[Congressional Record (Bound Edition), Volume 149 (2003), Part 8]
[House]
[Pages 10954-10956]
[From the U.S. Government Publishing Office, www.gpo.gov]




MACROECONOMIC ANALYSIS OF H.R. 2, THE ``JOBS AND GROWTH RECONCILIATION 
   TAX ACT OF 2003'' PREPARED BY THE STAFF OF THE JOINT COMMITTEE ON 
                                TAXATION

  The SPEAKER pro tempore. Under a previous order of the House, the 
gentleman from California (Mr. Thomas) is recognized for 5 minutes.
  Mr. THOMAS. Mr. Speaker, pursuant to clause 3 (h)(2)(A)(iii) of rule 
XIII, I submitted the following macroeconomic impact analysis:

       In accordance with House Rule XIII.3(h)(2), this document, 
     prepared by the staff of the Joint Committee on Taxation 
     (``Joint Committee staff''), provides a macroeconomic 
     analysis of H.R. 2, the ``Jobs and Growth Reconciliation Tax 
     Act of 2003.'' The analysis presents the results of 
     simulating the changes contained in H.R. 2 under three 
     economic models of the economy. The models employ a variety 
     of assumptions regarding Federal fiscal policy, monetary 
     policy, and behavioral responses to the proposed changes in 
     law.

              1. Description of Models and Results Format


                               (a) models

       The Macroeconomic Equilibrium Growth (``MEG'') model.--This 
     model, developed by the Joint Committee staff, is based on 
     the standard, neoclassical assumption that the amount of 
     output is determined by the availability of labor and 
     capital, and in the long run, prices adjust so that demand 
     equals supply. This feature of MEG is comparable to a Solow 
     growth model, described as the ``textbook growth model'' by 
     the Congressional Budget Office (An Analysis of the 
     President's Budgetary Proposals for Fiscal Year 2004, March 
     2003, pp. 28-29) (``CBO''). Individuals are assumed to make 
     decisions based on observed characteristics of the economy, 
     including current period wages, prices, interest rates, tax 
     rates, and government spending levels. Because individuals do 
     not anticipate changes in the economy or government finances, 
     this type of behavior is referred to as ``myopic behavior.'' 
     Consumption in MEG is determined according to the life-cycle 
     theory, which implies that individuals attempt to even out 
     their consumption patterns during their lifetimes.
       MEG differs from a simple neoclassical growth model in that 
     prices in MEG adjust to equilibrate supply and demand with a 
     delay or lag, rather than instantaneously. This feature 
     allows the model to simulate a disequilibrium adjustment 
     path, in which resources may be underemployed or over-
     employed (used at an unsustainable rate) in response to 
     policies that stimulate or depress economic activity. It also 
     allows an analysis of the effects of differing intervention 
     policies by the Federal Reserve Board. In this respect, the 
     MEG model resembles econometric models such as the 
     Macroeconomic Advisers model and the Global Insight model.
       In the MEG simulations in each of the tables below, it is 
     assumed that the Federal Reserve Board either acts 
     aggressively by raising interest rates to counteract almost 
     completely any demand stimulus provided by H.R. 2 (``MEG 
     aggressive Fed response''), or remains neutral with respect 
     to any changes in fiscal policy, allowing temporary changes 
     in demand to affect levels of employment and output (``MEG 
     neutral Fed response'').
       The Global Insight (``GI'') econometric model.--Like the 
     MEG model, this commercially available model is capable of 
     simulating disequilibrium adjustments to changes in demand. 
     The model is made up of a set of equations that estimate from 
     historical data the behavioral coefficients that determine 
     the timing and strength of economic relationships within the 
     model. Comparable parameters in the MEG and OLG models are 
     derived from economic research. In many cases this research 
     is also based on econometric analysis of historical data.
       Individuals and firms behave myopically in the GI model. 
     For this analysis, the Joint Committee staff uses an 
     estimated monetary reaction function designed to moderate 
     gradually, but not completely offset, deviations from full 
     employment by lowering or increasing interest rates. Thus, if 
     the economy is operating near capacity, proposals that 
     increase employment and accelerate the economy will result in 
     increasing interest rates.
       The overlapping generations life cycle model (``OLG'').--In 
     this model, individuals are assumed to make consumption and 
     labor supply decisions with perfect foresight of economic 
     conditions, such as wages, prices, interest rates, tax rates, 
     and government spending, over their lifetimes. The OLG model 
     is similar to the type of model described as a ``life cycle 
     model'' by the CBO, ibid.
       One result of the perfect foresight assumption is that if a 
     policy results in an economically unstable outcome, such as 
     increasing government deficits indefinitely into the future, 
     the model will not solve. Therefore, to run simulations in 
     this model, it is necessary to assume that an offsetting 
     budget balancing fiscal policy will be enacted. In the tables 
     below, it is assumed that either government spending will be 
     reduced after 2013 to offset the tax cut (``OLG future 
     government spending offset'') or individual income tax rates 
     will be increased after 2013 (``OLG future tax rate 
     increase'').
       The cut in government spending to offset the costs of a tax 
     cut can be modeled either as a cut in transfer payments, as 
     is presented here, or as a cut in ``non-productive government 
     spending.'' The latter assumption is used in CBO, ibid. The 
     difference between the two approaches is that consumers are 
     assumed to value transfer payments, and thus work and save 
     more within the budget window in anticipation of losing them; 
     but they are assumed not to value non-productive spending, 
     and therefore do not increase work or savings in anticipation 
     of this cut. Thus, the anticipation of valued spending cuts 
     results in more growth in the early years than the 
     anticipation of non-valued spending cuts.


