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Economists Voice Opposition to Bush Tax Cuts
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Transcript of February 10, 2003 news conference

MS: ... the Bush tax plan signed by ten Nobel Prize winners in economics and 450 other economists. Allow me to give you some background. There are certainly good reasons to be concerned about the economy. Over the last two years, unemployment has risen by two percent. We have lost more than two million private sector jobs. And the weekly wages of most workers is now growing slower than inflation, the first time in seven years. A very sharp reversal of trend.

This week job market is not only adversely effecting those who are unemployed and those who fear losing a job. This recession is effecting those who have jobs and earn wages. In this context, it is very appropriate for economic policy to focus on job creation and to strengthen the recovery.

But as the statement signed by these economists says, and let me read, "The tax cut plan proposed by President Bush is not the answer to these problems. Regardless of how one views the specifics of the Bush plan, there is wide agreement that its purpose is a permanent change in the tax structure and not the creation of jobs and growth in the near term. The permanent dividend tax cut in particular is not credible as short-term stimulus."

For those watching on television, this statement can be found on the Economic Policy Institute’s web site, epinet.org, along with the names of all the signers of the state which is shown graphically right here.

There is a great contradiction between the needs of the nation for jobs and the likely impact of the Bush tax plan which is very expensive, which is permanent, which is going to bankrupt the government, create chronic shortages, and make inequality even greater. Yet, it won’t create jobs. While in the short run or in the long run.

This great contradiction led me to seek out other economists to sign this statement opposing the Bush plan. I can tell you it is not easy getting economists to agree on anything. It has been likened quite accurately I think to herding cats. This is no less true for Nobel laureates, a group not given to signing statements or seeming in any way partisan or political.

Yet, this statement that we circulated resonated deeply with economists and we found great enthusiasm. And ten Nobel laureates readily lent their name. In fact, I cannot remember any other statement over the last twenty years which had this many Nobel laureates signing a statement, nowhere near ten in any statement that I’ve ever known about.

And let me just name the Nobel laureates who signed the statement: Paul Samuelson, Kenneth Arrow, Lawrence Klein, Franco Modigliani, Robert Solo, William Sharp, Douglas North, Daniel McFadden, George Akuloff, and Joseph Stiglitz.

We have been overwhelmed by the response. The fax machine has not stopped humming since we asked for support. And in one week’s time, we collected names from 450 economists. I am honored today that we have some of the Nobel laureates with us: Professor Lawrence Stein and Joseph Stiglitz. Professor Modigliani is on his way from the airport and will be able to speak when he joins us. I’ve decided to have the speakers speak in the order in which they won the Nobel prize which is also alphabetical. So first Professor Klein.

PROFESSOR KLEIN: Good morning. Right now the country is in trouble. We have political problems, diplomatic problems. We have military problems. We have economic problems. And this is no time to start fiddling around with the tax system.

What we need is to get the economy moving in the midst of all these problems that we face. And to propose complex changes in the tax structure at this time is not helping us at all on what really is our problem at this time.

The most noteworthy part of the administration’s tax proposal is for the exemption of the taxation of dividends. It’s controversial. It’s large in its dollar amount. And I think ... and I would say the way that people who make the kind of statistical study that I do for the economy ... that there are much better ways of getting the investment going again. And that has been one of the poorer performing parts of the economy in this slowdown that we’re experiencing.

Two, that have very good roots in American economic history, are the use of accelerated depreciation or the use of investment tax credit. I mention those two because they are directly associated with the act of investing. Simply to say that corporate dividends are not taxable as personal income tax is not really getting directly to the problem of investment. And we need capital formation ... real capital formation ... at this time.

In addition, the distributional effects, meaning the income distribution and ultimately also the wealth distribution, is effected in what I would call an unwise direction, much more concentration and inequality.

Now, for the last few years, we made a very, very remarkable change in this country’s economy, namely we shifted from deficit to no deficit or surplus. And in addition, we lowered the outstanding debt of the United States. That is proving to be a very big problem for the economic advancement of our allies in Western Europe, very great economies. And we don‘t want to see the United States pushed back into big deficits and big debt. That was a remarkable achievement and it’s being wasted and undone.

Of course, we have big expenditures and we have to protect the country from terrorism. We have other very major problems to confront us. But we should not treat the deficit problem in a very light way and we shouldn’t do things that unnecessarily build up the deficit. It should get back to very sound and good fiscal policy.

