[House Hearing, 107 Congress]
[From the U.S. Government Publishing Office]



 
      TAX RELIEF: THE REAL ECONOMIC STIMULUS FOR AMERICA'S ECONOMY
=======================================================================


                                HEARING

                               Before The

               SUBCOMMITTEE ON TAX, FINANCE, AND EXPORTS

                                 of the

                      COMMITTEE ON SMALL BUSINESS
                        HOUSE OF REPRESENTATIVES

                      ONE HUNDRED SEVENTH CONGRESS

                             FIRST SESSION

                               __________

                    WASHINGTON, DC, DECEMBER 6, 2001
                               __________

                           Serial No. 107-38
                               __________


         Printed for the use of the Committee on Small Business










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                      COMMITTEE ON SMALL BUSINESS

                  DONALD MANZULLO, Illinois, Chairman
LARRY COMBEST, Texas                 NYDIA M. VELAZQUEZ, New York
JOEL HEFLEY, Colorado                JUANITA MILLENDER-McDONALD, 
ROSCOE G. BARTLETT, Maryland             California
FRANK A. LoBIONDO, New Jersey        DANNY K. DAVIS, Illinois
SUE W. KELLY, New York               BILL PASCRELL, Jr., New Jersey
STEVE CHABOT, Ohio                   DONNA M. CHRISTENSEN, Virgin Islands
PATRICK J. TOOMEY, Pennsylvania      ROBERT A. BRADY, Pennsylvania
JIM DeMINT, South Carolina           TOM UDALL, New Mexico
JOHN R. THUNE, South Dakota          STEPHANIE TUBBS JONES, Ohio
MICHAEL PENCE, Indiana               CHARLES A. GONZALEZ, Texas
MIKE FERGUSON, New Jersey            DAVID D. PHELPS, Illinois
DARRELL E. ISSA, California          GRACE F. NAPOLITANO, California
SAM GRAVES, Missouri                 BRIAN BAIRD, Washington
EDWARD L. SCHROCK, Virginia          MARK UDALL, Colorado
FELIX J. GRUCCI, Jr., New York       JAMES R. LANGEVIN, Rhode Island
TODD W. AKIN, Missouri               MIKE ROSS, Arkansas
SHELLEY MOORE CAPITO, West Virginia  BRAD CARSON, Oklahoma
BILL SHUSTER, Pennsylvania           ANIBAL ACEVEDO-VILA, Puerto Rico
                       Doug Thomas, Staff Director
                  Phil Eskeland, Deputy Staff Director
                  Michael Day, Minority Staff Director
                                 ------                                

               Subcommittee on Tax, Finance, and Exports

                   PAT TOOMEY, Pennsylvania, Chairman
STEVEN J. CHABOT, Ohio               JAMES LANGEVIN, Rhode Island
DARRELL ISSA, California             GRACE F. NAPOLITANO, California
EDWARD SCHROCK, Virginia             ANIBAL ACEVEDO-VILA, Puerto Rico
TODD AKIN, Missouri                  DANNY K. DAVIS, Illinois
FRANK LoBIONDO, New Jersey           ROBERT A. BRADY, Pennsylvania
JIM DeMINT, South Carolina           MIKE ROSS, Arizona
JOHN THUNE, South Dakota
                     Sean M. McGraw, Staff Director














                            C O N T E N T S

                              ----------                              
                                                                   Page
Hearing held on December 6, 2001.................................     1

                               Witnesses

Edwards, Chris, Director of Fiscal Policy Studies, CATO Institute     4
Beach, William, Center for Data Analysis, The Heritage Foundation     6
Moore, Stephen, Senior Fellow, CATO Institute....................     8
Lauster, Charles, Lauster & Radu Architects, P.C.................    10

                                Appendix

Opening statements: Toomey, Hon. Patrick.........................    24
Prepared statements:
    Edwards, Chris...............................................    29
    Beach, William...............................................    32
    Moore, Stephen...............................................    62
    Lauster, Charles.............................................    69













