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HOW BUDGETARY CHOICES AFFECT

WORK, SAVING, AND GROWTH: THE

REAL PURPOSE OF DYNAMIC ESTIMATING

HEARING

BEFORE THE

COMMITTEE ON THE BUDGET 

HOUSE OF REPRESENTATIVES

ONE HUNDRED NINTH CONGRESS

SECOND SESSION

HEARING HELD IN WASHINGTON, DC, SEPTEMBER 13, 2006

Serial No. 109–20

Printed for the use of the Committee on the Budget

(

Available on the Internet: 

http://www.gpoaccess.gov/congress/house/budget/index.html 

(II)

COMMITTEE ON THE BUDGET 

JIM NUSSLE, Iowa, Chairman 

JIM RYUN, Kansas 

ANDER CRENSHAW, Florida 

ADAM H. PUTNAM, Florida 

ROGER F. WICKER, Mississippi 

KENNY C. HULSHOF, Missouri 

JO BONNER, Alabama 

SCOTT GARRETT, New Jersey 

J. GRESHAM BARRETT, South Carolina 

THADDEUS G. MCCOTTER, Michigan 

MARIO DIAZ–BALART, Florida 

JEB HENSARLING, Texas 

DANIEL E. LUNGREN, California 

PETE SESSIONS, Texas 

PAUL RYAN, Wisconsin 

MICHAEL K. SIMPSON, Idaho 

JEB BRADLEY, New Hampshire 

PATRICK T. MCHENRY, North Carolina 

CONNIE MACK, Florida 

K. MICHAEL CONAWAY, Texas 

CHRIS CHOCOLA, Indiana 

JOHN CAMPBELL, California 

JOHN M. SPRATT, JR., South Carolina, 

Ranking Minority Member 

DENNIS MOORE, Kansas 

RICHARD E. NEAL, Massachusetts 

ROSA L. DELAURO, Connecticut 

CHET EDWARDS, Texas 

HAROLD E. FORD, JR., Tennessee 

LOIS CAPPS, California 

BRIAN BAIRD, Washington 

JIM COOPER, Tennessee 

ARTUR DAVIS, Alabama 

WILLIAM J. JEFFERSON, Louisiana 

THOMAS H. ALLEN, Maine 

ED CASE, Hawaii 

CYNTHIA MCKINNEY, Georgia 

HENRY CUELLAR, Texas 

ALLYSON Y. SCHWARTZ, Pennsylvania 

RON KIND, Wisconsin 

PROFESSIONAL STAFF

JAMES T. BATES, Chief of Staff 

THOMAS S. KAHN, Minority Staff Director and Chief Counsel 

(III)

C O N T E N T S

Page 

Hearing held in Washington, DC, September 13, 2006 ........................................ 1

Statement of: 

Hon. Ander Crenshaw, acting chairman, Committee on the Budget ........... 1

Douglas J. Holtz-Eakin, director, Maurice R. Greenberg Center for 

Geoeconomic Studies, Council on Foreign Relations .................................. 5

John W. Diamond, fellow in tax policy, James A. Baker III Institute 

for Public Policy ............................................................................................ 12

Leonard E. Burman, senior fellow, Urban Institute ...................................... 17

Prepared statement of: 

Mr. Crenshaw ................................................................................................... 3

Mr. Holtz-Eakin ................................................................................................ 9

Mr. Diamond ..................................................................................................... 15

Mr. Burman ...................................................................................................... 19

(1)

HOW BUDGETARY CHOICES AFFECT

WORK, SAVING, AND GROWTH: THE REAL 

PURPOSE OF DYNAMIC ESTIMATING 

WEDNESDAY, SEPTEMBER 13, 2006

HOUSE OF REPRESENTATIVES, 

COMMITTEE ON THE BUDGET, 

Washington, DC. 

The committee met, pursuant to call, at 10:07 a.m. in room 210, 

Cannon House Office Building, Hon. Ander Crenshaw (acting chairman of the committee) presiding. 

Present: Representatives Crenshaw, Barrett, Chocola, DiazBalaret, Wicker, Ryun, Putnam Neal, Baird, Cuellar, and Moore. 

Mr. CRENSHAW. The meeting will come to order. This is a hearing 

on how budgetary choices affect work, savings, and growth. I want 

to say welcome to our witnesses, and I will make an opening statement, and then ask Mr. Neal to do the same. 

When Congress writes the Federal budget each year, we rely on 

a range of technical rules and conventions called budget concepts 

that were designed to give us a stable and consistent playing field 

for the policy decisions that we make. Because these budget concepts set the rules not only for how we write budgets, but also how 

we enforce them, I believe that it is critical for this body to engage 

in a comprehensive review of those rules to ensure that they are 

not only accurate but current, relevant, and truly helpful for our 

legislative work. 

While we have done some tweaking here and there over the 

years, a comprehensive formal review has not been undertaken in 

nearly 4 decades. Clearly, 40-year old concepts cannot possibly account for the real word economic precepts that drive our 21st century economy. 

So last week I introduced legislation establishing a commission 

of experts to review the technical underpinnings of our budget and 

accounting practices to report the findings back to Congress. This 

Commission will provide needed oversight and make recommendations on ways to modernize our basic budgetary principles as Congress brings more accountability and transparency to the budget 

process while dealing with 21-century issues. 

This brings me to the subject of today’s hearing, what is known 

as dynamic analysis of budget policies, which is one of the most important concepts to be studied under the bill that I have proposed. 

Dynamic estimating has been discussed and analyzed, and even 

attempted, to some degree, since the Reagan administration, and 

along the way it has attracted its share of confusion, so let me take 

2

a moment to dispel two of the most common misconceptions on the 

subject. 

First of all, I think everyone understands that dynamic analysis 

is not a means of showing that tax cuts pay for themselves. Dynamic analysis does show how various pro-growth policies, especially tax policies, affect people’s incentives to work, save and invest; and thus affect the economy’s performance. When these incentives are taken into account, they can alter the pace of economic 

growth and, in turn, produce additional revenue that might not 

have been expected without the implemented policies. 

The impact of our legislative actions must be analyzed to produce 

a fair, accurate picture of the costs and benefits associated with 

various tax policies. For instance, several recent tax measures have 

had an impact on our overall tax revenues, however, the true impact of these measures were not captured, so to speak, in our original analysis of the proposals. One example that comes to mind is 

the tax cuts that were adopted by Congress in 1997. At that time, 

Congress cut taxes by about $89 billion over 5 years, and yet tax 

revenues the next year increased from 19.3 percent of GDP to 20 

percent of GDP and the budget was balanced. 

Another example is that over the past 2 years, we have seen double digit growth in revenues, and declining budget deficits, even 

though we have stuck with the tax relief of 2001 and 2003. These 

are historical facts demonstrating that cutting taxes and increasing 

revenue are not necessarily contradictory if you can reduce taxes 

in ways that enhance incentives for growth. So dynamic analysis 

is a way of incorporating these economic effects in our budget estimates. 

The second point I want to make is that dynamic analysis does 

not guarantee perfect accuracy in estimating budget outcomes. 

First, budget estimating always involves making assumptions 

about what will happen in the future, so there will always be some 

level of uncertainty involved. Add that to the fact that you are 

dealing with a $2.8 trillion budget in the midst of a highly diverse 

$13 trillion market economy, and the chances of getting absolute 

perfection in the budget estimates are pretty slim. 