The argument that is used for the exemption of dividend income from taxation is based on the concept of double taxation. But that’s a very simplistic argument, one that neglects the something that we all know is present in a large complicated economy like ours, namely feedback. What are the indirect effects? What will it do to capital markets? What will it do to interest rates? What will it do to inflation rates?

And the people who have put forward very quickly this change in our tax structure, the treatment of personal income taxation for dividends haven’t done their homework. They’ve looked at the problem who pays the dividend, who receives the dividend and that’s it. But they have taken no account of the intricate interrelationships in the economy to follow these flows of taxation and earnings.

In addition to the problem for the federal government under deficit, we have enormous problems for state and local governments. One of the beautiful things of a reduction of the deficit in going into surplus of the last few years is not only did we carry the federal government into surplus, but the state and local governments too on balance. Not necessarily every one. But on balance.

And we have found that economic life is much easier when we’re living in an environment of surplus or even balance. But things get much more complicated. We have to make much more ... many more choices if we live in a situation of deficit and that faces state and local governments throughout the whole country at this time and in very big amounts.

Now, the present changes in taxes, not only for the dividend exemption, but for the tax system in general, has been made, put forward, as a means of getting a simplified tax structure. But once we look at the legal ramifications of exempting dividends, which dividends and who gets the exemption, we found that we’re making the tax system more complicated rather than simpler going just in the opposite direction.

Now, this for the size of the program is not giving the nation the bang for the buck that they need. They want more jobs as Mr. Chavez said. It’s been a very tepid recovery. We’re growing at ... the last report was 7/10ths of a percent annually. I would say we’re probably growing between one and two percent. That was about a quarter. But that’s way below par and not enough to create jobs. And this tax proposal or the whole fiscal policy of the government should be geared towards job creation and getting a better economic outcome. Thank you.

MS: Now Professor Joseph Stiglitz from Columbia University.

PROFESSOR JOSEPH STIGLITZ: Thank you. There actually is a broad consensus on a number of issues among I think almost all economists of all political persuasions about the current economic situation.

The first is that in the short run, our economy is weak. It is clear ... it is clear ... that the 2001 tax cut, which was not designed as a stimulus, did not act as a stimulus and has not enabled the economy to maintain itself at anywhere near close to full employment. The gap between the economy’s potential, as Professor Klein pointed out, and its actual performance is significant which is why unemployment has increased, why two million jobs have been eliminated in the last two years in the private sector.

It’s also clear that in the intermediate run, this economy faces a great deal of uncertainty. And let’s put aside the uncertainties caused by the war. Even if there were no war, we would not be sure about how quickly the economy would be recovering. Some of the problems the economy faces such as overhang on investment are issues that will be resolved, but we don’t know how quickly.

In the long run, there is also agreement that there are a host of problems. At this juncture, it is clear that there are looming large deficits no matter even if we did not have a further tax cut and that these large deficits will have an adverse effect on economic growth. It is also clear that the United States has increasing problems of inequality. The fact that over the last 25 years, the bottom part of the income distribution has not participated in the gains to the extent that the upper income has has been exacerbated by what’s happening now where real wages at the bottom are actually falling.

The problem is that the Bush tax cut does not address any of these issues about which I think there is almost universal agreement. It is an inadequate stimulus. It pays insufficient attention to the uncertainty. It leads to a commitment to even larger deficits as we go forward. And it worsens the problem of inequality.

Before talking about the more ... the impacts on the stimulus and the impacts on the long run deficit, let me just spend a minute talking about the issue of inequality. Because it is perhaps the one that has gotten the most attention in the press. The fact that it’s recognized that dividends largely go to upper income individuals. And that even middle income individuals who own shares, own them largely through pension funds and 401K plans and IRAs. So they’re already tax exempt. It’s only upper income individuals who have so much wealth that they go beyond their pension funds, saving for bequests and things like that, that are affected by the so-called double taxation problem that Professor Klein has indicated really is not a problem.

Ironically, what is not fully appreciated is that if you look at the total proposals that have been put forward by the Bush administration, including the expansion of the IRAs, which will enable upper middle income individuals to switch money from taxable accounts to non-taxable accounts, this problem is even worse. Because then the dividend tax cut, free dividend, becomes a really truly targeted tax cut, targeted at the very, very rich, those who are beyond expanded IRAs.

