Gibson's capital-gains tax assertion during debate disputed by economists
Research ››› ››› JEREMY HOLDEN
During the April 16 Democratic presidential debate, Charles Gibson asserted of capital-gains tax cuts that "in each instance, when the rate dropped, revenues from the tax increased. The government took in more money. And in the 1980s, when the tax was increased to 28 percent, the revenues went down." In fact, economists dispute Gibson's assertion. Moreover, looking forward, the Joint Committee on Taxation estimated that the 2006 extension of the 2003 cuts on capital-gains taxes would result in decreased revenues over 10 years.
During the April 16 Democratic presidential debate, co-moderator and ABC World News anchor Charles Gibson asserted of capital-gains tax cuts that "in each instance, when the rate dropped, revenues from the tax increased. The government took in more money. And in the 1980s, when the tax was increased to 28 percent, the revenues went down." Gibson later asserted that "history shows that when you drop the capital-gains tax, the revenues go up." In fact, Dean Baker, co-director of the Center for Economic and Policy Research, asserted in an April 17 American Prospect blog post addressing Gibson's statements: "[T]he evidence that a capital gains tax cut raises revenue is rather dubious, since most of the apparent increase is likely due to timing: investors delay selling stock when they know a tax cut is imminent. After the cut takes effect, they then declare their gains and pay taxes at the lower rate." Indeed, a Congressional Budget Office (CBO) Revenue and Tax Policy Brief states that "[r]ising gains receipts in response to a rate cut are most likely to occur in the short run" and that investor responses to capital-gains tax cuts in the short term can "mislead observers."
From the CBO brief:
Because taxes are paid on realized rather than accrued capital gains, taxpayers have a great deal of control over when they pay their capital gains taxes. By choosing to hold on to an asset, a taxpayer defers the tax. The incentive to do that -- even when it might otherwise be financially desirable to sell an asset -- is known as the lock-in effect. As a consequence of that incentive, the level of the tax rate can substantially influence when asset holders realize their gains, as can be seen particularly clearly when tax rates change. ... For instance, the Tax Reform Act of 1986 boosted capital gains tax rates effective at the beginning of 1987. Anticipating that increase, investors realized a huge amount of gains in 1986. Then, in 1987, realizations fell by almost as much, returning to a level comparable to that before the tax increase.
The sensitivity of realizations to gains tax rates raises the possibility that a cut in the rate could so increase realizations that revenue from capital gains taxes might rise as a consequence. 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. In addition, a stock of accumulated gains may be realized shortly after the rate is cut, but once that accumulation is "unlocked," the stock of accrued gains is smaller and realizations cannot continue at as fast a rate as they did initially. Thus, even though the responsiveness of realizations to a tax cut may not be enough to produce additional receipts over a long period, it may do so over a few years. The potentially large difference between the long- and short-term sensitivity of realizations to tax rates can mislead observers into assuming a greater permanent responsiveness than actually exists.
Because of the other influences on realizations, the relationship between them and tax rates can be hard to detect and easy to confuse with other phenomena. For example, a number of observers have attributed the rapid rise in realizations in the late 1990s to the 1997 cut in capital gains tax rates. But the 45 percent increase in realizations in 1996--before the cut--exceeded the 40 percent and 25 percent increases in 1997 and 1998 that followed it. Careful studies have failed to agree on how responsive gains realizations are to changes in tax rates, with estimates of that responsiveness varying widely.
In its conclusion, the CBO brief states that "the relationship of realizations and receipts to gains tax rates is neither predictable nor obvious."