                           (b) results format

       Because the exact time path of the economy's adjustment to 
     changes such as a new tax policy is highly uncertain, the 
     Joint Committee staff presents results as percent changes 
     during the Congressional budgeting time frame. In addition, 
     for the MEG and OLG models, which have been designed to 
     provide long-run equilibrium results, information is provided 
     about the long run. While it is impossible to incorporate 
     unknowable intervening circumstances, such as major resource 
     or technological discoveries or shortages, these models are 
     designed to predict the long-run effects of policy changes, 
     assuming other, unpredictable influences are held constant.
       Because the MED model is myopic, if the policy simulated is 
     ultimately a fiscally unstable policy, such as a net decrease 
     in taxes that produces deficits that grow faster than the 
     rate of growth of the economy, ``long-run'' is defined as the 
     last period before the model fails to solve because of this 
     unstable situation. For the OLG simulations, which 
     incorporate a stabilizing fiscal policy offset, ``long-run'' 
     is defined as the eventual steady-state solution.

              2. Estimated Macroeconomic Effects of H.R. 2

       The magnitude of the macroeconomic effects generated by 
     these simulations depends upon a number of assumptions, some 
     of which are described above, that are inherent in the models 
     used. Several additional assumptions detailed below.


                            (a) assumptions

       Effect of tax rate reductions on investment.--Reductions in 
     marginal tax rates (tax rates on the last dollar of income 
     earned) on interest, dividend, or capital gains income create 
     incentives for individuals to save and invest a larger share 
     of their income, as each additional dollar of investment 
     yields more after-tax income. Conversely, reductions in the 
     average tax rate on income from capital provide taxpayers 
     with more after-tax income for the same amount of investment, 
     reducing their incentive to save and invest. Changes in the 
     statutory tax rate affect both marginal and average rates of 
     tax on these sources of income, providing potentially 
     offsetting incentives. Consistent with existing research, the 
     model simulations assume that on net, the marginal rate 
     effect is slightly larger than the average rate effect, and 
     thus decreases in tax rates on capital income increase 
     savings.
       Effect of reductions in the dividend tax rate.--There is 
     general agreement that dividend taxation reduces the return 
     on investments financed with new share issues. However, there 
     are two alternative views regarding the effect of dividend 
     taxation on corporate investment returns financed with 
     retained earnings. The ``traditional view'' holds that 
     reductions in dividend taxes would lower the cost of 
     corporate investment financed with either new share issues or 
     retained earnings, and thus would provide an incentive for 
     corporations to increase investment. Alternatively, the ``new 
     view,'' holds that a reduction in the dividend tax rate would 
     not lower the cost of corporate investment financed with 
     retained earnings. Under this view, a decrease in the 
     dividend tax rate would result in an immediate increase in 
     the value of outstanding stock reflecting the reduction in 
     dividend tax payments, thus increasing the wealth of the 
     stockholders, and providing an incentive for additional 
     consumption. The model simulations assume that half of the 
     corporate sector is in accordance with the traditional view 
     and half with the new view.
       Foreign investment flows.--Increased Federal government 
     budget deficits increase the amount of borrowing by the 
     Federal government. Unless individuals increase their savings 
     enough to finance completely the increased deficit, the 