The important benefit of dynamic analysis is that it helps us see 

more clearly the real effects of our policy choices and the ramifications they can have. It systematically examines how policy affect 

incentives to work and invest, which directly affect how people live 

their lives. For example, we might find that two different policies 

with the same budget outcome actually have very different incentive effects and therefore, different effects on people’s lives. Dynamic analysis can, so call, feedback this information to see how 

the policy will affect our economy overall. 

I believe this is helpful information to have when we are making 

important decisions, often expensive policy choices. 

So now, budget analysts have already been looking into these incentive effects for some time, but we have not pulled together all 

the pieces of this comprehensive dynamic analysis approach. How 

to go about doing that is one of the things our witnesses will discuss today. 

On a final note, today’s hearing will focus mainly on dynamic 

analysis. While we often hear the terms dynamic analysis and dyVerDate 0ct 09 2002 16:07 Nov 28, 2006 Jkt 000000 PO 00000 Frm 00006 Fmt 6633 Sfmt 6633 H:\DOCS\HBUDGET\HBU256.000 EDUWK PsN: DICK
3

namic scoring used interchangeably, they are not necessarily the 

same. Dynamic scoring deals with a particular application of dynamic analysis. The analysis is the broader overarching concept 

and, again, what we will be focusing on today. 

To help us in this discussion, we have with us Dr. Douglas J. 

Holtz-Eakin, former director of our Congressional Budget Office 

(CBO), John W. Diamond, a tax policy expert at Rice University 

who has worked directly on dynamic analysis for the Treasury Department, and Leonard Burman, a senior fellow at the Urban Institute. 

Dynamic analysis is a particularly complicated subject and employs a lot of specialized technical principles and language, and we 

are fortunate to have these witnesses here today, not only knowledgeable on the subject, but they are also very well skilled at describing complicated issues to non economists such as Members of 

Congress and other policymakers and the public. So again, we welcome all three of you here today. Thank you for being here. 

And with that I will turn to Mr. Neal for any opening statement 

that he may have. 

[The prepared statement of Mr. Crenshaw follows:]

PREPARED STATEMENT OF HON. ANDER CRENSHAW, A REPRESENTATIVE IN CONGRESS

FROM THE STATE OF FLORIDA

When Congress writes the Federal budget each year, we rely on a range of technical rules and conventions—called budget ‘‘concepts’’—that were designed to give 

us a stable and consistent playing field for the policy decisions we make. 

Because these budget concepts set the rules not only for how we write budgets, 

but also how we enforce them, I believe that it is critical for this body to engage 

in a comprehensive review of those rules to ensure that they’re not only accurate, 

but current, relevant, and truly helpful for our legislative work. While we have done 

some tweaking here and there over the years, a comprehensive, formal review of our 

technical rules has not been undertaken in nearly four decades. Clearly, forty year 

old concepts cannot possibly account for some of the real-world economic precepts 

that drive our 21st Century economy. 

So, last week I introduced legislation establishing a commission of experts to review the technical underpinnings of our budget and accounting practices and report 

its findings back to Congress. This commission will provide needed oversight and 

make recommendations on ways to modernize our basic budgetary principles as 

Congress brings more accountability and transparency to the budget process while 

dealing with 21st Century issues. 

This brings me to the subject of today’s hearing—what’s known as ‘‘dynamic’’ 

analysis of budget policies—which is one of the most important concepts to be studied under the bill I’ve proposed. Dynamic estimating has been discussed and analyzed—and even attempted, to some degree—since the Reagan administration. And 

along the way, it has attracted its share of confusion. So let me take a moment to 

dispel two of the most common misconceptions on the subject. 

First, I think everyone understands that dynamic analysis is not a means of showing that ‘‘tax cuts pay for themselves.’’ Dynamic analysis does show how various 

pro-growth policies—especially tax policies—affect people’s incentives to work, save, 

and invest—and thus, affect the economy’s performance. When these incentives are 

taken into account, they can alter the pace of economic growth, and in turn produce 

additional tax revenue that might not have been expected without the implemented 

policies. The impact of our legislative actions must be analyzed to produce a fair, 

accurate picture of the costs or benefits associated with various tax policies. 

For instance, several recent tax measures have had an impact on our overall tax 

revenues; however, the true impacts of those measures were not ‘‘captured’’ in our 

original analysis of the proposals. One example that comes to mind is the 1997 tax 

cuts adopted by Congress. At that time, Congress cut taxes by about $89 billion over 

five years—and yet tax revenue the next year increased from 19.3% of GDP to 20%, 

and the budget was balanced. 

Another example is that over the past two years, we’ve seen double-digit growth 

in revenue—and declining budget deficits—even though we’ve stuck with the tax reVerDate 0ct 09 2002 16:07 Nov 28, 2006 Jkt 000000 PO 00000 Frm 00007 Fmt 6633 Sfmt 6621 H:\DOCS\HBUDGET\HBU256.000 EDUWK PsN: DICK
4

lief of 2001 and 2003. These are historical facts, demonstrating that cutting taxes 

and increasing revenue are not contradictory—if you can reduce taxes in ways that 

enhance incentives for growth. 

Dynamic analysis is a way of incorporating these economic effects in our budget 

estimates. 

Second, dynamic analysis does not guarantee perfect accuracy in estimating budget outcomes. But nothing could. First, budget estimating always involves making assumptions about what will happen in the future—so there will always be some level 

of uncertainty involved. Add to that the fact that you’re dealing with a $2.8-trillion 

budget in the midst of a highly diverse, $13-trillion market economy, and the 

chances of getting absolute precision in budget estimates are slim. 

The important benefit of dynamic analysis is that it helps us see more clearly the 

real effects of our policy choices, and the ramifications they can have. It systematically examines how policies affect incentives to work and invest—which directly affect how real people live. 

For example, we might find that two different policies with the same budget outcomes actually have very different incentive effects—and therefore different effects 

on people’s lives. Dynamic analysis can ‘‘feed back’’ this information to see how the 

policy will affect the economy overall. I believe that’s helpful information to have 

when we’re making important and often expensive policy choices. 

Now, budget analysts have already been looking into these incentive effects for 

some time. But we’ve not pulled together all the pieces for a comprehensive dynamic 

analysis approach. How to go about doing this is one of the things our witnesses 

will discuss today. 

On a final note—today’s hearing will focus mainly on dynamic analysis. And while 

we often hear the terms ‘‘dynamic analysis’’ and ‘‘dynamic scoring’’ used interchangeably—they are not the same. ‘‘Dynamic scoring’’ deals with a particular application of ‘‘dynamic analysis.’’ The analysis is the broader, overarching concept, and 

again, what we’ll be focusing on today. 

To help us in this discussion, we have with us Dr. Douglas J. Holtz-Eakin, former 

director of our Congressional Budget Office; John W. Diamond, a tax policy expert 

at Rice University who has worked directly on dynamic analysis for the Treasury 

Department; and Leonard E. Burman, a senior fellow at the Urban Institute. 

Dynamic analysis is a particularly complicated subject, and employs a lot of specialized, technical principles and language. We are fortunate to have witnesses 

today who are not only very knowledgeable about the subject, but who are also skillful at describing complicated issues to non-economists—such as Members of Congress, other policy makers, and the public. 

So again, welcome to all three of you, and thank you for being with us today. 

