Tyler Cowen posts on the potency of tax rebates as a means of increasing consumption:

Matt Shapiro and Joel Slemrod report:

Many households received income tax rebates in 2001 of $300 or $600. These rebates represented advance payments of the tax cut from the new 10 percent tax bracket. Based on a survey of a representative sample of households, this paper finds that only 22 percent of households receiving the rebate would spent it. Instead, they would either save it or use it to pay off debt. This very low rate of spending represents a striking break with past behavior, which would have suggested a much higher rate of spending. The low spending rate implies that the tax rebate provided a very limited stimulus to aggregate demand.

Tyler titles his post 'tax rebates don't always work', but this is not the point at all - in fact, I would be very surprised if the authors came up with results that were any different.

1. The evidence in the Shapiro and Slemrod paper come from a consumer survey; as any good economist knows, you should count less on what people say and more on what they actually do. That's especially the case when there is a 'right' behaviour: e.g. in surveys of alcohol consumption, heavy drinkers always understate the amount they drink.

2. Even if you don't buy this, people are more likely to save or pay off debt during recessions; 2001 was a particularly weak year for the American economy. So, it should be no surprise that 'This very low rate of spending represents a striking break with past behavior, which would have suggested a much higher rate of spending' - 'past behaviour' took place during the years of plenty.

Of course, this second point does not invalidate the 'tax rebates don't always work' statement; it does, however, call into question the implicit standard by which the effectiveness of the rebate is judged, i.e. how the marginal propensity to consume the rebate compares to the marginal propensity to consume as observed in previous occasions. The real question is how low that MPC is (compared with what the government would do with that money) in the case of rebates during times of weak economic performance, and Tyler fails to present any evidence relating to that.

by datacharmer | Monday, January 21, 2008
  | | Objection! @bluematterblogtwitter


  1. Ian Says:

    WASHINGTON, Jan. 9, 2008 (Thomson Financial delivered by Newstex) -- The idea of a new round of Bush administration tax refunds might have a 'been there, done that' feel to it, but many economists say it's the only sure fire way to pick the economy up off its feet, and in essence are saying, 'go back there, do it again.'


    Economic dislocations are the problem with an income tax system that is highly manipulable - subject to influence by lobbyists and continual revision by politicians, taxes business resources and payroll whose costs cannot be extracted from export prices and results in higher domestic price tags for consumers.

    Clearly, the answer is in front of us - the FairTax; that's right, the same plan ardently advocated by Gov. Huckabee and demagogued by people like Bruce Bartlett. Mr. Huckabee's advocacy of the FairTax is the single most important policy position in this election.

    The research makes a compelling case for every American wage-earner, small-business owner, and investor to get involved in voicing their support for the FairTax Act of 2007 (HR 25 / S 1025) that's been reintroduced into every session of Congress since 1999, and with growing numbers of co-sponsors:

    The FairTax rate of 23 percent on a total taxable consumption base of $11.244 trillion will generate $2.586 trillion dollars – $358 billion more than the taxes it replaces. [BHKPT]

    The FairTax has the broadest base and the lowest rate of any single-rate tax reform plan. [THBP]

    Real wages are 10.3 percent, 9.5 percent, and 9.2 percent higher in years 1, 10, and 25, respectively than would otherwise be the case. [THBNP]

    The economy as measured by GDP is 2.4 percent higher in the first year and 11.3 percent higher by the 10th year than it would otherwise be. [ALM]

    Consumption benefits [ALM]:

    • Disposable personal income is higher than if the current tax system remains in place: 1.7 percent in year 1, 8.7 percent in year 5, and 11.8 percent in year 10.

    • Consumption increases by 2.4 percent more in the first year, which grows to 11.7 percent more by the tenth year than it would be if the current system were to remain in place.

    • The increase in consumption is fueled by the 1.7 percent increase in disposable (after-tax) personal income that accompanies the rise in incomes from capital and labor once the FairTax is enacted.

    • By the 10th year, consumption increases by 11.7 percent over what it would be if the current tax system remained in place, and disposable income is up by 11.8 percent.

    Over time, the FairTax benefits all income groups. Of 42 household types (classified by income, marital status, age), all have lower average remaining lifetime tax rates under the FairTax than they would experience under the current tax system. [KR]

    Implementing the FairTax at a 23 percent rate gives the poorest members of the generation born in 1990 a 13.5 percent improvement in economic well-being; their middle class and rich contemporaries experience a 5 percent and 2 percent improvement, respectively. [JK]

    Based on standard measures of tax burden, the FairTax is more progressive than the individual income tax, payroll tax, and the corporate income tax. [THBPN]

    Charitable giving increases by $2.1 billion (about 1 percent) in the first year over what it would be if the current system remained in place, by 2.4 percent in year 10, and by 5 percent in year 20. [THPDB]

    On average, states could cut their sales tax rates by more than half, or 3.2 percentage points from 5.4 to 2.2 percent, if they conformed their state sales tax bases to the FairTax base. [TBJ]

    The FairTax provides the equivalent of a supercharged mortgage interest deduction, reducing the true cost of buying a home by 19 percent. [WM]

    ALERT: Kotlikoff refutes Bruce Bartlett's shabby critiques of the FairTax.