[Joint House and Senate Hearing, 112 Congress]
[From the U.S. Government Publishing Office]





                                                        S. Hrg. 112-484

   HOW THE TAXATION OF LABOR AND TRANSFER PAYMENTS AFFECT GROWTH AND 
                               EMPLOYMENT

=======================================================================

                                HEARING

                               before the

                        JOINT ECONOMIC COMMITTEE
                     CONGRESS OF THE UNITED STATES

                      ONE HUNDRED TWELFTH CONGRESS

                             SECOND SESSION

                               __________

                              MAY 16, 2012

                               __________

          Printed for the use of the Joint Economic Committee

















                  U.S. GOVERNMENT PRINTING OFFICE

74-433                    WASHINGTON : 2012
-----------------------------------------------------------------------
For sale by the Superintendent of Documents, U.S. Government Printing 
Office Internet: bookstore.gpo.gov Phone: toll free (866) 512-1800; DC 
area (202) 512-1800 Fax: (202) 512-2104  Mail: Stop IDCC, Washington, DC 
20402-0001











                        JOINT ECONOMIC COMMITTEE

    [Created pursuant to Sec. 5(a) of Public Law 304, 79th Congress]

SENATE                               HOUSE OF REPRESENTATIVES
Robert P. Casey, Jr., Pennsylvania,  Kevin Brady, Texas, Vice Chairman
    Chairman                         Michael C. Burgess, M.D., Texas
Jeff Bingaman, New Mexico            John Campbell, California
Amy Klobuchar, Minnesota             Sean P. Duffy, Wisconsin
Jim Webb, Virginia                   Justin Amash, Michigan
Mark R. Warner, Virginia             Mick Mulvaney, South Carolina
Bernard Sanders, Vermont             Maurice D. Hinchey, New York
Jim DeMint, South Carolina           Carolyn B. Maloney, New York
Daniel Coats, Indiana                Loretta Sanchez, California
Mike Lee, Utah                       Elijah E. Cummings, Maryland
Pat Toomey, Pennsylvania

                 William E. Hansen, Executive Director
              Robert P. O'Quinn, Republican Staff Director













                            C O N T E N T S

                              ----------                              

                     Opening Statements of Members

Hon. Kevin Brady, Vice Chairman, a U.S. Representative from Texas     1

                               Witnesses

Dr. Richard Rogerson, Professor of Economics and Public Affairs, 
  Princeton University, Princeton, NJ............................     3
Dr. Andrew G. Biggs, Resident Scholar, American Enterprise 
  Institute, Washington, DC......................................     5
Dr. Simon Johnson, Ronald A. Kurtz Professor of Entrepreneurship, 
  Sloan School of Management, Massachusetts Institute of 
  Technology, Cambridge, MA......................................     6

                       Submissions for the Record

Prepared statement of Vice Chairman Kevin Brady..................    30
Chart titled ``A Tale of Two Recoveries'' submitted by 
  Representative Brady...........................................    31
Prepared statement of Dr. Richard Rogerson.......................    32
Prepared statement of Dr. Andrew G. Biggs........................    44
Prepared statement of Dr. Simon Johnson..........................    47

 
   HOW THE TAXATION OF LABOR AND TRANSFER PAYMENTS AFFECT GROWTH AND 
                               EMPLOYMENT

                              ----------                              


                        WEDNESDAY, MAY 16, 2012

             Congress of the United States,
                          Joint Economic Committee,
                                                    Washington, DC.
    The committee met, pursuant to call, at 2:15 p.m. in Room 
G-50 of the Dirksen Senate Office Building, the Honorable Kevin 
Brady, Vice Chairman, presiding.
    Senators present: Bingaman.
    Representatives present: Brady, Burgess, Duffy, and 
Mulvaney.
    Staff present: Conor Carroll, Gail Cohen, Colleen Healy, 
Patrick Miller, Matt Salomon, Robert O'Quinn, and Steve 
Robinson.

 OPENING STATEMENT OF HON. KEVIN BRADY, VICE CHAIRMAN, A U.S. 
                   REPRESENTATIVE FROM TEXAS

    Vice Chairman Brady. Good morning, everyone.
    I want to welcome you to the hearing on ``How the Taxation 
of Labor and Transfer Payments Affect Growth and Employment.''
    Today the Joint Economic Committee is holding the second of 
two hearings on how taxes affect America's economy. This 
hearing is on the taxation of labor. The first hearing was 
focused on the taxation of capital.
    My goal, as Vice Chairman of the Joint Economic Committee, 
is to ensure that America has the strongest economy in the 
world throughout the 21st Century. To do that, we have to get 
our monetary policy right, our fiscal policy right, our 
regulatory policies right, and open new markets to American 
exports.
    A sustainable fiscal policy requires more than just closing 
the trillion dollar gap between federal spending and federal 
revenues. A sustainable fiscal policy requires economic growth.
    A growing economy improves our fiscal outlook by increasing 
federal revenues and reducing federal spending relative to the 
size of our economy.
    Sadly, however, economic growth and job creation is lagging 
under President Obama. To understand how poorly our economy is 
performing compared with its potential, let's look at this 
chart and compare the big government-oriented, I think, Obama 
recovery to the free-market-oriented Reagan recovery.
    From its low point in February of 2010 following the recent 
recession, the Obama recovery produced private sector job 
growth of 4 percent. Over the comparable time frame, the Reagan 
recovery far eclipsed the Obama recovery with 10.1 percent 
private sector job growth.
    If President Obama had had the same growth rate of private 
sector jobs as President Reagan enjoyed, we would have over 6.5 
million more jobs today. That is more than one job for every 
two workers currently counted as unemployed.
    From its peak in October 2009, the unemployment rate has 
declined by 1.9 percentage points under the President. Over the 
comparable time frame, the unemployment rate dropped by 3.4 
percentage points under President Reagan.
    Under President Obama, the average GDP growth--real GDP 
growth rate has been 2.4 percent over the 11 quarters following 
the recession. Over the comparable time frame, President Reagan 
delivered an average real GDP growth rate of almost three times 
that amount, 6.1 percent.
    More than anything, hardworking American taxpayers need 
cohesive monetary, fiscal, and regulatory policies that 
encourage business investment--business investment in new 
buildings, equipment, and software. Joint Economic Committee 
Republicans have shown that such private sector business 
investment is the key to robust economic growth and private 
sector job creation.
    Leading economists believe that taxes affect the incentive 
to work, the incentives to save, and invest. Thus, federal tax 
policy not only determines how much the Federal Government 
collects, but also how much the U.S. economy grows and how many 
jobs are created.
    Other economists seem to believe taxes don't really matter. 
In their view, one tax increase to reduce the federal budget 
deficit is just as good as another.
    The purpose of this hearing is to examine the empirical 
evidence offered by both sides of this thoughtful debate.
    In his written testimony, Dr. Rogerson presents evidence 
that taxes on labor substantially reduce employment and 
economic output. When these taxes are used to fund transfer 
payments and social services, the adverse effects on jobs and 
economic growth are even greater.
    Dr. Biggs presents evidence that these adverse effects 
depend in large part on the specific tax and benefit rules of 
each entitlement program. Older workers are especially 
sensitive to the marginal net tax rate. That is the additional 
after-tax income received in exchange for working and paying 
taxes an additional year.
    For his part, Dr. Johnson presents evidence that our taxes 
are lower than they have been at times in the past; and they 
are lower than many other countries' taxes today.
    The question we face today is whether tax policy really 
matters. Can Congress allow the tax reductions of 2001 and 2003 
to expire without any adverse effects on jobs and economic 
growth?
    Would this be, as many leading economists and my Republican 
colleagues have suggested, a ``taxmageddon''? Or, as President 
Obama and many of my Democrat colleagues contend, can Congress 
increase other federal taxes on the businesses and the 
``wealthy'' with economic impunity?
    Should Congress instead focus on fundamental tax reform and 
carefully consider which tax policies will provide the greatest 
boost to long-term growth and job creation in the private 
sector?
    Hopefully, today's hearing will help us answer those 
significant questions. I look forward to the testimony of our 
distinguished witnesses.
    [The prepared statement of Representative Brady appears in 
the Submissions for the Record on page 30.]
    [Chart titled ``A Tale of Two Recoveries'' submitted by 
Representative Brady appears in the Submissions for the Record 
on page 31.]
    Senator, would you like to make an opening statement?
    Senator Bingaman. I did not plan to make an opening 
statement. I appreciate the witnesses being here. I look 
forward to hearing their testimony, and then I will have some 
questions. Thank you.
    Vice Chairman Brady. Thank you. And, Senator, thank you for 
being here today, as well as the witnesses joining us at the 
table.
    I would like you to just be aware that we are reserving 
five minutes for the written testimony, or for the verbal 
testimony. We want to make sure your full testimony is written 
into and subjected into the record.
    With that, Dr. Rogerson, you are recognized.

 STATEMENT OF DR. RICHARD ROGERSON, PROFESSOR OF ECONOMICS AND 
      PUBLIC AFFAIRS, PRINCETON UNIVERSITY, PRINCETON, NJ

    Dr. Rogerson. Thank you.
    So I would just like to make a few verbal comments 
summarizing what was in my written testimony, consistent with 
just the comments we heard.
    My written testimony is concerned with the basic question 
of long-run size of government, the activities the government 
is involved in, how they are financed, and what the 
consequences of that are for the overall performance of the 
U.S. economy.
    Most importantly, the issue is the size--government needs 
to be financed. As a practical matter, most of the financing of 
government comes from taxation on labor. And a key question is: 
To what extent do taxes on labor provide a disincentive for 
individuals to work?
    We all know that in terms of our material wellbeing in the 
United States, that is critically related to the level of 
economic activity. Labor input is a key input into producing 
output in the U.S. economy.
    If we have policies which discourage people from working, 
that will reduced the amount of output produced and lead to 
lower material standards of living. So that is the issue.
    I want to start with--I am going to basically talk about 
some empirical evidence--but before i do that, I do want to 
make one small comment about the kind of underpinnings in 
economic theory. And I think this is critical, for the 
following reason:
    There is a tendency I think for people to talk in 
generalities about taxation on labor, as if you tell me what 
the tax on labor is and I can tell you what the effects are, 
and there may be controversies about that.
    What I want to emphasize is that economic theory tells us 
very clearly that, if you want to think about the effect of 
what taxes on labor income do to economic activity, you have to 
also talk about what the revenues from that labor taxation are 
being used for. And in particular, I will contrast two 
different types--two different scenarios.
    One scenario is when the revenues are being used either as 
direct cash transfers--for example, things like unemployment 
insurance, disability, social security; or, alternatively, I'll 
say something like defense, which is not something that 
individuals would necessarily go out and buy on their own if 
the government were not providing it.
    The theory tells us that the large effects we find are when 
the labor revenues are being used to fund transfer payments, 
either cash transfers to individuals, or provision of services 
that people would have purchased on their own.
    So when we look for evidence of labor taxes on economic 
activity, we have to do it with an eye towards how revenues are 
being used.
    Now having said that, where should we look for evidence? 
Economists to a large extent make their living by trying to do 
very detailed studies based on extensive data sets. What I want 
to simply point out here is, I think the simplest, most 
transparent place to look for data is what economists call 
``natural experiments.'' We would like to find a situation in 
some country where there was a sizeable increase in the taxes 
on labor used to fund transfer payments, holding everything 
else constant. That would give us kind of clean evidence of 
what happens in response to those types of effects.
    In reality, it is relatively difficult to find those types 
of clean experiments. One of the issues which I think has 
clouded the inference that people make from making at the data 
is some people look at the U.S. historical record, the last 50 
years. They claim that there are different times when there 
have been changes in taxes on labor, and they try to infer from 
what they saw happening in the U.S. data what the effect of 
those taxes are.
    But in fact, in the U.S. the changes in those taxes have 
been relatively small. There are all kinds of other things that 
have also gone on in the U.S. economy--in particular, 
demographic change, the entry of women into the labor force for 
I think reasons unrelated to taxes which cloud conclusions. So 
in my testimony, what I argue is the best source of evidence 
for people in the U.S. is to actually look outside the U.S. 
where other countries have had much larger changes in labor 
taxation to fund transfer programs.
    In my testimony I talk about looking at a study of 15 OECD 
countries between 1960 and 2000. And just as a punch line that 
comes out of that, I find that a 10 percentage point increase 
in taxes on labor used to fund transfer payments is consistent 
with a decrease in labor supply of about 12.1 percent.
    This, in terms of a simple experiment, if there was a small 
increase in the size of the U.S. Government funded by labor 
taxes, the magnitude of the jobs lost is similar to the jobs 
lost during the most recent Recession.
    I will stop there.
    [The prepared statement of Dr. Richard Rogerson appears in 
the Submissions for the Record on page 32.]
    Vice Chairman Brady. Thank you, Dr. Rogerson. Dr. Biggs.