      TAX RELIEF: THE REAL ECONOMIC STIMULUS FOR AMERICA'S ECONOMY

                              ----------                              


                       THURSDAY, DECEMBER 6, 2001

                        House of Representatives,  
          Subcommittee on Tax, Finance and Exports,
                               Committee on Small Business,
                                                    Washington, DC.
    The subcommittee met, pursuant to call, at 10:07 a.m., in 
room 2360, Rayburn House Office Building, Hon. Patrick J. 
Toomey (chairman of the subcommittee) presiding.
    Chairman TOOMEY. The hearing will come to order. I want to 
apologize for getting started a little bit late and thank our 
witnesses and invite them to take their respective seats at the 
witness table, if they would; and I will begin with a brief 
opening statement.
    This morning, the House Small Business Subcommittee on Tax, 
Finance and Exports convenes to address a number of economic 
stimulus proposals and their possible impacts on our Nation's 
economy. Heightened concerns about an economic slowdown have 
spawned a number of proposals, ranging from tax relief to 
spending increases, all in an effort to stimulate the economy. 
Despite the passage of an economic stimulus package by the 
House, the Senate has yet to consider their own version of this 
legislation, so I think the input from the folks today is 
timely.
    However, the delay, I think, has unfortunate consequences. 
Last week, it was announced the economy has now slowed to an 
annual rate of growth that is negative, negative 1.1 percent in 
the last quarter. The current economic downturn, which began, 
arguably, in September of 2000, was only accelerated by the 
events of September 11, 2001; and, since that time, over 
400,000 jobs have been lost. The unemployment rate for October 
anyway has reached a 5-year high of 5.4 percent.
    These job losses are impacting virtually every segment of 
our economy and all across our Nation, and we all know there is 
a heated debate on the approach that is most appropriate to 
resolve our current economic woes. Some think government 
spending is an appropriate stimulus. Others, including myself, 
believe that major, immediate tax relief will do much more good 
than even more government spending.
    Much of the ongoing debate of an economic stimulus package 
has centered on the appropriate balance between spending and 
tax relief. Leaving aside the economic arguments for a moment 
as to which would better stimulate growth and job creation, it 
is important to note that Congress has already approved or 
agreed to approve spending increases that arguably approach 
$100 billion. These cover everything from victims' compensation 
to airline assistance, the emergency supplemental as well as 
additional discretionary spending. The economic stimulus 
package passed by the House, for instance, contains $12 billion 
to assist workers displaced as a result of the events of 
September 11.
    However, at a time when the Nation is struggling to jump-
start the economy, I believe the most viable remedy is to 
provide meaningful tax relief to stimulate long-term and short-
term growth. At this time, more than any other, it is vitally 
important that we remove the barriers that working Americans 
face as they attempt to provide for their families, and one of 
the biggest barriers is the tax burden imposed by the Federal 
Government. The way to increase the wealth of working Americans 
is to encourage more work, saving, investment, risk-taking and 
entrepreneurship. That is why incentive-driven or supply-side 
economics has such a successful track record. When tax rates 
are reduced, people have more motivation to be productive and 
to create wealth; and when they earn more income, they are able 
to spend more, save more and invest more.
    This hearing will focus on the impact meaningful tax relief 
will have on the Nation's immediate and long-term economic 
growth and, in particular, emphasizing the impact on small 
businesses.
    I look forward to the testimony of the witnesses before us 
today. I want to particularly thank the subcommittee's ranking 
member, Bill Pascrell, who has been very flexible in scheduling 
this hearing and very helpful. While we may have somewhat 
differing views on the prescription for our economic woes, I 
certainly appreciate his commitment to resolving our current 
economic crises. No one is more dedicated to the well-being of 
the small business sector of our economy than my good friend 
and colleague, whom I will now recognize for his opening 
statement. Mr. Pascrell.
    Mr. Pascrell. Thank you, Chairman Toomey, and thank you for 
having this hearing today.
    Yes, we do come at this issue from two different 
perspectives. Right now, we are about to commence the debate on 
the floor of the House of Representatives, an hour debate, no 
substitutes permitted. I thought I was in Red China for a 
moment this morning.
    In a democracy attempting to air all ideas, we will be 
debating by any other term Fast Track. We will be cutting up 
the pie, so to speak. The debate has attempted to separate us 
into those who are for trade and those who are against, and 
that is pretty sophomoric, because we all know we live in a 
global economy. We see the effects of the global economy on 
American financial practices and visa versa. So to deny trade 
is to have our head buried in the sand.
    I carry the Constitution around with me, Mr. Chairman, and 
I know what article 1, section 8 says, and I didn't come here 
from New Jersey to surrender my rights and my responsibilities 
and to file away and to bevel my responsibilities as a 
Congressman and to surrender the dust that accumulates in the 
executive office of government. That is not why I am here. Just 
so you know how I will vote later on this morning.
    Mr. Chairman, recent announcements have confirmed that the 
economy is in recession, something you and I talked about 6 
months ago. Unemployment has reached 5.4 percent. There is an 
overall need for a stimulus bill. We hope there can be 
compromise so that we come up with something that not only 
looks nice but is, hopefully, effective.
    For small businesses in particular, their most immediate 
need is working capital. We have said that in this committee 
many times discussing many different issues. Small businesses 
have few lines of credit or other financial sources that would 
provide them a self-sustaining source of support during this 
recession. Some tax relief is needed.
    Mr. Chairman, it is not the only solution. A few weeks ago, 
we heard Grover Nordquist declare that even a bad tax cut is a 
good tax cut. Even Bill Safire would have a tough time on that 
one, but I find that it is often hard to have a good debate 
with people who harbor such blind allegiance to one philosophy 
or another, but I keep trying. Because of my naivete, perhaps I 
will see the light some day.
    This committee has the responsibility as representatives of 
small business--that is what it says outside on the wall--to 
focus on proposals that are targeted to small businesses, not 
corporate America. Many have used this committee's forum to 
argue for cutting the capital gains tax, accelerating the rate 
cuts, eliminating the corporate AMT, all of which are proposals 
benefitingbig business.
    In difficult economic times, economic theory from some is 
always the same, enact these proposals for large, established 
corporations and the wealth will trickle down to the minions. I 
just don't think that is right. Come to think of it, that may 
be the philosophy during any economic time for some. When the 
economy is good, we need tax cuts. When the economy is bad, we 
need tax cuts.
    During periods of lower consumer confidence, the solution 
for small business is very different than that for corporate 
America. It is unfair and has frequently been the case to lump 
together the economic problems of two very different kinds of 
enterprise. Small businesses need working capital. I believe 
that a stimulus package must be responsible, targeted and 
temporary, must take effect immediately, that those who spend 
money on goods and services--we have enough data to see who are 
those folks--and last as long as the country needs it.
    The economic stimulus bill that the House passed, Mr. 
Chairman, fails the test. Its tax relief provisions are not 
targeted primarily to those who will spend and boost the 
economy. They include a permanent reduction of the capital 
gains tax, which benefits the top 2 percent of earners, and a 
permanent repeal of the alternative minimum tax for 2001, which 
will cost $25 billion to accomplish.
    We were in deficit in June, long before September 11. It 
was pointed out time and time again that we would have to go 
into the Social Security and Medicare trust funds. And now, 
under the cover of a tragedy unlike we have ever seen before on 
September 11, we have decided that we are in a recession, and 
we understand the mounting unemployment ranks, we say.
    Citizens for Tax Justice reports American corporations will 
receive $7.4 billion in tax rebates from the House stimulus 
package. General Motors would receive $833 million from a full 
repeal of the corporate AMT. According to a November 23 
Washington Post article, General Motors has roughly $8 billion 
in cash, has no plans to increase its investments.
    The Congressional Budget Office found that reducing the 
tax, quote, would make a relatively small change to a tax that 
applies to relatively little capital income, unquote. As for 
small businesses, this proposal would do nothing to help them, 
because the Tax Code already provides them an exemption.
    Let me conclude on this point. Economist Joseph Stiglitz, 
the Nobel lawyer in economics for 2001, argues that 
accelerating the rate of reductions would benefit wealthy 
individuals only and thus would not have a significant effect 
on consumption but only increase their savings. He must know 
something about economics.
    In short, contrary to some claims that even a bad tax cut 
is a good tax cut, not only are tax cuts not the only solution 
but the most effective tax cuts in a stimulus package would 
direct the largest share of benefits towards helping small 
businesses stay afloat in these tough, tough times.
    Thank you, Mr. Chairman.
    Chairman Toomey. Thank you, Mr. Pascrell.
    At this time I would like to welcome and thank Mr. Chris 
Edwards, the Director of Fiscal Policy Studies from the CATO 
Institute. Thank you for joining us this morning, and I would 
welcome your testimony.
    If we could try to keep the testimony to about 5 minutes. 
The red light will indicate when the time is out, and we will 
try to limit our questions accordingly.

STATEMENT OF CHRIS EDWARDS, DIRECTOR OF FISCAL POLICY STUDIES, 
                         CATO INSTITUTE

    Mr. Edwards. Thank you, Mr. Chairman and members of the 
committee. Thank you for inviting me to testify today on 
proposals for economic stimulus.
    The U.S. Economy is now in recession. The right tax policy 
can speed up the economy's return to growth. As large 
businesses are cutting jobs by the thousands now, we need small 
businesses and entrepreneurs to take up the slack and start new 
businesses and invest more. Let us make these risky decisions 
easier for them by cutting their tax burden.
    Tax reforms can aid entrepreneurs in three ways--the 
decision to launch a new business, the ease of finding 
financing and the decision to expand. Let me run through each 
of these.
    First, Congress can make the decision to start a new 
business more attractive by accelerating the already enacted 
income tax rate cuts. This will boost after-tax returns for 
sole proprietors, partnerships and S corporations. Treasury 
figures show that 63 percent of tax filers in the top 39 
percent tax bracket have small business income, so cutting the 
top rate targets exactly the people who can get the economy 
moving again.
    The capital gains tax rate is also very important to 
encouraging start-ups. This country has scores of so-called 
serial entrepreneurs, as we have seen particularly in high-tech 
in recent years. They start a new business which they grow for 
a few years and then, if it is successful, they sell their 
business, realizing a capital gain. Then they turn around and 
invest in a new start-up. Cutting the gains rate makes 
successful start-up more valuable and allows entrepreneurs to 
keep more funds for reinvestment in new businesses.
    As a side note on start-ups, there is a quirk in the Tax 
Code that would be very timely to fix right now. There is a 
requirement that new businesses write off start-up costs over 5 
years, rather than allowing immediate deduction. These start-up 
costs include such items as market research and employee 
training. They may not be immediately deducted, so I recommend 
that the committee look into this disincentive and lower the 
tax hurdle to new businesses.
    The second way that tax reforms can help is easing business 
financing. The committee is aware of the important role played 
by venture capital in the economy. So-called angel investment 
in start-ups is maybe even more important and, by some 
estimates, twice as large. Angel investors are usually wealthy 
individuals who are fully taxable. Microsoft billionaire Paul 
Allen, for example, has put his money into over 100 new 
companies. The return these investors receive is capital gains 
on the start-ups that succeed.
    By the way, during the 1990s many large corporations became 
venture investors in new growth companies, particularly again 
in high tech. Corporate capital gains are taxed at a high 35 
percent rate, so cutting the corporate capital gains rate may 
also increase investment flows to small companies.
    Some have questioned what lowering the capital gains rate 
would do right now with the stock market down. But angel and VC 
investors know the market will rise again, and they are looking 
to realize gains in new investment perhaps 2 years or more in 
the future. So cutting the gains rate permanently will draw 
more investment into new high-growth firms right now.
    Thirdly, accelerating the individual income tax rate cuts 
will stimulate existing small businesses to expand. A series of 
studies by four tax economists who are cited in my written 
testimony examined the effect of the 1986 tax rate cuts on sole 
proprietors. Their results show a 5 percentage cut in rates 
would increase capital investment by about 10 percent. They 
also found that dropping the top rate from 40 percent to 33 
percent would increase hiring by about 12 percent. Those are 
substantial effects.
    Other than tax rate cuts, liberalizing depreciation will 
lower overall or effective tax rates on new investment. The 
depreciation provision in the House bill is a step forward, but 
we need to do much more and make it permanent. The small 
business expensing limit, now $24,000, should be raised 
substantially, and ultimately we should move to full capital 
expensing for all businesses. The Tax Executives Institute, 
which is a group of lawyers and accountants, testified before 
Congress this year that the depreciation rules are hopelessly 
outdated and needlessly complex. We should scrap them and move 
to expensing, which would eliminate many investment 
distortions. Workers would be the ultimate beneficiaries as 
more capital investment would raise worker productivity and 
produce higher wages.
    Let me make a final note on the issue of broader tax 
reform. In the 1980s, the U.S. was a leader in tax rate cuts in 
the world. But the 1990s was a lost decade for tax reform in 
this country, while other countries have been moving ahead. The 
average corporate tax rate for 25 OECD countries fell from 41 
percent in 1986 down to 31 percent today. Our corporate tax 
rate is now 4 percentage points higher than the average of our 
trading partners. So we are a high tax country when it comes to 
corporate taxes. The average individual tax rate for OECD 
countries fell from 55 percent in 1986 down to 41 percent 
today. And regarding capital gains, a number of countries, such 
as the Netherlands, exclude it from taxation altogether.
    A new study by Arthur Anderson compared 9 major countries 
as to how good their business environment is particularly for 
entrepreneurial growth companies, based on various tax and 
regulatory factors. As it turned out, the U.S. was not number 
one, as we would usually expect. We finished second behind 
Britain. Britain, by the way, has a 30 percent corporate tax 
rate. Let us not fall behind any further. We should pursue 
further tax reforms and create the best possible tax 
environment in the world for business and entrepreneurs.
    Thank you for holding these important hearings, and I look 
forward to working with the committee on these issues.
    Chairman Toomey. Thank you, Mr. Edwards.
    [Mr. Edwards' statement may be found in the appendix.]
    Chairman Toomey. At this time, I would like to welcome and 
invite Mr. William Beach, the Director for the Center for Data 
Analysis with The Heritage Foundation. Thank you for being with 
us today, Mr. Beach.

