Matt on tax policy and growth

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One issue in this neighborhood that I think is interesting is simply the fact that even though it seems like tax policy ought to be an important determinant of economic growth, it’s pretty hard to find evidence for this proposition. In general, the policy determinants of growth are hard to find. And I think this is particularly true with taxes. If you look across the main OECD countries, you see much more diversity in tax systems than you do in growth outcomes. The overall levels of revenue are quite different, and the design of the systems are different as well, but the outcomes are extremely similar.


Francois' response: Matt's observation seems right to me. Economies are complex things. It seems to me that governments can certainly screw them up(see Third World dictatorships), but can't really make them grow.

That being said, taxes do have an effect, it's just that the effect gets lost in the noise of other, more important factors, like monetary policy, spending policy, what's going on in the private sector, the policies of our trading partners, and the occasional natural disaster or epidemic. But you can pick out specific instances of tax law changes changing behavior. Making housing exempt from most capital gains taxes certainly had the effect of moving capital to the real estate market. Treating short term capital gains nearly the same as long term capital gains encouraged short term investing, which led to three bubbles since the 90s. High taxes do often cause brain drain, while low taxes often encourage people to move to low tax areas. At the margins, of course, not mass movements, but then the economy, like baseball, is a game of inches. If GDP growth is -1% instead of 1%, that's a huge difference in people's lives. But if Microsoft decided it didn't want to be in California anymore due to tax policy and instead moved to Florida, that would change California and Florida significantly.

So it's important not to overestimate the effect of taxes, which conservatives do way too much, but you don't want to dismiss them either. Economic theory is almost never entirely wrong, it's just that the effects are often greater on paper than in real life. But they are there.