Is `Dynamic Scoring' Just Voodoo Economics?
"Dynamic scoring" is the fashionable economic idea of the moment. As an intellectual concept in the growing debate over tax cuts, it is compelling. As a political weapon, it is powerful. But as a fiscal measure, it may be the most dangerous thing to hit Washington since politicians discovered how to print money.
Dynamic scoring states simply that cutting taxes has a real impact on both individual economic behavior and macroeconomic growth. Cutting taxes tends to generate more economic activity and thus more tax revenues. In contrast, static analysis of tax policy posits no change in macroeconomic activity when taxes are cut. During the Bush and Clinton Administrations, the Treasury operated under essentially static assumptions. The new Republican majority in the Congress wants to shift to dynamic scoring.
The budgetary implications of the tax debate are clear and momentous: If dynamic scoring works, tax cuts may pay for themselves. Taxes can be cut without damaging the budget, even if government spending remains high. In fact, the deficit can actually be reduced. A capital-gains tax cut from 28% to 14%, for example, would cost about $56 billion over five years but would, by one dynamic scoring estimate, boost government revenues by $126 billion by the year 2000. If static analysis works, however, then the $56 billion loss is a real hit on the deficit. This makes dynamic scoring appealing. However, there are big analytical problems. No one knows how much economic activity is generated by each $1 cut in taxes. Does a $1 cut in taxes produce $1.00, 50 cents, 5 cents, or zip in additional tax revenues?
One huge uncertainty is the global economy. A cut in U.S. taxes puts cash directly into the hands of Americans, but they are certain to spend a considerable portion of it on imports--toys, VCRs, cars, or personal computers. That cash doesn't go into the domestic economy or boost tax revenues. Sure, foreign demand for American goods may rise, boosting domestic growth and tax revenues. But this is so indirect, how does it get measured? Nobody knows.
Two things are clear. First, tax and spend is bad, but cut and spend is foolhardy. Throughout the '80s, politicians showed a shallow disregard for fiscal discipline. The deficit exploded, America became a debtor nation, and the bond vigilantes became a force to be reckoned with. They already sniff the possibility of deja voodoo economics adding inflationary pressures to an economy growing at about 4% a year.
Second, the whole point of cutting taxes is to shrink the size of government, not to maintain it. The Newt Gingrich Republicans are being hoisted on their own intellectual petard by favoring dynamic analysis in the tax-cut debate. Their approach encourages big-government programs and pretends no one is paying for them.
We prefer pay as you go. It's probably true that big tax cuts generate some offsetting revenues because of economic change. In a complex global economy, however, dynamic analysis cannot accurately predict the amount of the gain. At the moment, Congress is bound by law to cut a dollar's worth of spending for every dollar in tax cuts. That's a discipline worth keeping until Washington shows the citizenry that it has the self-control to be trusted with discretionary spending. If future tax cuts generate surprising new revenues, call it a bonus, and use it to pay down the federal debt. The deficit might even disappear in our lifetime. Now, that's a goal worth fighting for.