   STATEMENT OF WILLIAM BEACH, CENTER FOR DATA ANALYSIS, THE 
                      HERITAGE FOUNDATION

    Mr. Beach. Thank you very much.
    Mr. Chairman, Congressman Pascrell and members, my name is 
William Beach. I am director for the Center for Data Analysis 
at The Heritage Foundation. It is indeed a great privilege for 
me to be with you this morning to speak on this important 
topic. These remarks are my own and not necessarily those of 
The Heritage Foundation.
    There is increasingly little doubt that the U.S. Economy 
currently is in recession. The visible and widely noted 
economic slowdown that began in the spring of 2000 worsened 
over the summer and fall. The service and financial sectors 
joined the manufacturing sector in contracting during the 
winter of 2001, and the recession officially began in March, as 
indeed Congressman Pascrell has noted in his remarks.
    It is in this context that Congress now is debating the 
composition of an economic stimulus bill. The events of 
September 11 doubtless worsened the economic contraction and 
unnecessarily introduced into the debate proposals to 
ameliorate harm related to the terrorist attacks.
    Perhaps the debate's most interesting feature is how it has 
helped clarify the economic differences between a demand-based 
approach to strengthening economic performance and the supply-
based approach. Congressman, I appreciate your remarks very 
much in that regard. I suspect this additional clarity is not 
entirely evident to everyone involved, even those most closely 
involved in the debate. The statistical and rhetorical record, 
however, should be very useful to future disputants.
    What do I mean by additional clarity? While still too early 
to tell, the small boost to household disposable income that 
stems from the summer's tax rebate program, a key provision of 
the tax legislation signed into law by President Bush on June 
7, appears to have had little effect on consumption 
expenditures. Not only do opinion surveys show that the 
households devoted the lion's share of their rebate checks to 
debt repayment and savings, new data from the Federal Reserve 
indicates a spike in savings commensurate with the size of the 
rebate and its timing. This additional information on the 
effects of tax rebates during economic slowdown reinforces 
findings about the disposition of earlier rebate efforts 
likewise intended to boost consumption expenditures during 
economically distressed times.
    This additional evidence of how households will likely 
spend subsidies and one-off rebates is most welcome to analysts 
focused on stimulus measures that work on the deep structure of 
economic activity on incentives, investment and long-term 
expectations. It shows, I believe, the futility of efforts 
solely or mostly devoted on raising aggregate demand through 
spending. And while these lessons are hard for Washington 
policymakers to learn, the statistical record being made during 
this recession likely will guide a higher proportion of future 
lawmakers toward the more effective and economically sensible 
route of tax rate reduction in the future.
    Our own work on various economic recovery proposals points 
to the greater importance of policy change directed at 
incentives, investments and long-term economic expectations. On 
November 9 this year, my colleagues, Mark Wilson and Ralph 
Rector and Rea Hederman, and I published an analysis of two 
leading stimulus proposals then pending in the United States 
Senate: a plan by Senator Grassley that reflected President 
Bush's recommendations and a plan associated with the Senate 
leadership, particularly with Senators Daschle and Baucus. We 
used a standard model of the U.S. Economy, the DRI/WEFA U.S. 
Macroeconomic Model in wide use in Fortune 500 companies and 
throughout the government, to estimate the economic effects of 
these two plans; and we also employed the CDA individual income 
tax model to estimate year by year changes in the fiscal 
effects.
    In my written testimony, Mr. Chairman, I have outlined 
Senator Grassley's proposal and the proposal of the Senate 
leadership, I think which are all well-known to people who have 
been involved in this debate, and so I will skip that in my 
verbal remarks.
    Every economic indicator in the DRI/WEFA model points to 
the superiority of an approach to economic recovery that 
depends on reducing the costs of work and investment. For 
example, over the period fiscal year 2002 through 2006, the 
Grassley plan produces seven times more jobs than the Senate 
leadership plan does, 283,000 per year versus 38,000 per year.
    The inflation-adjusted disposal income of an average family 
of four would increase by $1,060 per year under the Grassley 
plan and by $236 per year under the Senate leadership plan.
    Indeed, the Grassley plan increases inflation-adjusted 
consumption expenditures by $45 billion, as opposed to the 
Senate leadership's plan of $10 billion.
    The Grassley proposal, which again closely reflected the 
plan advanced by the Bushadministration, clearly would lessen 
the depth of the recession and shorten the time over which the economy 
would pass before returning to pre-recession growth levels. One 
question, however, remains. Just how much of these economic benefits 
stem from the acceleration of the individual income tax rates alone?
    To answer that question, we estimated the economic effects 
of just the rate reductions using the same model of the economy 
over the same period. I am announcing these results for the 
first time today.
    We found that the rate reductions alone of the Grassley-
Bush plan, which again, Mr. Chairman, accelerated all of the 
rates from 2004 and 2006 into 2002, account for 59 percent of 
the gain in national output of the entire Grassley plan, which 
contained also consumption expenditures; 67 percent of the 
improvement in employment; 65 percent of the increase in 
disposable income; and 44 percent of the expansion of 
investment. Indeed, personal savings growth attributable to the 
rate reductions account for 68 percent of the total change in 
savings produced by the entire Grassley plan.
    While it is possible to point to times in our history when 
spending programs made a significant difference to employment 
and output, these moments almost always are associated with 
extraordinary national mobilizations. Ours is not one of those 
times, even though the events of September 11 and since have 
produced a level of national resolve not seen since the 
beginning of World War II.
    We have a recession produced by policy errors and 
aggravated by hostilities. The errors affected investment and 
incentives, and they call forth policy responses that are 
focused on investment and incentives. The hostilities 
devastated key elements of our economic superstructure and 
distressed the lives of hundreds of thousands of innocent and 
productive citizens. Those hostilities call forth responses 
that are compassionate and generous.
    I thank you for the opportunity to appear before your 
committee.
    Chairman Toomey. Thank you, Mr. Beach.
    [Mr. Beach's statement may be found in the appendix.]
    Chairman Toomey. At this time, I would like to recognize 
the Senior Fellow from the CATO Institute, Mr. Stephen Moore.