With that, I’ll turn to Mr. Spratt for any opening statement he may have. Mr. 

Spratt?

Mr. NEAL. Thank you very much, Mr. Chairman. I am sitting in 

for Mr. Spratt this morning, and I want to say a word of welcome 

to our witnesses as well. 

This really should be called the dynamic deficits hearing. I think 

that is a more accurate portrayal of why we are here. The subject 

of how best to accurately estimate the budgetary impact of various 

policy proposals is certainly important, especially at a time when 

the Federal budget faces enormous and persistent deficits. There is 

a natural tendency to hope that the tax cuts cost less than they 

might first seem to. There are still a number of unanswered questions about dynamic analysis, and the hearing today should provide 

us with additional insight into those questions. 

However, it is worth noting that there is a strong consensus 

among mainstream economists on a few key points. First, dynamic 

estimation is dependent on the economic assumptions in different 

models. So whether a particular policies macroeconomic impact is 

estimated to be positive or negative often hinges on the underlying 

assumptions of the model. 

Second, whether a policy’s economic effects are estimated to be 

positive or negative, these effects are generally estimated to be relatively small. For example, a recent Treasury Department analysis 

5

shows a range of possible economic effects for making permanent 

the President’s tax cuts. But the most optimistic outcome included 

in the analysis shows the economy growing by only a few hundredths of a percentage point in extra economic growth per year. 

Third, though we all wish for policies that magically pay for 

themselves, the economic effects estimated by dynamic analysis are 

sufficiently modest that they are relatively close to the current estimates produced by the Joint Committee on Taxation (JCT). Claims 

that tax cuts produce more revenue and therefore, improve the 

budget’s bottom line are not supported by economic research or by 

a stream of revenues collected by the Treasury. 

Fourth, all long-term dynamic estimates assume that there is 

some sort of offset to compensate for the cost of tax cuts. But the 

current administration has not proposed offsets for its policies, 

choosing instead to finance them with new borrowing and new 

debt, including fighting two wars with seven tax cuts. 

There are a lot of technical issues that I think are worth reviewing as they surround this process, and I hope that today’s hearing 

can be a worthwhile part of a larger discussion of the benefits and 

pitfalls of dynamic scoring. 

We all want a scoring process that provides as much information 

as possible about the economic effects of fiscal policy. But we also 

want a policy that is accurate, unbiased and timely. I hope that as 

we begin this discussion, we are not going to start from the 

premise that deficits are not really deficits. I hope that as we proceed with earmark reform here, and yesterday’s news accounts indicated where many of our colleagues are on earmark reform, they 

are for it, but they want help in stopping them before they spend 

again. 

And some of the loudest voices for fiscal responsibility around 

here, I noted, with news accounts over the last couple of days, really are among the bigger spenders in Congress as it relates to the 

whole notion of loading up the appropriations bills. All we need in 

that instance is the line-item veto to stop them from spending 

again. 

So I have great regard for our witnesses, and I hope that those 

shed some light on a very timely topic. But I hope that we will not 

find our way into a situation whereby the simple argument is that 

if we change the way we talk about these issues, somehow the 

issues will resolve themselves. 

Thank you, Mr. Chairman. 

STATEMENTS OF DOUGLAS J. HOLTZ–EAKIN, DIRECTOR, MAURICE R. GREENBERG CENTER FOR GEOECONOMIC STUDIES, 

COUNCIL ON FOREIGN RELATIONS; JOHN W. DIAM0ND, FELLOW IN TAX POLICY JAMES A BAKER III INSTITUTE FOR 

PUBLIC POLICY; AND LEONARD E. BURMAN, SENIOR FELLOW, URBAN INSTITUTE 

Mr. CRENSHAW. Thank you very much. We will start with our 

witnesses now, and first I will call on Dr. Holtz-Eakin. 

STATEMENT OF DOUGLAS J. HOLTZ–EAKIN 

Mr. HOLTZ-EAKIN. Thank you, Chairman Crenshaw and Ranking 

Member Neal, members of the committee, it is a pleasure to be 

6

here today. This is, in fact, a very important issue, the nature by 

which the scoring is done for proposals presented to the Congress, 

and I would want to applaud the chairman’s efforts to lay out the 

language clearly at the beginning, but in order to make sure that 

I am clear about the things that I say, let me provide my own definitions as I see them. 

You can put several words after dynamic. One, you could say dynamic analysis, and I think of a dynamic analysis as one-time efforts to look at the impact of, in particular, fiscal policies on the 

overall macroeconomic performance of the economy. 

You could also put after it dynamic estimating, which I think of 

as one time efforts to extend a dynamic analysis to include the specific feedbacks on tax and spending in the Federal budget, and 

thereby alter the estimates of the budgetary future. 

Or you could use the word dynamic scoring, and that, I think, 

is a bigger step yet, one which involves the regular and systematic 

estimating of the impact of the legislation on the unified budget by 

including macroeconomic feedbacks. And in going to that step, I 

would emphasize the regular part of it, and the fact that it would 

be incorporated into the official scoring process used by the Congress. And I want to focus my remarks today on the kinds of issues 

that arise if one thinks of doing this in a more regular fashion. 

It is quite straightforward for many analysts to do one-time analyses of different fiscal policies, and the academic think tank and 

larger community has done many such things over time. I think 

the important issue for this committee is regularizing the process 

and providing information on a comparative basis for many different proposals, and I want to focus on that. 

Before doing that, I want to really emphasize that the notion of 

dynamic versus static has really led to an unfortunate 

misperception of what static scoring or the current conventions 

really means. It has led some people to believe that the current 

scoring process essentially envisions that every U.S. household and 

every U.S. firm and every U.S. economic actor is frozen in some 

sort of ice freeze and doesn’t react to fiscal policy. That is just not 

true. If you think of the Medicare Modernization Act, for example, 

this was the creation of an entity that did not exist in nature, a 

privately provided insurance benefit for the cost of outpatient prescription drugs. 

In doing that estimate, analysts had to imagine what firms 

would enter such a market, what beneficiaries would take up such 

coverage, what bids firms would makes to cover those particular retirees, what firms would drop their current retiree coverage, and 

how individuals would react to the loss of their Medigap coverage 

and, in the end, how much the Federal Government would have to 

pick up in terms of the cost of that. 

There is an extraordinary range of economic behaviors and responses included in that estimate which is labeled static under the 

conventional language, and so I want to really disabuse everyone 

of the notion that somehow the current process does not include 

economic behavior and responses to incentive. There is a lot in 

there. It is true at the CBO, and it is true at JCT. 

What dynamic scoring would do would be to extend the boundary 

of those behaviors to allow the current practice of fixing the total 

7

economic activity as it is in the baseline provided and allow it to 

be extended to let fiscal policy raise the level of economic growth 

or lower the level of economic growth, and thereby change total incomes and total output in the economy. That is the essential step 

taken by dynamic scoring, and I think it would be desirable to do 

that in principle. 

Certainly, when one evaluates policies, you like to look at the 

world without the policy, look at the world with the policy and compare all the feedbacks in between, including those which raise and 

lower economic growth. And in the current environment, understanding policies which are superior for long-term economic growth 

is very important. There are tremendous demands that will face 

this economy as the baby boomer retires and as we deal with the 

costs of Social Security, Medicare, Medicaid and a litany of other 

demands, with which you are very familiar. 