 STATEMENT OF DR. ANDREW G. BIGGS, RESIDENT SCHOLAR, AMERICAN 
              ENTERPRISE INSTITUTE, WASHINGTON, DC

    Dr. Biggs. Vice Chairman Brady, Senator Bingaman, Members 
of the Committee:
    Thank you for the opportunity to testify today with regard 
to the effects of taxes and transfer payments on labor supply 
and employment.
    The 12.4 percent Social Security Payroll Tax on earned 
income is the largest tax paid by most Americans. Social 
Security benefits, which are paid in exchange for payroll 
taxes, are the largest source of income for most retirees. The 
potential for Social Security taxes and benefits to influence 
labor supply decisions is obvious.
    The theory of Optimal Taxation states that taxes should be 
highest in circumstances in which individuals are least 
sensitive to the tax, and lowest when individuals are most 
sensitive to tax rates.
    Following this rule will tend to minimize the harmful 
effects of taxation on work and the economy. Social Security's 
treatment of older workers is precisely the opposite of what 
economic theory recommends.
    Social Security pays the lowest reward to work to older 
workers who are near to retirement. These individuals, research 
indicates, are almost the most sensitive to tax rates because 
they have the easiest option to leave the workforce and retire.
    The conjunction of high effective tax rates on particularly 
tax-sensitive individuals leads to suboptimal outcomes for 
individuals and for the economy as a whole.
    Social Security's benefit formula is roughly actuarially 
fair for individuals who choose to delay claiming benefits. 
However, Social Security is not actuarially fair with regard to 
the extra taxes the individuals pay when they delay retirement 
and remain in the workforce.
    Most near-retirees who extend their work lives receive 
little or no additional benefits for any extra taxes they pay. 
There are three reasons for this.
    First, Social Security benefits are based upon an 
individual's highest 35 years of earnings. So an additional 
year of work is unlikely to boost benefits.
    Second, most female retirees receive a spousal benefit 
based upon their husband's earnings. So any additional taxes 
they pay rarely lead to higher benefits.
    Third, once individuals reach the full retirement age, they 
are ineligible for Social Security Disability Benefits but 
must, nevertheless, continue to pay the 1.8 percent Disability 
Payroll Tax.
    In a 2009 research paper with David Weaver and Gail Reznick 
of the Social Security Administration, I found that for each 
dollar of additional taxes a near-retiree pays into Social 
Security, he or she receives back only around 2.5 cents in 
extra lifetime benefits.
    Simply put, Social Security provides almost no incentive to 
keep working. This would not be of major policy importance if 
near-retirees were not so sensitive to tax rates.
    A middle-aged worker with a family to support may continue 
working even in the presence of high implicit tax rates. But 
once he or she reaches age 62, the option to retire becomes 
more attractive.
    Moreover, most retirees receive pension and Social Security 
benefits which can increase the marginal income tax rates they 
pay on earned income. Economic research finds that older 
Americans are significantly more sensitive to after-tax rewards 
to work than younger workers.
    I have proposed reducing or eliminating the Social Security 
Payroll Tax for older workers as an incentive to remain in the 
workforce. Doing so would lower Social Security tax revenues, 
but an increased labor supply from older workers would raise 
other revenues such as for federal income taxes, Medicare 
Payroll taxes, or state income taxes.
    Eliminating the Payroll Tax for workers over age 62 would 
reduce annual Social Security revenues by roughly 2.2 percent, 
or about $16.2 billion in terms of today's tax collections.
    Using parameters from research by Eric French of the 
Federal Reserve, eliminating the Payroll Tax at age 62 would 
increase overall labor supply by around 1.4 percent. A larger 
workforce would increase federal income and Medicare taxes by 
around $14.7 billion, with an additional increase of state 
income tax revenues of around $3.6 billion.
    In other words, eliminating the Payroll Tax rate on older 
workers would effectively pay for itself through additional tax 
revenues. While eliminating the Payroll Tax for older workers 
would come at little cost to the budget, the gains to 
individuals and the economy could be substantial.
    Simply working one additional year would boost average 
private pension income by almost 5 percent. This would reduce 
poverty in old age and contribute to overall retirement income 
security.
    Social Security's poor returns to older workers discourage 
delayed retirement which would strengthen the economy and it's 
the single best option available to many individuals who reach 
retirement age with insufficient savings.
    Policy options such as lowering the Payroll Tax rate on 
older workers could increase labor supply, boost the economy, 
and raise retirement incomes.
    Thank you, very much.
    [The prepared statement of Dr. Andrew G. Biggs appears in 
the Submissions for the Record on page 44.]
    Vice Chairman Brady. Thank you, Dr. Biggs. Dr. Johnson?

 STATEMENT OF DR. SIMON JOHNSON, RONALD A. KURTZ PROFESSOR OF 
  ENTREPRENEURSHIP, SLOAN SCHOOL OF MANAGEMENT, MASSACHUSETTS 
             INSTITUTE OF TECHNOLOGY, CAMBRIDGE, MA