   STATEMENT OF STEPHEN MOORE, SENIOR FELLOW, CATO INSTITUTE

    Mr. Moore. Thank you, Chairman Toomey, for holding these 
hearings and for inviting me to testify.
    As the previous witnesses have documented, we clearly are 
in a recession; and, Mr. Pascrell, you are right that this 
recession began long before September 11. In fact, I think when 
the final figures come in it will indicate that the recession 
actually began around January of this year. So we have now been 
in a 9-month recession. Fourth-quarter growth must certainly be 
negative as well.
    We do need an economic stimulus plan. We have lost 
somewhere in the neighborhood of $300 billion in wealth this 
year, and the growth path that we were on in the 1990s, the 3 
and-a-half percent growth path, has been reduced to negative 
1.1 percent. So clearly we do need an some type of economic 
stimulus plan.
    Let me just spend a minute, if I may, and talk about why 
economic growth is important and why is it so critical that we 
get back on this 3 and-a-half percent potential output growth 
that we have in the United States.
    Obviously, economic growth is important, because it leads 
to more jobs and higher wages and a better stock market and so 
on. But one of the areas where I think you all in Congress 
don't think enough about in terms of why economic growth is so 
important is that we cannot keep the budget in balance unless 
we have economic growth. And if I may just spend a minute 
referring to my testimony.
    If you look on I think it is the third page of my 
testimony, we did an analysis of what would happen with 
revenues, Mr. Chairman, under three real growth--really output 
growth paths, 2 percent, 3 percent, and 4 percent, over the 
next 10 years. And the point I wanted to highlight to you all 
is that if we only have 2 percent real growth over the next 
decade, which I would describe is a low-growth path, we can't 
balance the budget. We will be running about a trillion dollars 
in deficits over the next decade if we have 2 percent real 
growth.
    If we have 3 percent real growth, which I would describe as 
kind of a medium-growth path, we will have about $750 billion 
in surpluses over the next decade.
    And if we have 4 percent real growth, which I believe is 
very achievable, Mr. Chairman, with the right set of monetary 
and fiscal policies, we would have $2.5 trillion in surpluses.
    So the point I am trying to make here is, with respect to 
the question whether we can be afford to be cutting taxes in a 
pro-growth way, I would say we can't afford not do it. We have 
to do this if we want to have a strong fiscal environment, 
which I think we all agree we need to have.
    So what do we do in terms of promoting growth?
    I would argue, first of all, that I would agree with both 
the previous witnesses that we ought to look at accelerating 
the rate cuts. When we did that tax cut, Mr. Chairman, back in 
May, the idea was we would phase in these tax cuts 2005, 2006 
and 2007. We need the tax cuts now. We are in kind of an 
economic emergency right now, and it makes no sense to phase in 
tax cuts later when the economic emergency is happening now.
    I would argue that we ought to cut the capital gains tax. I 
think this would be one of the most important fiscal stimulus 
provisions in terms of dramatically having an immediate effect. 
And here is where why I think a capital gains cut would have a 
strong effect. If you cut the capital gains tax, what you will 
do is almost instantly raise asset prices in the United States. 
It has to happen. Because when you are cutting the capital 
gains tax, what you are doing is you are increasing the after-
tax rate of return on those assets; and every time we have cut 
the capital gains tax over the last 30 years it has led to a 
rally on the stock market.
    Now this is being described as a policy to help the rich. 
But I think if you look at the statistics now--and that was 
probably true 10 or 20 years ago. A capital gains tax cut would 
have primarily benefited rich people in terms of who had 
capital gains. It is not so true today. We are truly in a kind 
of new investor environment where we right now have about 80 
million American households that own stock.
    I would like to make one point in response to something 
that Mr. Pascrell said when he said this is a policy to help 
big business. I have been working on this policy for the last 
15 years, and the thing that I found striking about this issue 
about capital gains tax cuts is big business doesn't want 
capital gains tax cuts. If you talk to people in the Chamber of 
Commerce they don't care about capital gains cuts because they 
realize that those are already big businesses that people 
already own their stocks. In fact, if you cut the capital gains 
tax, people may actually sell stock in some of the big 
businesses so they can move into these new emerging 
technologies which is so important.
    One last point, as you decide what types of tax policies we 
should adopt, both in the short-term and the long-term, I just 
would like to offer one kind of principle that I think would be 
a greatguiding principle for both the Republicans and 
Democrats. We all know we want to get to a simplified tax system, one-
rate system that does not overtax and double-tax saving and investment. 
So I would urge you, as you look at tax policies, ask the question, 
does this tax change that we are looking at, will it move us in the 
direction of kind of a flat-tax model that doesn't double tax saving 
and investment that leads us to a single rate system? Because I think 
we would all agree that if we had that type of tax system in place it 
would be incredibly bullish for the American economy.
    That argues against temporary tax cuts I think because I 
think temporary tax cuts only shift the timing of that economic 
activity. They do nothing to help the long-term growth rate. 
And I think it also argues against targeted tax cuts. I think 
the best type of tax cuts are ones that benefit everyone and 
not just one group over another.
    Chairman Toomey. Thank you, Mr. Moore, for your testimony.
    [Mr. Moore's statement may be found in the appendix.]
    Chairman Toomey. At this time, I would like to recognize a 
man who comes to us from the small business world itself. As I 
look over Mr. Lauster's resume, it is an impressive resume with 
a number of impressive and distinguished projects in 
architecture, which is his profession. I would like to welcome 
you and thank you very much for joining us, Mr. Charles Lauster 
from New York.

