Tuesday, June 06, 2006

Deficit Hawks for Estate Tax Repeal

A few loyal readers have asked how I reconcile my concern about the fiscal gap and my advocacy of estate-tax repeal. Let me answer by offering three observations:

1. I am skeptical that the estate tax raises as much revenue as official estimates suggest. (Officially, the revenue from keeping the estate tax is about 0.2 percent of GDP, assuming an exemption of $3.5 million and a rate of 45 percent). There are a couple reasons for my skepticism. As a general matter, capital taxation leads to larger dynamic effects than other taxes, so static estimates are particularly suspect for the estate tax. In addition, the estate tax induces a variety of avoidance behavior. A 1987 paper by Stanford economist Doug Bernheim, called "Does the Estate Tax Raise Revenue?,” argued that the estate tax encourages people to take avoidance actions, such as making gifts to their children, that reduce collection from the income tax. Standard estimates of the revenue raised by the estate tax fail to include its negative impact on income tax revenue.

2. Although I am concerned about the long-run path of fiscal policy, my policy preferences are not lexicographic. That is, reducing the fiscal gap does not trump all other issues. A lexicographic deficit hawk would oppose every tax cut and every spending increase and endorse every tax hike and every spending cut. By contrast, a balanced deficit hawk like me takes the fiscal situation seriously but weighs that concern against others.

3. In my Wall Street Journal op-ed from last week, I explained how I would like to see the long-term fiscal situation addressed. I offered about half a dozen different ways to reduce the fiscal gap. An estate tax is not part of my preferred package of policies. Instead of straight repeal of the estate tax, would I rather have Congress combine repeal with some of my other preferred policies? Of course. But I also don't want to make the best the enemy of the good.

Reasonable people can disagree about the advisability of repealing the estate tax. Acknowledging the long-run fiscal gap is an important part of the discussion. But no one should presume that this fact, by itself, ends the debate.