So a premium should be placed on policies which actually support long-term economic growth because that is the economic pie 

out of which all of these demands will be met. And in doing that, 

it will be important to recognize that not all spending programs are 

created the same. Not all tax cuts are created the same, and that 

doing a dynamic scoring exercise can differentiate between them. 

The difficulty, of course, is turning this into a regular practice, 

and in my testimony, I laid out some of the issues, and I want to 

touch briefly on them in sort of highlighting what it would take to 

turn this into a regular part of the process. The first is just the fact 

that it is a larger enterprise. To undertake a full dynamic analysis 

is essentially to undertake two baseline forecasting exercises. The 

production of the baseline budget outlook is a very large enterprise 

at the CBO, the JCT and the Budget Committees. To do it on a 

more regular basis would involve a greater scale of activity. And 

sadly, most of that activity would happen at very bad times from 

the point of view of analysts. It is often the case that in legislative 

deliberations important changes are made at night, on weekends, 

as the Congress comes to terms with exactly the final form of a 

proposal, and those legislative changes often matter. The language 

does matter. We have all been through experiences like that. So 

having that interact with the need for a lot of time to do the dynamics, I think, highlights a potential problem with doing this too 

frequently, that it will be hard to get it done. 

The second issue that comes up all the time is that currently, 

lots of dynamic estimating, dynamic analyses use different models, 

and it would be necessary in a formal budget process, to come up 

with a single set of numbers. The Budget Committee would have 

the responsibility for blessing the budget estimates, and there 

would be a single set of such estimates attached to each legislation. 

And so that raises the question of just how that acceptance will 

take place. I don’t think that is insurmountable, but it is work that 

needs to be done. There has to be some agreement about the nature of the modeling. 

In similar spirit, there will have to be some agreement on what 

to do with the issue of offsetting policies outside the budget window. As the Treasury report has made quite clear, if you imagine 

having a tax cut now which requires some offsetting policy in the 

future, you get a very different answer if you assume that we are 

8

going to raise taxes in the future, versus if we are going to cut government consumption in the future. 

Now, scoring is the art of ranking alternative proposals. And if 

you think of scoring as just a ranking issue, better proposals will 

look better on either offsetting policy, they will look better even if 

you raise taxes in the future, they will look especially better if you 

cut spending in the future. The key is to have an agreed upon policy outside the budget window that will apply to all proposals so 

that the rankings are not altered by what policies are assumed at 

the outset. So you have to have some assumption about the nature 

of the offsetting policy. 

I think it is also important to reach agreements in doing this on 

what kinds of growth will be incorporated into dynamic scoring. In 

the midst of a recession, if the Federal Government chooses to cut 

taxes, increase spending or, in other ways, throw money at the private sector, it is quite likely to produce the kind of growth that 

comes from using existing labor and capital that is currently unused. That is not the recipe for long run growth. That is actually 

typically at odds with the recipe for long run growth. 

So I think it would be important to focus the kinds of growth rewarded in dynamic scoring on long run growth, not on cyclical recoveries, and that would be an agreement that would have to be 

reached, and those who use the dynamic scoring, which kinds of 

feedbacks would be agreed upon. 

And then finally, at the moment, two different entities are involved in the scoring process. The Joint Committee has primary responsibility for taxes. The CBO has primary responsibility for 

spending. The essence of a dynamic analysis is that, regardless of 

where the impetus begins, on the spending side or the tax side, you 

want to keep track of the ultimate impact on both sides of the Federal budget, feedbacks on tax receipts, feedbacks on spending, net 

impact on the unified budget. That will require greater coordination between those two bodies in doing this kind of work, and that 

is an issue that the Budget Committee should be quite focused on 

in thinking about moving forward. 

So I think this is a sensible piece of science. I think it is the kind 

of information that you would want to have in the scoring process. 

I think there are some important logistical and essentially scoring 

conventions that need to be established in order to move forward. 

And if that were to be accomplished, it is important to recognize 

that this will not be a panacea in many ways. It will not, in fact, 

improve the accuracy, as was noted at the outset. 

Scoring is not about accurate projection. It is about accurate 

ranking of alternative proposals, which ones have bigger and smaller effects on the Federal deficit, not what will the actual number 

be. And for that reason, we do scoring now off a fixed baseline and 

using a unified set of rules. 

Dynamic scoring should be done off a fixed baseline using a unified set of rules. It isn’t about forecasting the future, about ranking 

alternative proposals. It won’t relieve analysts of judgment calls. 

Dynamic scoring is not a box into which you drop a proposal and 

out comes the magic answer. It will have more judgment calls than 

were true in the past, but I don’t think that should be a disqualifying factor. It is simply a fact of life that there are many things 

9

about which we know a lot, and there are many things about which 

we know very little. And that is not a dynamic scoring issue. That 

is a scoring issue. In the current setting there are lots of proposals 

that come through about which we know very little, and judgment 

calls are necessary. The same will be true in dynamic scoring as 

well. 

And finally, I don’t think it would change the world very much. 

There aren’t many proposals that the Congress considers which 

have such profound impact that it will alter the course of the economy in a substantial way. And so the idea that somehow moving 

to dynamic scoring would change budgets estimates in a big way 

on a regular basis, I think, is overblown. 

I include in my testimony the observation that if you went back 

to 1820, the world’s economic power was the United Kingdom. And 

from that point to the present the United States grew about fourtenths of a percent faster than Great Britain on average over that 

period, four-tenths of a percent. That completely revolutionized the 

economic standing of both countries in the world, which is a big impact. 

To make the United States the world’s economic super power, 

but it was four-tenths of a percent. So four-tenths is big, and I 

doubt there are many proposals as big as changing the standing of 

those two countries in the world economic order. So I don’t think 

you will get big impacts out of this. 

But I look forward to the chance to answer your questions, and 

I thank you for the opportunity to be here today. 

Mr. CRENSHAW. Thank you very much. 

[The prepared statement of Douglas Holtz-Eakin follows:]

PREPARED STATEMENT OF DOUGLAS J. HOLTZ-EAKIN, DIRECTOR, MAURICE R. 

GREENBERG CENTER FOR GEOECONOMIC STUDIES, COUNCIL ON FOREIGN RELATIONS

Chairman Nussle, Ranking Member Spratt and members of the Committee, I am 

pleased to have the opportunity to discuss the topic of dynamic scoring in the federal budget process. In my remarks, I wish to make observations that fall into three 

broad areas: 

• The principle of dynamic scoring is good science that would potentially bring 

into the budget process greater information regarding beneficial economic policies, 

• Dynamic scoring faces difficulties of implementation in the budget process, and 

• Dynamic scoring is not a panacea for either policymaking or the budget process. 

Let me cover each in turn before taking your questions. 

DYNAMIC SCORING IS GOOD SCIENCE

Budget ‘‘scores’’ are estimates of the change in the federal unified budget that 

would result from the passage of specific statutory language. All proposals are measured relative to a single, fixed baseline outlook for the budget which is, in turn, 

built upon a projection for the United States economy. A key feature of current scoring is that in evaluating legislation, the aggregate amount of economic activity—

total production and income—is assumed to be unchanged from its baseline values. 

