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The ABC Debate: Enough Capital Gains Tax Nonsense

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Despite the confident questions of anchorman Charles Gibson on ABC, capital gains tax cuts are not magic. Over time, cuts in taxes on profits made by investing do not raise total tax revenues. Gibson insisted in his questioning of Barack Obama that they did, and conversely that cuts in capital gains tax rates result in more federal tax revenues. Obama hedged. He should have known the answer: balderdash. Only in the short run do tax revenues rise.

But not only that. George Will condescendingly reiterated the assertion on This Week with George Stephanopoulos Sunday morning and his colleagues did not challenge him. This even after the web was filled with expert corrections of the Gibson claim by Friday: the Washington Post campaign fact checker, The New Republic, and Dean Baker in the American Prospect, to name the few I saw.

When capital gains tax rates are cut, those who are holding profits in stocks will often sell to take short-term advantage. In the first couple of years after the cut, tax revenues may go up. But the long-term effect is the opposite. The Congressional Budget Office agrees that the likely effect over time is lost revenues from tax cuts. So do the Treasury and the Joint Tax Committee of Congress; they simply forecast that that tax revenues rise over time with higher capital gains taxes. Those who claim otherwise are conservative think tanks and a handful of business lobbying organizations who have lost their capacity for objectivity.

Here's a good example of how the argument is distorted. The 1987 Tax Reform Act boosted capital gains tax rates, and capital gains tax collections fell that year. Proof of the pudding, I suppose Will would argue. But why did they rise? Because people sold their stocks the year before in anticipation of the increase in rates. In 1986, tax revenues increased a lot.

The advocates of capital gains tax cuts love to cite the 1997 cut in rates from 28% to 20%. Capital gains revenues went up because people were induced to sell in the short run. But does anyone plausibly believe the wild stock market boom of the late 1990s, which led to further capital gains tax receipts, was a consequence of the rate cut when a high-technology revolution was underway, productivity was taking off, Alan Greenspan had sharply loosened monetary policy, and a speculative bubble was soon to explode?

In fact, capital gains tax revenues fell sharply after the stock market bust in 2000. Then Bush engineered another capital gains tax cut, now from 20 percent to 15 percent in 2003. Yet capital gains tax revenues, adjusted for inflation, have not nearly reached their highs of 2000, despite the 25 percent (5 percentage point) cut in rates. Capital gains tax cuts are no elixir. And the extent capital gains depend on many factors. To isolate it to the tax rate is highly irresponsible economics.

One final point, even Harvard economist and former chief Bush economist Gregory Mankiw has written that such tax cuts do not result over time in higher revenues. In sum, here's the CBO on the issue: "Rising gains receipts in response to a rate cut are most likely to occur in the short run. Postponing or advancing realizations by a year is relatively easy compared with doing so over much longer periods."

It's easy to postpone stock and other investment sales until the time is propitious. But over the long run, tax revenues are lost by the lower rates. People must sell at some point and pay the higher taxes. And the federal government would have more money to pay the bills.