Addressing Gibson's question in an April 16 entry on washingtonpost.com's Fact Checker blog, Post staff writer Glenn Kessler cited the CBO brief and wrote: "Charlie Gibson twice challenged Obama on the question of why he might consider raising capital gains taxes when, he claimed, cuts in the tax always results in increases in revenues. Gibson must be unduly worried about his stock portfolio. Gibson is right that a cut in capital gains taxes results in a brief increase in revenue, but that's only because stockholders decide to unload some stocks they have held in the new tax regime; there is less incentive to sell the stock if you know the rate is going to soon drop." In a New Republic blog post about Gibson's question, Jonathan Cohn quoted Brookings Institution economist Jason Furman as follows: "Joint Committee on Taxation and Treasury both score raising capital gains taxes as raising revenues. There is some behavioral response but much of that is timing and doesn't affect the medium-to-long term revenue loss." According to Cohn, Furman stated that "the experience after the 1997 cut and the 2003 cut is not a meaningful way to assess the impact of capital gains tax cuts on revenues because so many things were happening simultaneously."
Further, the Joint Committee on Taxation (JCT) estimated that the 2006 extension of the 2003 cuts on capital-gains taxes would result in decreased revenues of $20 billion over 10 years.
In addition, numerous economists have said that cuts in capital-gains taxes do not pay for themselves, let alone increase revenue. In an article published in the Journal of Public Economics, N. Gregory Mankiw -- former chairman of President Bush's Council of Economic Advisers -- and Matthew Weinzierl asked, "To what extent does a tax cut pay for itself?" Mankiw and Weinzierl concluded, "In almost all cases, tax cuts are partly self-financing. This is especially true for cuts in capital income taxes" [emphasis added]. Discussing those findings in a 2007 blog post, Mankiw noted, "Matthew Weinzierl and I estimated that a broad-based income tax cut (applying to both capital and labor income) would recoup only about a quarter of the lost revenue through supply-side growth effects. For a cut in capital income taxes, the feedback is larger -- about 50 percent -- but still well under 100 percent." A May 17, 2006, Knight Ridder Newspapers article citing Mankiw's study noted that "paybacks of 50 ... percent still mean a net revenue loss for the Treasury." The article also reported, "Treasury Secretary John Snow conceded Tuesday that the much-touted tax cuts for capital gains and dividend income don't drive today's strong economy. Asked by Knight Ridder if the tax reductions paid for themselves, Snow acknowledged that they don't."
From ABC's April 16 Democratic presidential debate:
GIBSON: You have, however, said you would favor an increase in the capital-gains tax. As a matter of fact, you said on CNBC, and I quote, "I certainly would not go above what existed under Bill Clinton, which was 28 percent."
It's now 15 percent. That's almost a doubling if you went to 28 percent. But actually, Bill Clinton in 1997 signed legislation that dropped the capital gains tax to 20 percent.
GIBSON: And George Bush has taken it down to 15 percent.
GIBSON: And in each instance, when the rate dropped, revenues from the tax increased. The government took in more money. And in the 1980s, when the tax was increased to 28 percent, the revenues went down. So why raise it at all, especially given the fact that 100 million people in this country own stock and would be affected?
OBAMA: Well, Charlie, what I've said is that I would look at raising the capital-gains tax for purposes of fairness. We saw an article today which showed that the top 50 hedge fund managers made $29 billion last year -- $29 billion for 50 individuals. And part of what has happened is that those who are able to work the stock market and amass huge fortunes on capital gains are paying a lower tax rate than their secretaries. That's not fair.
And what I want is not oppressive taxation. I want businesses to thrive, and I want people to be rewarded for their success. But what I also want to make sure is that our tax system is fair and that we are able to finance health care for Americans who currently don't have it and that we're able to invest in our infrastructure and invest in our schools.
And you can't do that for free, and you can't take out a credit card from the Bank of China in the name of our children and our grandchildren and then say that you're cutting taxes, which is essentially what John McCain has been talking about. And that is irresponsible.
You know, I believe in the principle that you pay as you go. And, you know, you don't propose tax cuts unless you are closing other tax breaks for individuals. And you don't increase spending unless you're eliminating some spending or you're finding some new revenue. That's how we got an additional $4 trillion worth of debt under George Bush. That is helping to undermine our economy, and it's going to change when I'm president of the United States.
GIBSON: But history shows that when you drop the capital-gains tax, the revenues go up.