that have brought a large cohort into home-buying age, said Michael Carliner, economist for the National Assn. of Home Builders.

Although the tax cuts may have given people a little extra money for a down payment, Carliner said, that is “not a major factor” in the home ownership boom.