On the One Hand…
Nobel laureates debate the merits of Bush and Kerry economic policies
By Rhea Wessel
September 3-5, 2004
The Wall Street Journal Europe
Take your pick: The U.S. economy is in great shape and could use even more tax cuts. Or the tax cuts are creating giant deficits and are undermining American economic health.
No, this is not the latest spin from the Bush and Kerry campaigns. These strikingly different conclusions come from a rarefied group: some Nobel laureates in economics. Some say President Bush’s tax cuts will create even more savings and investment and power economic growth. Others, though, say large deficits are putting the economy at risk and tax cuts have had little or no effect as a stimulus.
In separate interviews, Milton Friedman and Vernon L. Smith played down the risks of the deficit and welcomed even more tax cuts. The deficit “is not a problem if the government holds down spending,” Mr. Friedman says. “The economy will grow and develop, and the deficit will decline.”
However, George A. Akerlof, Lawrence R. Klein, Robert M. Solow and Joseph E. Stiglitz criticized the Bush administration’s economic policies. Indeed, they are among 10 Nobel laureates in economics who recently endorsed Sen. John Kerry for president. With the change from a budget surplus under former President Clinton to record budget deficits, Mr. Bush’s economic policy represents “a major risk to the American economy,” Mr. Stiglitz says.
Weak Recovery in Jobs
The state of the U.S. economy will be a key factor in the remaining two months of the presidential election campaign. The government reported last month that employers added just 32,000 jobs in July — the lowest total this year and a sharp slowdown from the spring. Moreover, the job worries sent consumer confidence tumbling in August. Consumer pessimism has been fed by high gasoline prices this summer and a rise in interest rates. Even so, few analysts believe the U.S. is headed back into recession, because some other economic indicators have been positive, such as a rebound in retail sales. The unemployment rate is 5.5%, the lowest level in three years.
“The economy is doing very, very well,” contends Mr. Friedman, the 1976 Nobel laureate in economics. “What people are complaining about is that the recession wasn’t deeper. Had the recession been deeper, the current recovery would be stronger. When you have a mild recession, you tend to have a mild expansion. When you have a severe recession, you tend to have a vigorous expansion.”
In late July, the White House projected a record budget deficit of $445 billion (€365 billion) for fiscal 2004, which ends Sept. 30. That’s down from its previous estimate of $521 billion. Democrats say the budget shortfall shows deteriorating fiscal health.
‘Deficits Do Matter’
“Most economists think that deficits do matter when they get very large,” says Mr. Stiglitz, a 2001 Nobel laureate and a former chairman of President Clinton’s Council of Economic Advisers. “There’s a debate about how aggressive one should pursue deficit reduction. This kind of deficit is so large that this debate is not necessary.”
Mr. Klein contends the dividend tax cut significantly increased the budget deficit. On Mr. Bush’s tax plan, the tax rate for most individual investors on corporate dividends was cut to 15%. Previously, investors had paid tax on dividends at their personal-income-tax rate, which could be as high as 39%.
“I think the tax policy in general is not well conceived,” says Mr. Klein, the 1980 Nobel laureate. It should have been for people who would have been highly likely to spend a good share of it, and it was not engineered that way.” What the U.S. needs, he says, “is a tax concession for the relatively lower and middle income groups who will be likely to spend it.”
For his part, Mr. Friedman says “the top 1% of taxpayers pay a disproportionate amount of taxes. You can’t give tax relief to those who don’t pay a lot of tax.” Wealthy taxpayers, he says, “end up either investing it or giving it away.”
President Bush wants to make permanent the tax cuts enacted during his administration, while Sen. Kerry wants to repeal the tax cuts for high-income Americans. He would raise the top marginal income tax rate of 35% back up to 39.6%, increase the 15% top rate on dividends to as high as 39.6% and raise the top rate on capital gains on securities held more than one year to as much as 20% from 15%.
Mr. Smith, a 2002 Nobel laureate, calls Mr. Kerry’s idea of repealing tax cuts for the wealthiest taxpayers “bad policy” that creates a risk of reducing savings and investment. “Some 90% of taxes are paid by the upper 50% income-tax bracket,” he says. “No one gets anything if there isn’t anything. Productivity, innovation and wealth creation is the only source of poverty reduction and human betterment.”
The anti-Bush laureates counter that the administration’s tax cuts have been a failure on two counts: Not only have they failed to give a short-term stimulus to the economy, they argue, but the tax cuts have failed in moral terms by widening the income gap.
“It seems to be almost a paradox that we’re now taxing income from capital — from unearned sources — at a much lower rate than income from earned sources,” says Mr. Akerlof, a 2001 Nobel laureate whose wife is Janet L. Yellen, a former chair of President Clinton’s Council of Economic Advisers and the current president of the Federal Reserve Bank of San Francisco. “I would have thought that one of the first requisites of fair taxation is that unearned income on capital should be taxed at at least the same rate as the income earned by labor.”
Mr. Akerlof also argues that the Bush stimulus package puts the economy at risk. “If there are large deficits down the road, they can raise long-term interest rates,” causing the opposite of a stimulus, he says.
Mr. Friedman, on the other hand, welcomes permanent tax cuts and says higher deficits will eventually restrain government spending. And Mr. Smith says the dividend tax cut “did not go far enough. the double taxation should end, end its end is long overdue. To me it should not even be a political and partisan issue.”
Mr. Solow says that despite the slower-than-average upswing after the end of a recession, he doesn’t expect growth to halt. “I think that politically we will go into the election with an economy that is not a disaster at all but an economy that is not a great success,” he says. “We’ll have the usual spectacle of the incumbents picking out every good thing that has happened and the Democrats picking out every bad thing that has happened.