Tax Cuts for Whom? Heterogeneous Effects of Income Tax Changes on - - PowerPoint PPT Presentation

Tax Cuts for Whom? Heterogeneous Effects of Income Tax Changes on Growth & Employment

Owen Zidar

University of California, Berkeley All UC Group - Huntington Library Conference

April 6, 2013

1

Variation in Tax Policy & Structure of Income Tax Changes

−2 2 −2 2 50 100 50 100

1982 1991 1993 2003 Average Change in Tax Liability as Share of AGI AGI Percentile

Graphs by Year

2

Research Questions

How does the composition of income tax changes affect subsequent output & employment? Do tax cuts for high income taxpayers generate more employment &

• utput growth than equivalently sized tax cuts for low and moderate

income taxpayers? If so, why?

3

Overview

1 Theoretical Framework: Redistribution from savers to

constrained/less patient borrowers

2 Empirical Approach:

National: Romer & Romer AER 2010 disaggregated by income group Regional: Bartik approach

3 Data: Historical returns & counterfactuals from NBER TAXSIM 4 Results: Tax cuts for those with high incomes lead to substantially

less employment growth and economic activity than similarly sized tax cuts for those with low and moderate incomes

Aggregate consumption, particularly durable consumption, and investment tend to increase more strongly after bottom 90% gets tax cuts Weak to nonexistent relationship between tax cuts for the top 10% and employment growth

4

Motivation

Why study the impacts of these tax changes and how they vary

• ver the income distribution?

Empirical importance of heterogeneity in effects of fiscal policy [e.g. Mertens & Ravn AER forthcoming]

1Or any other modestly sized redistributive policies at a business cycle

frequency

5

Motivation

Why study the impacts of these tax changes and how they vary

• ver the income distribution?

Empirical importance of heterogeneity in effects of fiscal policy [e.g. Mertens & Ravn AER forthcoming] Optimal stimulus design

1Or any other modestly sized redistributive policies at a business cycle

frequency

5

Motivation

Why study the impacts of these tax changes and how they vary

• ver the income distribution?

Empirical importance of heterogeneity in effects of fiscal policy [e.g. Mertens & Ravn AER forthcoming] Optimal stimulus design Effects of ending the Bush tax cuts for certain income groups

1Or any other modestly sized redistributive policies at a business cycle

frequency

5

Motivation

Why study the impacts of these tax changes and how they vary

• ver the income distribution?

Empirical importance of heterogeneity in effects of fiscal policy [e.g. Mertens & Ravn AER forthcoming] Optimal stimulus design Effects of ending the Bush tax cuts for certain income groups Effects of mass refinancing1

1Or any other modestly sized redistributive policies at a business cycle

frequency

5

Motivation

Why study the impacts of these tax changes and how they vary

• ver the income distribution?

Empirical importance of heterogeneity in effects of fiscal policy [e.g. Mertens & Ravn AER forthcoming] Optimal stimulus design Effects of ending the Bush tax cuts for certain income groups Effects of mass refinancing1 But Little direct evidence. Likely due to empirical issues: endogeneity, simultaneity, and observability

1Or any other modestly sized redistributive policies at a business cycle

frequency

5

• II. Empirical Framework: Background

Romer & Romer (AER 2010) ∆Yt = α + β∆Taxt + ǫt (1) Types of Tax Changes

6

• II. Empirical Framework: Background

Romer & Romer (AER 2010) ∆Yt = α + β∆Taxt + ǫt (1) Types of Tax Changes

1 Counteract economic forces 2 Spending offsets

6

• II. Empirical Framework: Background

Romer & Romer (AER 2010) ∆Yt = α + β∆Taxt + ǫt (1) Types of Tax Changes

1 Counteract economic forces 2 Spending offsets 3 Address inherited deficit 4 Promote long run growth

6

Empirical Framework: (1) Narrative Approach

Output growth & exogenous tax changes for different income groups

GrowthY ,t =β0 + βB90,0(∆TaxB90,t) + βT10,0(∆TaxT10,t) + βNON,0(∆TaxNON,t)