     increase in government borrowing will reduce the amount of 
     domestic capital available to finance private investment. 
     This effect is often referred to as the ``crowding out'' of 
     private business activity by Federal government activity. A 
     reduction in national saving may lead to a reduction in 
     domestic investment, and domestic

[[Page 10955]]

     capital formation, depending on the mobility of international 
     capital flows. The government and private firms would compete 
     for the supply of available funds and interest rates would 
     rise to equate the demand and supply of funds. Returns on 
     foreign investments would accure mainly to foreigners and 
     would only increase the resources available to Americans to 
     the extent that higher domestic investment resulted in higher 
     wages in the United States. The MEG and GI simulations 
     incorporate an assumption that there would be some in-flow of 
     foreign capital to the extent that the rate of return on 
     capital is increased by the tax policy. However, the inflow 
     in foreign capital is not enough to offset completely the 
     increased Federal borrowing. The OLG simulations assume there 
     is no inflow of foreign capital.
       Effect of tax rate reductions on labor supply.--As in the 
     case of savings responses, tax rate reductions provide 
     offsetting labor supply incentives. Reductions in the 
     marginal tax rate on earnings create an incentive to work 
     more because taxpayers get to keep more of each dollar 
     earned, making each additional hour of work more valuable; 
     while reductions in the average tax rate create an incentive 
     to work less, because they result in taxpayers having more 
     after-tax income at their disposal for a given amount of 
     work.
       Consistent with existing research, the simulations assume 
     that taxpayers in different financial positions respond 
     differently to these incentives. Typically, the largest 
     response comes from secondary workers (individuals whose 
     wages make a smaller contribution to household income than 
     the primary earner in the household) and other underemployed 
     individuals entering the labor market. As described above, 
     labor supply responses are modeled separately for four 
     different groups in MEG: low income primary earners, other 
     primary earners, low income secondary earners, and other 
     secondary earners.
       Effects of reductions in tax liability on demand.--
     Generally, any net reduction in taxes results in taxpayers 
     making more purchases because they have more take-home income 
     at their disposal. Policies that increase incentives for 
     taxpayers to spend their income rather than save it provide a 
     bigger market for the output of businesses. The amount of 
     economic stimulus resulting from demand side incentives 
     depends on whether the economy has excess capacity at the 
     time of enactment of the policy, and on how the Federal 
     Reserve Board reacts to the policy. If the economy is already 
     producing near capacity, demand-side policies may, instead, 
     result in inflation, as consumers bid up prices to compete 
     for a fixed amount of output. If the Federal Reserve Board 
     believes there is a risk that the policy will result in 
     inflation, it may raise interest rates to discourage 
     consumption. In this case, depending on how strongly the 
     Federal Reserve Board reacts, little, if any increase in 
     spending will occur as a result of would-be stimulative tax 
     policy. The MEG aggressive Fed response simulation assumes 
     the Federal Reserve Board completely counteracts demand 
     stimulus; the MEG neutral Fed response simulation assumes the 
     Federal Reserve Board ignores the stimulus; and the GI 
     simulation assumes the Federal Reserve Board partially 
     counteracts demand stimulus. The OLG simulations have no 
     monetary sector because they assume demand automatically 
     adjusts to supply through market forces.