It is this feature that has led some observers to refer to current scoring procedures as ‘‘static.’’ Unfortunately, this label has caused certain critics to mistakenly 

conclude that current procedures do not recognize the incentive effects of legislation—that firms, workers, investors, and households continue their economic lives 

as if nothing had changed. Nothing could be further from the truth. For example, 

in scoring the impact of the Medicare Modernization Act (MMA), congressional analysts necessarily had to incorporate the decision of firms to offer insurance contracts 

for the cost of outpatient pharmaceuticals and bid for customers, the willingness of 

seniors to purchase such insurance, changes in the amount of drugs prescribed and 

purchased, take-up of low-income subsidies, and a myriad other decisions by households, firms, and governments. However, in keeping with current practice, the overVerDate 0ct 09 2002 16:07 Nov 28, 2006 Jkt 000000 PO 00000 Frm 00013 Fmt 6633 Sfmt 6621 H:\DOCS\HBUDGET\HBU256.000 EDUWK PsN: DICK
10

all level of gross domestic product and national income was assumed to be unchanged. 

Dynamic scoring would expand the range of economic impacts to include the pace 

of economic growth—that is, estimating the change in the aggregate level of economic output and income. This has some desirable features. In estimating the impact of the legislation, analysts would (a) consider the direct impacts on program 

costs and tax receipts; (b) evaluate the effects on incentives to work, save, invest 

and conduct economic affairs; (c) estimate the resulting change in the overall level 

of economic activity; (d) compute the impact of this higher or lower level of economic 

activity on program costs and tax receipts; and (e) calculate the net impact of the 

legislation on the unified budget. The key difference is step (d), which is in turn 

built upon (c). 

A virtue of dynamic scoring is that it extends analysis of budget policy to include 

economic policy dimensions. Specifically, dynamic scoring requires that analysts incorporate into their evaluation of legislation all the economic feedbacks at the individual, household, firm, and national level. For this reason, it has the potential to 

distinguish between those policies which are equal in their budget cost, but very different in their economic incentives. Indeed, one of the most attractive aspects of dynamic scoring is its promise of allowing policymakers to distinguish between economically efficient tax and spending policies that promote growth, and those that 

work to reduce the living standards of future generations. 

DIFFICULTIES IN THE PRACTICE OF DYNAMIC SCORING

The mechanics of doing dynamic scoring are not new. Indeed, a dynamic score can 

be thought of as the difference between two full-blown baseline budget projections: 

one in the absence of the legislation, and one in the presence of the proposed legislation. But the scale of the analysis involved in preparing baseline budget projections 

points to the first problem with wholesale adoption of dynamic scoring: time. In 

many, if not most, instances statutory language continues to evolve throughout the 

legislative process: committee deliberation and reporting, floor amendments and 

votes, and conference committee negotiations. Often there is a need for very quick 

and timely scoring information. The scale of a dynamic scoring effort may be in conflict with this need. 

A second practical difficulty with dynamic scoring is the need for a single, consensus estimate. The attraction of dynamic scoring is its ability to reveal the impact 

of legislation on economic growth. However, this impact depends crucially on the 

overall foresightedness of U.S. households and firms. To take an extreme case, 

imagine legislation that cuts all marginal tax rates by five percentage points, with 

the cut to take effect five years from now, but sunset ten years in the future. If people are extremely myopic, this policy has no impact on incentives to work, save or 

invest and there is no dynamic feedback. If they are moderately forward-looking, 

they may anticipate lower taxes and respond to these incentives. If they are even 

more forward-looking, they will recognize both the tax reduction and the subsequent 

rise. As a result, they will work especially hard during the intervening years—yielding a larger increase in output, incomes, and taxes—with a sharper decline when 

taxes rise again. 

One approach to this problem, exemplified by the Congressional Budget Offices 

macroeconomic analysis of the president’s budget proposals, is to provide a variety 

of estimates, each corresponding to a different degree of foresight. However, the 

budget scoring process would require a single set of estimates, implying that a consensus be reached on a wide variety of issues of this type: foresightedness, the pace 

of international capital flows, saving responses of households and firms, and so 

forth. 

The example sketched above highlights another issue in the conduct of dynamic 

scoring: the need for a standard ‘‘offsetting policy.’’ Over the long-term, if individuals have foresight then government debt (relative to the economy) must stabilize. 

Legislative proposals that upset this requirement by increasing spending or reducing taxes (at least relative to their impact on economic growth) will produce debt 

that will grow explosively. Similarly, spending cuts or tax increases (relative to their 

impact on the economy) will cause debt to spiral down. Since the government can 

neither borrow nor save unboundedly large amounts, it is necessary to put a stop 

to either spiral by introducing an offsetting budget policy at some point in the future. 

The choice of policy—spending increases or decreases and the pace at which they 

take place, tax reductions or increases and their timing, or some combination of 

these—will affect the behavior of individuals and firms and influence the score. 

11

Since a primary objective of scoring is to treat all legislative proposals equally, it 

will be necessary to pick a single type of offsetting policy and use it for all proposals. 

Another challenge in implementing dynamic scoring is the degree to which the 

score reflects only supply-side growth, or also includes demand-side cyclical influences. Broadly speaking, economies grow in one of two ways. Supply-side growth occurs when there is an increase in the capacity to produce goods and services though 

the addition of greater labor supply (labor force participation, hours worked, higher 

effort per hour, greater skills per worker, better efficiency in the use of labor effort 

and skills, and so forth), greater physical capital (more or better equipment, software, buildings, and so forth) and improved technical prowess (new technologies or 

superior organization and management). 

Demand-side growth (or contraction) reflects business cycle fluctuations in the extent to which existing labor supply, capital, and technical prowess are utilized. The 

attention paid to monetary and other stabilization policies is clear tribute to the fact 

that recessions are costly and faster recoveries are desirable. But these changes are 

transitory and it may not be desirable to include transitory components in the budgetary evaluation of legislative changes. 

If these effects are included, they will depend crucially on whether the budget 

baseline projection begins in a period of recession or boom. If it is the former, then 

positive demand effects will augment growth. If it is the latter, growth is limited 

and the result will be faster onset of return to supply-side potential and greater inflationary pressures. 

Finally, the ultimate size, direction, and character of demand-side effects depend 

as well upon the assumed path of monetary policy. In a manner similar to offsetting 

budget policies, it would be necessary to make assumptions regarding the response 

of monetary policy to the legislative changes. 

A final issue that arises in full-blown use of dynamic scoring is the interaction 

between taxes and spending. At present, the Congressional Budget Office scores 

spending proposals and the Joint Committee on Taxation scores the bulk of tax legislation. By its nature, dynamic scoring seeks to identify the indirect spending consequences of tax legislation and vice versa. Accordingly, it will be necessary for 

these groups to coordinate extensively their respective efforts. 

DYNAMIC SCORING IS NOT A PANACEA

One occasionally hears that dynamic scoring is desirable because it will be more 

accurate. While dynamic scoring will more fully incorporate a wider range of behavioral responses, it is not likely to improve accuracy. First, the mechanical nature 

of scoring—evaluating different policy proposals using a baseline fixed at the beginning of the legislative calendar—is necessary for even-handed evaluation of alternative proposals, but hardly a recipe for improved accuracy in an ever-changing 

economy. Further, as noted earlier, the same level, legislative playing field necessarily entails identical and ‘‘unrealistic’’ assumptions regarding offsetting budget 

policies and monetary policy. Finally, to the extent that the pursuit of good policy 

leads to a decision to focus on long-run, supply-side growth then the elimination of 

cycles moves scoring even further away from ‘‘accurate’’ predictions. 