  STATEMENT OF CHARLES M. LAUSTER, LAUSTER & RADU ARCHITECTS, 
                       P.C., NEW YORK, NY

    Mr. Lauster. Thank you, Chairman Toomey.
    I am indeed an architect. My partner and I have run a small 
firm of 12 people in New York City since 1983. Over the years 
we have seen a number of economic ups and downs and one war. We 
have never seen circumstances, however, quite like the ones we 
are seeing today--a recession, a war and a Nation holding its 
breath. Stimulus for small business is certainly needed, but it 
has to be the right stimulus. I would like to discuss those 
options that the Federal Government could take that would help 
businesses like mine and comment on those that would do no good 
at all for us.
    What do I mean by small business? First, a firm that is 300 
people or less. Most small businesses are much smaller, but 
even at several 100 the management can know the names or at 
least of all or at least most of the workers and thus has some 
personal relation with its staff. In terms of operations, such 
as accounting, human resources, advertising, a firm of 10 
people and a firm of 300 are much more similar than either of 
them is to a company of 10,000.
    Second, the business is not publicly traded. Capital is the 
key problem for small business. Meeting payrolls, running 
equipment, paying the rent--cash flow is what keeps most small 
businesses small. This is not to say that small businesses are 
poor. Most are quite successful. However, capitalization almost 
always comes out of the owners' pockets. You may have had a 
great year, but if the receivables were high for 6 months, it 
was probably a year of scrambling for cash.
    So what can the Federal Government do to stimulate small 
business? There is a lot of discussion of cutting tax rates 
further. This makes sense to small business if it puts 
substantially more money in the hands of masses of consumers, 
the main market for small businesses. Big cuts for higher 
bracket taxpayers puts money into investments and not into the 
markets small business needs. There is a down side to simple 
rate cuts. As Federal, State and local governments cut their 
revenues, they cut services in capital projects. Government is 
an important customer for local small businesses and deficits 
means lost contracts. It also means the environment in which we 
do business deteriorates.
    Again, the issue is capital. Big business has the money and 
the clout to make world fit its needs. If it doesn't like the 
world it is in, it moves. Small business lives in the world it 
has got. Crime, poor schools, inadequate mass transit make it 
harder and more expensive to do business, and there is nothing 
we can do about it as individual businesses. We rely on good 
quality of life as provided by government. That means adequate 
tax revenue.
    For these reasons, capital gains cuts and the cut in the 
alternate minimum tax are largely harmful to small business. 
While we gain little from these cuts, the lost revenue means 
lost quality of life for our businesses and our lives. The AMT 
cut was especially galling to small business. No struggling 
small business is getting taxes back.
    Focused stimulus can address real small business needs. 
Small business loans, tax credits for hiring, support of local 
efforts to provide manufacturing space and empowerment zones 
are programs that have worked and can serve as examples for new 
legislation. These sorts of efforts get contracts and money 
directly to small businesses, especially if aimed at areas that 
are particularly hard hit.
    Right now, lower Manhattan is hard hit. The City is 
struggling to retain businesses, to keep small businesses from 
closing their doors and to rebuild. There are a lot of good 
ideas that Mayor Giuliani and others are advocating. Relocation 
assistance within the city, employee tax credits and special 
grants to businesses that stay in the recovery zone are a few 
of them. Simple rate cuts will do nothing to help us in this 
regard. In fact, to the extent that the cuts reduced the City's 
revenue, our suffering will only increase.
    To sum up, stimulus aimed directly at small business can 
help. Stimulus that meets big business needs will not 
necessarily help small business much. The differences in scale 
and practice are simply too great. Tax cuts at the highest 
brackets, capital gains cuts and the AMT cuts are no help at 
all. Government does not need to stimulate small businesses 
that have lots of capital already. Stimulus that creates access 
to capital and markets that assist in providing employee 
benefits and that broaden the horizon of business opportunities 
can make a real difference.
    Small business is helping America fight the recession and 
thereby the terrorists who sought our ruin. A wide stimulus 
package can give small business a helping hand without 
weakening the country. We will all breathe easier.
    Thank you very much.
    Chairman Toomey. Thank you very much for your testimony.
    [Mr. Lauster's statement may be found in the appendix.]
    Chairman Toomey. Thank you all for joining us this morning 
and providing this testimony.
    I would like to begin with a series of questions, and I 
would like to begin with Mr. Beach. My first question for you 
goes to the heart of this debate in some ways as to the 
appropriate economic stimulus. Some are arguing for taking 
measures that would enhance consumer spending, rebate checks, 
sending out checks to people who didn't receive them in the 
past, for instance, versus others who argue that it is all 
about encouraging investment. And I was wondering if you could 
comment on this, if you are familiar with the recent economic 
statistics.
    It is my understanding that over the course of 2001, during 
the period during which the economy has slowed down and 
actually gone into negative growth, that consumer spending is 
holding quite well. In fact, consumer spending is not in and of 
itself in a recession but thatinvestment has declined 
dramatically. Is that accurate? Is that your view? Is that empirical 
fact? Is that your theory? Could you just comment on what the real 
problem is, based on your understanding of what the empirical data 
suggests?
    Mr. Beach. Chairman Toomey, you are correct in your 
impression of what the data has shown. The data could be 
revised, but we don't expect a substantial revision. The data 
does indicate a strength in consumer spending, which is 
remarkable, to say the least.
    It is apparent that the United States' economy continues to 
attract consumption from abroad. It continues to elicit good 
consumption spending from households. And though in the last 
several months and I think particularly after September 11 
consumers have begun to cut back in their spending as they are 
hesitant to get involved with travel and any spending that 
involves that part of the industry, it is still the case that 
the consumer confidence hasn't fallen as much as we have seen 
in previous recessions, particularly if you have a recession 
starting in March.
    But you are also right in saying that the source of this 
recession is in the investment. I say in my written remarks and 
I didn't say in my oral remarks that my view of what caused 
this recession is really a series of policy errors that started 
actually back in 1997 as the Federal Reserve began to pump 
additional supplies of money and credit into the economy to 
prepare it to enable it to be liquid for the Y2K conversions, 
an enormous expansion in 1998 and 1999 of supplies of money and 
credit, some of which was no doubt used by small and large 
businesses to convert but was also used to create a whole new 
range of businesses, some of which had markets and many of 
which did not.
    As the bubble began to burst, the Federal Reserve had 
another thing it was doing. It was actually raising rates to 
stop the inflationary pressures that were going on. Well, of 
course this created new tax burdens, and tax burdens rose 
almost to a point of 2 percent of GDP. So we had a combination 
of policy errors all related to investment.
    I think the deep structure is there for a lot of policy 
changes. We need to cut the costs of capital, reduce the 
required rates of return for long-term investment in order to 
bring back that part of the economy.
    Chairman Toomey. Thank you.
    Moving on, I would like to follow up on a comment that Mr. 
Moore made. You emphasized the vital importance of economic 
growth. There are the obvious reasons, the benefit to all the 
people who live and work in America, but also the Government's 
perspective, the increase in revenue. And I think certainly 
most of us will agree with the merits of encouraging as much 
economic growth as possible. The question is, can we reasonably 
expect that to result from the prescription that you recommend? 
And to that I would ask again, is there empirical evidence? 
What is the correlation historically, globally, for greater 
economic freedom, economic freer trade and particularly lower 
taxes and prosperity? Is there a demonstrable correlation that 
we can point to that suggests empirically that when you have 
lower taxes you have greater growth?
    Mr. Moore. There is. And I would add just one thing to Bill 
Beach's comment about the economy, which is he is exactly right 
in terms of his explanation of what happened to the monetary 
policy. Something else was going on at that time, too, in the 
late 1990s that surprised a lot of people, especially when I 
tell Members of Congress about this. Between 1995 and the year 
2000, the average Federal tax rate went from 17 percent of GDP 
up to about 21 percent of GDP. That was a huge increase. It was 
about a 3 and-a-half percent increase in GDP that was being 
taken in Federal taxes.
    When I tell that to people in government, they say, how can 
that possibly be the case? We haven't raised any taxes in the 
last 4 or 5 years.
    What was happening over that period, as people were making 
higher incomes, they were being pushed into higher tax 
brackets, something we described as this real income bracket 
creep.
    The reason I mention that, if you look throughout the last 
30 or 40 years, the post World War II period, if you track that 
Federal tax burden, any time it gets above about the 20 percent 