                         (b) Simulation results

       Economic Growth.--

  TABLE 1.--EFFECTS ON NOMINAL GROSS DOMESTIC PRODUCT PERCENT CHANGE IN
                               NOMINAL GDP
------------------------------------------------------------------------
                                                        Calendar years
                                                     -------------------
                                                       2003-08   2009-13
------------------------------------------------------------------------
Neoclassical Growth Model:
    MEG--aggressive Fed reaction....................       0.3       0.2
    MEG--neutral Fed reaction.......................       0.9       1.0
Econometric Model:
    GI Fed Taylor reaction function.................       1.5       1.2
Life Cycle Model With Forward Looking Behavior:
    OLG Reduced Government Spending in 2014.........      n.a.      n.a.
    OLG Increased Taxes in 2014.....................      n.a.      n.a.
------------------------------------------------------------------------


   TABLE 2.--EFFECTS ON REAL GROSS DOMESTIC PRODUCT PERCENT CHANGE IN
                               NOMINAL GDP
------------------------------------------------------------------------
                                                        Calendar years
                                                     -------------------
                                                       2003-08   2009-13
------------------------------------------------------------------------
Neoclassical Growth Model:
    MEG--aggressive Fed reaction....................       0.2      -0.1
    MEG--neutral Fed reaction.......................       0.3       0.0
Econometric Model:
    GI Fed Taylor reaction function.................       0.9      -0.1
Life Cycle Model With Forward Looking Behavior:
    OLG Reduced Government Spending in 2014.........       0.2      -0.1
    OLG Increased Taxes in 2014.....................       0.2      -0.2
------------------------------------------------------------------------

       As shown in Table 1, depending on the assumed Federal 
     Reserve Board reaction to the policy, the estimated change in 
     Gross Domestic Product (``GDP'') due to this proposal can 
     range at least from a 0.3 percent (an average of $43 billion) 
     to a 1.5 percent (an average of $183 billion) increase in 
     nominal, or current dollar GDP over the first five years, and 
     0.2 percent to a 1.2 percent increase over the second five 
     years. As shown on Table 2, depending on the assumed Federal 
     Reserve Board reaction to the policy, and on how much 
     taxpayers anticipate and plan for the effects of future 
     Federal government deficits, the change in real (inflation-
     adjusted) GDP due to those proposal can range from a 0.2 
     percent (an average of $18 billion per year) to a 0.9 percent 
     (an average of $76 billion per year) increase in real GDP 
     over the first five years, with a small decrease over the 
     second five years.
       Investment.--

                   TABLE 3.--EFFECTS ON CAPITAL STOCK
------------------------------------------------------------------------
                                                        Calendar years
                                                     -------------------
                                                       2003-08   2009-13
------------------------------------------------------------------------
             Percent Change in Non-Residential Capital Stock
 
Neoclassical Growth Model:
    MEG--aggressive Fed reaction....................       0.6       0.4
    MEG--neutral Fed reaction.......................       0.8       0.6
Econometric Model:
    GI Fed Taylor reaction function.................       1.5       0.4
Life Cycle Model With Forward Looking Behavior:
    OLG Reduced Government Spending in 2014.........       0.1      -0.7
    OLG Increased Taxes in 2014.....................       0.1      -0.8
 
