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By John Berthoud - October 15, 2004 12:00 AM

Last week the Nobel Committee of the Royal Swedish Academy of Sciences announced Edward C. Prescott as the co-winner of the 2004 Nobel Prize in Economic Sciences. Currently the W. P. Carey Chair of Economics at Arizona State University and a senior monetary advisor at the Minneapolis Federal Reserve Bank, Dr. Prescott is known for his influential work on business cycles and economic development.

The Nobel Committee's press release noted that, "Whereas earlier research had emphasized macroeconomic shocks on the demand side of the economy, Kydland [the other co-winner] and Prescott demonstrated that shocks on the supply side may have far-reaching effects." And, a release on Arizona State's website called attention to a recent paper of Dr. Prescott's, which determined, "the reason Americans work longer hours than Europeans is the disincentive effect associated with higher taxes in Europe. Moreover, these disincentives result in a large loss in well being for the average European."

Given these statements and his status as the latest Nobel Laureate in Economics, Dr. Prescott's opinion of President Bush's tax cuts, which are coming under withering attack from his Democratic challenger John Kerry, couldn't be timelier.

During an interview last week on CNBC financial television, Dr. Prescott told the audience that, "What Bush has done has been not very big, it's pretty small" in terms of bringing down federal income taxes. But Prescott went further, saying, "Tax rates were not cut enough" and noted "Lower tax rates provided an incentive to work."

Interestingly the mainstream press has given short shrift to these extraordinary comments; one can't help but wonder if the media response would have been the same had Dr. Prescott been critical of the tax cuts.

But Prescott is correct. As a share of Gross Domestic Product, Bush's original 2003 plan would have reduced taxes by an annual average of 0.44 percent over its lifespan (the tax cut that subsequently passed was somewhat smaller). In contrast, John F. Kennedy proposed to slash taxes by 2.0 percent of GDP, and Ronald Reagan by 3.3 percent.

Even when taken together, the 2001 tax cut law and Bush's 2003 proposal amounted to a 1.6 percent slice of GDP -- less than half the size of Reagan's cuts and significantly smaller than Kennedy's tax cuts. The trend also held true when examining the tax cuts as a percentage of average revenues collected (total taxes) over the life of the tax cuts.

Nevertheless, self-appointed "experts" continue to gain airtime by blaming the Bush tax cuts for creating the current budget deficits. But tax cuts weren't the wellspring that started the river of red ink flowing from Washington. Look instead to the Administration's four-year spending binge, which helped boost total outlays by 29 percent since 2001. For its part, Congress has only helped to open the floodgates.

Dr. Prescott also made a statement that bears directly on the tax-policy bromides peddled by candidate Kerry. Prescott said that, "in the early '90s the economy was depressed by the tax increase in '93 by about four percent, and it's right at that level now." In essence, the Bush cuts in marginal income tax rates basically just got us back to the rates we had right prior to the Clinton tax increase -- a tax increase that slowed America's emergence from the recession at that time.

But did the federal revenue boom of the 1990s later prove Prescott wrong? On the contrary. A hard-charging stock market along with major productivity gains helped to fatten federal coffers during those years, but both trends share a common ancestor -- the capital gains and other tax reductions of 1997. Steve Moore, leader of the Club for Growth, found that the lower capital gains rate after the 1997 tax cut yielded 80 percent more revenue over the following four-year period than was projected if the rate had remained at its 1997 level.

Prescott's comments are also applicable to more recent economic history. The U.S. has recently gone through a recession that ended up being milder-than-expected, thanks in part to the soft economic landing that the Bush cuts in marginal income and dividend rates provided. However, the economy is still facing difficult challenges including war and increasing oil prices. And astonishingly, John Kerry's solution is a rollback of the President's tax cuts -- a tax increase -- coupled with even more government spending than the Bush administration is advocating (yes, it is possible).

Kerry's position is more than just election-year demagoguery -- it is economic nonsense. But don't take my word for it. Don't take President Bush's word for it either. Just ask the latest winner of the Nobel Prize in Economics.

John Berthoud is President of the National Taxpayers Union.


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