level, it is sort of a siren alarm that we may have a 
recession. In fact, many of the deepest recessions that we have 
had since World War II have been correlated with that tax 
burden ratcheting up. In fact, the most recent example being 
the severe mini depression we had in the 1978 to 1982 period 
where taxes rose very dramatically because of both real and 
inflation-induced bracket creep.
    So, clearly, the kind of historical evidence indicates that 
many times--not always, but many times when you get that tax 
burden up above that 20 percent level, you have got to bring 
them back down.
    By the way, the normal of the post World War II period is 
about 18 percent, and if you take into account the Bush tax 
cut, that will bring us down to about 19 and-a-half percent of 
GDP. I think that is a little too high. We need to have a 
stimulus.
    Just quickly in answer to your question about how economic 
growth affects--if you look at international comparisons, it is 
not only true that countries that have economic freedom are 
richer--in fact, economic freedom is generally lower taxes, 
small centralized government, freer trade policies, all these 
kinds of protection of private property rights which is very 
important to economic growth. But you also find countries that 
have these economic policies are countries that tend to be 
healthier. They tend to have longer life expectancies and so 
on.
    So I do believe an economic stimulus plan now is necessary, 
if it is designed towards investment. And I think Bill Beach is 
exactly right. It is an investment drought that has really 
caused this economy to contract, not a consumption drought.
    Chairman Toomey. Thank you very much.
    I have run over my time, but I do have another question, 
and I will ask, can I do that now? Fine.
    Mr. Edwards, I wanted to ask you to comment specifically 
about the corporate AMT. It strikes me that certainly this has 
been a much-aligned feature of the House-passed stimulus 
package. It has always struck me that the AMT is itself an 
extraordinary obsession of the absurdity of our Tax Code.
    We basically say, if you follow the rules perfectly and do 
exactly what the law says and we don't like the consequence, we 
will make you redo it and pay more in taxes. As part of that, 
my understanding is that, in a manner of speaking, a 
corporation that pays the AMT has historically been given a 
credit to reduce future tax burden and that credit is carried 
on the balance sheet of a corporation and we would require that 
that be manifested that way. So elimination of the corporate 
AMT gets rid of an absurd feature of our Tax Code, but it 
requires that this credit be allowed to be cashed in because it 
is part of the very future. Perhaps you could clarify that and 
explain whether that is accurate or whether you have a 
different perspective.
    Mr. Edwards. No. That is right. The modern version of the 
AMT was enacted in 1986. And basically the 1986 act really went 
overboard in trying to make sure every last company in the 
country paid some taxes. So they really broadened the general 
base, but in addition they threw on this parallel AMT tax 
system. What they did is they said any year that a company pays 
AMT, the amount that AMT was greater than the regular tax, they 
are allowed to take it as a credit in future years. So in 
current law, companies are taking about 3 or 4 billion dollars 
of credit every year against prior AMT payments made. So in the 
House bill, in a sense there would be nothing--there would be 
no big change from the current law. Companies can alreadytake 
these credits.
    Chairman Toomey. Can I interrupt and ask you, would it be 
accurate to view that credit as equivalent to an interest-free 
loan that the company has made to the Federal Government?
    Mr. Edwards. That is a good way of looking at it. I mean--a 
lot of the things in the corporate income tax are all timing. 
The Federal Government wants to get the money early. Companies 
want to delay it and pay it later. Accelerated depreciation is 
a good example of that.
    I think there is a good compromise that we can work out 
that, by repealing the AMT itself, the Federal Government 
doesn't lose any money. Because the last few years companies 
have been paying about 3 or 4 billion dollars in new AMT and 
taking about 3 or 4 billion dollars of credit. The net effect 
has been zero. But when you repeal it, you have got about $25 
billion of built-up AMTs that we have to figure out what to do 
with. And I think a fair compromise would be to allow companies 
to take those built-up credits in current law maybe over 4, 5 
years.
    Chairman Toomey. Thank you very much.
    Mr. Pascrell, thank you for your cooperation, and I am 
happy to recognize you.
    Mr. Pascrell. Mr. Moore--by the way, all of your testimony 
I found to be very interesting, and it is just too bad it 
doesn't have a wider audience, but that is the nature of the 
beast. I almost conclude that maybe this discussion should be 
brought to the Ways and Means Committee, because I thought you 
know that we are here to discuss small business.
    But since you brought the subject up, you know, in your 
discussions, you mentioned about comparing tax rates. I have 
seen calculations that indicate that the effective tax rate is 
lower today than it was in 1985. You disagree with that, Mr. 
Moore?
    Mr. Moore. Well, depends on who you are talking about. The 
effective tax rate on investment actually has risen over the 
last 15 years or so. So I would disagree with the idea. And it 
also depends on whether you are talking about just Federal tax 
rates or you are talking Federal, State or local all together.
    Mr. Pascrell. Federal taxes.
    Mr. Moore.  Federal taxes have actually been somewhat 
stable, slightly higher than they were in the mid 1980s.
    Mr. Pascrell. Any attempt to indicate, in defense of your 
arguments or support of your arguments, that the tax rate is 
higher now in terms of in relationship to the GDP is absolutely 
fallacious, do you agree?
    Mr. Moore. If you look at what has happened over the last 4 
years, the Federal tax burden went from about 18 percent of GDP 
to about 21 percent of GDP. That is a fairly large increase 
over a 4, 5 year period. We are at an abnormally high level of 
Federal taxes or percent of GDP right now. Not the highest 
ever, but fairly close to being at peak levels.
    Mr. Pascrell. If we accelerate the tax cuts, which you are 
advocating, how much more of a deficit are we going to produce 
over the next 10 years?
    Mr. Moore. You know, that is a really difficult question.
    Mr. Pascrell. How much of a deficit are you going to 
produce over the next 5 years?
    Mr. Moore. My sort of rule of thumb on tax rate reductions 
is that you are going to roughly recapture about one-third of 
the static revenue loss. So if you are talking about a tax 
reduction that would be--let us say it is $100 billion a year, 
you are going to recapture about one-third of that or $33 
billion in higher economic growth from the lower tax rates.
    Mr. Moore. So you will probably have some negative effect. 
But the point I was making about why economic growth is so 
important is that if we are right about how tax rate reductions 
help economic growth, then we can actually have increased 
revenues, not less.
    If you look at my testimony, Mr. Pascrell, what you will 
find, for example, in the 1980s, when we did very dramatic 
reductions in tax rates, you know, the top tax rate went from 
70 percent in 1980 down to 28 percent by the end of the 1980s, 
and yet over that period we almost doubled Federal tax 
revenues. And it was also----
    Mr. Pascrell. What did we do to the deficit?
    Mr. Moore. Well, the deficit went way up, but it was 
mostly----
    Mr. Pascrell. Well, that is the point. You want to rush 
over that point all the time. You even rush over it in your 
testimony and--you know, with all due respect.
    Mr. Moore. But it was because----
    Mr. Pascrell. The deficit is something we can't--it is 
something we cannot dismiss. It is not a phantom deficit. It 
had a lot to do with interest rates. You talk about the 
consumer. You talk about the average Joe out there. The 
consumer had to face the high rates due to, much of it, not all 
of it, to those deficits that you just wave your hand on.
    Mr. Moore. Well, but, Mr. Pascrell----
    Mr. Pascrell. You don't support deficit spending, do you?
    Mr. Moore. No, I don't. I----
    Mr. Pascrell. You don't support deficit government, do you?
    Mr. Moore. Not at all, but actually if you look at the 
1980s----
    Mr. Pascrell. But that is what we had in the 1980s, and you 
keep on pointing back that that is the time when things were 
wonderful.
    Mr. Moore. Well, it was. We had very strong economic growth 
in the 1980s. By the way, we had lower interest rates, not 
higher interest rates. In fact, when I got out of college in 
1981, the mortgage interest rate was 20 percent. So interest 
rates fell very dramatically in the 1980s. But one of the 
interesting things about the 1980s is that you did have a very 
big military buildup in the 1980s, I mean, and that was in 
large part a----
    Mr. Pascrell. It was needed.
    Mr. Moore. It was needed, and it was one of the causes of 
the deficits. And yet I would say that those deficits were not 
inappropriate, at a time when you are trying to dig out of a 
big economic hole that we were in and win a war, and we are in 
a similar kind of situation to that right now.
    Mr. Pascrell. Mr. Chairman, I think Mr. Moore is very--is 
being very, very honest to his beliefs, but I do believe that 
his beliefs move towards the deficit spending being simply the 
fallout from specific economic policies, and I would really 
question, really question it. I mean, I would like to debate 
you and discuss with you about the deficits and the effect that 
it has had on many aspects of this government.
    I just want to ask one more question of Mr. Beach.
    Chairman Toomey. Sure.
    Mr. Pascrell. We are in a dramatically different time right 
now than we were 10 months ago, 5 years ago. We realize that we 
are fighting this war, and it is going to have a tremendous 
effect abroad and at home. We have increased our intelligence 