Similarly, any move to dynamic scoring would not eliminate the need for analysts 

making judgment decisions. Quite the contrary, as noted above, in addition to the 

plethora of issues that already exist (e.g., how fast will legislation become law; how 

quickly will administrative rule-making be completed; what will implementing regulation look like; how fast will awareness spread and program participation rise?) additional decisions will be needed on the nature of economic growth policies’ ability 

to influence it. 

Neither of these outcomes is bad. The combination of baseline projections and 

budget scores is intended to support the legislative process, not forecast the economy. There are far more parsimonious and accurate forecasting procedures available. Evaluating innovative legislative proposals necessarily requires analytic judgment because there is literally no policy track record on which to rely. Dynamic 

scoring may reflect a change in the desired content of the budget process; it does 

not change the fact that scoring supports that process. 

Finally, the greatest reason that dynamic scoring is not a panacea is that it is 

unlikely to change the bottom line very much. The entire federal budget is only onefifth the U.S. economy, and few legislative proposals affect even a fraction of the 

outlay or receipts stream. That is, most legislative proposals don’t have enough 

overall ‘‘bang’’ to generate much dynamics. Of course, some have superior incentive 

effects—a big ‘‘bang for the buck.’’ But even the dynamics of these proposals are not 

likely to look very large. Over the period from 1820 to 1998, output per capita in 

the United States grew an average of 0.4 percentage points faster than in the 

12

United Kingdom (1.74 versus 1.35 percent per year). Thus, 0.4 percentage points per 

year—which transformed the global economic order—is a big supply-side growth-effect. 

For this reason, some have proposed restricting dynamic scoring to particularly 

comprehensive tax or spending proposals such as tax or social security reform. 

While sensible in itself, taken at face value it would produce an asymmetry between 

proposals evaluated with traditional scoring and those that were evaluated using 

dynamic scoring. 

CONCLUSION

Mr. Chairman and members of the Committee, dynamic scoring is an important 

and potentially valuable tool for Congress to use in evaluating legislative proposals. 

I am grateful to have the opportunity to discuss my views on the issue, and look 

forward to answering your questions.

Mr. CRENSHAW. Mr. Diamond. 

STATEMENT OF JOHN W. DIAMOND 

Mr. DIAMOND. Let me start by saying that my testimony is a reflection of my views alone and should not be attributed to any institution or agency that I am affiliated with in other ways. 

Chairman Crenshaw, Ranking Member Neal, and members of 

the committee, it is an honor to testify before you on the potential 

usefulness of including estimates of the macroeconomic effects of 

tax and expenditure policies in the budget process. 

Dynamic scoring is theoretically preferred to the current budget 

scoring process. However, many questions remain about how best 

to implement a practical and timely framework for such a method. 

In my testimony, I propose that it is more reasonable to begin by 

focusing on consistent and timely use of dynamic analysis in the 

budget process, rather than adopting dynamic scoring initially for 

the following reasons: Dynamic analysis, if used appropriately, can 

provide useful information about the efficiencies and distributional 

effects of alternative tax proposals. 

Dynamic analysis is far less controversial than dynamic scoring. 

And dynamic analysis is a necessary component in any budget 

process that includes dynamic scoring because it would be used to 

analyze and relay information about the macroeconomic effects of 

tax proposals, which are not currently included in conventional revenue estimates. 

Implementing a budget process that encourages the adoption of 

efficient, fair and simple tax and spending policies is critical, given 

the fiscal gap facing our Nation. It is important to note that dynamic analysis is already used on a limited scale. For example, 

CBO and JCT have produced dynamic analyses of several significant tax proposals. 

More recently, the Department of the Treasury’s Office of Tax 

Analysis has published a dynamic analyses of the reform proposals 

made by the President’s advisory panel on Federal tax reform, and 

the proposal to permanently extend the President’s tax relief. 

A useful example is this latest Office of Technical Assistance 

(OTA) report in July of 2006 that examines dynamic effects of the 

President’s proposal to permanently extend a variety of tax provisions enacted in 2001 and 2003. The report provides information on 

the macroeconomic effects of various provisions as well as the aggregate effects of all of the provisions. This information allows for 

a comparison of the macroeconomic effects of various policies and, 

13

if used appropriately, could prove useful in structuring an efficient 

tax policy. 

For example, the OTA report showed that lowering capital gains 

and dividend taxes, coupled with a decrease in government consumption after 10 years, increased gross national product by 0.4 

percent in the long run. By comparison, if revenue losses were offset by an across-the-board tax increase after 10 years, the report 

predicts a 0.3 percent increase in real GNP in the long run. 

In fact, permanently extending the dividend and capital gains 

tax cuts increased real GNP in the long run all of the options considered in the OTA analysis. However, as noted by OTA, changes 

in a variety of simplifying assumptions about the underlying economic model or things that were excluded from the model could 

strengthen or weaken these results. 

For the base case parameter values in the report, the report 

showed that permanently extending the cuts in the top four ordinary income tax brackets, plus the repeal of the phaseout of personal deductions and itemized deductions, increases real GNP by 

0.7 percent in the long run if the tax cuts are offset by a decrease 

in government consumption after 10 years. 

If the tax cuts are financed by an across-the-board tax increase 

after 10 years, the policy has a negligible impact on real GNP, so 

there is basically no growth effect. By comparison, permanently extending the increase in the child credit, the increase in the marriage penalty relief, and the 10 percent rate bracket reduces real 

GNP by 0.4 percent if financed with government consumption after 

10 years, and by 1.2 percent if financed by an increase in taxes. 

Purely from an efficiency perspective, a permanent reduction in 

dividend and capital gains tax rates is preferred to lowering the 

four highest ordinary income tax rates, coupled with the repeal of 

PEP and PEASE. Similarly, a permanent reduction in dividend and 

capital gains tax rates, or the changes to the top four income brackets, are preferred to an increase in the child credit, the marriage 

tax relief, and the 10 percent rate bracket, as the latter are 

inframarginal changes for most individuals. 

However, efficiency is not the only important factor in determining fiscal policy, and I think it is important to recognize that 

fairness and simplicity in administration and compliance must also 

be considered. 

House rule 13 is a good starting point for implementing dynamic 

analysis. But it could be improved. In particular, I offer the following guidelines for implementing dynamic analysis into the policy process. While examining the macroeconomic effects of various 

proposals is of interest, this approach ignores much of the additional information that could be gleaned from dynamic analyses. 

Thus, dynamic analysis should focus on comparing the macroeconomic effects of competing provisions within a larger proposal 

and present the effect of the total proposal as well. 

Obviously, analyzing every provision separately would be impossible and counterproductive as this would consume far too many 

staff resources. However, it is important to insure that the choice 

of provisions to be analyzed is not politically driven as this would 

undermine the integrity of the process. A balance must be struck 

on this issue. 

14

Dynamic analysis should also be applied to spending proposals, 

as the dynamic implications of expenditure policies may be as important as those of tax policies, whether they be positive or negative. Debt service costs are generally included in dynamic analysis, 

but are not included in conventional cost or revenue estimates. To 

be consistent, the debt servicing cost of conventionally estimated 

policies should also be considered, but not necessarily included in 

the official estimate, in the policymaking decision. Otherwise, the 

budget process may be biased toward proposals with negligible or 

negative long run effects relative to proposals that increase long 

run growth. 

