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Congress to you: Spend the tax cut quickly
By BILL ADAIR © St. Petersburg Times, published April 1, 2001 WASHINGTON -- How do you want your tax cut this year -- in a single $300 check? Or as an extra $11.54 each payday? That's the question before Congress now that both parties have agreed to an immediate tax cut to boost the sagging economy. The two approaches reflect different beliefs about the psychology of spending. The psychology is important because the economic effect of the tax cut depends largely on whether consumers will spend the money. Many Democrats want to mail every taxpayer a $300 check and cut the lowest tax bracket from 15 percent to 10 percent. They say that consumers are likely to spend the $300 on big-ticket items such as appliances and that the arrival of 115-million checks -- possibly as early as this summer -- would jump-start the ailing economy. "When people get a chunk of money, they are more likely to spend it," said Sen. Kent Conrad, D-N.D. But many Republicans -- and at least a few Democrats -- say the checks would do little to help the economy. They prefer to deliver the tax cut by adjusting withholding rates, so taxpayers would get a small amount each payday. Sen. Bob Graham, D-Fla., said taxpayers would probably put the $300 in a savings account or use it to pay off a credit card bill. That would have considerably less effect on the economy than if they spent the money. "What America needs is not to pay off the credit card, but, frankly, to buy some new furniture or put a down payment on a car," Graham said. Graham and many Republicans say consumers are more likely to spend the money if it comes in a small increase in each paycheck. Congress is wrestling with the details of President Bush's 10-year tax plan, which would lower rates for all taxpayers, double the child credit, eliminate the estate tax and correct many legal quirks that penalize married couples. Bush estimates the 10-year cost of his plan at $1.6-trillion, although Democrats say the cost is much higher. While Bush's big proposals are being debated, there is growing consensus for an immediate tax cut to ward off a recession. Republicans and Democrats in the Senate recently endorsed a $60-billion tax cut for this year. Republicans have not said how much each taxpayer would get or how it would be distributed. The Democratic plan calls for a $300 rebate check for every taxpayer, plus a reduction in the lowest bracket from 15 percent to 10 percent, which would change tax withholding rates. Democrats say each taxpayer would get $600 this year -- $300 from the rebate check and $300 from the rate change. For a worker who is paid every other week, that would mean $11.54 more per paycheck, plus the $300 check. If the entire tax cut was delivered by changing withholding rates, it works out to about $23 per paycheck. Democrats say the Treasury Department can issue the checks within two months after Congress approves the plan. The department can get up-to-date addresses from the database of taxpayers filing 2000 tax returns. But opponents say sending out 1150-million checks so quickly will be a logistical nightmare. Many people will have moved or divorced since their tax returns were filed. Both parties agree the immediate tax cut will help the economy. Sen. Joseph Lieberman, D-Conn., said the Democratic rebate plan is "just the right medicine for what ails our economy right now." President Bush said last week that consumers "need tax relief fast. In fact, they need it yesterday. So I strongly support the idea of back-dating tax relief to get cash into the consumer's hands as swiftly as possible." Both sides say the underlying goal is to get the money spent. When consumers buy products, the money has a beneficial "multiplier effect" as it ripples through the economy. But many economists -- including some who support Bush's proposal -- say a tax cut is not an effective tool to combat a recession. Historically, Congress has taken too long to pass a tax cut. The recessions ended before the money got to consumers. A 1975 tax cut is a good example. Even though Congress passed it less than 11 weeks after President Ford called for it, the tax cut came too late. The recession ended in March. The checks didn't go out until May. Yet the historical record does not seem to matter to Congress, which is eager to cut taxes this year. So, since it's virtually certain Congress will pass a tax cut, which approach is better -- the lump sum or the paycheck boost? Peter Orszag of the Center on Budget and Policy Priorities, a liberal research group, said the checks are effective. "A lot of people don't pay much attention to withholding," he said. "But if they receive a check for $300, that has a larger psychological effect." However, several studies indicate the paycheck boost is a better choice. A 1997 survey of consumers who received large cash payouts from retirement funds or an inheritance found they usually invested the money or used it to pay off debts. Research on the 1975 tax cut also indicates that rebate checks do not provide the immediate economic boost that Democrats want. One study of the 1975 rebates -- taxpayers received checks up to $200 and Social Security recipients got $50 -- showed they were no more effective than permanent tax changes. Two other studies showed the rebate was far less effective at boosting consumer spending than a permanent cut would have been. A 1992 review of tax cuts by the non-partisan Congressional Research Service concluded that "a rebate probably has no more than the half the stimulative effect of a permanent tax reduction." Bill Beach, director of data analysis for the Heritage Foundation, a conservative think tank, said changing withholding rates is better because it provides more incentive for people to work. "When you change the withholding tables, you are telling somebody that the extra hour they work isn't going to be taxed as much."
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