But even putting that aside, earlier calculations which did not take into account these expanded IRAs really were quite, quite astounding in the magnitude of inequalities. Let me just cite two statistics. One of them is that the top 226,000 tax filers, those with incomes of more than $1 million, will receive as much as the 120 million tax filers at the bottom which go all the way up to those who have an income of $100,000. I mean, this is really an astounding statistic.

To put it another way, 50 percent of tax filers will receive $100 or less. We know what the total tax cost is. It’s enormous. And that means that if half the people are getting $100 or less, a few people at the top are getting just enormous, enormous benefits.

We know how to design an effective tax stimulus. We know how to design a tax stimulus which gives a big bang for the buck. But this is not it. In fact, this is ... one would have had to have worked hard to get as little bang for the buck as they’ve succeeded in doing.

Let me illustrate the general principal ... and I joke and say you don’t need a Nobel prize to figure this out ... is give money to people who will spend it. Link tax cuts to expenditure. So, for instance, expanded unemployment benefits, aid to states and localities, money to low wage workers or investment tax credits, in particular incremental tax credits, will direct money in areas where it will be spent.

To mention one example, if we don’t provide increased assistance to states and localities, given the looming deficits which they face, which were predictable and predicted, they will have to cut back on their expenditures, expenditures in education and health, which will have a disproportionate effect on again the average and poor American.

The advantage of a lot of the areas I identify like unemployment benefits and state and local assistants that’s targeted to their ... related to their revenues ... is that these kinds of programs can be designed to have built-in flexibility to the automatic stabilizers to address the uncertainties of the intermediate term that we all recognize.

Unfortunately, the proposal that Bush has put forward provides very little short run stimulus, large long run deficits, without any flexibility without these automatic stabilizers.

Let me just conclude by talking about one argument that was put forward for the tax cuts which was if they were good enough to be passed in 2001, isn’t it good enough to accelerate them today? That misses two fundamental points. The first is at that time, many of us questioned whether those tax cuts would have much of a stimulus on the economy.

But there was a debate. I think today there is no debate. The tax cuts that were passed in 2001 were very mild stimulus, not sufficient to address the problems that the economy was facing, which is why we have had a loss of jobs of two million in the last two years. Contrast that with the job creation that one had beginning in ‘93.

But secondly, many people at that point questioned whether we could afford the magnitude of the tax cuts that were being proposed. They were huge. But the number suggested that the economy had large surpluses. When I was Chairman of the Council of Economic Advisers, I was involved in making those kinds of forecasts repeatedly. And I knew how precarious those forecasts are. Slight changes in assumptions about growth rates over the next ten years, about capital gains, about the stockmarket, make huge changes in the picture of the economy and in particular in the surplus.

No one should have counted on the bubble that had been going on in the stockmarket to continue. It would have been incredible. Yet, that bubble provided capital gains taxes that helped feed the projections of long run surpluses going out into the future. We’ve had the bubble break since then. And tax revenues have not lived up to expectations.

The magnitude of the turn around has been impressive. I fact, it’s the most impressive economic feat I think. The non Social Security surplus ... ten years we usually calculate it ... went from three billion surplus to a two billion ... I’m sorry, three trillion ... these numbers are so large, it’s hard to fathom ... three trillion surplus to a two trillion deficit since May of 2001.

Now, only part of that has to do with the tax cut. Some of it has to do with we now have more information. But the fact is now we know what our fiscal situation today was. Many of us did not think the numbers were reasonable two years ago. Now we know that they were not reasonable. Now that we know our current fiscal position, it makes absolutely no sense to be committing ourselves to even larger deficits which are not going to be stimulating the economy and make (unint.) deficit problems and our growth in the long run worse.

Let me conclude by saying if I were trying to make a short list of how to stimulate the economy, these proposals would not make that short list. If I were trying to make a short list of how to reform our tax system, these proposals would not make that short list.

This is worse than reform because it is worsening our fiscal position. It is a tax reform that does not create greater health for the economy in the short run and worsens the position in the long. Thank you.

MS: I’m pleased that Professor Modigliani from MIT has now joined us and we’ll give him a chance to speak now.

PROFESSOR MODIGLIANI: This tax proposal the President is bad. But a portion of it I will concentrate on, the treatment of dividends, is worse than the rest. It effects so bad that it made me decide at my old age to come to Washington to join the protest. Because I think it would be deleterious for the future of the economy. And it’s very important that we don’t let the people that gain from it win the day.