               Percent Change in Residential Housing Stock
 
Neoclassical Growth Model:
    MEG--aggressive Fed reaction....................      -1.0      -1.5
    MEG--neutral Fed reaction.......................      -0.8      -1.1
Econometric Model:
    GI Fed Taylor reaction function.................      -0.5      -1.3
Life Cycle Model With Forward Looking Behavior:
    OLG Reduced Government Spending in 2014.........      -0.2      -0.1
    OLG Increased Taxes in 2014.....................      -0.2      -0.1
------------------------------------------------------------------------

       As the results in Table 3 indicate, this policy may 
     increase investment in non-residential capital in the first 
     five years by 0.1 percent to 1.5 percent, while reducing 
     investment in residential capital by -0.2 percent to -1.0 
     percent because of the reduced cost of capital, which is due 
     to the reduction in taxation of dividends and capital gains, 
     and the temporary bonus depreciation. The investment 
     incentives for producers' equipment in this proposal are 
     likely to shift some investment from housing to other 
     capital. The size of the shift differs between the 
     simulations because of different assumptions about adjustment 
     costs and savings responses. In the second five years, the 
     sunset of the bonus depreciation provision, combined with the 
     negative effects of crowding out will slow increases in 
     private nonresidential investment. The simulations indicate 
     that eventually the effects of the increasing deficit will 
     outweigh the positive effects of the tax policy, and the 
     build up of private nonresidential capital stock will likely 
     decline.
       Labor Supply and Employment.--

      TABLE 4.--EFFECTS ON EMPLOYMENT PERCENT CHANGE IN EMPLOYMENT
------------------------------------------------------------------------
                                                        Calendar years
                                                     -------------------
                                                       2003-08   2009-12
------------------------------------------------------------------------
Neoclassical Growth Model:
    MEG--aggressive Fed reaction....................       0.2       0.0
    MED--neutral Fed reaction.......................       0.4      -0.1
Econometric Model:
    GI Fed Taylor reaction function.................       0.8      -0.4
Life Cycle Model With Forward Looking Behavior:
    OLG Reduced Government Spending in 2014.........       0.2      -0.1
    OLG Increased Taxes in 2014.....................       0.2      -0.1
------------------------------------------------------------------------

       As shown in Table 4, employment may increase from 0.2 
     percent (approximately 230,000 new jobs) to 0.8 percent 
     (about 900,000 new jobs) in the first five years, as the 
     effects of the acceleration of individual rate cuts, and the 
     initial increase in investment prevail. Employment increases 
     in the first five years because of both the positive labor 
     supply incentive from the individual rate cuts, and the 
     economic stimulus effect of the proposal taken as a whole. 
     This increase disappears by the end of the budget period, 
     ranging from 0 percent to -0.4 percent. The acceleration of 
     the individual tax rate reductions is effectively a temporary 
     provision relative to present law; thus, the positive labor 
     supply incentives are temporary.
       A substantial portion of the tax cuts in the proposed 
     growth package, those attributable to the acceleration of the 
     individual income tax provisions in the Economic Growth and 
     Tax Relief Reconciliation Act of 2001 (``EGTRRA''), and the 
     bonus depreciation/NOL carryback combination are temporary 
     (operating from 2003-2006), and therefore likely to result in 
     modest demand stimulus primarily in the first five years in 
     the myopic models. In the OLG stimulations, in which 
     individuals foresee the temporary nature of the stimulus, the 
     increase in consumption is spread across both periods.

                          3. Budgetary Effects

       When the macroeconomic effects of a change in tax policy 
     are taken into account, estimates of the change in receipts 
     due to the proposal may change. To the extent that a new 
     policy changes the rate of growth of the economy, it is 
     likely to change the amount of taxable income, which will 
     have a ``feedback effect'' on receipts. In addition, by 
     increasing the after-tax return on investments in capital 
     that generate taxable income, a change in policy may shift 
     investment from non-taxable or tax-favored sectors, such as 
     the owner-occupied housing market, into the taxable sector, 
     and thereby increase receipts. The model simulations indicate 
     that the policy analyzed here is likely to result in more 
     economic growth in the first five years than under current 
     law, and hence results in less revenue loss than what is 
     predicted using conventional revenue estimates. As the GDP 
     growth declines in years 6-10, the revenue feedback also 
     declines.
       A change in policy, however, may result in inflation as 
     well as real economic growth. Inflation causes increases in 
     nominal revenues (revenues measured in current dollars), 
     without necessarily increasing the purchasing