    Dr. Johnson. Thank you very much.
    I would like to make three points:
    First of all, considerable damage has been doing to the 
balance sheet of the United States over the past decade and a 
half under a most unfortunate combination of circumstances. As 
a result, if we are to put ourselves onto a more sustainable 
and less fragile fiscal path, we need to restore revenue.
    By the end of the 1990s, there was a relatively robust 
revenue system in the United States. Since that time, we had 
large tax cuts in the beginning of the 2000s, two foreign wars, 
Medicare Part D, and most unfortunately the financial crisis.
    The Congressional Budget Office estimates that the net 
impact of the financial crisis on our debt relative to GDP over 
the cycle is to increase it by about 50 percent of GDP. Call 
that $7.5 trillion in today's money.
    This is the situation that we find ourselves in today. And 
I think that the parallel with the situation in the mid- to 
late 1980s under Ronald Reagan is apt. President Reagan 
recognized under those circumstances with pressure from--
perceived pressure from the bond market, and concern about the 
predominance of the United States and the role of the U.S. 
dollar, he and his Administration agreed with Congress on the 
need for strengthening revenue. And I think that is the moment 
which we find ourselves in today.
    Now with regard to where you should get the revenue and the 
effects of that, I agree with Professor Rogerson that we should 
look for natural or quasi-natural experiments. And I accept his 
caveats about how difficult it is to find this in any 
historical experience, including across the OECD.
    I would point out--and I have written at length, both in my 
testimony and in a recently published book on the effects of 
the Bush-era tax cuts--that the effects of those tax cuts, the 
reduction in higher marginal income tax rates, reduction in 
estate tax, and a number of other tax reductions, did not have 
major stimulative effects in terms of increasing labor supply, 
boosting productivity, or otherwise moving trend growth in the 
United States.
    It is not perfect evidence, to be sure. But if we are 
talking about realistic ways in which revenue might be raised 
in the near term, I think not extending the Bush-era tax cuts 
is absolutely going to be on your agenda. And I would encourage 
you to look at that seriously.
    That revenue is available. Going back to the revenue system 
of the late 1990s, again not a perfect system, no tax system is 
perfect, but that is an absolutely feasible and attainable 
political choice.
    The evidence--and we reviewed this evidence that was also 
compiled during the George W. Bush Administration--evidence 
that these tax cuts would pay for themselves, or stimulated, 
moved trend growth in the ways that, Mr. Brady, you outlined, 
we absolutely have to do in this country, that evidence is very 
limited.
    Now the third point I would make is with regard to the 
international context. I am the former--among other things--the 
former Chief Economist of the International Monetary Fund, and 
I would like to impress upon you the fragility of the European 
situation today.
    I think that it will be very dangerous for the world, 
including for our export markets, including for financial 
markets with which we are deeply interconnected, if we have any 
kind of fiscal crisis, or perceived fiscal crisis, in the 
United States.
    Refusing to raise revenue, or signalling that revenue is 
absolutely not on the table under any circumstances, can be 
read in a very negative manner by financial markets. These 
markets can turn against us very quickly.
    I would remind you that the impact of the controversy and 
debate over the debt ceiling last year, while it did not 
increase yields in the United States for government bonds, it 
did absolutely put pressure on weaker countries around the 
world, including in Europe.
    The last thing the Europeans need right now is further 
disruption to financial markets, and a more difficult 
environment for their government bonds.
    If the United States were to take steps in a reasonable 
compromise--and there are a range of compromises already on the 
table, and we propose other versions in our book--with some 
combination of raising revenue, including through high tax 
rates, and controlling future spending, that would send an 
enormous signal to world financial markets. The U.S. would be 
propelled back to its, until recently, unquestioned predominant 
role in the world economy. We would again become a bastion of 
financial stability.
    That would be a tremendous contribution towards European 
financial and fiscal stability. And I urge you to take 
seriously--consider seriously the policy that would lead us 
towards a more balanced approach to restoring revenue and 
underpinning fiscal stability and bringing the debt to GDP 
under control in the United States.
    Thank you very much.
    [The prepared statement of Dr. Simon Johnson appears in the 
Submissions for the Record on page 47.]
    Vice Chairman Brady. Thank you, Dr. Johnson.
    Can I ask my fellow members for a point of privilege here? 
I was remiss in not keeping with me the bios of our three 
distinguished witnesses today. I would like to briefly tell you 
about the people we just heard from because I think it is 
important.
    Dr. Richard Rogerson is a Professor of Economics and Public 
Affairs at Princeton University. He also serves as co-editor of 
The American Economic Journal Macro Economics and is Associate 
Editor of Review of Economic Dynamics. He previously served as 
co-editor of the American Economic Review and Associate Editor 
for the Journal of Monetary Economics. He is a Visiting Scholar 
at the American Enterprise Institute; a Research Associate at 
the National Bureau of Economic Research; and a Fellow of the 
Econometric Society.
    Dr. Rogerson, thanks for traveling to be with us today.
    Dr. Biggs is a Resident Scholar at the American Enterprise 
Institute here in Washington. His work at AEI focuses on Social 
Security reform, as is clear from his testimony; state and 
local government pensions, and comparisons of public and 
private sector compensation. Prior to joining AEI he was a 
Principal Deputy Commissioner of the Social Security 
Administration. In 2005 he worked on Social Security reform at 
the National Economic Council. In 2001 he was on the staff of 
the President's Commission to Strengthen Social Security.
    Dr. Biggs, thank you.
    Dr. Johnson, I would like to welcome as well. He is the 
Ronald A. Kurtz Professor of Entrepreneurship, Professor of 
Global Economics, and management of MIT's Sloan School of 
Management. He is also a Senior Fellow at the Peterson 
Institute for International Economics, a member of the 
Congressional Budget Office's Panel of Economic Advisers; and a 
member of the FDIC's Systemic Resolution Advisory Committee, 
among other honors.
    Dr. Johnson, thank you for being here.
    Let me get to the heart of the matter.
    [Pause.]
    Votes have been called. We will be brief. I thought all 
three testimonies were very interesting.
    Dr. Biggs, if more seniors read your analysis of the cost/
benefit analysis of working late in life and Congress does not 
take steps to reform, I think we have got a bigger challenge on 
our hands with Social Security than we do today.
    Dr. Rogerson, your point goes to the heart of does taxation 
on labor matter. Your point is that over the last 40 years, 
that labor taxes in America--or frankly, labor taxes among our 
OECD competitors, have risen at three times the rate of the 
United States.
    As a consequence, worker hours worked among those same 
competing countries, while ours have increased, on average our 
OECD competitors' hours have decreased. And it has a direct 
economic consequence as a result.
    You make the point that if the tax rate on labor is 
increased by 10 percentage points, hours of work will decrease 
by 12.1 percent.
    Another way to look at tax rates is to calculate the after-
tax return. My question is: If the tax rate is 25 percent, and 
the after-tax return is 75 percent, I asked my staff to 
recalculate your data on that basis. They concluded that a 10 
percent change in the after-tax return to labor would result in 
12.1 percent change in hours worked. Would that be consistent 
with your results?
    Dr. Rogerson. Yes, definitely. Those are two different ways 
to summarize the patterns that are in the data. So those two 
estimates are in fact consistent with each other.
    Vice Chairman Brady. And the net result is if you raise 
taxes on labor you get less of it and fewer jobs as a 
consequence?
    Dr. Rogerson. Yes. With the caveat that the--it depends 
what the revenues are being used for----
    Vice Chairman Brady. Sure.
    Dr. Rogerson [continuing]. And across countries the 
revenues are being used either for transfer payments, or 
provision of services in kind. So that is implicit in those 
estimates.
    Vice Chairman Brady. Sure. Right. Thank you. I wanted to be 
brief because of the vote.
    Senator Bingaman.
    Senator Bingaman. Since there is a vote on the House side, 
maybe you would want some of the House Members to go ahead with 
their questions, because we do not have a vote and I can stay 
when you folks have to go vote.
    Vice Chairman Brady. Great. Thank you, Senator.
    Dr. Burgess.
    Representative Burgess. Yes, we have noticed they do not 
vote often in the Senate.
    [Laughter.]
    Sorry. I couldn't resist.
    Let me just ask a question because it is the point of some 
discussion. The Speaker gave a speech yesterday at the Peterson 
Foundation and talked about the fact that we all knew December 
of this year was likely to be a pretty dreadful month, and it 
is his opinion that we ought to move things out of the so-
called lame duck session and tackle those problems during the 
time that we have left, between now and the election. And I 
agree with him.
    I may not agree with everything that he outlined, and I 
rather suspect our panelists do not agree with everything that 
he outlined, but fundamentally do you think that is a more 
coherent approach to the problems that face this country? What 
with the expiration of existing tax policy, the Bush-Obama tax 
cuts, the possibility of facing yet another debt-limit crisis 
toward the end of the year, should we move this forward and get 
it done during the summer, or during the early fall? And I 
would appreciate an answer from each of you.
    Yes, Dr. Rogerson, we will start with you and then move 
down.
    Dr. Rogerson. Okay. I mean, my view on that issue is I 
believe uncertainty is bad for the economy. And so when there 
are important decisions to be made, rather than let them sit 
and people be worried about what may happen, I think it is 
important to take action. So from that perspective, taking 
action sooner so that individuals and businesses can understand 
what they're going to be working with moving forward, I think 
that makes good sense.
    Representative Burgess. Right. It is not like these things 
are not going to happen.
    Dr. Biggs.
    Dr. Biggs. I agree with Professor Rogerson regarding 
uncertainty. I think I would just add that I am not an expert 
on the political process, but it strikes me that the longer 
people from both parties have time to consider the sorts of 
choices and the sorts of compromises they might have to make, 
the more likely it is an agreement can be come upon.
    So beginning today, and talking as much as you can today, I 
think is more likely to produce a good outcome than pushing it 
all to December and then trying to rush it through at the end.
    Representative Burgess. Well that is typically what we have 
done.
    Dr. Johnson.
    Dr. Johnson. I think it depends on what sort of deal you 
think you could come up with in the interim, Dr. Burgess. If 
revenue is on the table. If you have a balanced approach to 
bringing the debt under control, this would amazingly shock and 
impress world financial markets. And you would substantially 
remove the risk of a fiscal crisis in this country for the 
foreseeable future.
    But if revenue is completely off the table, if this kind of 
debate would just reaffirm that, that one part of the political 
spectrum will not compromise or change its view with regard to 
tax rates and bolstering revenue, then I fear that the 
financial markets may take that adversely. So you would resolve 
the uncertainty, to be sure, but resolve it in a negative 
direction with regard to medium-term fiscal sustainability.
    Representative Burgess. Let me just ask you a question, Dr. 
Johnson. In your testimony you said that the expiration of 
existing tax policy would be desirable.
    Now when the President talks about it, he talks about 
preserving existing tax policy for people who earn under 
$250,000 a year for a couple. Is it your view that the entire 
existing tax policy from 2001d 2003 needs to go away?
    Dr. Johnson. Yes. What exactly our view is is that the so-
called Bush-era tax cuts--perhaps we should call them the Bush-
Obama tax cuts now--should not be extended. And if you feel 
that the effect, short-term effect on the economy would be too 
dramatic, I would propose that you replace that with a 
temporary payroll tax linked to employment relative to total 
population.
    So as employment recovers, the payroll tax would fade away. 
That is a way to offset the anti--if you want to be Keynesian 
about it, and I do not particularly urge a Keynesian 
perspective here, but if you want to take a Keynesian 
perspective then you could replace the effects of those 
expiring tax cuts with the temporary payroll tax cut linked to 
a rule.
    Representative Burgess. Well suffice it to say we are not 
going to come to a conclusion today, but I appreciate all of 
your views on that. And this is something that again I am glad 
the Speaker brought it up because we do need to face it. 
Although it may be politically unpalatable to do so before 
election day, it needs to happen.
    I will yield back, Mr. Chairman.
    Vice Chairman Brady. Thank you, Dr. Burgess.
    Mr. Mulvaney.
    [No response.]
    Mr. Duffy.
    Representative Duffy. Thank you. I want to be clear, Mr. 
Johnson, as well. When we--we talk about allowing the Bush tax 
cuts to expire, how much revenue would that bring in in the 
first or second year of that expiration?
    Dr. Johnson. Well the usual time frame for the numbers used 
are $4 trillion over 10 years. And roughly speaking, you would 
expect that to be evenly spread over the 10-year period. So 
that is a substantial amount of revenue.
    But the key thing, and the contrast that I would emphasize 
between our situation and let's say the European situation, is 
that we do not need to make a precipate, immediate fiscal 
adjustment. We have time to get our debt onto a more 
sustainable path.
    I recommend bringing debt down to 40, 50 percent of GDP. 
And as a result, taking that revenue more gradually through 
some sort of offsetting temporary tax cut could also be 
considered to be entirely reasonable fiscal policy. The point 
is to change the medium-term forecasted future.
    Representative Duffy. So roughly, you're saying, about $400 
billion a year, is that right, would come in in revenue for 
these increased tax rates?
    Dr. Johnson. That is the standard CBO calculation.
    Representative Duffy. And the rest would come from tax 
cuts? I'm sorry, spending cuts? You're proposing spending cuts 
as well, right?
    Dr. Johnson. We are proposing to limit future increases in 
spending and, at least in our framework you do that over a two-
decade horizon. So you can phase in some of those spending 
cuts. You can also begin to limit tax expenditures.
    Representative Duffy. Is that Medicare reform? Social 
Security reform? Is it the military? What do you guys look at?
    Dr. Johnson. All of the above.
    Representative Duffy. Okay. And in your analysis, when we 
allow tax rates to increase there is an offsetting impact on 
the economy? Isn't that right? The economy does not grow more 
with tax increases? It would probably grow less? Is that right?
    Dr. Johnson. Presumably--look, nobody likes high taxes, and 
higher taxes must have some distortive effect. But the question 
is: How much effect do they have?
    This is not a high-tax country. These are not--we are not--
our experience with these tax rates is not consistent with the 
view that they have caused a major slowdown.
    Representative Duffy. But you would agree that if you raise 
taxes, that that will have a slowing effect on the economy? It 
does not grow the economy more? It would grow it less? 
Increased taxes, yes?
    Dr. Johnson. Well actually in the standard CBO framework, 
the question is: What is the medium-term picture for the 
deficit?
    So if you are cutting taxes and have a larger deficit as a 
result, that in the CBO framework will actually slow growth 
because you are crowding out private investment as you issue 
more government debt.
    Representative Duffy. Is your testimony, then, that if we 
raise taxes we will increase American growth?
    Dr. Johnson. My testimony is that what you need--as the 
Chairman said at the beginning--is a sustainable fiscal future 
consistent with economic growth. And in order to do that, you 
should constrain, for sure, future spending; and strengthen 
revenue in part by increasing tax rates.
    Representative Duffy. And isn't the best way to strengthen 
revenue to the federal coffers a growing economy? I mean, 
doesn't a growing economy have a far better impact on revenues 
to the federal coffers, as opposed to tax increases?
    I mean, if you look at correlations in American history 
with regard to growing economies and tax increases, don't you 
have a better correlation with growing economies which mean 
more people are working, more people are making more money, 
which means more people are paying taxes? As opposed to raising 
tax rates?
    There is not that correlation, is there?
    Dr. Johnson. Of course we want to have economic growth. But 
as the Europeans have discovered, if you run persistent 
deficits and you refuse to fund the government on a responsible 
basis, you get a fiscal crisis. Bond yields go up. Private 
credit contracts. That is the worst possible thing to do for 
economic growth.
    Representative Duffy. And I would say that we are in a 
global economy. I think it has changed over the course of the 
last 10 or 12 years. There is far more competition from India, 
China, Mexico, Vietnam, Brazil, Canada. And I guess I would 
look at it like this:
    You know big box retailers, right? Wal-Mart, Target, Kmart? 
If you were to advise Kmart today, you say: Kmart has to bring 
a little more revenue to keep their stores open. Your advice to 
Kmart would be to bring in more revenue, you would have to 
raise the price of the goods that you are selling by 2 percent, 
5 percent. And if you raise your prices of the goods sold, that 
will bring in more revenue.
    But everyone here knows that if Kmart raises its prices, 
right, you will see shoppers go to Wal-Mart and Target. If we 
raise the price of doing business in America, doesn't that also 
drive business elsewhere in the world from American shores to 
China, India, Mexico, other parts of the world that are more 
competitive?
    Dr. Johnson. Congressman, we certainly have to worry about 
competitors. You are absolutely right. It is a globalized 
world, and globalized financial markets. If the financial 
markets decide that you do not have a responsible fiscal 
policy, if they are concerned about the sustainability of your 
debt, that is the worst shock of all. That is where the 
Europeans are.
    These are rich, proud countries. These are our competitors 
in Europe who have inflicted upon themselves an awful fiscal 
disaster that absolutely is going to undermine growth for the 
foreseeable future. We do not want to go there, and we do not 
need to.
    Representative Duffy. And I would agree with that. But I do 
not think we get there by raising--I mean, I think we have done 
a study here where you could raise your top tax rates on the 
two top brackets to 100 percent and you still could not balance 
your budget.
    So we think we have to grow our economy, number one, and 
reduce our spending. And my time is up and I yield back.
    Vice Chairman Brady. Thank you, sir.
    The House Members will be going back to the Chamber to 
vote, and I will yield to Senator Bingaman for questioning.
    Thanks.
    Senator Bingaman [presiding]. Thank you very much.
    I am advised that I should ask my questions, and then we 
will put the hearing in recess until the Vice Chairman Brady 
can return. And he will be back in just a few minutes, as soon 
as they vote in the House.
    Let me ask a couple of questions that have occurred to me, 
just hearing the discussion here. If the concern is to have a 
robust, growing economy, raising taxes can interfere with that; 
cutting spending can, as well. The proposed spending cuts would 
also drag down our economic growth, as I understand it.
    Are those two roughly comparable in the effect? In other 
words, do policies that raise additional revenue through tax 
increases and policies that cut spending have a comparable 
effect on the growth rate of the economy?
    Dr. Johnson, I would ask you first.
    Dr. Johnson. Yes, Senator, in the short term they are 
roughly comparable. If you consider what the European 
discussion is right now about austerity, in some European cases 
they are cutting spending. In other European cases, they are 
raising taxes.
    If you do either one of those in a forced, precipitant 
manner, that will, generally speaking, have a contraction 
effect on the economy, depending on what else is going on.
    Over the medium term, the task of the United States is to 
control spending, control it as a percent of GDP; not to cut it 
dramatically in a way that would damage the economy. Control 
spending and make sure that it is funded more completely with 
revenue.
    We have relied a lot on issuing debt in the past decade-
and-a-half. Half of our national debt is now owned by 
foreigners. That is not a sustainable situation. Sooner or 
later the Asian economies and oil-producing economies will save 
less and/or there will be competing currencies in which people 
can put these investments when they want to invest 
internationally.
    We should have a more sustainable funding basis for the 
activities of the Federal Government, including the social 
insurance programs--Social Security, Medicare, other forms of 
health care funded through the government in the form of 
insurance for people who cannot afford health care otherwise. 
That has to be funded on a sustainable, realistic, and 
reasonable basis.
    Senator Bingaman. Let me ask about payroll tax cuts. The 
conventional wisdom here in Washington is we are not going to 
extend the payroll tax cut at the end of this year, when it is 