A very short, very brief account of the situation is that on the one hand the President tells us that he spends sleepless nights because of this horrible, terrible thing, double taxation. That’s a real crime, a real disaster. Okay? It’s going to be remedied immediately. And the best way to do that is to initiate a program that I label a second yacht for everybody that has one. That is the way the program should be labeled.

The reality, of course, double taxation is a very difficult concept to define. Almost everything in our society is double, triple, quadrupled tax. And you couldn’t select which one you want. And certainly, it’s not a serious problem. Yet, it is a problem. We have lived with it from the (unint.). The rest of the world has lived with the (unint.). So it’s clearly not an urgent problem.

Now, the solution that the President provides is very neat. The double tax consists with proportional tax. First of all it’s a tax on corporate profits. There is a proportional component. And then there is the usual progressive component. The President says we should abolish one. But we abolish the proportional. No, we abolish the progressive one. That has to go, okay? Which means that it is a program that enriches the rich because only the rich have the events essentially. And among the rich, the richer you are, the better off. Because it’s progressive reduction of taxes. It’s really much more reduces for the richest.

Now, the President justifies this proposal on the ground that it will do not just the worst creating justice of double taxation, but will also do other good things. Supposedly in a weak economy, it will encourage consumption. It will encourage investment. And it will improve the whole situation this way.

Now, looking (unint.) carefully and you realize that none of this is true. Take the first proposition. Will his measure increase investment? No. It will reduce investment. Why? Simple. Under the present system, we subsidize investment by not taxing undistributed profits. And distributed profits are kept. They are not taxed. And so you can use them to undertake investments which are less profitable than the market. Essentially, the President’s system subsidizes investment by subsidizing (unint.) earnings.

His system eliminates that. There is no more an advantage to subsidy today (unint.). Therefore, yes he has. But there’s no question about it. The cost of capital, the required cost of capital, will increase substantially.

As for the effect on consumption and investment and so on, there is a subtle reason why investment might be decreased. When we (unint.) that one of the supposed great things the program will do is to increase the value of stock. That is supposedly a great advantage of it. Because stocks are weak and high stock prices will encourage consumption. So it’s a great idea.

Now, first of all, I don’t think it’s (unint.) idea. If it were true, I would (unint.) it. Because stocks are still too high and we certainly should do nothing whatever to try to hold them up. But in the second case, it is not true ... again, it’s everybody’s belief ... it’s not true that reducing taxes and dividends will increase the value of the stock. Not true. The contingent comes from the idea that the price earning ratio does not change. The idea of people saying earnings will rise very substantially, very (unint.) tax. In fact, you can figure that all dividends their return will increase by one-third as the tax goes from .4 to nothing.

And then we say, well, if earnings rise by one-third, then the price of stock will also rise. Because the price to earnings ratio has no reason to change. So if the earnings go up by one-third, the price will go up by one-third. Actually, I think I’m wrong. I should say two-thirds, .4 or .6.

Now, that’s wrong. That’s simply ignorance of the basics of finance. (unint.) the price to earnings ratio, with any price to earnings ratio, earning is not a well defined concept. Corporate earnings is, but not personal earnings. Personal earnings from stock go from 100 percent if you pay full tax to zero if you are 401K, if you are tax exempt. What it means is that the price goes up in proportion to the deterrents. Some deterrents don’t change. Some go out two-thirds. Which (unint.)?

Now, to answer this that none of these, the price to earnings ratio that is going to be constant is the ratio of the market price to the corporate earnings after corporate tax. That’s the price earning that does not change. Once you understand this ... and it’s easy to show why. I mean, you have to go back to being scared, other sophisticated subjects. But it’s a clear notion that price to earnings ratio is determined by the (unint.).

Now, if the price to earning ratio doesn’t change, there is no reason why the measure of reducing (unint.) tax should change corporate earnings. It’s got nothing to do with it. If it doesn’t change corporate earnings, doesn’t change price earnings, it doesn’t change price. So the idea that the price would rise is wrong. Not that it’s very important. It is not. And therefore, there would be no incentive on that side.

Also, from the point of view of aggregate investment, in the longer run what matters is what does this measure do to savings? Because you all know (unint.) saving must be equal to investment. Investment cannot exceed saving. So once you have (unint.), investment is limited by saving.