Macroeconomics are not the only source of information that 

should be provided to policymakers. Some measure of economic 

well-being should also be provided in addition to macroeconomic 

aggregates. This is important because positive macroeconomic effects are not always associated with welfare gains. 

Distributional analysis should also be conducted both within income groups and across generational groups. For example, the 

President’s advisory panel on Federal tax reform in the United 

States decided against recommending a true consumption-based 

tax and instead proposed a consumption based system supplemented with an add-on capital income tax at the individual level. 

Given that the report showed that the economic gains were larger 

under the consumption based tax relative to the growth and investment tax, which was the consumption based tax with the add on 

capital income tax, and that the transitional effects of the two proposals were different, it would be interesting to compare how the 

plans differed from a distributional perspective, both during the 

transition and in the long run and both across income groups as 

well as across generations. 

The extent of uncertainty contained in the dynamic analysis 

should be well noted. We have gone over these issues many times. 

But this includes issues like the sensitivity of the results to various 

parameter values, the assumptions underlying the economic model, 

whether the policy was financed by changes in government spending, taxes, or government debt, and assumptions about the reactions of other entities such as the Federal Reserve, State governments and foreign countries. 

Dynamic analysis should be timely so that it can be used effectively in the policymaking process. If it is done too late in the process, then it is not going to have an effect on policymaking. But it 

is important to note, as Dr. Holtz-Eakin has pointed out, that there 

are logistical constraints on this issue that have to be considered. 

Finally, I will just say that public disclosure is imperative. As 

much information as possible should be released to the public so 

that others can replicate the work of these institutions. 

Mr. Chairman and members of the committee, I am grateful for 

the opportunity to discuss my views on this important issue, and 

I look forward to answering your questions. 

Mr. CRENSHAW. Thank you very much. 

[The prepared statement of John Diamond follows:]

15

PREPARED STATEMENT OF JOHN W. DIAMOND, FELLOW IN TAX POLICY, JAMES A. 

BAKER III INSTITUTE FOR PUBLIC POLICY

INTRODUCTION

Chairman Nussle, Ranking Member Spratt, and Members of the Committee, it is 

an honor to testify before you on the potential usefulness of including estimates of 

the macroeconomic effects of tax and expenditure policies in the budget process. Dynamic scoring is theoretically preferred to the current budget scoring process; however, many questions remain about how best to implement a consistent and practical framework that allows macroeconomic effects to be included in the budget process. In my testimony, I propose that it is more reasonable to begin by focusing on 

consistent and timely use of dynamic analysis in the budget process, rather than 

adopting dynamic scoring initially, for the following reasons: • Dynamic analysis, if used appropriately, can provide useful information about 

the efficiency and distributional effects (within and across generations) of alternative tax proposals under either the current budget process or a process based on 

dynamic scoring, • Dynamic analysis is far less controversial because it can highlight the inherent 

uncertainty involved in estimating the macroeconomic effects of various policy initiatives, and • Dynamic analysis is a necessary component in any budget process that includes 

dynamic scoring because it would be used to analyze and relay information about 

the macroeconomic effects of tax proposals, which are not currently included in conventional revenue estimates. 

Implementing a budget process that encourages the adoption of efficient, fair, and 

simple tax and spending policies is critical given the fiscal gap facing the nation, 

which has been estimated to be as high as $98 trillion in present value terms 

(Auerbach et al 2006). This is equivalent to 10.8 percent of the present value of the 

sum of projected Gross Domestic Product (GDP). 

It is important to note that dynamic analysis is already used on a limited scale. 

For example, CBO and JCT have produced dynamic analyses of several significant 

tax proposals. More recently, the Department of the Treasury’s Office of Tax Analysis (OTA) has published dynamic analyses of the reform proposals made by the 

President’s Advisory Panel on Federal Tax Reform and the proposal to permanently 

extend the President’s tax relief. 

COMPARING ALTERNATIVE POLICY OPTIONS

A useful example is the OTA report (July 2006) that examines the dynamic effects 

of the President’s proposal to permanently extend a variety of tax provisions enacted 

in 2001 and 2003. The report provides information on the macroeconomic effects of 

the various tax provisions as well as the aggregate macroeconomic effect of all the 

provisions. This information allows for a comparison of the macroeconomic effects 

of various policies and, if used appropriately, could prove useful in structuring efficient tax policy. For example, the OTA report analyzes the following three groups 

of provisions: 

• Extension of lower capital gain and dividend tax rates; 

• Extension of lower ordinary income bracket rates for the 25, 28, 33, and 35 percent brackets and an extension of the repeal of the phase-out of personal exemptions 

and itemized deductions; and, 

• Extension of the increase in the child credit from $500 to $1,000 per child, the 

increased standard deduction and bracket width for joint filers, and the 10 percent 

rate bracket. 

The OTA report showed that lowering capital gains and dividend taxes, coupled 

with a decrease in government consumption after 10 years, increased gross national 

product (GNP) by 0.4 percent in the long run as lower effective tax rates on capital 

income increased saving and investment. By comparison, if the revenue losses were 

offset by an across-the-board tax increase after 10 years the report predicts a 0.3 

percent increase in real GDP in the long run. In fact, permanently extending the 

dividend and capital gains tax cuts increased real GNP in the long run for all of 

the options considered in the OTA analysis. However, as noted by OTA, changes in 

a variety of simplifying assumptions underlying the economic model used in this report could strengthen or weaken these results. This includes assumptions about the 

economic effects of dividend taxes and a variety of other economic distortions that 

are not included in the model. 

For the base case parameter values, the report showed that permanently extending the cuts in the top four ordinary income tax brackets and the repeal of the 

phase-out of personal exemptions and itemized deductions increases real GDP by 0.7 

16

percent in the long run if the tax cuts are financed by reductions in government 

consumption. However, if the tax cuts are financed by an across-the-board tax rate 

increase after 10 years the policy has a negligible impact on real GDP. By comparison, permanently extending the increase in the child credit, the increase in the 

standard deduction and bracket width for joint filers, and the 10 percent rate bracket reduces real GNP by 0.4 percent if financed with government consumption after 

10 years and by 1.2 percent if financed by an across-the-board tax rate increase 

after 10 years. 

Purely from an efficiency perspective, a permanent reduction in dividend and capital gains tax rates is preferred to lowering the four highest ordinary income tax 

rates coupled with the repeal of the phase-out of personal exemptions and itemized 

deductions in most cases presented in the report. Similarly, a permanent reduction 

in dividend and capital gains tax rates or the changes to the top four brackets are 

preferred to an increase in the child credit, the marriage tax relief, and the 10 percent bracket, as the latter are inframarginal changes for most individuals. However, 

efficiency is not the only important factor in determining fiscal policy—fairness and 

simplicity in administration and compliance are also factors that should be considered. 

POLICY GUIDELINES FOR IMPLEMENTING DYNAMIC ANALYSIS

House Rule XIII.3.(h)(2) of the Rules of the House of Representatives, adopted 

January 4, 2005, in the 109th Congress, includes the following requirement: 

(2)(A) It shall not be in order to consider a bill or joint resolution reported by the 

Committee on Ways and Means that proposes to amend the Internal 

Revenue Code of 1986 unless——

(i) the report includes a macroeconomic impact analysis; 

(ii) the report includes a statement from the Joint Committee on Internal Revenue 

Taxation explaining why a macroeconomic impact analysis is not calculable; or 

(iii) the chairman of the Committee on Ways and Means causes a macroeconomic 

impact analysis to be printed in the Congressional Record before consideration of 

the bill or joint resolution. 

