Skip Navigation | |
The Congress continues to debate the proper mix of tax increases and spending cuts, the two available tools for reducing the deficit. Recently some commentators have argued that historical evidence indicates that, contrary to the above presumption, federal tax increases cause federal spending increases. An even stronger position holds that these spending increases may be larger than the tax increases that cause them. This position implies that tax increases are ineffective at best, and may even be counterproductive in reducing the federal deficit.
This paper examines the hypothesis that tax increases cannot reduce deficits (hereafter referred to as the "tax-and-spend" hypothesis). First, it presents historical tax and spending data and observes some trends. Next, it shows that the statistical results in one recent study, by Vedder, Gallaway, and Frenze, are extremely sensitive to the sample period, and are also highly dependent on assumptions about the structure of the error term in the basic regression.1 It concludes that the Vedder et al. analysis provides no persuasive evidence in favor of the tax-and-spend hypothesis.
Next, the paper discusses another recent study by von Furstenberg, Green, and Jeong that attempts to test the tax-and-spend hypothesis using a much different econometric technique: by observing the order of precedence between federal tax increases and federal spending increases.2 Again, the evidence does not support the tax-and-spend hypothesis.
Several other studies of the tax-and-spend hypothesis focus on the taxing and spending behavior of state and local governments. These have not been reviewed since the widespread use of constitutional restrictions against deficit spending at the state and local level makes the tax-spending link much tighter than at the federal level.
This document is available in its entirety in PDF.
1. Richard Vedder, Lowell Gallaway, and Christopher Frenie, "Federal Tax Increases and the Budget Deficit, 1947-1986," paper released by minority staff, Joint Economic Committee (1987).
2. George von Furstenberg, R. Jeffery Green, and Jin-Ho Jeong, "Tax and Spend, or Spend and Tax," Review of Economics and Statistics (May 1986).