What does this measure do to saving? The rich people get richer. Well, how would they do? The (unint.) save a little more. But they also spend a little more. And if they don’t save all of it, then they will not upset the additional deficit of the government. All of their gain is the government deficit. Unless they save all of it, there would be no change. If they save less, that’s what I would expect.

You are (unint.) savings (unint.). And so is either investment. Or we might be able to continue to invest by borrowing the blood which means worsening of the balance of payment which is the weakest spot of the (unint.) economy. Most of what has been done by the President has been in the direction of worsening our terrible position in the balance of payments.

Now, so on the whole none of the advantages should be there (unint.). What will happen is that price and change for the third will rise. Sure. You will have higher return from stock. Not higher prices, but higher return. That will have a nice effect of increasing interests rates. And interest rates will go up quite a bit for the have to compete with higher returns convenience. Plus a (unint.) savings, you can expect a very nice rise in interest which will, of course, have very serious effects on taxation and all that.

Now, by way of conclusion, I’d like to say I question that the people that designed this proposal are in good faith. Why? Because if you are really concerned with the problem of double taxation and not with making the rich richer, then there are other ways of relieving double taxation which most countries in the world already use. What does it consist of? You eliminate not the progressive tax. You eliminate the proportion of tax and have all the income, all the corporate income, treat it as stockholders income, pay tax, the progressive tax, there. That will give you one single tax ... the proportional tax. We essentially preserve the present system. Some adjustments are needed, but that’s the (unint.) concept.

And I will go onto say, Mr. President, if you’re so concerned with double taxation, how about Social Security which is indignantly, incredibly double taxed. Because you pay a tax before you save the money ... you pay a tax before you save the money. And after you have saved it and want to use it, you pay a tax when you use it. Now, that is double taxation. And that should be taken care of much before the rich and the double rich are given a second yacht. Thank you.

MS: This is priceless. You can’t come anywhere and hear such people talk about economics with such passion and clarity. I want to point out that the statement that was signed was not something that simply opposed the Bush tax plan as being bad for the economy. It also spoke to the fact that there is a need to do something and that we can do something appropriate and effective.

Let me read. To be effective, a stimulus plan should rely on immediate but temporary ... I underline temporary ... spending ... that’s right, spending ... spending and tax measures to expand demand. And it should also rely on immediate but temporary incentives for investment. Such a stimulus plan would spur growth in jobs in the short term without exacerbating the long term budget outline.

That means rather than get involved with complicated changes to the tax structure for all times, it’s possible to implement measures which change spending next year or this year and give some tax money back to low income and working families this year that will spur demand, spur consumption, will then get the economy moving and create jobs.

Let me now take questions. And when people ask questions, please say who you are.

MS: The panel suggests that the administration’s argument that while the (unint.)

MS: Somebody want to take the ...

MS: Well, let me just say that the classic study, Richard Musgrave, said that the incidence of corporate taxation is not what people think it is because corporations pas it through to others. And they ... the corporations themselves ... don’t bear the incidence.

MS: Let me add just a couple of words to that. First, to echo what was said earlier, the corporate income tax does not discourage investment. And the proposal would actually discourage investment. Let me try to illustrate through another example. Most investment in the United States is at the margin financed by borrowing. Corporations when they borrow can deduct the interest from their corporate income tax. When they earn income, they are taxed. Those two numbers offset each other.

That is to say if the interest rate were ten percent and that interest is tax deductible and you’re at the 35 percent tax bracket, that means the net cost is 6.5 percent. If you got a ten percent return, the net return would be 6.5 percent. And in that sense, the corporate income tax does not discourage investment.

If you have right depreciation allowances, if you have everything else in the system work incorrectly. In fact, we don’t those other provisions that are quite right. And on net, we probably encourage ... we have a slight bias for over investment.

That doesn’t worry me so much. But what does ... the point I want to reiterate is the argument that the corporate income tax is discouraging investment and all of us are paying the consequence is simply false. And that’s part of the reason that the classic studies on the corporate income tax do not say that most of the corporate income tax is shifted and is not borne by the earners of interest.

Let me also reiterate one other point that Professor Klein made which is that if you were concerned about those kinds of issues, the way to do it would be to address more directly the problems of integration. In that context, you would allow individuals to get a credit, for instance, against corporate taxes paid by the corporation on their behalf. And that would maintain the progressivity of our current system. This proposal is clearly designed to reduce the effect of progressivity of the tax structure.