due to expire. The President's budget does not propose to 
extend this tax cut beyond 2012, and Members of Congress have 
given speeches saying the payroll tax should go back to where 
it was, 6.2 percent on the employee, 6.2 percent on the 
employer. It still is 6.2 percent on the employer right now. 
But they are saying at the end of this year, we should go back 
to that level of taxation on employees.
    The debate is now about what do we do about the income tax 
cuts--the so-called Bush tax cuts or as some have called them 
today the Bush-Obama tax cuts since they were extended a couple 
of years under President Obama.
    My impression is that if you want to maximize employment in 
a society, you would try to find a way to keep the payroll tax 
as low as possible, and you would get your revenue from 
somewhere else on an ongoing basis.
    I know that the argument is made now that we've got to go 
back to the previous level of the payroll tax in order to fund 
the Social Security Trust Fund, but there are bound to be 
alternative ways to put funds into the Social Security Trust 
Fund if the economy would benefit substantially from keeping 
the payroll tax low on the workers themselves.
    Dr. Rogerson, do you have some thoughts about whether it 
makes sense for us to contemplate some way to keep the payroll 
tax from going back to where it was?
    Dr. Rogerson. The main comment I would make is that in a--
there are issues about what happens in the immediate aftermath 
of the change in terms of how long it takes various prices and 
such to adjust from a long-run perspective, conditioned upon 
talking about raising money from taxing labor whether it is 
labor income tax, the establishment part of the payroll tax, or 
the worker side of the payroll tax, to first approximation I 
view all of those as the same.
    Senator Bingaman. So with regard to the long-run effect on 
the economy, it does not matter whether we get the revenue from 
letting the payroll tax go back to where it was, or get the 
revenue from increasing the income tax?
    Dr. Rogerson. Yes. As I say, the first approximation there 
are--if we go into additional level of details, there are some 
distributional consequences because of the structure. So there 
are issues about if you are just increasing the payroll tax in 
its current form, of course it is capped at a certain income.
    If you are talking about changing the income tax on labor, 
there is the question about how you do that across the income 
spectrum. But assuming you are sharing the burden of that 
taxation equally in the two systems, whether it comes from 
payroll or taxing income from labor I say is neutral.
    Senator Bingaman. Yes, Dr. Johnson.
    Dr. Johnson. Well, Senator, as you know, the original 
presentation of Social Security under President Roosevelt was 
very much as a social insurance program; that you are paying in 
and you are getting it out. We are insuring you against 
outliving your other assets and your family's ability to 
survive you.
    And I think that that motivation and explanation for Social 
Security is very important to keep in place. Social Security is 
mildly regressive on the taxation side because we do not tax 
all of your income, or even all of your labor income. I should 
think the cap should be lifted, or indexed more appropriately, 
but not removed completely.
    And it is a somewhat progressive policy on the receipt of 
Social Security. So it is a mildly progressive, but not 
massively progressive, or redistributive policy. And I do not 
think you should shift the burden of financing that away from 
the payroll tax onto income tax, where income taxes, as you 
know, are paid more by middle income and higher income 
Americans.
    I think people value the fact that they are paying into the 
system, and they get out a form of social insurance both for 
Social Security and for Medicare. Medicare is the same 
motivation. We are insuring you against ill health when you are 
in your 70s, 80s, and 90s, because there has never been private 
insurance that will cover you for those risks, and there never 
will be, irrespective of what you try and do to the health care 
system. Those are uninsurable risks from a private perspective. 
Therefore, you have a social insurance program which you fund 
appropriately.
    Senator Bingaman. Let me ask both Dr. Rogerson and Dr. 
Johnson to give me their reaction to the proposal that Dr. 
Biggs has made. As I understand it here, it is essentially 
saying that the payroll tax should not apply to a person when 
they reach the age of 62 and are then eligible for Social 
Security. He sees benefits in keeping people in the workforce, 
allowing them to build up additional pension, value if we 
provide that incentive. He says the current system of payroll 
tax, as I understand it--and correct me if I am misstating your 
position, Dr. Biggs--but as I understand what your point is, 
that the current payroll tax is a disincentive for folks who 
stay in the workforce once they are 62 years old? Is that 
accurate?
    Dr. Biggs. That's correct. For younger individuals, the 
payroll tax shouldn't be a significant disincentive because 
they're aware that they are earning benefits that compensate 
for the taxes they are paying.
    For people who are near retirement, on average they earn 
almost no additional benefits. So the Social Security Payroll 
Tax would be what you would call a ``pure tax.'' It is money 
they pay that they are never going to get back. When you have 
the option of retiring, that makes retiring seem more 
attractive relative to working.
    Senator Bingaman. And your proposal is that at age 62 they 
would no longer be required to pay the worker's portion of the 
payroll tax? Is that what you are suggesting?
    Dr. Biggs. To make the system actuarially fair for 
individuals in that age range, you would have to eliminate both 
the employee and the employer side of the tax, the full 12.4 
percent.
    Senator Bingaman. I see. So what is your reaction to that 
kind of proposal, Dr. Rogerson?
    Dr. Rogerson. I guess the most general comment I would make 
is that, as Dr. Biggs has testified, the details of benefit 
programs such as he is talking about I think are very 
important. They can have very large incentive effects.
    Just to draw on some cross-country evidence, the U.S. 
system of paying out is quite different than what exists in 
some other countries. In some countries, for an individual to 
receive their social security they actually have to stop 
working at their existing job.
    A system such as that creates a huge incentive for 
individuals to stop working at a point where the benefits that 
are eligible to them have been maxed out and may well be as 
large as the income they get from their job. There is simply no 
benefit to working.
    So I think those types of institutional details exist in 
other countries. What Dr. Biggs has talked about is that type 
of detail. It is a little bit of a smaller scale in the context 
of the U.S. system, but I agree with the idea that we need to 
be very careful about the incentives for work as they apply to 
workers in those situations.
    Senator Bingaman. Dr. Johnson, did you have a point of view 
on Dr. Biggs's proposal?
    Dr. Johnson. Well I agree that we should encourage people 
to work longer. And one of our proposals is, in the context of 
strengthening Social Security and raising revenue to support 
it, we should also index the age at which you can receive a 
full pension to life expectancy.
    Americans who are 65 today should expect to live 3 years 
longer--this is on average--3 years longer than Americans who 
were 65 in 1970. So, roughly speaking, Americans could retire 
one year--under our proposal, retire one year later every 
generation, one year later than your parents retired.
    Senator Bingaman. So you are saying that that indexing 
should occur with regard to Social Security benefits?
    Dr. Johnson. With regard to the age at which you could 
receive a full pension, not the age at which you can begin to 
receive a pension which would remain at 62.
    Now on Dr. Biggs's proposal, which I think is interesting, 
I need to study it further. I think I would have some questions 
about the behavioral basis on which people make this decision 
of whether to continue working when they are older.
    Certainly some older Americans take the view that they are, 
through the additional income they are earning from their job, 
that they are helping to protect themselves against let's say a 
tail outcome of living a very long time. And there are many 
Americans who want to continue to work until the age at which 
they can absolutely get the maximum benefit.
    So I think there is one issue of what is actuarially fair. 
There's another issue of the basis on which Americans, older 
Americans, make those decisions. And I think we should look at 
that.
    We have had great success in extending life expectancy. We 
need to avoid becoming a society in which people retire younger 
and younger. That is one of the mistakes that has been made in 
Europe. We have not gone that route. I think we need to push 
gently in the other direction at the same time as raising the 
payroll tax over the medium term in order to help rebalance the 
Social Security Trust Fund.
    Senator Bingaman. Let me ask Dr. Johnson, just so I clearly 
understand what you suggest in your testimony. Your suggestion 
is: Allow the Bush tax cuts to expire at the end of the year, 
as they are scheduled to, and in order to be sure that you do 
not have too adverse an effect on the economy, we should have 
some kind of a reduction in the payroll tax that would be 
linked to employment, and the total population? Maybe you could 
just explain how that, how the two would interact, and what the 
trigger would be for getting the payroll tax back to where it 
is today, or where it is scheduled to be?
    Dr. Johnson. Certainly, Senator. And this proposal, I 
should say, has also been made by Peter Orszag, who was the 
former Budget Director in the Obama Administration and a former 
head of the Congressional Budget Office. The idea is that the 
payroll tax would be--you would cut the payroll tax, and you 
would phase it back in based on employment relative to total 
population.
    You don't want to do it----
    Senator Bingaman. Cut it from what it is today? Or from 
what it will become on the first of January if we do not change 
the law?
    Dr. Johnson. Well from what it is today. If you want to 
have a stimulative effect relative to what it--that should be 
taken as the appropriate baseline. But you want to restore it, 
eventually, to the rate at which it was before, or we are 
actually suggesting that the payroll tax rates should gradually 
over a period of decades actually increase as a way to 
rebalance the Social Security Trust Fund.
    And the key point is, Senator, not to link this to 
unemployment because the number of people who are unemployed 
depends on how the labor market is. People get discouraged. 
They drop out of the labor force. And that reduces 
unemployment. What you really want is to get people back to 
work. You want to restore employment back to where it was 
preferably before the financial crisis of 2008.
    So the temporary payroll tax cut would be phased out as 
employment rises relative to the total population. There would 
be a formula, a rule that you would set in law, and then you 
would hope that subsequent Congresses did not overturn that 
rule. And if people believe you are not going to overturn it, 
then you have a credible path towards medium-term fiscal 
sustainability at the same time as you preserve what people may 
feel is a stimulative effect of the tax cuts.
    Senator Bingaman. Dr. Rogerson, did you have a point of 
view as to what the Congress ought to do at the end of the year 
on the Bush tax cuts, on the payroll tax change? Or any of the 
other crises that we are expected to confront here at the end 
of the year?
    Dr. Rogerson. I have a very boring answer to that. I do not 
have a strong view on those particular things, piecemeal. I 
think what is critical is to have a long-range, coherent view 
of what programs are going to be supported and how they are 
going to be financed.
    And to talk piece by piece about each one individually I 
think is actually counterproductive, and in some ways it is 
hard--ultimately, we need to talk about the package of things 
that the government is going to do and how they are going to be 
financed. And you can't parcel out the effects of things one by 
one without knowing what is going to be adjusted to compensate.
    So that is my boring answer.
    Senator Bingaman. Dr. Biggs, did you have a point of view?
    Dr. Biggs. Well I agree with Professor Rogerson's view that 
you want to think in terms of package deals, in the sense that 
we have to think of what we want government to do for us and 
what we are willing to pay for it.
    With regard to the Bush tax cuts, though, I think it is 
worth pointing out, there is a perception that the Bush tax 
cuts have starved the Federal Government of revenue. And if you 
look historically, if you look at CBO's projections going 
forward, I think that is just really not the case.
    I mean, historically the Federal Government has collected 
total revenues equal to somewhere around 18 percent of GDP. I 
don't have the precise figures in my head, but that is about 
right.
    If you look at CBO's projections of federal revenues going 
forward relative to GDP, if you retain the Bush tax cuts they 
rise to record levels relative to GDP. They are around 20 
percent of GDP on average.
    So certainly retaining the Bush tax cuts means less tax 
revenues than getting rid of the Bush tax cuts. Does it mean 
less revenues than we have lived with in the past? The answer 
to that is: Clearly, no. We will have as much revenue relative 
to the size of the economy as we have in the past.
    And so the question we have to say is: Is that enough? Or 
do we need more? But my main point is the idea that we are 
being starved of revenue, pushed below historical levels by the 
Bush tax cuts, I think is not correct.
    Senator Bingaman. Dr. Johnson.
    Dr. Johnson. Well the--just to Dr. Biggs's point, the 
nature of society has changed fundamentally. It is an aging 
society, and the major activities of the Federal Government, if 
we are looking out over a period of decades, is maintaining and 
running the social insurance programs, which as we discussed 
involve individuals paying in when they are young and receiving 
benefits, both pension and health care, when they are older.
    So if you cap artificially spending levels at 18 percent, 
or some other number, then you are squeezing the ability of the 
people themselves to participate in the social insurance 
programs run by the government. And I am not sure why you would 
want to do that.
    We should be ensuring that older Americans can have a 
reasonable retirement with decent health. This is a great 
achievement, one of the greatest achievements of this country. 
I do not see why we want to undermine that.
    Senator Bingaman. Well I have heard people refer to the 
Federal Government as a big insurance policy with an army. And 
maybe that is what we are headed toward here.
    I think it has been useful. Thank you all for being here 
and testifying. As I indicated before, Mr. Brady had asked that 
you please stay around for a few minutes, if you would, until 
he can return and ask a few more questions.
    Thank you. We will go into recess here for a few minutes.
    [A brief recess is taken.]
    Vice Chair Brady [presiding]. Good afternoon, everyone. 
Thanks for understanding the delay as we finished our House 
votes. And we will have I think some of our Members returning 
for questioning, as well.
    I have a question for each of you.
    Dr. Rogerson, I believe you are familiar with the 2010 CRS 
Report that referred to the study you co-authored in 2006 
published by the Federal Reserve Bank of Kansas City. Do you 
think the CRS Report correctly stated the findings of your 
study?
    Dr. Rogerson. Absolutely not. The quote that I read in it 
was basically the complete opposite of what we claimed our 
findings were.
    Vice Chairman Brady. Yes, that was my understanding. In 
fact, when we asked CRS about this at our last hearing, they 
admitted their report was in error. They then proceeded to give 
us another description of your study. You may be familiar with 
it. Do you agree with their latest description?
    Dr. Rogerson. I do not. I have read their report and 
personally find it quite puzzling to try and make sense of the 
arguments being made in relation to what we have done. In 
particular, our study and the testimony I presented today are 
very clear about the important role of how tax revenues are 
used. To return to the language of kind of intermediate micro, 
there's income and substitution effects. If you tax somebody, 
there's an income and a substitution effect. When you give it 
back as a transfer, that undoes the income effect. You are left 
with a substitution effect. That is critical to the results, 
and they do not seem to appreciate that.
    Vice Chairman Brady. Well be aware, I think CRS ought to be 
accurate, especially in describing other studies. So we are 
going to be asking for a correction, or at least an 
acknowledgement that in future papers that your study is 
described accurately.
    People read these. They count on them. It matters. So thank 
you, Doctor.
    Dr. Rogerson. Thank you.
    Vice Chairman Brady. Dr. Biggs, in your testimony you said 
Social Security payroll taxes cannot be viewed in isolation. A 
key point. Benefits also have to be considered. On a lifetime 
basis, you say benefits are equal to 78 percent of the taxes 
paid by a typical couple. But for those nearest retirement, 
additional benefits are equal to only about 2.5 percent of the 
additional taxes paid.
    Do you think there is any evidence that workers are aware 
of that significant disparity?
    Dr. Biggs. Well, there's been some work done looking at how 
well individuals understand the Social Security rules. And they 
understand them a little bit better than my gut would tell me 
would be the case, because the Social Security Benefit formula 
was extremely complicated. And so no one can understand that in 
full.
    The general incentives though, I think they do understand. 
And when I was at Social Security, I would occasionally talk to 
people. And they would ask you: What am I going to get if I 
continue working? And the answer I would have to give them is: 
Well, pretty much nothing. I mean, your benefit will be 
increased to account for the fact that you are delaying 
claiming, but the taxes you pay between today and the eventual 
date of retirement, very few people are going to get very much 
of that back.
    Vice Chairman Brady. You think overall they understand it 
in a general sense?
    Dr. Biggs. I think they do, yes. And their behavior 
reflects that.
    Vice Chairman Brady. As opposed to--explain that a little 
further, ``and their behavior reflects that''?
    Dr. Biggs. Well, I mean if you go back to the 1950s, the 
typical person claimed Social Security benefits around 68. 
Today they claim them earlier. And there's been changes in the 
benefit rules, which I think would help push that. But I think 
there's just kind of a gut feeling of, you know, what am I 
getting out of this?
    And when people are younger, younger folks in particular 
don't think they're getting very much out of Social Security 
but they don't have much choice. You know, if you want to eat, 
you have to work. And so they are going to try to work 
regardless.
    When somebody is in a situation where they can retire, 
though, if they do not feel the system is paying them back in 
exchange for what they are paying into it, they are going to 
take that option to retire.
    One point I would make, in thinking about our budget 
solutions going forward, is that raising the Social Security 
payroll tax rate could exacerbate this in the sense that if you 
raise Social Security taxes people's after-tax earnings are 
going to be lower. And for near-retirees, the Social Security 
benefit they could get is going to look more attractive 
relative to what they could get by working.
    So by doing that, we could push more people into 
retirement. So there are going to be difficult choices involved 
with Social Security reform, but we have an aging population. 
If there are things we can do to keep people on the job and 
keep them working, that is good for the economy. It is good for 
the federal budget. And most of all, it is good for the people 
who do it.
    Vice Chairman Brady. Well can I, to follow up on that, in 
your testimony you suggest one way to increase employment would 
be to eliminate the payroll tax for older workers. The obvious 
objection, which you identified as well, is a potential loss of 
revenue.
    Other people have suggested that we raise the retirement 
age. The obvious objection there is most people want to retire 
sooner rather than later, even though they are living longer.
    So what about both? In your view, what would be the offset 
of linking your payroll tax elimination to an increase in the 
age of eligibility?
    Dr. Biggs. Well you could do transfers from the rest of the 
budget back to Social Security. In my testimony, I point out 
that the increases in federal income taxes, federal medicare 
taxes, and state income taxes, would roughly compensate for the 
reduction in Social Security revenues.
    So you could simply make transfers from the rest of the 
budget back to Social Security. Alternately, you could----
    Vice Chairman Brady. So the offset is obviously not within 
the mandatory side of it, but it's in the general revenue?
    Dr. Biggs. That's correct.
    Vice Chairman Brady. From the economic growth.
    Dr. Biggs. So Social Security, by cutting the payroll tax 
rate, will lose revenue. The question is how much other revenue 
do you gain? Do you want to compensate Social Security back for 
it? I would tend to think you would.
    Things like raising the retirement age, those will also 
encourage people to work longer. There is evidence that as the 
retirement age has shifted from 65 to 66, more people have 
targeted that age 66 retirement age.
    So I believe in sending a whole range of signals to people 
that says, you know, you need to work longer but we want you to 
work longer. Raising the retirement age is sort of the stick of 
saying if you do not work longer you are going to get a lower 
benefit. Cutting the payroll tax rate is the carrot. It says to 
individuals, and it also says to employers, you know, we want 
you to work. we want to make it worthwhile for you to do this.
    Vice Chairman Brady. Do you think--I serve on the Social 
Security Panel over in the Ways and Means Committee--you know, 
the number of people choosing to retire at 62 is pretty 
striking. When you talk with them, the first answer that comes 