apparatus. We have attempted to begin the process of 
education--it is costly--in terms of getting people to 
understand who we are as Americans and what we value. There is 
a tremendous stimulant package. If we do the things that 
Governor Ridge has asked us to do of protecting ourselves, in 
terms of bolstering specific targeted military, in terms of 
expanding intelligence and protecting our waterways and our 
water, protecting our food supplies, bioterrorism, if we do all 
of those things, somebody is going to have to spend money to do 
that. That is a stimulus unto itself. The numbers haveranged 
from 25 to $50 billion. Aren't we saying that we--might not we say we 
could do two things at the same time? Stimulate the economy and protect 
ourselves? Or is that over simplistic?
    Mr. Beach. Not at all, Congressman, not at all. In fact the 
proposals that we have examined, and I think we have examined 
all of the proposals from both parties and indeed from some 
that were not even in a party, have combined an increase in 
homeland defense and the issues of infrastructure, which you 
quite properly raise, with what we would call true stimulus 
packages that go to the deep structure of the economy. The 
interesting thing about what we are finding is that many of the 
proposals for homeland defense go to preparing borders better, 
to maintain the security of the United States around its lakes 
and waterways and its highway systems, and the effect in that 
area of government spending will be stimulating. There will be 
more employment in Wichita, Kansas or El Paso, Texas.
    But when we look at the entire economy, those measures, as 
much needed as they are, simply don't produce the employment 
and consumption and output changes, which a set of relatively 
simple moves do, and that is the rate reductions, particularly 
on labor. I am not particularly concerned on the capital side, 
because so many small businesses of course file their taxes 
through the 1040, and anything you are doing on rates there 
will help them. The overall effect of just the rate reductions, 
producing consumption expenditure growth and investment growth 
are truly remarkable, clearly indicating that the problem in 
this recession is in fact on the investment side.
    So I would say, yes, let us have a stimulus package, a 
defense package that combines all of that spending, but let us 
not think in this particular episode that we are going to have 
the same effect on the economy that Franklin Delano Roosevelt, 
Republicans and Democrats, had in 1939, 1940 and 1941 as we 
prepared ourselves for war through massive government spending 
on the defense side.
    Mr. Pascrell. Thank you. Thank you, Mr. Chairman.
    Chairman Toomey. Thank you. The gentleman from Ohio.
    Mr. Chabot. Thank you, Mr. Toomey. I share Mr. Pascrell's 
concern about deficit spending, and I am very much opposed to 
it. I would note that there was Democratic control of the House 
of Representatives for, like, 40 years up to 1994. I know that 
until--we had approximately 30 years of deficit spending up 
until the budget year of 1998, and it is my understanding that 
the budget years--basically we had the balanced budget 
agreement in 1997. We have had surpluses in the budget years 
1998, 1999, 2000, 2001. It is my understanding that if you add 
up the surpluses of those 4 years, it is approximately $600 
billion of surpluses that we have had.
    Now, I know a lot of my liberal colleagues--because of 
concern next year, it looks like we may very well have deficit 
spending again next year, which I am very much opposed to, but 
there are those projecting it.
    Now, some of my liberal colleagues are blaming that 
projected deficit on President Bush's tax cuts. It is my 
understanding that of the $595 billion of surpluses we have had 
over the past 4 budget years, that 94 percent of that went to 
reduce the debt that we built up in this Nation over those 
years when we didn't have balanced budgets, and only 6 percent 
of that surplus has gone for tax relief, only 6 percent.
    Now, one could--one might say, well, you know, is that 
actually--you know, are those numbers accurate, because a lot 
of money went for additional spending, too? But the fact is if 
you spent the money, then, you know it isn't considered in the 
surpluses; and we did spend, in my view, far too much money.
    This is kind of a longwinded question, but based upon that 
statement, those who would blame the deficits next year on the 
Bush tax cut, I would be interested to hear what the panel 
would have to say about that argument, which I personally 
disagree with that argument, but I would like to hear what the 
panel might have to say about that.
    Mr. Beach. Well, Congressman, if I could just weigh in, we 
need to keep in mind that the key elements of the Bush tax cut 
are not implemented until several years from now, and so we 
have to be patient before we make that argument. If we are 
eager to make the argument that the Bush tax cut is the source 
of deficits, we have to wait until the Bush tax cut is 
implemented. And next year we do get the first of the rate 
reductions in a very large way, but 2004----
    Mr. Chabot. Let me follow up before you go on. Some of it 
went back in the form of the rebates.
    Mr. Beach. That's right.
    Mr. Chabot. And I assume that is where the 6 percent figure 
is coming from, although I am not sure of that, and I would be 
happy to be enlightened by the panel.
    Mr. Beach. It is my understanding that that is where that 
number is coming from as well, and we have to be careful that 
we offset the economic growth attributable to the rebates and 
attributable to rate reductions before we make the argument. So 
we have to be balanced. We have to be fair.
    The third thing I would like to say about this is that the 
Congress is currently considering an extraordinary growth in 
agricultural subsidies, and there are other challenges that the 
Congress faces on the spending side. The projections that Mr. 
Daniels and others have made of deficits include an estimation, 
including our estimates, of what Congress is likely to do on 
the spending side. So we have to bring both sides of the ledger 
in when we began to think about deficits.
    And then finally, the work that we are doing and I think 
others on this table have done indicates that there is a 
tenuous case at best between modest deficits and interest rate 
changes. The monetary handles that the Federal Reserve has at 
its disposal can accommodate small deficits in the neighborhood 
of probably less than 50 billion a year through the monetary 
means that Chairman Greenspan talks to you about all the time.
    Mr. Moore. Mr. Chabot, you asked the question about what 
happened to the surplus, and that is going to be a question 
throughout the next year that people are going to be asking, 
and basically the story I think is this. Clearly a lot of it 
was spent. This year you are looking at appropriations bills 
that will be up 8 or 9 percent, which is enormous, given that 
we are virtually at a zero inflation environment. So those are 
all real increases in spending in almost every area, and Bill 
Beach is right, one of the areas where you are saying the 
biggest spending increase is in the agriculture area.
    So a lot of it was spent. You had the $40 billion tax--I 
think it was about 40 billion on the tax rebates? What was it? 
40 billion, which I would argue--Bill and I may disagree a 
little bit on this. I see no economic benefit whatsoever from 
tax rebates. In fact, I think tax rebates are probably the 
worst way to cut taxes, because they have no economic incentive 
effects whatsoever.
    The other part, though, and this is the essence of what my 
testimony is about, the major reason you are possibly facing 
now a future of deficits again, and it swamps all of these 
other effects, is that we have gone from a 3.5 percent real GDP 
growth path to a negative growth path. And until you get that 
economy back up to 2, hopefully 3 to 4 percent growth, you are 
going to be--it is like a dog chasing your tail. You are never 
going to be able to produce enough revenues tobalance the 
budget. And that is why, for example, Mr. Pascrell, we may disagree 
about what policies are best for economic growth, but hopefully the one 
thing we can all agree on is that unless we--that we have to pursue 
like a laser beam those growth policies, because, you know, you are 
going to be having these excruciating hearings over the next couple of 
years unless we get growth back up, and that is the primary explanation 
for why that surplus is shrinking so quickly.
    Mr. Chabot. Thank you.
    Mr. Edwards. Can I make a very quick comment to follow up 
on something that Steve mentioned? In terms of the effect of 
the deficit, I think everyone believes that the Federal 
Government should not run large deficits just because of a 
basic honesty in Government argument. It shouldn't spend more 
than we take in. But economically, there is less and less 
relationship between the Federal deficit and effects on the 
economy, and the reason why that is, is capital markets these 
days are global. I came across a figure the other day from the 
IMF that shows the world debt markets, corporate and government 
debt around the world, are valued now at about $25 trillion. 
The U.S. Federal debt is a small drop in the bucket for that. 
Interest rates are set worldwide. There is less and less 
relationship between what we do with the Federal Government 
books here and interest rates on the United States, which are 
set globally.
    Chairman Toomey. If everyone has time, I would like to have 
another round of questions. Did you want to follow up?
    Mr. Pascrell. I want to follow up with Mr. Edwards.
    Chairman Toomey. Go ahead.
    Mr. Pascrell. If I may.
    Chairman Toomey. Sure.
    Mr. Pascrell. You know how much comes out of every dollar 
to pay off the interest of the day. This is a large portion, 
and what we did--and the Congressman was absolutely correct--
since we got here in 1997, we insisted that we have caps on 
spending, although of course they dissolved; both sides are 
guilty. But we wanted to reduce the amount of money that we 
have to take out of every tax dollar in order to pay the 
interest on the debt. I think that is critical. I think it is--