MS: May I just add that to take care of the double taxation of dividends need not be associated with a tax reduction. You could have a comprehensive plan that pays for the dividend tax cut on the corporate side balanced by a somewhat higher corporate income tax rates. So this is not truly directed at corporate tax reform or dividend tax relief. It’s about reducing taxes.

And I might also add that I think the statements made here are not criticizing the dividend tax exclusion so much because of the great inequality that is inherent in it, but that it’s not even effective. I think in fact if something were directed at the very rich which were truly going to generate a lot of jobs and growth. And I don’t think that people on this panel would find it inappropriate. But in fact, it is both grossly unequal and ineffective that motivates people to oppose it. Next question.

FS: (unint.)

MS: Well, probably each of us have our favorite. But the two things that ... two or three things that I would emphasize would be first aid to the states and localities. The fact is to fill the gap between their normal revenues if the economy were behaving normally and their current revenues. The states and localities were facing massive shortfalls. Not because they aren’t doing their full effort of taxation, not because they’ve mismanaged their economies, but because the federal government has mismanaged the overall map of the economy. And that’s led to shortfalls and tax revenues.

Most of the states and localities have what I’ll call balanced budget provisions. When the revenues go down, they have to cut back their expenditures or increase taxes. Both of those are going to be a very large dampener on our map of economy.

So if we don’t do anything about it, we’re set for a real negative impact on the U.S. economy. What’s particularly worrisome is that one of the things that’s kept the U.S. economy growing has been a very risky strategy. We’ve had low interest rates that have helped fuel a real estate bubble or at least a strong real estate market.

What is happening in New York and in many other cities, because of the shortfall in state and local revenues, that they are being forced to raise property taxes. And following on the remark that Professor Modigliani made, we’re facing higher interest rates, medium and long term interest rates which are relevant for these long-term investments. Those two things could prick the real estate market. And if that happens, the one source of limited strength in our economy would be undermined.

So the current strategy not addressing this problem is really putting the economy at-risk. Money that would go to the state and localities would be spent quickly and effectively. Because what is talked about here if we don’t do it, we’re going to have cutbacks of serious magnitudes.

The second thing that most directly would be an incremental investment tax credit. I think we should probably have more extended, stronger unemployment insurance programs and finally I think if we need more stimulus, a tax cut to lower income individuals, Social Security rebate, payroll tax. Those all get money to people at the lower income who will be spending the money. So they have a high power effects.

MS: Anyone want to add?

MS: Well, the problem that we face at this moment is an insufficiency of final demand. It shows up markedly in business investment which is declining. The consumer has held up very well. But in the last two or three months, there is a crack in the ability of the consumer to keep supporting the functioning economy.

Now, in that situation, I would say that the most effective things to be done at the present time are a form of investment tax credit or accelerated depreciation or both. Because they are associated with the act of investment and the act of investment is something that is needed.

The extension of unemployment benefits for people who have run out of time limit, the support of local state and governments who have run out of funds and going into deficit, these are all things that should be done at this time and focus on getting the economy moving again in much better shape.

MS: I think by in large agreement with what has been said. I would add only that I don’t think that the economic situation is very serious. I think we are perhaps level, perhaps rising. Unemployment is pretty by traditional standards. So I don’t think we need to do a great deal of activism. I think we can just stay quiet and be patient because things are coming back.

But still some measures, and in particular the weakness, comes from investment, not from consumption. So I completely degree that the measures that are desirable are those measures which encourage investment now. So that the ideal kind of thing is something that if you do now, you gain. If you wait, you will not have the (unint.). That is something we have learned from the Swedes who have had an extensive program of this kind. So this should be pursued legitimately.

In addition, I think helping the states is a very important thing. Because you can see that the states are going toward raising taxation which at this time is a very big effort. So I think it’s very important to give incentives to them not to (unint.) taxes.

MS: Did you want to add one more thing?

MS: Just one more thing. I mentioned in my remarks that there is some uncertainty. I’m more pessimistic than Franco. The point is that’s an argument for tax policy that has automatic stabilizers built in which is one of the advantages of unemployment, one of the advantages of revenue being aid to states and localities. Because those kick in if and only if we need it.

MS: The President also proposed rather radical changes in savings. I’m wondering if you’d like to comment on that (unint.)