out is that, I don't know about the finances of Social Security 
in the future; I'm frankly going to access my benefits now 
while I can.
    Do you think that is a part of the thinking, rational 
expectations of a worker at that age?
    Dr. Biggs. I think it's actually irrational expectations. I 
think that many people are thinking that. They say, I'm going 
to get it while I can get it.
    Vice Chairman Brady. Yes.
    Dr. Biggs. The political reality is, the chance of cutting 
benefits significantly for current retirees, or near-retirees, 
is pretty small. The only way you could really do that is by 
cutting cost-of-living adjustments, and retiring earlier is not 
going to fix that.
    So I think that is something where workers are scared, and 
they are retiring early when they really should not do that. So 
I think by getting Social Security reform on the table, and 
really discussing it, yes, it raises some tough choices that 
people do not want to think about, but it can also reassure 
people who are near retirement that we are not going to pull 
the rug out from underneath you.
    Vice Chairman Brady. Thank you, Dr. Biggs. Before I turn 
the questioning over to Mr. Mulvaney, Dr. Johnson, this is a 
little bit off-topic but since we have got you here I would 
like to ask you a question about a topic you have written a 
great deal about: Too big to fail.
    Do you believe that Dodd-Frank has helped protect our 
economy from systemic risk? Or simply made the problem perhaps 
even bigger and potentially more problematic?
    Dr. Johnson. Some parts of the Dodd-Frank Financial Reform 
legislation are steps in the right direction. I would point 
particularly to Title II, the resolution authority which is 
being designed by the FDIC.
    I have worked with them on this, and I have helped with 
some of their outreach efforts. It is a tough technical 
problem, particularly dealing with cross-border issues for the 
global megabanks as currently structured, and there are a lot 
of political issues that would need to be overcome if you were 
actually to manage the orderly liquidation of one of these 
colossal banks like a JPMorgan Chase or a Bank or America-
Citigroup, and so on.
    I do think we need to support the FDIC in this effort. I 
think it is very helpful to have Congress reaffirm the need for 
an orderly resolution mechanism. Relying purely on bankruptcy 
to handle these kinds of failures is not a good idea. That was 
the big lesson from the collapse of Lehman in the fall of 2008.
    I would also urge you to consider proposals that are now 
resurfacing with regard to reintroducing some version of Glass-
Steagall. For example, Tom Hoenig, who as you know is now the 
number two person at the FDIC, is absolutely I think on target 
when he says large commercial banks of the kind that are 
essential to the functioning of this economy should not be 
allowed to have trading desks. They should not be allowed in 
any way to engage in speculative, high-risk activities.
    That part of banking should become boring. I think Mr. 
Hoenig is exactly on target. I work in part with Sheila Bair on 
some of these issues. I think she is exactly on target with 
regard to having much more equity capital throughout the 
financial system, particularly in these global megabanks.
    So all of this suggests we should move further. I hope we 
can move further on a bipartisan basis. I certainly hear plenty 
of Republicans as well as Democrats saying they are very 
worried about our existing financial structures. You should be 
worried. We should all be worried, particularly given the 
situation in Europe, the weakness of their big banks, and the 
connections through these black box of derivatives in 
particular to our very big banks that can absolutely damage our 
economy again.
    Making the banks small enough and simple enough to fail, so 
that we can then use bankruptcy for them, is absolutely the 
right goal to have as you consider future legislation on this 
issue.
    Vice Chairman Brady. All right. Thank you, Dr. Johnson.
    Mr. Mulvaney.
    Representative Mulvaney. Thank you, Mr. Chairman.
    Mr. Johnson, just a couple of things. There are obviously a 
lot of different topics we could go over today, but I want to 
go over a couple of small pieces of your testimony. And 
specifically you advocate for strengthening the revenue base of 
the Federal Government, returning closer to the tax rates of 
the late '90s. This is in conjunction with the writing you have 
done regarding the expiration of the Bush-Obama tax cuts.
    I think you are right, by the way, to call them the Bush-
Obama tax cuts. Not a lot of folks in this town do that, but 
you are absolutely right in that they were approved by this 
President in a Congress controlled by his Party at the end of 
2010. So I applaud at least the candor on that front.
    But the testimony you've got has a sentence that struck me, 
which is that: ``We need to strengthen the revenue base of the 
Federal Government'' and then--``returning closer to the tax 
rates from the 1990s.''
    Now it strikes me those two things are not exactly the same 
things are they? The base is the size of the economy, or the 
number of people who are paying into the system. And the rates 
are what those people pay, or what you charge against that side 
of the economy? Is that right? The base and the tax rate are 
really not the same thing, are they?
    Dr. Johnson. You are absolutely right. The base is the 
taxable base, that part of the economy which you feel you can 
tax. And the rates are what you are applying against that base.
    Representative Mulvaney. And you put that together and that 
is where you get your revenue. So let's talk about the base. 
Because one of the things we have talked about in this 
committee in the past is the size of the base. And you are 
advocating for a return of the Bush-era, the Bush-Obama tax 
cuts. Do you believe that will broaden the base?
    Dr. Johnson. Well just increasing the rates in any tax 
system doesn't address the base issue. We also propose to 
eliminate or phase out a lot of so-called tax expenditures 
which, as you know, are both on the individual tax side and on 
the corporate tax side, are part of what narrows the base.
    And when people talk about tax reform, they talk about 
doing both. We are in favor of tax reform, but we would rather 
have tax reform that raised revenue rather than being revenue 
neutral or in the context of revenue cutting. So that is the 
difference, pure and simple.
    Representative Mulvaney. And that is something we all agree 
on, in terms of ending the tax expenditures in an effort to 
broaden the base. One of the things we hear regularly, 
gentlemen, is that roughly half the folks do not pay the income 
tax. And that as a result, they do not pay for the operation of 
government. They may pay the payroll tax, which pays for their 
specific benefits, most notably Social Security and Medicare, 
but they do not actually pay for the running of the government.
    So I will ask you, Dr. Johnson, a question I have asked a 
couple of other people. Which is: Do you think that everybody 
should help pay for defense?
    Dr. Johnson. Absolutely, Congressman. And I believe that 
everybody does. Now you are right, of course, that payroll tax 
is notionally marked as going to Social Security and going to 
Medicare. Those are of course very big government programs. 
Twenty percent of government spending is on Social Security, 15 
percent and rising is on Medicare. But people across the income 
spectrum pay lots of other taxes at the state, local, and 
federal level, including property tax and sales tax.
    This all contributes to the funding of the government.
    Representative Mulvaney. Agreed. But let's--because it's 
come up in previous hearings, and you have not been party to 
those so I understand that you want to focus on a broader 
issue, but the issue we have talked about on this committee 
before is specifically defense.
    Which is, if I pay my local property taxes, I am paying for 
schools. I'm paying for my local roads. If I pay my gasoline 
tax, I'm paying for roads. If I pay my state sales tax, I'm 
paying for everything that the state provides me. But defense 
is somewhat unique, isn't it? Tell me how everybody is paying 
for defense? Because it may be and I just don't see it.
    Dr. Johnson. Well money is fungible, Congressman. And to 
the extent you are contributing to government and you are 
supporting all the activities of government across the 
different levels of government--state, local, and federal--I 
think anybody who is paying into that system, anybody who is 
paying any kind of tax, anybody who is participating in the 
modern taxed economy, is helping to support government.
    So that we don't pay--none of us pay a particular tax 
marked for defense, but even if we did it would be somewhat 
meaningless. Money is coming in and money is going out of the 
budget, and that is the overall balance which we need to take 
care of.
    Representative Mulvaney. Sure. And obviously I agree with 
the concept that money is fungible, but I can assure you that 
the money that we pay to the state is not fungible for the 
money that the Federal Government uses to provide defense. 
Would you agree with me on that?
    Dr. Johnson. Well a lot of the Federal Government spending 
is shared with, or passed down to state level. So I think that 
the--while it's absolutely true that if the state decides to go 
off and spend an extra marginal one dollar, the Federal 
Government does not necessarily back that; a lot of funding, a 
lot of projects are actually joint. It is a great thing about 
the fiscal federal system that we've established and run for 
200 years, and something the Europeans do not have and 
desperately need to have, exactly this kind of balance between 
the different levels of government and a shared funding and a 
shared burden of funding across all citizens, all tax-paying 
citizens.
    I think the American system has much to commend it around 
the world. Particularly, I commend it all the time to the 
Europeans.
    Representative Mulvaney. Got 'cha, and I don't mean to 
belabor the point, but there's been other folks--you are the 
first person to actually claim that everybody is paying for 
defense by virtue of the fact that they're paying the payroll 
tax, they're paying their property taxes, they're paying the 
gasoline tax, and they're actually in effect paying for 
defense. So I apologize for drawing that out. Maybe we can 
visit that another time.
    With the Chairman's indulgence? Can I continue for a few 
minutes?
    Vice Chairman Brady. Sure.
    Representative Mulvaney. Thank you. You have got a 
statement also in your testimony, Dr. Johnson, number four, 
that says:
    ``The idea that the recent increase in public debt is due 
primarily to 'runaway spending' since 2008 is completely at 
odds with the historical record--although it is true that 
spending was not under control in the period 2000-08 . . . . 
The worsening deficits since 2008 have been primarily due to a 
big drop in tax revenue and the sharp fall in GDP due to the 
finance-induced recession.''
    Let me deal with a very quick credibility issue. So I'm 
hoping I don't get the answer that I think I just read, which 
is: Are you saying that spending wasn't a problem in 2008 until 
now? But it was a problem from 2000 to 2008? Not a driver of 
our deficits, maybe a synonym for problem?
    Dr. Johnson. Part of the problem from 2000 to 2008 was, 
part of what happened, was two foreign wars. Obviously that is 
spending. Medicare Part D. That is in addition to social 
insurance. That is spending, no matter how you look at it.
    The big hit since 2008 was the Recession. Again--well 
probably I am quoting the Congressional Budget Office there, 
and partly I'm quoting the IMF. The details are in the book 
chapter to which I refer there. I would be happy to send that 
to you. The point is, when you have an enormous recession 
caused by any financial sector blowing itself on the scale we 
experienced, that blows a big hole in the tax revenue.
    Also, you get some additional spending from unemployment 
insurance, which is a completely sensible social safety net you 
have in the event, for examples, your banks blow themselves up 
because they were reckless and took crazy risks.
    So that is a consequence of the financial crisis. And the 
fall in GDP, of course, means that even if you were--even if 
you kept spending at the same level, it would look bigger 
relative to the GDP, again because the banks have blown such a 
big hole in your economy. So that is the specific sense in 
which I mean it, Congressman.
    Representative Mulvaney. And I understand. You go on later 
in your testimony to--I think you quantify the Bush tax cuts' 
impact on the deficit in 2010 as being roughly $270 billion. 
You may not be aware that Mr. Van Hollen, the Ranking Member on 
Budget, asked the CBO to quantify the effects of the Recession 
on the 2010 deficit as well, and they placed it at roughly $370 
billion, which gets us somewhere in the realm of $600 billion, 
which was half of the deficit.
    So can we at least agree that maybe half of the deficit is 
driven by a spending problem and not necessarily by GDP or the 
Bush tax cuts?
    Dr. Johnson. I'm afraid not, Congressman. I'll have to look 
at the details of what the CBO said--I haven't had a chance to 
review that--but if you're saying the effect of the Recession, 
a large part of the effect of ``the Recession'' is precisely 
the loss of tax revenue.
    In fact--and this is not specific to the United States. 
Across all developed countries with any kind of modern, 
sensibly functioning government, when you have a big recession 
you lose revenues.
    In fact, in many countries this is referred to as the 
automatic stabilizers and regarded as not a bad thing; it's a 
good thing. From a point of view of thinking about the tax 
burden on the economy, it automatically falls when you go into 
a recession; therefore, it helps to buffer the losses.
    Representative Mulvaney. But now you're being Keynesian. 
You said you wouldn't do that.
    Dr. Johnson. Well I know that people feel strongly about 
Keynesian, and I'm not particularly a Keynesian on much of this 
analysis, I have to tell you, but the view that there is an 
automatic stabilizer in the sense that you tax less in a recess 
and tax more relatively speaking in a boom, that is actually a 
reasonable notion.
    The Keynesian issue is: Can you stimulate the economy? Can 
you micro manage the economy, particularly using fiscal policy? 
On that, I have deep reservations. Fiscal policy, as the 
Chairman said at the beginning, is for the medium run. Fiscal 
sustainability to support growth. That's the right approach to 
fiscal policy.
    Representative Mulvaney. Dr. Johnson, I respect your 
position. I just look at the numbers, and I look at the growth 
in spending, the top-line spending--and I recognize that a 
recession will have an impact on the receipts of the government 
and thus an impact on the deficits on the government, but if 
you look at spending in nominal terms--I have not had a chance 
to do the math and convert it--but you are talking about a 
government that's grown on a nominal basis by 100 percent in 
the last decade. In fact, it grew 20 percent in just the 2009 
fiscal year by itself. The expenditures of the government in 
2000 were $1.78 trillion, and they are going to be roughly $3.8 
trillion this year. So more than 100 percent over the course of 
the last 12 years.
    So I hear what you're saying. And I cannot but agree that 
part of the problem would be coming from the GDP, and certainly 
if you lower taxes and bring in less money that may contribute 
in a short term to the deficit. But to say it is not a spending 
problem I think undermines the overall argument.
    But let me get the last issue to everybody. Because the one 
thing we have not heard about today is productivity. And I 
think one of the lessons that we can learn from Europe is that 
they have been fairly locked into low productivity rates for a 
long time. They may be contributing to their structural 
deficits and the issues they are dealing with. They are 
probably not solving their productivity problem even if their 
countries are making steps to solve their fiscal problem, 
productivity is still not particularly healthy in Europe.
    We had a little boost here during the early stages of the 
2008 Recession. But in the long term, I do not think we are 
seeing any dramatic increases in productivity. In fact, the 
Chairman mentioned more folks leaving the workforce at 62, 
which generally speaking would be a time of their lives when 
they would be productive members of society; now they are 
turning into retirement ages.
    So tell me, gentlemen, am I right to be focusing on this, 
number one? And then if I am, tell me. And I am specifically 
looking at Dr. Johnson, now, tell me--and I will go last to 
him--tell me how raising taxes is going to increase our 
productivity?
    Dr. Rogerson.
    Dr. Rogerson. Well I will say for starters, I think you are 
right on base to say that productivity growth is absolutely 
essential to the long-term health of the economy. I think there 
is widespread agreement that productivity growth lies behind 
the sustained improvements in living standards. So absolutely 
we need to be focused on policies that influence productivity 
growth in thinking about what policies are good for 
productivity growth.
    Having said that, I certainly do not think that raising 
taxes are good for productivity growth. I would----
    Representative Mulvaney. Is that a gut feeling, Dr. 
Rogerson? Can you back that up?
    Dr. Rogerson. I know of no evidence to have supported that. 
I mean, I will temper it on the other side that I do not think 
that all taxes need be bad for productivity growth. I think 
some taxes might be relatively neutral in terms of productivity 
growth.
    If you think that a major source of productivity growth is 
the incentives to innovate, many tax policies may not be a 
first-order importance in terms of the incentives for 
innovation, for example.
    But taxes on--progressive taxes on labor income, for 
example, the more productive you become the higher tax rate you 
pay, that obviously can provide a disincentive for people to 
accumulate skills which would be a negative factor for 
productivity.
    So I think productivity is absolutely important. Taxes 
certainly--some taxes I believe can have important negative 
effects on productivity, but I would not go so far as to say 
all taxes are negative for productivity.
    Representative Mulvaney. Dr. Biggs.
    Dr. Biggs. When I think about the EU, I mean it is not--
it's not that a French or a German worker is necessarily less 
productive than an American workers for each hour that they 
work. They are skilled people and they are good at what they 
do. The issue is that they are simply not working the same 
sorts of hours that American workers are doing. And the 
question is: Why?
    I think Professor Rogerson's research provides compelling 
evidence that one reason why they work so many fewer hours is 
the tax rates are a lot higher today than they had been in the 
past. And that obviously does, it leads to issues in terms of 
skills' accumulation.
    Because if you know you are going to be working more hours 
over the course of a year, or having a longer career, building 
up human capital provides a larger payoff to you.
    In addition, when you have individuals who are shut out of 
the labor market for a long period, as you had in Europe for 
quite some time, and unfortunately as increasingly we're having 
here, their skills deteriorate. Their connection to the 
workforce becomes more tenuous. And so even when they do get 
back to work, that is when their productivity suffers, when 
their output-per-hour actually will fall.
    So I think there is a connection, and I think the fact that 
Americans work 100 hours or so more a year than many Europeans, 
I think that is not disconnected from tax rates. I'll say that.
    Representative Mulvaney. And finally, Dr. Johnson.
    Dr. Johnson. I have three responses, Congressman.
    First of all, I am not proposing anything close to European 
tax rates. No one has been a more outspoken critic of the 
European fiscal system. And to your other interests, Mr. Brady, 
the monetary system, than I have. I have written extensively 
about this. It is a disaster.
    And we don't want to go there, and I don't think we are 
going to go there, and I don't think that is what we're talking 
about.
    Secondly, on labor market participation, Dr. Biggs has 
already given you exactly the right answer. Which is: If people 
start to fear that Social Security will not be there, then they 
will retire earlier. That was his point about retiring at 62, 
because you don't think the pension is going to be there.
    People have to believe that the system is going to continue 
in order for older Americans to remain working. We should be 
increasing labor force participation, including through people 
working the hours they work, including these older Americans 
who have very valuable skills that we need to stay engaged with 
the labor force.
    The third answer is, to Professor Rogerson's point, we 
should be taxing consumption more and income less. I have 
testified, I think not before this committee but before a 
number of other Congressional committees, on the advantages of 
a Value Added Tax of some form.
    That, to your point about productivity, is a very good way 
to address your concerns. If you think we're taxing your income 
too high, if we can agree on the role of government and how to 
fund it, we should be funding it more with taxes on consumption 
and less with taxes on income. It would address exactly your 
concerns. But I understand there is bipartisan hesitancy to 
move towards a VAT, despite the fact there are only two G-20 
countries that don't have a VAT: Us, and Saudi Arabia. And 
Saudi Arabia doesn't have a shortage of revenue.
    Representative Mulvaney. Gentlemen, thank you very much. 
And I especially appreciate the indulgence by my Chairman for 
the extra time.
    Vice Chairman Brady. Thank you, Mr. Mulvaney. I went over 
on my time, as well.
    I want to thank our witnesses today. This is a very 
interesting conversation and the testimony really was very 
insightful, and I appreciate that as well. I appreciate Senator 
Bingaman and the Members, Mr. Mulvaney, who were able to 
attend. But for those who were not, as a courtesy I would like 
to leave the record open for five days for questions to be 
submitted in writing. We will pass them on to our witnesses, 
and I would ask you to respond in a timely manner.
    With that, thank you all very much for being here. The 
hearing is adjourned.
    [Whereupon, at 3:47 p.m., Wednesday, May 16, 2012, the 
hearing was adjourned.]
                       SUBMISSIONS FOR THE RECORD

