How the Tax Policy Center could improve its Romney tax study

Great political attention is being heaped on a new report by the Brookings-Urban Tax Policy Center (TPC) that claims to show that a Romney-style tax reform would end up shifting, in its most progressive form, $86 billion dollars per year from those making under $200,000 a year to those making more than $200,000 a year.

From this, the authors conclude that, "Any revenue-neutral individual income tax change that incorporates the features Governor Romney has proposed would provide large tax cuts to high-income households, and increase the tax burdens on middle- and/or lower-income taxpayers."

As a tax policy researcher myself, I always welcome TPC's analyses, and I found this report to be quite interesting as usual. Although their tax simulation model does not allow for the sort of dynamic scoring I'd like to see, it oftentimes provides very helpful insights. After giving the latest report some thought, though, a few aspects of it might have invited some of the false inferences from the left and harsh attacks from the right. Fortunately, with a few simple additions, a follow-up report-let's call it my dream study-could clear up much of the confusion and build on the authors' hard work in a way that would be very useful for the tax debate.

The first aspect that stands out is that Governor Romney has yet to detail what tax expenditures he'd repeal, but TPC assumes that many items are either "on the table" or "off the table." While some of these assumptions make a lot of sense, others make less.

For example, a couple of items that TPC assumes are off the table are the exclusion of interest on tax exempt bonds and the exclusion of interest on life insurance savings. While Governor Romney has professed a desire to keep rates on savings and investment low, maintaining these exclusions is not necessarily what he meant. In fact, both of these exclusions largely benefit the wealthy, and, according to the Treasury Department, added together their repeal would net upwards of $90 billion that could be redistributed to lower-income individuals. That would go a long way towards balancing out the supposed $86 billion windfall for the rich and tax hike on the middle class and poor, and it could make the impossible suddenly possible.

While my analysis of those exclusions is nothing if not rough, TPC could do a much better job with the use of their model. So, my dream study would show all of the different combinations of items that could be included to make a revenue-neutral tax reform distributionally neutral rather than placing items either on or off the table and then claiming, given those assumptions, that distributional neutrality is impossible.

The second aspect of the report that could be modified is that TPC defines the rich just like the Democrats have chosen to do, with those earning more than $200,000 being called "high income" and those earning below that being called middle-class or poor. This arbitrary definition matters a lot to this analysis. If the definition of "high-income" were placed at, say $150,000 rather than $200,000 (which to me seems quite fair since both are many times my income), then the plan might appear to be a transfer from rich to poor rather than the other way around, or at least closer to neutral. In my dream report, it would be nice to see the break-even point for each of the different combinations of base-broadeners that TPC analyzes.

Lastly, TPC's report offers scant documentation on how the different pieces of the tax reform are modeled and how individuals in different income groups would behave. Although it may take a little work, my dream study would provide results for a wide variety of these assumptions, or, at the very least, include a fat appendix that details the assumptions they use. This is particularly important for assumptions regarding growth and individual feedback effects because different economists, based on a broad literature, have different views that imply divergent revenue and distributional outcomes. Due to its lack of documentation, TPC's report, in a way, is only relevant for those economists who agree with their assumptions, and they don't even know who they are because not all of the assumptions are clear. Moreover, the lack of documentation is quite misleading for non-economists who aren't aware of these issues. My dream study would remedy that.

Overall, my conclusion from the report is the opposite of the claim made by President Obama in a recent campaign ad. He says Romney's proposal is a tax cut for the rich. I say that I'm now more convinced than ever that pro-growth, revenue neutral tax reform need not be regressive. I'm hoping for a study from TPC that helps us do it.

Matthew Jensen is a Research Associate at the American Enterprise Institute.

 

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