• =b0∆Taxt

+... + βB90,m(∆TaxB90,m) + βT10,m(∆TaxT10,m) + βNON,m(∆TaxNON,m)

• =bm∆Taxt−m

+ Xtλ + ǫt

7

Empirical Framework: (1) Narrative Approach

Output growth & exogenous tax changes for different income groups

GrowthY ,t =β0 + βB90,0(∆TaxB90,t) + βT10,0(∆TaxT10,t) + βNON,0(∆TaxNON,t)

• =b0∆Taxt

+... + βB90,m(∆TaxB90,m) + βT10,m(∆TaxT10,m) + βNON,m(∆TaxNON,m)

• =bm∆Taxt−m

+ Xtλ + ǫt ∆TaxB90 and ∆TaxT10 are changes in income and payroll taxes as a share of GDP for the bottom 90% and top 10% respectively Xt is a vector of controls such as lagged GDP growth, government transfers, etc. Assume Cov(∆Taxg,t, ǫt) = 0 ∀g ∈ (BOT90, TOP10, NONINCOME) following Romer & Romer AER 2010 Frisch Waugh

7

Empirical Framework: (2) Bartik Approach

Overview of Bartik approach Idea: Auto shock on employment in Detroit vs. Denver Labor literature: Bartik (1991), Card (1992), Katz & Murphy (1992), Moretti (2004) Implementation: When national tax policy affects high income taxpayers, states with large shares of high income taxpayers will face larger shocks Test: If high income tax cuts have substantial effects, CT and NJ should grow faster following national high income tax cuts Value: Provides additional identifying variation2

2Within & across state variation. Avoids national concerns: fed & trends

8

Data: Constructing tax changes

Tax Change Measure is a function of three things:

1 Income and deductions from year prior to an exogenous tax change3 2 Old tax schedule 3 New tax schedule 3Preliminary tests suggest that results are robust to using two year lags and

various inflation adjustments

9

Data: Constructing tax changes

Example: 1993 Omnibus Budget Reconciliation Act

10

Data: Constructing tax changes

I do this calculation for entire sample of NBER returns

−1000 1000 2000 Change in Tax Liability 50000 100000 150000 200000 250000 Adjusted Gross Income 11

Historical Income & Payoll Tax Changes by AGI Quintile

−.6 −.4 −.2 .2 .4 Percent of GDP 1960 1970 1980 1990 2000 2010 Year Tax Change: Bottom 20% Tax Change: 21−40% Tax Change: 41−60% Tax Change: 61−80% Tax Change: Top 20% 12

Results Overview

National Data:

1 Output and Employment growth 2 Mechanisms: Consumption and Investment

State Data:

1 Similar specification at state-level 2 Effects across the income distribution

13

National Data: Employment & Top 10%

1950 1951 1952 1953 1954 1955 1956 1957 1958 1959 1960 1961 1962 1963 1964 1965 1966 1967 1968 1969 1970 1971 1972 1973 1974 1975 1976 1977 1978 1979 1980 1981 1982 1983 1984 1985 1986 1987 1988 1989 1990 1991 1992 1993 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011

−5 5 10 Employment Growth over 2 Years −.6 −.4 −.2 .2 .4 Sum of Tax Changes for Top 10% as % of GDP (from T−2 to T) 14

National Data: Employment & Bottom 90%

1950 1951 1952 1953 1954 1955 1956 1957 1958 1959 1960 1961 1962 1963 1964 1965 1966 1967 1968 1969 1970 1971 1972 1973 1974 1975 1976 1977 1978 1979 1980 1981 1982 1983 1984 1985 1986 1987 1988 1989 1990 1991 1992 1993 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011

−5 5 10 Employment Growth over 2 Years −1 −.5 .5 Sum of Tax Changes for Bottom 90% as % of GDP (from T−2 to T) 15

16

State Data: Employment & Top 10%

−10 −5 5 10 State Employment Growth −1 −.5 .5 1 Sum of Tax Changes for Residents in Top 10% as % of GDP (from T−2 to T) 17