    Prepared Statement of Representative Kevin Brady, Vice Chairman,
                        Joint Economic Committee
    Today the Joint Economic Committee is holding the second of two 
hearings on how taxes affect America's economy. This hearing focuses on 
the taxation of labor. The first hearing on April 17th focused on the 
taxation of capital.
    My goal, as Vice Chairman of this Committee, is to ensure that 
America has the strongest economy in the world throughout the 21st 
Century. To do that, we must get our monetary policy right, get our 
fiscal policy right, get our regulatory policies right, and open new 
markets to U.S. exports.
    A sustainable fiscal policy requires more than just closing the 
trillion dollar gap between federal spending and federal revenues. A 
sustainable fiscal policy requires economic growth.
    A growing economy improves our fiscal outlook by increasing federal 
revenues and reducing federal spending relative to the size of our 
economy.
    Sadly, however, economic growth and job creation are lagging under 
President Obama. To understand how poorly our economy is performing 
compared with its potential, let's look at this chart and compare the 
big government-oriented Obama recovery to the free market-oriented 
Reagan recovery:

      From its low point in February 2010 following the recent 
recession, the Obama recovery produced private sector job growth of 
4.0%. Over the comparable time-frame, the Reagan recovery far eclipsed 
the Obama recovery with 10.1% private sector job growth.
      If President Obama had the same growth rate of private 
sector jobs as President Reagan enjoyed, we would have over 6\1/2\ 
million more jobs today--that is more than one job for every two 
workers currently counted as unemployed.
      From its peak in October 2009, the unemployment rate has 
declined by a meager 1.9 percentage points under President Obama. Over 
the comparable time-frame, the unemployment rate dropped by 3.4 
percentage points under President Reagan.
      Under President Obama, the average real GDP growth rate 
has been 2.4% over the 11 quarters following the recession. Over the 
comparable time-frame, President Reagan delivered an average real GDP 
growth rate of 6.1%.

