Tax Policy and the Economy, Volume 33

This volume presents five new studies on taxation and government transfer programs.  Alexander Blocker, Laurence Kotlikoff, Stephen Ross, and Sergio Villar Vallenas show how asset pricing can be used to value implicit fiscal debts, which are currently rarely measured or adjusted for risk, while accounting for risk properties.  They apply their methodology to study Social Security.  Michelle Hanson, Jeffrey Hoopes, and Joel Slemrod examine the effects of the Tax Cuts and Jobs Act on corporation behavior and on firms’ statements about their behavior.  They focus on for four outcomes: bonuses, investment, share repurchases, and dividends. Scott Baker, Lorenz Kueng, Leslie McGranahan, and Brian Melzer explore whether “unconventional” fiscal policy in the form of pre-announced consumption tax changes can shift durables purchases intertemporally, how it such shifts are affected by consumer credit.  Alan Auerbach discusses “tax equivalences,” disparate sets of policies that have the same economic effects, and also illustrates when these equivalences break down.  Jeffrey Liebman and Daniel Ramsey use data from NBER’s TAXSIM model to investigate the equity implications of a switch from joint to independent taxation that could occur in conjunction with adoption of return-free tax filing.

• Language: English
• Publisher: University of Chicago Press Journals
• Release date: Jul 21, 2019
• ISBN: 9780226646190

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Contents

Copyright

NBER Board of Directors

Relation of the Directors to the Work and Publications of the NBER

Acknowledgments

Robert A. Moffitt

Introduction

Robert A. Moffitt

Do Household Finances Constrain Unconventional Fiscal Policy?

Scott R. Baker, Lorenz Kueng, Leslie McGranahan, and Brian T. Melzer

Tax Reform Made Me Do It!

Michelle Hanlon, Jeffrey L. Hoopes, and Joel Slemrod

Tax Equivalences and Their Implications

Alan J. Auerbach

Independent Taxation, Horizontal Equity, and Return-Free Filing

Jeffrey Liebman and Daniel Ramsey

The True Cost of Social Security

Alexander W. Blocker, Laurence J. Kotlikoff, Stephen A. Ross, and Sergio Villar Vallenas

Copyright

© 2019 by the National Bureau of Economic Research. All rights reserved.

NBER Board of Directors

© 2019 by the National Bureau of Economic Research. All rights reserved.

Relation of the Directors to the Work and Publications of the NBER

© 2019 by the National Bureau of Economic Research. All rights reserved.

Acknowledgments

Robert A. Moffitt

Johns Hopkins University and NBER

This issue of NBER’s Tax Policy and the Economy journal series contains revised versions of papers presented at a conference at the National Press Club on September 27, 2018. The papers continue the journal’s tradition of bringing high-quality, policy-relevant research by NBER researchers to an audience of economists in government and in policy positions in Washington and to economists around the country with interests in policy-oriented economic research. The papers in this issue are wide-ranging, from the effects of future announced sales taxes on current car sales, to what firms said they would do in response to the Tax Cuts and Jobs Act of 2017, to the distributional effects of moving to independent taxation.

The attendees at the conference were also lucky to hear an interesting lunch presentation by Vitor Gaspar, director of the Fiscal Affairs Department of the International Monetary Fund (IMF), who discussed the issues currently confronting the fiscal policies of IMF member countries.

I would like to thank Rob Shannon of NBER for his usual expertise and organizational acumen in overseeing the logistical details, invitations, and operational aspects of the conference and to Jim Poterba for his continued assistance with the organization of the meeting. I would also like to thank Helena Fitz-Patrick for assistance with many other aspects of the conference, especially the shepherding of the papers toward final publication. And I would like to acknowledge the continued financial support of the Lynde and Harry Bradley Foundation. Finally, let me express my thanks to the authors themselves for the hard work they devoted to producing high-quality papers living up to the Tax Policy and the Economy standard.

© 2019 by the National Bureau of Economic Research. All rights reserved.

978-0-226-64586-5/2019/2019-0001$10.00

Introduction

Robert A. Moffitt

Johns Hopkins University and NBER

The five papers in this issue of Tax Policy and the Economy are all directly related to important issues concerning the US tax system and its transfer system, their relationship to fiscal policy, and issues related to equivalences of alternative tax policies.

In the first paper, Baker, Kueng, McGranahan, and Melzer note that some macroeconomist theorists have suggested that consumer spending might be stimulated during a recession by government announcements of future sales or consumption tax increases, thereby inducing households to shift consumer expenditures forward to periods with lower taxes. Such unconventional fiscal policies, which require that households have significant intertemporal elasticities during downturns, have not been empirically examined. The authors do so in their paper by examining how purchases of automobiles are affected by preannounced changes in sales taxes. Autos are a consumer durable and require financing and are an interesting case because durables may be one of the more difficult consumer products to intertemporally substitute, especially during a recession. Using a credit panel on car purchases compiled by the New York Federal Reserve Bank, allowing examination of car purchases over the period 1999–2017 at the zip-code level, the authors find that current car sales increase by a large 8% for each 1-percentage-point increase in the future tax rate, with the increase concentrated in the month just before the tax increase. They also find the response to be largest among those with high credit scores and, perhaps surprisingly, to be larger during recessions than during normal periods. Finally, the authors find that the intertemporal substitution is fully unwound in the month following the sales increase by a corresponding decline in sales, but they suggest that tax increases relevant for national fiscal policy would be considerably larger and potentially have longer-run impacts.