MS: Two issues. One of them is will these proposals increase private savings? And the second one is will these proposals increase national savings? Now, on the first, it’s very unlikely that they will have a significant effect on increasing private savings. Let me explain why.

For most upper income individuals, upper middle income individuals, what we’re talking about is expanding the limits on both income levels and the amounts that you can contribute to these tax free savings accounts. What that means is if you’re sitting on some stock that in a taxable account, all that you have to do is switch that to a non-taxable account. You don’t have to save any more to take advantage of this. As long as you’re sitting on some taxable investment, just switch it over.

So there’s no new net savings that is going to be generated by that. The earlier studies on the impact of IRA accounts showed that they had very limited direct impacts. And the main impact was advertising. People got focused on savings. Those were important for lower income individuals. Middle and upper income individuals know about savings. I don’t anticipate they will have that "advertising" effect. There will be more people putting money into those accounts, but taking them out of other accounts.

At the national savings level which is the important thing which Franco emphasized in this talk. At the savings level, the deficits will be increasing. That’s the whole point. A deficit is negative government savings. So you have negative governmental savings that will be significant, incremental private savings that will be insignificant, net national savings will be negative. And that will lead us to more borrowing, lower income, in the future higher interests rates, all these things which will be bad for the U.S.’s long run economic prospects.

MS: Another question? Yes.

FS: (unint.)

MS: Could you say who you are, please?

FS: My name is Maryjane (unint.) here in Washington. (unint.)

MS: The question was what do the panelists think of the President’s proposal to shift from an income tax to a consumption tax.

MS: Well, as I said at the beginning, we’re in a critical situation now. And to shift to a consumption tax is like shifting the corporate income tax liabilities at the personal level. It’s a fundamental structural change in our tax system. That’s not something we want to day or tomorrow. It’s something perhaps for a longer period.

I happen to think that consumption tax is not such a good thing in the long run. Many economists do like it. I think it’s very difficult to determine what consumption to measure individual family consumption. I think it has certain regressive features. And I think the progressive income tax that we have conceptually is the right instrument, but it has blemishes and can be improved.

However, that’s a long run proposition. And I say we are in difficult times now and we should not be messing around with long run tax reform problems and get the economy moving in a more healthy direction at the present time.

MS: Can I just add one aspect to that? Which is even if you thought we should go towards a consumption tax ... which if we do that and it’s difficult and I agree with what Professor Klein said ... we should go for a progressive consumption tax. That’s not what’s being talked about by the administration. It is very hard to design a progressive consumption tax, but one can do it. And just like the dividend issue could have been addressed in a more progressive way or a less regressive way, so too on the issue of consumption.

MS: A couple of points. One, going back to the IRA account. However, in my view when those kind of accounts were first invented under Reagan, they actually reduced savings. That’s because essentially what you said that individuals didn’t have to save anymore. All they had to do was put money in. They didn’t pay taxes. The government (unint.) Reagan and the (unint.) was reduced.

Now, some of those things have been improved. But it is ... there’s no trick that you could do it to encourage savings would be to encourage (unint.) saving. If you have a way of establishing what is something that they didn’t have otherwise. That’s very hard to do.

My same reaction I had to the consumption tax. I’m very much attached to the principle of progressivity. I think that’s an essential feature of a sound democracy. And it is very hard to do to have a progressive consumption tax, very hard to do. And complicated. Again, there were times when we thought the first thought given to it, if you remember, was by Wellness who actually had a program under which you had to actually show precisely what happened to your assets and what essentially what your consumption was. That’s a very complicated thing. Otherwise, you have to essentially use some indirect access and exemptions essentially, that combination that progressivity. But it’s very hard to achieve the right kind of progressivity.

And let me point out that one of the interesting features about the proposal to (unint.) the dividends for a regressive tax is that it is the first strong step in the direction that the conservatives have been pushing of eliminating the progressive tax. See with that sense, the dividends have no longer a progressive tax. Only have a proportional component. That’s actually which they’ve been trained to go for a long time with all these ideas to move away to a single tax (unint.)

MS: Let me add just one more point. For the average American, there already is a consumption tax. Because for the average American, most of interest and dividends are tax exempt because they’re in IRA pension funds and those are not taxable. So we already have that for most Americans. So when you talk about it, you’re really talking for a very small fraction of Americans.

FS: (unint.)