regardless that it is part of a huge global financial 
situation, but the fact that we were able to do it for 4 years 
bodes well for the future.
    Now, we were in deficit--going back to the original point, 
we were in deficit in terms of the stimulus package and some 
spending, all sides responsible, in June. And I can prove that. 
And we were hanging to the situation that has been exacerbated 
since the tragedy of September 11th. I believe that we should 
agree on those facts and move forward so that we get a stimulus 
package that is going to be effectively put to use immediately 
and not 2 or 3 years from now, and that helps the small 
business person.
    That is why we are here, so that that small business person 
is the immediate recipient of the benefits that we think are 
necessary. I think that is critical. I think that is important, 
because we have been thinking corporate. We have been thinking 
global in that sense, and I think that it doesn't serve the 
majority of folks who have small businesses in this country. 
Haven't, Mr. Chairman, we been listening to these folks that 
have come before the general committee, small businesses that 
are hurting out there before September the 11th, after 
September the 11th? I think we need to respond to those needs. 
They are real needs.
    Chairman Toomey. Well, I would like to follow up on this 
topic, too, and as a former small business owner myself, I was 
always very conscious of the percent of my operating budget 
that was going to debt service, and some have suggested that if 
we lower taxes, we may have at least in the short term a larger 
deficit and large deficits lead to high interest rates and that 
is very harmful for small businesses, as well as many others. 
But from what I have seen, at least in the post-war era, there 
is virtually no correlation whatsoever between the size of the 
Federal budget deficit and the level of interest rates. Am I 
wrong? Is there a correlation? Is there not a correlation?
    Mr. Edwards. No. As I indicated, there is less and less 
relationship. I mean, you can graph interest rates in the 
Federal deficit over the last couple of decades, and there is 
very little relationship. Interest rates are set by things like 
inflation expectations and that sort of thing and----
    Chairman Toomey. So this isn't a question of empirical 
fact. This isn't--the theory, you can look at the data; you 
know what interest rates were historically. You know how big 
the deficit was in any given year, and you can confirm that 
there simply is not a correlation anymore.
    Mr. Pascrell. Mr. Chairman, that is in utter contradiction 
to what Mr. Greenspan has been saying for the last 4 years, 
maybe one of the reasons why he thought he acted too early or 
too late in reducing interest rates. But that is contradicting 
basically what we--one of the foundations we have been moving 
on, and, you know, that is fine. I mean, there is no god--there 
is only one God, and there are no gods----
    Mr. Moore. He is not the God.
    Chairman Toomey. Let me just respond quickly, and then I 
will yield to Mr. Moore. But I am simply making a point about 
objective historical fact, and if someone can show me the data 
that suggests that there is a historical correlation, then I 
will admit that I am then completely wrong, but I am saying 
that in--certainly in recent decades, there is no correlation, 
and I just don't think that is really disputable.
    Mr. Moore. Well, actually there is a correlation. It is 
actually government spending which is causing--there is a 
crowding-out effect of government, and it is not from the 
borrowing. It is from the government spending. And government 
spending can be financed in three ways, through higher taxes, 
through monetary policy or through running deficits. And what 
the evidence seems to indicate is that, you know, higher taxes 
also lead to a crowding-out effect. And so we should really be 
concentrating on the total size of the government spending.
    One other interesting aspect about this, by the way, 
though, is not only in the 1980s did we have high interest 
rates and falling--I mean, high deficits and falling interest 
rates, but if you look at Japan today, Japan has the lowest 
interest rates in sort of recorded history, and yet they are 
running gigantic budget deficits. So it is just hard to find 
any relationship between deficits, and despite what God says 
about this.
    Chairman Toomey. And that actually leads me right to the 
next topic which I wanted to ask Mr. Beach. Japan is an 
interesting example, not only because of their extremely low 
interest rates, but my understanding is that they have had an 
unprecedented wave of successive Federal Government, if you 
will, spending programs. And to those who suggest that, well, 
won't Federal spending, which has increased dramatically, won't 
that solve the problem, again, empirically, the evidence in 
Japan certainly doesn't suggest that. But is that a valid 
comparison? Is that useful to look at the decade of the 1990s 
in Japan?
    Mr. Beach. I think it is useful to look at large 
industrialized countries' recent history and see what pattern 
they have gone through. It is instructive, Mr. Chairman. Japan 
has got a very interesting problem. The average householder in 
Japan is so unconfident in the future that they are withholding 
their consumption. Prices fall and they withhold it even 
further. They say, well, I am going to wait to buy that 
refrigerator or that car or something of that nature, and 
thegovernment has tried one spending stimulus aggregate demand policy 
change after another.
    Finally, after now 10 years--and today we will learn 
whether they are officially in their third recession of this 
decade--there is a set of proposals to actually cut taxes, and 
we are hopeful that that will now lighten the load on 
householders and stimulate that economy.
    This deficit question is extraordinarily important, 
however, and we need to be real serious about it. I am a former 
small business person myself, so I have a great interest in 
these matters, but in fact if we were in a deficit in June, and 
I think that that is probably right, then we have a hard time 
explaining why we have had a succession month after month of 
major interest rates falling. You see, it is not so much the 
deficit that is the matter. It is the expectation of the 
future. The Japanese householder says, the future looks grim in 
Japan, I will behave in a rational way and withhold my economic 
investments and consumption. And that is what a lot of the 
people do in this country as well. If they think that the 
Federal Government is out of control, that its spending is too 
high, its taxes are on the way up, well, then interest rates 
are going to rise but not because of a deficit but because of a 
belief in the future.
    Chairman Toomey. Thank you, and I will yield to Mr. 
Pascrell to ask the final question of the hearing.
    Mr. Pascrell. Thank you, Mr. Chairman. You know, in the 
1980s we looked to Japan as the model.
    Mr. Beach. Wrongly.
    Mr. Pascrell. Well, we did. This is a fact of life. I 
didn't make it up on the way to the office this morning. You 
know, I don't have any problems supporting the government 
spending money, and I want to get Mr. Lauster's reaction and 
response to this. I don't have any problems, where needed, 
targeting money, unemployment insurance. It is government 
spending. Health benefits, a lot of folks are out of jobs. We 
stabilized the airlines. We did nothing for the 110,000 
employees laid off. Bridge loans, increasing them, so we put 
off paying the tax--the loan back, I don't have any problems 
with that. When we look through the history of the 20th 
century, a lot of recessions, a lot of depressions, we saw 
government wisely spending money. I mean, it is not an either/
or situation. It doesn't have to be. None of us should try to 
make it that.
    And, you know, Mr. Lauster, you are like many other small 
business voices. You have heard back and forth here different 
philosophical bents. What do you think?
    Mr. Lauster. Well, a lot of this discussion has been 
certainly outside of my zone of competence.
    Mr. Pascrell. Well, join us.
    Mr. Lauster. The truth is I think most of us in business 
believe that the economy, you know, is like the sea. It is this 
powerful force, and that while you may be an aircraft carrier 
on the sea, you don't really control it. The Federal Government 
has an effect, that is clear. But I think most of us in 
business believe that the economy really has strong 
fundamentals, weak fundamentals, and it will do what it will 
do, and the Federal Government, through interest rates, fiscal 
policy, can exacerbate or help people, but it really isn't 
going to control the economy. The economy is really a force of 
nature.
    Consequently, my sense is that, especially from a small 
business perspective, my business perspective, when people in 
areas are suffering unduly, like workers who are losing, you 
know, their jobs and all of the companies that were referred to 
before by the chairman, these are people who will get back on 
their feet, but they are currently taking, as I said before, a 
hit. To the extent that the government can cushion them till 
they get back on their feet, that is really important. It is 
important to their morale. It is important to the prosperity of 
those communities, those communities that have large plants 
that shut down, small businesses that sell groceries, that sell 
all sorts of things, those businesses are going to suffer 
tremendously.
    So you have a regional problem that comes from an 
individual/corporation's rational decision to cut back. To the 
extent that the government can cushion that kind of thing, it 
does a great job. I personally am dubious that the government 
really controls the economy as a whole. I believe that is 
beyond the power of Washington, but I think it can make life 
better for people and, hence, stabilize businesses and 
communities throughout the country.
    Mr. Pascrell. I thank you for all being here.
    Chairman Toomey. Thank you very much. The hearing is 
adjourned.
    [Whereupon, at 11:21 a.m., the subcommittee was adjourned.]
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