In the second paper, Hanlon, Hoopes, and Slemrod examine whether the Tax Cut and Jobs Act of 2017 (TCJA), which reduced business taxes by cutting the corporate tax rate and changed the taxation of foreign profits, led firms to announce that TCJA induced them to pay bonuses for their workers, repurchase shares, increase dividend payout, or increase investment. Which, if any, of these actions firms would undertake following the TCJA was extensively discussed by policy makers and in the media, with widely diverging opinions and predictions. Concentrating on announced policies that were ascribed directly to the TCJA, the authors find that a large number of firms announced increases in worker compensation of various forms and that large numbers announced plans for new investments. For share repurchases, the authors find a large actual volume of share repurchases following the TCJA, but the repurchases are concentrated among a small number of firms and, with only a quarter of post-TCJA data, they cannot distinguish whether this was a result of the TCJA or the mere continuation of a trend. Relatively few firms ascribed their share repurchases to the TCJA. The authors find little evidence of change in dividend policies, except that dividend-paying firms showed a greater propensity to increase dividend payments after the TCJA (and 12% of these firms attributed the increase to the TCJA in a public announcement). The authors go on to conduct an analysis of which firms made announcements of TCJA-inspired actions, focusing on whether political or economic variables played a greater role. Their analysis finds significant evidence that the size of the economic benefit to a firm in the form of tax savings from the TCJA was positively correlated with making an announcement, suggesting that economic factors played a role. However, the authors also find that firms with a political action committee that disproportionately donated to Republican candidates were more likely to make announcements of worker-related benefits, suggesting a political motivation as well, at least for payments to workers.

Auerbach provides an analysis of tax equivalences, which are defined as tax policies or reforms which have, at least according to conventional models, no effect on the budget constraints or incentives of economic agents on either side of a market or of the government. Policies that have equivalent impacts should have the same impact on fundamental economic outcomes. Auerbach provides a number of examples of such equivalences, some familiar to students of tax policy but also some less familiar. His analysis discusses equivalent policies that differ according to (1) the side of a market on which the policy is applied, (2) the form in which the policy is imposed (e.g., as a unit or ad valorem tax, on a tax-inclusive or tax-exclusive basis, etc.), (3) whether the policy is imposed on households or firms, (4) the market in which the policy is directly imposed, (5) the timing of the policy, and (6) whether behavioral adjustments are involved in the equivalence. Having discussed these examples of equivalences, Auerbach goes on to discuss conditions under which the equivalences may break down. Among the factors that may lead to nonequivalence are (1) differences in the salience of the policies; (2) the presence of market imperfections such as liquidity constraints, price rigidity, or imperfect competition; (3) differences in information requirements and the costs of tax administration and enforcement; and (4) government accounting rules. Auerbach concludes by emphasizing that recognition of tax equivalences and the ways in which they may fail to hold is important both for positive analysis (e.g., the political reasons for choosing one approach over another) and for normative analysis (to determine which approach may be a more effective way of implementing a policy).

Liebman and Ramsey provide a fresh examination of the effect of moving from joint taxation in the US federal income tax to independent taxation, where each adult’s income is taxed separately. They note that many other countries have independent taxation, and such taxation is also a prerequisite for return-free filing, which many countries have and which would have many potential benefits. The authors conduct an analysis of the vertical and horizontal equity impacts of moving to independent taxation. Liebman and Ramsey simulate the changes in vertical and horizontal equity from a move to independent taxation by starting from the 2017 federal income tax law and analyzing the impacts of a change in that year for married households. They argue that, from a welfare perspective, households should be ranked by the potential income they could earn if both spouses work full time because that eliminates differences in untaxed leisure and home production time that would differ across households if actual earnings were used. Using this measure to rank households, Liebman and Ramsey find that there would be winners and losers from a move to independent taxation, but that it is not difficult to find a new, revenue-neutral set of tax brackets and associated marginal rates within each bracket for an independent taxation system that would result in a distribution of tax burden by decile of potential income very close to the distribution under the current system of joint taxation. For horizontal equity, the authors find that there is significant dispersion of tax burden across households with the same potential income under both the current system and a system of joint taxation. They also argue that, using a common measure of social welfare loss from such dispersion, the differences in dispersion between the two systems are very small and that moving to independent taxation would involve no significant welfare loss. The authors conclude that a move to independent taxation could, in principle, have little effect on vertical or horizontal equity but could have large potential benefits.

