G13 Capital gains vs GDP Residual Growth 1920-2010

The two scatter plots show the curvilinear relationship between the capital gains tax rate and residual growth for the data when the top bracket was above and below 900 times per-capita GDP. The charts use the same five year lead time as previous charts showing the relationship between the capital gains tax rate and growth.

The red curvilinear fit line from the left scatter plot is the basis for the growth estimates shown in red on the time-series plot. The violet curvilinear fit line in the right scatter plot is the basis for the growth estimates shown in violet on the time-series plot.

The violet and red lines together show the influence of the capital gains tax rate on growth for the last 90 years. This influence combined with the influence of the top bracket and top tax rate make the model in Figure G14.

The residual growth is the actual growth less the influence of the top bracket; its construction is shown in Figure G11. The fastest year of residual growth was 1923 which grew 9% faster than the estimate based on the top bracket. This year corresponds to the 77% capital gains tax rate in 1918.

Having the capital gains rate estimate residual growth makes for a more natural combination of the two data ranges with different brackets. The different ranges for the top bracket are shown in Figure T3.

G12 Top Marginal Rate vs GDP Residual Growth1920-2010

The two scatter plots show the curvilinear relationship between the top rate and residual growth for the data when the top bracket was above and below 80 times per-capita GDP. The charts use the same two year lead time as previous charts showing the relationship between the top rate and growth.

The red curvilinear fit line from the left scatter plot is the basis for the growth estimate shown in red on the time-series plot. The violet curvilinear fit line in the right scatter plot is the basis for the growth estimate shown in violet on the time-series plot.

The violet and red lines together show the influence of the top marginal tax rate on growth for the last 90 years. This influence combined with the influence of the top bracket and capital gains rate make the model in Figure G14.

The residual growth is the actual growth less the influence of the top bracket; its construction is shown in Figure G11. The fastest year of residual growth was 1923 which grew 9% faster than the estimate based on the top bracket. This year corresponds to the 73% top rate in 1921.

Having the top rate estimate residual growth makes for a more natural combination of the two data ranges with different brackets. The different ranges for the top bracket are shown in Figure T3.

G7 Tax Policy vs GDP Growth 1968-2010

Figure G7 shows annual growth for GDP from 1968 to 2010 and the combined influence on growth from the curvilinear relationship of the top marginal tax rate on growth shown in Figure G5 and the curvilinear relationship of the capital gains tax rate shown in Figure G6.

The curvilinear relationships of the tax rates with growth suggest the baseline growth rate for current tax policy is 0.3%.  This is weaker than the forecast of the linear correlations shown in Figure G3.

Figure G8 shows the actual growth over 5 year periods and the 5 year rate of growth estimated by the above model.

To show the influence of tax policy on growth prior to 1968 requires showing the influence of the top tax bracket on growth and how the top bracket affects the growth optimizing tax rates. These correlations are covered in Figures T2, T3 and G9 –G15.

G3 Tax Policy vs GDP Growth 1984-2010

At a given tax bracket there is a growth optimizing top tax rate and capital gains tax rate. Since 1984 both tax rates have been below the growth maximizing level. The top rate (in green) leads growth 2 years. The capital gains rate (in blue) leads growth 5 years. Every tax rate cut in the chart corresponds with weaker growth while tax increases correspond to stronger growth. The model (in red) shows the combined influence of the two tax rates on growth. It predicts a baseline growth rate of 0.8% going forward.

The strongest growth in 1984 corresponds with the highest tax rates in the period, 50% top rate and a 28% capital gains rate. The great recession corresponds to the lowest combination of tax rates. The Recession of 1990 corresponds to the next lowest combination.

Volatility in annual GDP growth may mask the significance of tax policy’s impact on growth. Figure G4 shows the growth rate over 5 year periods and the rate predicted by tax policy.

Looking back prior to 1984 requires showing the curvilinear relationships between growth and tax rates shown in Figures G5 – G8.

Looking back prior to 1968 requires examining growth’s relationship with the top tax bracket and how the top bracket influences the growth optimizing tax rates, as shown in Figure T2 and Figures G9 –G15.

G2 GDP Growth with low tax rates 1920-2010

The green triangles show the years of growth influenced by a top marginal tax rate below 37%. The top rate one year influences growth about two years later. So when the top rate was cut to 35% in 2003 it affected growth beginning about 2005. The years affected by at this low top rate averaged a negative growth rate of -0.1%.

The blue diamonds show the years influenced by a capital gain tax rate at or below 20%. The capital gains rate leads growth by about 5 years. So cutting the capital gains rate to 20% in 1997 began affecting growth about 2002. The years corresponding to a capital gain rate at or below 20% averaged growing at 1.4%.

The years affected by both a top rate below 37% and a capital gains rate at or below 20% averaged negative growth at -0.8%. The Great Depression, the recession of 1990 and the Great Recession were all influenced by such a tax policy. Only one year affected by such a tax policy, 1929, had above average growth.

Growth influenced by low tax rates compares poorly with the 3.3% average growth rate.