    More than anything, hardworking American taxpayers need cohesive 
monetary, fiscal, and regulatory policies that encourage business 
investment--business investment in new buildings, equipment, and 
software. Joint Economic Committee Republicans have shown that such 
private sector business investment is the key to robust economic growth 
and private sector job creation.
    Leading economists believe that taxes affect the incentive to work, 
save, and invest. Thus, federal tax policy not only determines how much 
the federal government collects, but also how much the U.S. economy 
grows and how many jobs are created.
    Other economists seem to believe taxes don't really matter. In 
their view, one tax increase to reduce the federal budget deficit is 
just as good as another.
    The purpose of this hearing is to examine the empirical evidence 
offered by both sides of the debate.
    In his written testimony, Dr. Rogerson presents evidence that taxes 
on labor substantially reduce employment and economic output. When 
these taxes are used to fund transfer payments and social services, the 
adverse effects on jobs and economic growth are even greater.
    Dr. Biggs presents evidence that these adverse effects depend in 
large part on the specific tax and benefit rules of each entitlement 
program. Older workers are especially sensitive to the marginal net tax 
rate. That is the additional after-tax income received in exchange for 
working and paying taxes an additional year.
    For his part, Dr. Johnson presents evidence that our taxes are 
lower than they have been at times in the past; and they are lower than 
many other countries' taxes today.
    The question we face today is whether tax policy really matters. 
Can Congress allow the tax reductions of 2001 and 2003 to expire 
without any adverse effects on jobs and economic growth? Would this be, 
as many leading economists and my Republican colleagues have suggested, 
``taxmageddon''? Or, as President Obama and many of my Democratic 
colleagues contend, can Congress increase other federal taxes on the 
businesses and the ``wealthy'' with economic impunity?
    Should Congress instead focus on fundamental tax reform and 
carefully consider which tax policies will provide the greatest boost 
to long-term growth and job creation in the private sector?
    Hopefully, today's hearing will help us answer these questions. I 
look forward to the testimony of our distinguished witnesses.