MS: Well, I don’t think higher real estate taxes are going to prevent ... a bubble hasn’t occurred yet. It could (unint.) there are fundamental reasons why real estate is so popular at the moment. Fundamental in terms of people’s uncertainty about their experience in equity markets, uncertainty about the terrorists and the military situation and real estate looks like a very nice, safe part of a portfolio at the present time.

I wouldn’t want to see that upset with and with higher real estate taxes. Because we are at the present time relying very heavily on this strong real estate market to keep us afloat.

MS: Professor Klein, do you share Professor Stiglitz’s concerns about the state and local sector providing fiscal relief to the states?

PROFESSOR KLEIN: Well, there are many ways in which the state and local governments could be helped now. We could have more revenue sharing at the federal level back towards the state and local governments. And, of course, everybody is going to have to reign in expenditures to some extent. We’re trying to do it ... we’re looking for ways to do it in a fair method. And something that doesn’t enormously change the distribution of income. Question over here?

MS: (unint.) believe that there are any Washington think tanks that have been having excessive influence on the Bush administration that needs challenging? In my own experience as (unint.), I’ve been disturbed that groups like the American Enterprise Institute and the Cato Institute seem to welcome (unint.) in the past, recently (unint.) opposition or even questioning of their ideas.

MS: Anyone care to comment? I don’t think there are any comments on that? Other questions?

FS: (unint.)I just had a question about the double tax on the Social Security that you mentioned. I’m wondering what (unint.) have.

MS: I don’t know that you can speak of any special effect. It’s just a question that we are making it harder for people to provide for their old age. Now, I think that Social Security is a barely adequate system of providing for old age. Barely adequate in the sense that unless people make substantial outside provisions, it really is a bad (unint.). So I think that it is unfair to tax an activity which I regard as a very desirable one, mainly putting money away for retirement.

So it’s in this sense that I think that there is no sense. And also, it is in some sense discriminatory because the rich people don’t pay that. Why? Because they’re not part of Social Security. Social Security’s only below a certain level. So it turns out to be ... in fact, it’s a peculiar tax in the sense that the double tax is only for the middle class.

MS: I want to give you a warning. You have seen that we are against the consumption tax (unint.). The consumption tax is a tax on the old. Old people consume more than their income. Younger people by and large consume less than their income. So it is a tax on the old, a tax on the retired. And since we are old and retired ...

MS: I just aspire to be old and retired. Anyone that has not asked a question yet?

MS: (unint.) spending side of the equation, the administration has said that (unint.)

MS: You want to comment on the administration’s remarking that we should increase government along with the family income? I guess, you know, one of the things the administration doesn’t remark on is that family income actually fell last year, at least inflation adjusted in 2001. And in 2002, we don’t know the numbers yet. We won’t know them until September. But it’s almost certainly the case that family income also fell relative to inflation this year.

So I think it’s kind of curious that they would then be talking about holding government spending to what happens to families in the sense that I’m wondering why they would want to call attention to the fact that in the first two years of the administration family income has been falling.

MS: Can I just make a comment? I think it’s actually a kind of way of thinking about it that’s real nonsense. What we want to think about is where is the money going? And how does that relate to long-term trends in the economy?

Major parts of federal government expenditure go to Medicare and Social Security. There is a process of aging of our population as you see here at the table. With the baby boomers becoming retired, that will inevitably mean that there will be more expenditure for those categories of expenditures.

Take something else. We need investments in a whole variety of areas. The judge about whether we should have those investments depends on what the returns are. The evidence is that the returns, for instance, in investments in R&D in the public sector are enormous. If you make a list of all of the major technologies that we use today, much of them have their roots in government public spending.

Take the Internet. That was really financed by the federal government. Studies of the Council of Economic Advisors in the past have shown that these investments yield enormous returns. Well, if there are these high return investments, we shouldn’t have our hands tied simply because of the growth in income.

Finally, as another category, education expenditures, we all recognize that we have in many areas a woefully inadequate education system. And that we need to spend more. There’s no reason why that expenditure should be limited to a growth in income. So I think it is important to keep an overall view of each of the sectors of the economy and where it’s going. But there’s no magic formula and one really needs to ask the question where do we need expenditures? What are the returns to various sectors of our economy?

MS: Any more questions? Okay. I thank you all for attending. We’re just going to wrap up the press conference now. Thank you all very much for coming. Those who want to see the statement can visit the EPI website at epinet.org. Thank you, very much.

(END OF TAPE)

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