Static cling: in clinging to their static forecast model, congressmen ignore human nature - including their own

National Review, July 31, 1995 by William Garretson

FEDERAL budget rules prevent Congress from considering any legislation that lowers projected federal revenues without providing sufficient tax increases or spending cuts to fully offset the projected losses. During the recent debate on the General Agreement on Tariffs and Trade (GATT), the U.S. Senate (with President Clinton's support) waived these rules, which would have necessitated making $30 billion in spending cuts or tax increases.

The President justified the budget waivers by correctly arguing that the congressional revenue estimates were flawed and that the lower tariff rates under GATT would increase overall tax revenues by expanding the volume of international trade. Some Republicans, including Senate Majority Leader Bob Dole and House Majority Leader Dick Armey, have argued that the same logic should apply to domestic tax cuts. More specifically, they argue that lowering the capital-gains tax rate will result in more frequent investment transactions, higher capital-gains realizations, and increased federal tax receipts. Unfortunately, the current ``static'' methodology employed by the Department of the Treasury and Congress's Joint Committee on Taxation to forecast tax revenues assumes that taxpayer behavior will remain largely unchanged by the incidence and level of taxation. By failing to consider how individuals alter their behavior to avoid increased taxes, the static model overestimates revenue gains from tax-rate increases and revenue losses from tax-rate cuts. Thus, the static model biases the budget process in favor of government expansion and contributes to growing budget deficits by providing Congress with projected revenues that never materialize. In fact, the Congressional Budget Office recently acknowledged that its deficit projections for fiscal years 1995 - 99 were $127 billion low; nearly half of the error can be attributed to overly optimistic revenue projections for Clinton's 1993 tax hike. Many Republicans favor altering the economic model to consider behavioral effects of taxes. White House Chief of Staff Leon Panetta characterized such plans as ``smoke and mirrors'' budgeting. Office of Management and Budget Director Alice Rivlin called planned revisions ``nonsense.''

However, Congress and the IRS have unwittingly provided proof of the behavioral effects of tax increases in their own reaction to the Energy Policy Act of 1992. A provision included in this Act by House Democrat Bob Matsui increased, from $21 per month to $60 per month, the mass-transit subsidy that employers could provide tax-exempt, and it applied income taxes to employer-provided parking worth more than $155 per month. To comply with the Act, the House Committee on Administration commissioned Ernst & Young to assess the value of Capitol Hill parking spaces. The firm's report valued assigned Capitol Hill parking spaces at $290 per month, and unassigned garage spots at $145 per month. In June 1994, the committee notified House members and staff that they had the option to switch their parking status from reserved to unreserved, but that those who kept reserved spots would be taxed on $135 in supplemental income per month. According to sources, the committee modeled the policy on a tax-avoidance scheme used earlier in the year by IRS employees. When the dust settled, only 111 members of Congress kept their reserved parking, and fully 78 per cent of all members and staff downgraded to unreserved parking. Notably, Martin Sabo, chairman of the House Budget Committee during the last Congress, gave up his reserved parking, as did Bob Matsui, author of the tax change and a key member of the Ways and Means Committee.

A purely static analysis would assume that no members or staff would switch parking spots -- that the tax base would remain unchanged and the tax revenues would increase by an amount equal to the income-tax rate multiplied by the value of all reserved parking spots held prior to the Energy Policy Act. Taxpayers of all professions and economic backgrounds try to minimize their tax burdens. Given that congressmen prove to be no exception, their opposition to economic models that consider the incentive or behavioral effects of tax policy is glaring.