Federal tax revenue today as a percentage of gross domestic product (GDP) is 20 percent below the post-World War II average, while spending is 27 percent above the postwar average. Low taxes certainly boost the economy, but the time will come when bills need to be paid. Every Republican candidate for president proposes lower tax rates. Some, including Romney, have made vague promises to “broaden the base,” meaning that they would close loopholes. At the same time, they propose new tax rules that could open up more loopholes. New plans always carry the risk that clever lawyers and accountants will find ways to use the new rules to pay far less tax than is expected.
Lowering tax rates and closing loopholes might promote long-term growth, but closing loopholes will cause short-term pain to formerly protected industries. These industries will fight back, and history suggests that many loopholes will quietly find their way back into the tax code. The result could be a combination of tax preferences and lower rates, meaning much lower revenue.
The key to each candidate’s tax plan is what is called “dynamic scoring”: the idea that a streamlined tax code will promote economic growth, which will bring in more revenue. Paul, for example, assumes that revenue under his tax plan will grow at a rate of 7 percent per year. It is certainly true that high tax rates discourage investment, reducing future growth, but the size of this effect is unknown. Economic growth is unpredictable, and if candidates’ rosy assumptions turn out to be wrong, their tax plans will result in much bigger deficits.