[[Page 10956]]

     power of the Federal government. Conventional budget analysis 
     is conducted in nominal dollars. To the extent that this 
     analysis applies equally to revenue and expenditure 
     estimates, this practice provides a reasonably accurate 
     picture of the effects of inflation on the Federal budget. 
     However, the Joint Committee staff analyzes the effects of 
     tax policy on receipts, but not spending. Reporting revenues 
     due to inflation, without reporting the commensurate budget 
     effects would present an inaccurate picture of the effects of 
     the proposal on the entire deficit. Therefore, the Joint 
     Committee staff provides budgetary analysis in real 
     (inflation-adjusted), rather than nominal terms. Table 5 
     shows the percent revenue feedback relative to the 
     conventional revenue estimate, in real terms.
       Even when presented in real terms, revenue feedback 
     analysis alone may provide an incomplete picture of the 
     effects of tax policy on the Federal budget. To the extent 
     that the policy results in a net decrease in Federal 
     receipts, with no offsetting expenditure reductions, the 
     policy results in an increase in the Federal deficit. 
     Increases in the Federal deficit generate additional debt 
     service costs.
       To determine how changes in tax policy affect the ability 
     of the government to meet its current and future obligations 
     it is helpful to compare tax-induced changes in the deficit 
     and GDP. If GDP is growing faster than the deficit, the 
     fiscal situation is improving, whereas if the deficit is 
     growing faster, the fiscal situation is worsening. If 
     deficits are growing faster (slower) than GDP, then the ratio 
     of Federal debt to GDP would increase (decrease), which 
     implies that future generations would have less (more) income 
     to consume and invest after making payments on the debt.

  TABLE 5.--EFFECTS ON REAL REVENUES PERCENT FEEDBACK IN REAL REVENUES
                 RELATIVE TO REAL CONVENTIONAL ESTIMATE
------------------------------------------------------------------------
                                                        Calendar Years
                                                     -------------------
                                                       2003-08   2003-13
------------------------------------------------------------------------
Neoclassical Growth Model:
    MEG--aggressive Fed reaction....................       9.8       3.6
    MEG--neutral Fed reaction.......................      27.5      23.4
Economic Model:
    GI Fed Taylor reaction function.................      16.1      11.8
Life Cycle Model With Forward Looking Behavior:
    OLG Reduced Government Spending in 2014.........       6.1       3.0
    OLG Increased Taxes in 2014.....................       5.8       2.6
------------------------------------------------------------------------

       Table 5 shows the relationship between the change in 
     receipts generated using macroeconomic analysis, and the 
     predicted change in receipts provided by a conventional 
     revenue estimate. A positive percentage indicates the 
     estimated revenue loss is less when macroeconomic effects are 
     taken into account than when estimated using conventional 
     methods. As the simulations indicate, depending on how much 
     temporary demand stimulus is generated by the proposal, the 
     revenue feedback could range from 5.8 percent to 27.5 percent 
     in the first five years, and 2.6 percent to 23.4 percent over 
     the ten-year budget period.