    Statement of Andrew G. Biggs, Ph.D., Resident Scholar, American 
                        Enterprise Institute\*\
---------------------------------------------------------------------------
    \*\ The views expressed in this testimony are those of the author 
alone and do not necessarily represent those of the American Enterprise 
Institute.
---------------------------------------------------------------------------
    Vice Chairman Brady and Members of the Committee: Thank you for the 
opportunity to testify with regard to the effects of taxes and transfer 
payments on labor supply and the employment.
    While taxes are designed to raise revenue for the government, tax 
policy can also have important effects on individuals' decisions to 
work. The behavioral impact of tax policy has been studied by 
economists for decades with an aim to minimizing the economic costs of 
raising a given level of revenues. However, relatively little attention 
has been given to how Social Security's taxes and benefits affect labor 
supply. While the program's effects are not large for individuals in 
their prime working years, Social Security tax and benefit rules 
present significant work disincentives for individuals considering 
delaying retirement. Altering these rules could increase labor supply 
and improve retirement security at little cost to the federal budget.
    Social Security is the largest single domestic spending program of 
the federal government. Unlike most federal programs, it levies a 
dedicated tax on earnings and pays retirement, survivors and disability 
benefits in return. The 12.4 percent Social Security payroll tax on 
earned income is the largest tax paid by most Americans, and thus it 
has significant potential to affect their labor supply decisions. In 
exchange for their payroll taxes, individuals can become entitled to 
future benefit payments for themselves and eligible family members. The 
effect of Social Security taxes on labor supply cannot be analyzed in 
isolation from the benefits those taxes ``purchase.''
    Social Security analysts think of these issues in terms of the 
``net tax rate,'' which is equal to the statutory 12.4 percent payroll 
tax rate net of the present value of any future benefits those taxes 
purchase. The present value of benefits is a function of the time until 
benefits will be paid, the expected duration of benefit receipt, the 
riskless rate of interest at which individuals might invest, and any 
risk premium individuals apply to Social Security benefits due to 
solvency or political risk.
    If the benefits an individual becomes entitled to are equal to the 
taxes he pays, his net tax rate is zero. In such cases, the Social 
Security program should have relatively little effect on an 
individual's labor supply decisions. If an individual's net tax rate is 
negative, which can be the case for lower-earning individuals, then 
Social Security might encourage work. And if his net tax rate is 
positive, then labor supply is discouraged.
    According to Social Security's actuaries, a middle income two-
earner couple retiring in 2014 can expect to receive lifetime Social 
Security benefits equal to around 78 percent of the taxes they pay.\1\ 
This implies that on a lifetime basis, around 78 percent of the Social 
Security payroll tax (or 9.7 percentage points) can be viewed as a 
``contribution'' which will be repaid at retirement or disability, 
while the remaining 2.7 percentage points can be viewed as a ``pure 
tax'' for which no benefits will be received.
---------------------------------------------------------------------------
    \1\ This figure is based upon current law scheduled benefits. 
Reform could alter these figures and, to close the program's financing 
gap, must necessarily reduce the ratio of total benefits received to 
taxes paid.
---------------------------------------------------------------------------
    However, labor supply decisions are not generally made on a 
lifetime basis. Rather, at any given point in time an individual may 
decide whether and how much to participate in the labor force. Thus, 
what matters in terms of Social Security's impact on labor supply is 
what might be called the marginal net tax rate, that is, the benefits 
an individual receives in return for working and paying taxes over a 
given period of time, such as a year.
    In general, the theory of optimal taxation states that taxes should 
be highest in circumstances in which individuals are least sensitive to 
the tax and lowest when individuals are most sensitive to tax rates. 
Following this rule will tend to minimize the harmful effects of 
taxation on work and the economy.
    However, Social Security's treatment of older workers is precisely 
the opposite of what economic theory recommends. Social Security pays 
the lowest reward to work to older workers who are near to retirement. 
These individuals, research indicates, are among the most sensitive to 
tax rates, because they have the easiest option to leave the workforce 
and retire.
    Social Security's benefit formula is roughly actuarially fair for 
individuals who choose to delay claiming benefits. For instance, 
imagine a person who leaves the labor force at age 62. He can claim 
retirement benefits at any age from 62 through 70. For each year he 
delays claiming benefits, his eventual monthly benefit rises by around 
7 percent. Over the course of an average lifetime, total benefits are 
about the same if you claim at age 62, 70 or any age in between.
    However, Social Security is not actuarially fair with regard to 
individuals who delay claiming and remain in the workforce. Most near-
retirees who extend their work lives receive little or no additional 
benefits for any extra taxes they pay. Thus, their net tax rate is very 
close to the statutory rate of 12.4 percent and therefore discourages 
labor supply at older ages.
    There are three reasons for this. First, Social Security benefits 
are based upon an individual's highest 35 years of earnings. An 
additional year of work, particularly if it is part-time, is unlikely 
to boost benefits. Second, most female retirees receive a spousal 
benefit based upon their husbands' earnings. Any additional taxes they 
pay are unlikely to lead to higher benefits. Third, once individuals 
reach the full retirement age they are ineligible for Social Security 
disability benefits, but must nevertheless continue to pay the 1.8 
percent disability payroll tax.
    In a 2009 research paper with David Weaver and Gayle Reznik of the 
Social Security Administration, I found that for each dollar of 
additional taxes a near-retiree pays into Social Security, he or she 
receives only around 2.5 cents in extra lifetime benefits.\2\ Simply 
put, Social Security provides almost no incentive to keep working.
---------------------------------------------------------------------------
    \2\ Reznik, Gayle, Weaver, David A. and Biggs, Andrew G. ``Social 
Security and Marginal Returns to Work Near Retirement.'' Social 
Security Administration. Issue Paper No. 2009-02. April 15, 2009.
---------------------------------------------------------------------------
    This would not be of major policy importance if near-retirees were 
not so sensitive to tax rates. A middle-aged worker with a family to 
support will likely continue working even in the presence of high 
implicit tax rates, but once he or she reaches age 62 the option to 
retire becomes more attractive. Moreover, most retirees receive pension 
and Social Security benefits, which can increase the marginal income 
tax rates they pay on earned income. Economic research finds that older 
Americans are significantly more sensitive to after-tax rewards to work 
than younger workers.
    In a 2009 study that relied on differences in state income tax tax 
rates, Lucie Schmidt of Williams College and Purvi Sevak of Hunter 
College found that a 10 percent increase in after-tax earnings would 
increase labor force participation by 7.5 percent among men and 11.4 
percent among women.\3\ These estimated labor supply elasticities are 2 
to 5 times higher than the Congressional Budget Office assumes for the 
working-age population.\4\ In forthcoming research, John Laitner and 
Dan Silverman of the University of Michigan find that eliminating the 
payroll tax at age 59 would cause individuals to delay retirement by an 
average of 1.1 years.\5\ And in a 2005 study, Eric French of the 
Federal Reserve Bank of Chicago found that a 10 percent increase in 
wages as of age 62 would dramatically increase work by seniors, 
sufficient to boost overall labor supply by 1.1 percent.\6\
---------------------------------------------------------------------------
    \3\ Lucie Schmidt and Purvi Sevak. ``Taxes, Wages, and the Labor 
Supply of Older Americans.'' Research on Aging, March 2009; vol. 31, 2: 
pp. 207-232. http://roa.sagepub.com/content/31/2/207.abstract
    \4\ Congressional Budget Office. ``Labor Supply and Taxes.'' 
January 1996.
    \5\ Journal of Public Economics, forthcoming.
    \6\ Eric French. ``The Effects of Health, Wealth, and Wages on 
Labor Supply and Retirement Behavior.'' Review of Economic Studies, 
April 2005, 72(2), 395-427.
---------------------------------------------------------------------------
    I have proposed reducing or even eliminating the Social Security 
payroll tax for older workers as an incentive to remain in the 
workforce. Doing so would lower Social Security tax revenues, but 
increased labor supply from older workers would increase other 
revenues, such as for federal income taxes, Medicare payroll taxes, or 
state income taxes.
    Using the Policy Simulation Group's Social Security models, I 
estimate that eliminating the payroll tax for workers over age 62 would 
reduce annual Social Security revenues by roughly 2.2 percent, or about 
$16.2 billion in terms of 2012 tax collections. Using French's 
parameters, eliminating the payroll tax at age 62 would increase 
overall labor supply by around 1.4 percent.\7\ The offsetting increases 
in non-Social Security revenues depend upon tax rates paid by older 
workers. The average 62-year old working full time in 2010 earned 
around $58,800,\8\ implying a federal income tax rate of about 15 
percent. Adding the 2.9 percent Medicare payroll tax and a 4.4 percent 
average state income tax rate,\9\ total non-Social Security revenues 
would rise by around $18.3 billion, of which the federal government 
would collect about $14.7 billion.
---------------------------------------------------------------------------
    \7\ Eliminating the payroll tax would raise wages by around 13.3 
percent (106.2/93.8), times a labor supply elasticity of 0.1067 = 
1.41%.
    \8\ Source: American Community Survey.
    \9\ See http://www.nber.org/taxsim/state-marginal/avrate.html
---------------------------------------------------------------------------
    These figures are approximate, but higher non-Social Security 
revenues could at a minimum compensate for much of Social Security's 
revenues lost to a payroll tax cut. As part of a Social Security reform 
package, transfers of general tax revenue could compensate Social 
Security for losses in payroll tax revenue, thereby making the payroll 
tax cut neutral with regard to Social Security's solvency.
    While eliminating the payroll tax for older workers would come at 
little cost to the budget, the gains to individuals and the economy 
could be substantial. Simply working one additional year would boost 
average private pension income by almost 5 percent.\10\ This would 
reduce poverty in old age and contribute to overall retirement income 
security.
---------------------------------------------------------------------------
    \10\ Author's calculations using Policy Simulation Group models.
---------------------------------------------------------------------------
    Labor force participation among older Americans has ticked upward 
as near-retirees seek to rebuild their 401(k)s. This demonstrates that, 
even in a very challenging employment environment, highly motivated 
individuals can often find positions. But overall, Americans today 
still retire several years earlier than in prior decades, despite less 
strenuous jobs and significantly longer life spans. The typical 
American will spend one-third of his adult life in retirement, financed 
by entitlement programs that cannot bear the strain. Social Security's 
poor returns to older workers discourage delayed retirement, which 
would strengthen the economy and is the single option available to many 
individuals who reach retirement age with insufficient resources. 
Policy options such as lowering the payroll tax rate on older workers 
could increase labor supply, boost the economy and raise retirement 
incomes.






                                  