State Data: Employment & Bottom 90%

−10 −5 5 10 State Employment Growth −1.5 −1 −.5 .5 Sum of Tax Changes for Residents in Bot. 90% as % of GDP (from T−2 to T) 18

Dependent Variable GrowthE,s (1) (2) (3) (4) (5) ∆TaxBot90,s,t 1.1 0.5

• 1.1
• 0.9
• 0.8

(1.2) (0.9) (1.0) (0.8) (0.7) ∆TaxBot90,s,t−1

• 2.7*
• 3.2**
• 1.6**
• 2.2***
• 1.4**

(1.5) (1.2) (0.7) (0.7) (0.6) ∆TaxBot90,s,t−2

• 1.7
• 2.1**

0.5 0.1

• 0.3

(1.5) (0.9) (0.6) (0.7) (0.6) ∆TaxTop10,s,t 0.2 0.0

• 0.1
• 0.2
• 0.3

(0.4) (0.4) (0.2) (0.2) (0.3) ∆TaxTop10,s,t−1

• 0.1
• 0.2
• 0.4
• 0.2
• 0.2

(0.4) (0.3) (0.2) (0.2) (0.3) ∆TaxTop10,s,t−2

• 0.2
• 0.2
• 0.1

0.0

• 0.0

(0.3) (0.2) (0.2) (0.2) (0.2) Constant

• 0.1
• 0.3

0.4

• 0.2
• 2.6**

(0.6) (0.6) (0.3) (0.9) (1.2) State & Year Fixed Effects N Y Y Y Y Control for GrowthE lags N N Y Y Y Control for GovTransPERCAP,s,t & lags N N N Y Y Control for EPOPs,t N N N N Y Control for TotalTaxPERCAP,s,t & growth N N N N Y Control for squared and cubic lags N N N N Y Observations 1,297 1,297 1,247 1,297 1,297 R-squared 0.551 0.691 0.810 0.830 0.872 Bottom90 Tax Change: βt + βt−1 + βt−2

• 3.318
• 4.746*
• 2.189
• 2.937*
• 2.592**

t-stat

• 0.854
• 1.873
• 1.378
• 1.959
• 2.433

p-val 0.397 0.0670 0.175 0.0558 0.0187 Top10 Tax Change: βt + βt−1 + βt−2

• 0.164
• 0.443
• 0.633*
• 0.416
• 0.481*

t-stat

• 0.184
• 0.589
• 1.792
• 1.176
• 1.720

p-val 0.855 0.558 0.0793 0.245 0.0917 Notes: All results are weighted by state population. Robust standard errors clustered by state are in parentheses. *** p<0.01, ** p<0.05, * p<0.1.

19

Effects for more income groups than Bottom 90 & Top 10

How does effect β vary over the income groups? A second order approximation of the β(g) function β(g) = θ0 + θ1g + θ2g2 Plug into estimating equation

GrowthY ,t = α + β1∆τ1,t + β2∆τ2,t + ... + β10∆τ10,t + ˜ Xt˜ λ + ˜ ǫt GrowthY ,t = α + (θ0 + θ1 + θ2)∆τ1,t + (θ0 + θ12 + θ222)∆τ2,t + ... + ˜ Xt˜ λ + ˜ ǫt GrowthY ,t = α + θ0 10

• g=1

∆τg,t

• + θ1

10

• g=1

g × ∆τg,t

• + θ2

10

• g=1

g 2 × ∆τg,t

• + ˜

Xt˜ λ + ˜ ǫt

20

Aggregate Effects Across the Income Distribution

1 2 3 4 5 6 7 8 9 10 −8 −6 −4 −2 AGI Decile Employment Growth

This figure shows the third order approximation of the β(g) function, i.e., ˆ θ1g + ˆ θ2g2 + ˆ θ3g3

21

Conclusion

Summary

1 Construct a new measure of income tax changes 2 Show substantial heterogeneity in effects of fiscal policy 3 Find stimulative effect of income tax cuts are largely from bottom

90% and empirical link between employment growth and tax changes for upper income earners seems weak to negligible

4 Suggest letting Bush tax cuts expire for $250K won’t have substantial

employment consequences over the business cycle

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