Could Capital Gains Tax Increase Federal Revenues?

Article excerpt

Few among Washington's movers and shakers spend their leisure hours contemplating the intricacies of multilinear regression analysis. But many do appreciate the value of arcane economic research that delivers an easily understood political message.

That's why the Treasury Department's research paper No. 8801, ``The Direct Revenue Effects of Capital Gains Taxation,'' made headlines earlier this month. By offering evidence that a halving of the tax rate would increase federal revenue, the authors breathed new life into George Bush's best known campaign proposal. What true blue American could oppose a tax cut that cost the government nothing?

These results are not destined to be the last words on the subject. Neither supply-side enthusiasts from the Treasury's economics division nor anyone else actually knows whether the volume of realized capital gains would rise sufficiently to offset the effect of a much lower tax rate. And even if the supply-siders are right, total tax revenues could fall as investors finagled to convert ordinary dividend income into lesser taxed capital gains.

One way to break what now appears to be a political as well as intellectual deadlock would be to pair the capital gains proposal with another change in the tax code that offsets any conceivable revenue loss. An obvious candidate: elimination of the provision that allows individuals to pass on appreciated property to their heirs without paying any tax on the capital gain.

Economists including Martin S. Feldstein, a former adviser to President Reagan, and Joseph Minarik, a principal designer of the Tax Reform Act of 1986, have been quarreling over the likely revenue effect of a reduction in capital gains tax rates for nearly a decade. But the debate seemed to take a decisive turn politically last March when the bipartisan Congressional Budget Office estimated that a cut in the current 33 percent maximum rate to 15 percent would cost the Treasury $4 billion to $7 billion annually.

With the Federal deficit pushing $165 billion, few members of Congress are eager to vote for any budget-busting tax measure, much less one whose direct benefits would go mostly to people with incomes above $100,000.

Hence the significance of the new report, prepared by a group under Michael Darby, assistant Treasury secretary for economic policy. Darby grafted simulation techniques used in a 1985 study by the Treasury's tax analysis division to the basic statistical model of taxpayer behavior estimated by the budget office. …