                            4. Data Sources

       All of the macroeconomic models used by the Joint Committee 
     staff are based primarily on quarterly National Income and 
     Product Account (``NIPA'') data published by the Bureau of 
     Economic Analysis, U.S. Department of Commerce. In the MEG 
     model, and to the extent possible in the commercial models, 
     Joint Committee staff use the forecast for Federal and State 
     and local government expenditures and receipts forecast by 
     the Congressional Budget Office (The Budget and Economic 
     Outlook: Fiscal Years 2004-2013, January 2003) instead of the 
     NIPA series for these fiscal variables. For purposes of 
     modeling changes in average and marginal tax rates in the 
     macroeconomic models, the Joint Committee staff use 
     microsimulation models that are based on tax return data 
     provided by the Statistics of Income Division of the Internal 
     Revenue Service (``SOI'').
       The Joint Committee staff uses these microsimulation models 
     to determine average tax rates and average marginal tax rates 
     for the different sources of income in each model, and to 
     calculate the changes in these rates due to the proposal. The 
     tax calculator calculates the change in liability due to the 
     proposal for each record. These changes are aggregated for 
     use in the macroeconomic models according to the different 
     levels of disaggregation in each model. In the aggregations, 
     averages are weighted by the income for each group. The 
     percent change in average and marginal rates due to this 
     proposal are:

                              TABLE 6.--PERCENT CHANGE IN TAX RATES DUE TO PROPOSAL
----------------------------------------------------------------------------------------------------------------
                                                                           Average marginal tax rate on
                                                        Average  -----------------------------------------------
                        Year                           tax rate                                         Capital
                                                       on wages      Wages     Interest    Dividends     gains
----------------------------------------------------------------------------------------------------------------
2003................................................         -11          -9         -11         -51         -24
2004................................................         -10          -6          -8         -49         -23
2005................................................          -9          -3          -6         -52         -24
2006................................................           0           0           0         -48         -23
2007................................................          -1           0           0         -48         -23
2008................................................           0           0           0         -50         -22
2009................................................          -1           0           0         -47         -22
2010................................................          -1           0           0         -48         -22
2011................................................          -1           0           0         -52         -22
2012................................................          -1           0           0         -50         -21
2013................................................           0           0           0           0           0
----------------------------------------------------------------------------------------------------------------

       To obtain information about the effects of proposals 
     affecting business tax liability, the Joint Committee staff 
     uses a corporate tax microsimulation model that is similar in 
     structure to the individual tax model. This data source for 
     the corporate model is a sample of approximately 140,000 
     corporate tax returns provided by SOI.
       Depending on the requirements of the policy simulation, the 
     corporate model can be run either on a full cross section of 
     sampled tax returns, (i.e., one full year, or on a panel of 
     returns constructed from any combination of tax years in the 
     1987 through 1998 period). This panel feature is particularly 
     useful in tracking net operating losses and credits that can 
     be either carried back or carried forward to other tax years.
       Finally, Joint Committee microsimulation tax calculators 
     are also used to help assess the effect of a tax proposal on 
     the cost of capital because some firms are operating at or 
     near a net operating loss (``NOL'') position, not all of the 
     50 percent of equipment expenses can be deducted by each firm 
     each year. A key component of the cost of capital is the net 
     present value of depreciation deductions. An increase in the 
     value of the depreciation deduction lowers the cost of 
     capital. The calculated percent increases in the net present 
     value of the depreciation deduction due to this proposal are 
     shown below (the change is different for each of the first 
     three years because of the temporary nature of the bonus 
     depreciation provisions in present law and in the proposal):

    TABLE 7.--EFFECTS ON NET PRESENT VALUE OF DEPRECIATION DEDUCTION
------------------------------------------------------------------------
                                                         Percent change
                         Year                           from present law
------------------------------------------------------------------------
2003.................................................              8.3
2004.................................................              9.1
2005.................................................             15.4
2006.................................................               .005
------------------------------------------------------------------------

                             5. Conclusion

       The Joint Committee staff model simulations indicate that 
     H.R. 2 would likely stimulate the economy immediately after 
     enactment by creating temporary incentives to increase work 
     effort, business investment, and consumption. This stimulus 
     is reduced over time because the consumption, labor, and 
     investment incentives are temporary, and because the positive 
     business investment incentives arising from the tax policy 
     are eventually likely to be outweighted by the reduction in 
     national savings due to increasing Federal government 
     deficits.

                          ____________________