In their paper, Blocker, Kotlikoff, Ross, and Villar Vallenas focus on incorporating risk into calculations of the net liability of the Social Security retirement system. While the Office of the Actuary of the Social Security Administration makes projections of future liabilities using projections of future earnings growth and consequent tax revenues, those projections do not incorporate the risk arising from fluctuations in earnings growth. Blocker and colleagues show that wage growth has fluctuated to significant degrees in the past and thus is likely to in the future as well. The authors analyze how to incorporate risk into Social Security’s net liability calculations by bringing to bear arbitrage pricing theory (APT), which is a method of valuing risk by using the valuation of risk already present in financial market securities and applying that valuation to a liability like Social Security. The authors also incorporate the risk valuation available from security markets arising from the availability of US Treasury Inflation-Protected Securities (TIPS), which tell us how to value Social Security benefits once they commence. Such benefits, like TIPS, are protected against inflation. Blocker and colleagues’ use of APT to value Social Security’s net liabilities to current workers incorporates both idiosyncratic earnings risk and aggregate wage-growth risk. Although the results are somewhat sensitive to their assumptions, the authors’ best estimate is that Social Security’s net liabilities are 86% higher than the liability calculated by the Office of the Actuary.

© 2019 by the National Bureau of Economic Research. All rights reserved.

978-0-226-64586-5/2019/2019-0002$10.00

Do Household Finances Constrain Unconventional Fiscal Policy?

Scott R. Baker

Northwestern University

Lorenz Kueng

Northwestern University, NBER, and CEPR

Leslie McGranahan

Federal Reserve Bank of Chicago

Brian T. Melzer

Dartmouth College

Executive Summary

When the zero lower bound on nominal interest rate binds, monetary policy makers may lack traditional tools to stimulate aggregate demand. We investigate whether unconventional fiscal policy, in the form of preannounced consumption tax changes, has the potential to meaningfully shift durables purchases intertemporally and how it is affected by consumer credit. In particular, we test whether car sales react in anticipation of future sales tax changes, leveraging 57 preannounced changes in state sales tax rates from 1999 to 2017. We find evidence for substantial tax elasticities, with car sales rising by more than 8% in the month before a 1% increase in the sales tax rate. Responses are heterogeneous across households and sensitive to supply of credit. Consumers with high credit risk scores are most able to pull purchases forward. At the same time, other effects such as customer composition and attention lead to even greater tax elasticity during recessions, despite these credit frictions. We discuss policy implications and the likely magnitudes of tax changes necessary for any substantive long-term responses.

I. Introduction

The prolonged period of low demand and low interest rates during the Great Recession prompted economists to consider new policies to stabilize the business cycle. The constraint of the zero lower bound (ZLB) on nominal interest rates, in particular, prevented the use of short-term interest rate reductions to stimulate consumption and investment. To overcome this problem, macroeconomic theorists (Feldstein 2002; Hall 2011; Correia et al. 2013) proposed an unconventional fiscal policy: a commitment to raise consumption taxes in the future. The anticipation of higher consumption taxes can promote intertemporal substitution just as traditional monetary policy does, by raising the price of future consumption relative to current consumption. A credible commitment to raise sales taxes may therefore be used to stimulate consumer spending during a recession, particularly when paired with coincident lump-sum transfers or income tax reductions to offset any sales tax-related decline in real income.¹

Unconventional fiscal policy holds promise in theory but may not be effective in practice. Intertemporal substitution may be muted because consumers are inattentive and unaware of future tax changes. Recent literature in public economics argues that sales taxes are not fully salient (e.g., Chetty, Looney, and Kroft 2009). Intertemporal substitution may also be muted by financial frictions. To shift expenditures forward in time, households need wealth or credit access, both of which typically decline during recessions. Financial frictions may therefore impede spending even among consumers who are attentive to future sales tax increases. Last, there is a question of whether demand elasticity changes over the business cycle, leading to either stronger or weaker responses during recessions. There is some evidence that (compensated) product demand is more price sensitive during recessions, particularly for luxury goods (Gordon, Goldfarb, and Li 2013). In contrast, Berger and Vavra (2015) show that durable purchases adjust less frequently during recessions, as households prefer to reduce their consumption of durables and do so through depreciation and reduced purchases because of adjustment costs.

We evaluate these issues by studying the response of vehicle purchases to state sales tax changes in the United States between 1999 and 2017. We measure the number of financed vehicle purchases, at monthly frequency in each zip code, using the Federal Reserve Bank of New York (FRBNY) Consumer Credit Panel/Equifax data. During the sample period we observe 57 changes in sales taxes at the state level. The majority of these changes—more than 70%—are sales tax increases and the mean size of the change is 0.5 percentage point. We supplement this analysis with additional data on car registrations by zip code from Experian’s AutoCount database.

We focus on vehicle purchases for two reasons. First, large durable purchases such as cars are particularly relevant for countercyclical policies. They are the type of long-lasting good for which expenditures can be shifted in time without outsized variation in consumption and the category of consumption that varies most through the business cycle. For example, during the Great Recession, the decline in durable goods was about triple that in nondurables. Second, vehicle sales taxes depend on the location of the vehicle registration rather than the location of the purchase. This feature proves crucial for predicting the effect of a national sales tax increase on expenditures. For other