(B) In subdivision (A), the term ‘macroeconomic impact analysis’ means——

(i) an estimate prepared by the Joint Committee on Internal Revenue Taxation 

of the changes in economic output, employment, capital stock, and tax revenues expected to result from enactment of the proposal; and 

(ii) a statement from the Joint Committee on Internal Revenue Taxation identifying the critical assumptions and the source of data underlying that estimate. 

This rule is a good starting point for implementing dynamic analysis but it could 

be improved. In particular, I offer the following guidelines for implementing dynamic analysis into the policy process. 

• While examining the aggregate macroeconomic effects of various proposals is of 

interest, this approach ignores much of the additional information that could be 

gleaned from dynamic analyses. Thus, dynamic analysis should focus on comparing 

the macroeconomic effects of competing provisions as well as presenting information 

on the aggregate effects of all the provisions. Obviously, analyzing every provision 

separately would be impossible and counterproductive, as this would consume far 

too many staff resources. However, it is important to ensure that the choice of provisions to be analyzed is not politically driven, as this would undermine the integrity 

of the process. A balance must be struck on this issue. 

• Dynamic analysis should also be applied to spending proposals, as the dynamic 

implications of expenditure policies may be as important as those of tax policies. 

• Debt service costs are generally included in dynamic analysis but are not included in conventional cost or revenue estimates. To be consistent, the debt servicing costs of conventionally scored policies should also be considered in the policymaking decision. Otherwise, the budget process may be biased towards proposals 

with negligible or negative long run effects relative to proposals that are associated 

with positive long run effects. 

• Macroeconomic aggregates are not the only information that should be provided 

to policymakers. Some measure of economic well being should also be provided in 

addition to the macroeconomic aggregates. This is important because positive macroeconomic effects can be associated with negative welfare effects. 

• Distributional analyses should also be conducted both within income groups and 

across generations for certain policies. For example, the President’s Advisory Panel 

on Federal Tax Reform in the United States decided against recommending a true 

consumption-based tax, and instead, proposed a consumption-based system supplemented with an ‘‘add-on’’ capital income tax at the individual level (the ‘‘Growth and 

Investment Tax’’ or GIT). Given that the report showed that the economic gains 

17

were larger under the consumption-based tax relative to the GIT and that the transitional effects of the two proposals were different, it would be interesting to compare how the plans differed from a distributional perspective, both during the transition and in the long run. 

• The extent of the uncertainty contained in a dynamic analysis should be well 

noted. For example, this would include discussing the sensitivity of the results to 

various assumptions about parameter values, the assumptions underlying the economic model, whether the policy was financed by changes in government spending 

(and the effects of such spending on welfare), taxes, or government debt, and assumptions about the reactions of other entities such as the Federal Reserve, state 

governments, and foreign countries. 

• Dynamic analysis should be timely so that it can be used effectively in the formulation of policy. The current House rule (XIII.3.(h)(2)) requires an analysis of the 

macroeconomic effects before the bill can be considered on the floor. This is somewhat late in the political process, as many of the major details of a bill are typically 

established at this point. It is important to note that there are possible logistical 

constraints on this issue, given the current state of macroeconomic modeling. 

• Pubic disclosure is imperative. As much information as possible should be released to the public. At a minimum, enough information should be released so that 

outside entities could replicate the work. This will ensure that the process is seen 

as fair and open and will serve as a check on those who provide the estimates. 

REFERENCES

Auerbach, Alan J., William G. Gale, and Peter R. Orszag, 2006. New Estimates of 

the Budget Outlook: Plus C ̧ a Change, Plus C’est la Meˆme Chose, February 15, 

2006. 

Carroll, Robert, John Diamond, Craig Johnson, and James Mackie III, 2006. A Summary of the Dynamic Analysis of the Tax Reform Options Prepared for the 

President’s Advisory Panel on Federal Tax Reform, U.S. Department of the 

Treasury, Office of Tax Analysis, May 25, 2006, prepared for the American Enterprise Institute Conference on Tax Reform and Dynamic Analysis May 25, 

2006

Congressional Budget Office, 2003. An Analysis of the President’s Budgetary Proposals for Fiscal Year 2004 (March 2003). 

Congressional Budget Office, 2003. How CBO Analyzed the Macroeconomic Effects 

of the President’s Budget (July 2003). 

Joint Committee on Taxation, 2003. Overview of Work of the Staff of the Joint Committee on Taxation to Model the Macroeconomic Effects of Proposed Tax Legislation to Comply with House Rule XIII.3.(h)(2) (JCX-105-03), December 22, 

2003. 

Joint Committee on Taxation, 2005. Macroeconomic Analysis of Various Proposals 

to Provide $500 Billion in Tax Relief, (JCX-4-05), March 1, 2005. 

U.S. Department of the Treasury, Office of Tax Analysis, 2006. A Dynamic Analysis 

of Permanent Extension of the President’s Tax Relief, July 25, 2006.

Mr. CRENSHAW. Mr. Burman. 

STATEMENT OF LEONARD E. BURMAN 

Mr. BURMAN. Chairman Crenshaw, Ranking Member Neal, and 

members of the committee, thank you very much for inviting me 

to present my views on dynamic analysis and scoring. 

With three economists on the panel, it is safe to say that we 

would all like more attention paid to the economic effects of public 

policies. The big question is whether dynamic scoring or dynamic 

analysis is the best way to bring such analysis to bear on public 

programs. My conclusion is that, given the current state of economic knowledge, including macroeconomic feedback effects, dynamic scoring and revenue estimates is not feasible or desirable. 

However, dynamic analysis is a useful complement to policymaking 

and some of the suggestions made by Dr. Diamond and Dr. HoltzEakin would improve the process of dynamic analysis significantly. 

Federal tax and spending policies have an effect on the economy 

and citizens well-being. Obviously, we should measure those effects 

18

as accurately as we can, simply as a matter of responsible budgeting. What’s more, the effects of policies on the economy clearly 

should be considered as a factor in assessing their desirability. 

All else equal, pro growth policies are better, although there is 

often a tradeoff between economic efficiency and other goals, such 

as fairness. Growth is only one factor to consider. By long-standing 

practice, official revenue estimates are dynamic in a microeconomic 

sense. They account for all the measurable behavioral responses 

that can be anticipated consistent with an assumption that macroeconomic aggregates, including labor, supply, saving and gross domestic product, are held constant. 

What about the macroeconomic effects? Most economists would 

agree that a major tax reform in which loopholes were eliminated 

and tax rates lowered, holding overall revenues constant, would increase economic growth, although there would be a wide range of 

estimates of how much. But most tax proposals considered by Congress would not fit in this no-brainer category of growth enhancers. 

Most recent tax bills contain a hodgepodge of good and bad provisions, at least in terms of their effects on growth, including targeted tax breaks that arguably weaken the economy and create 

new opportunities for tax sheltering. 

The biggest problem, though, is that recent tax bills have produced significant revenue losses with no indication of how those 

losses will be offset. Without knowing that, it is impossible to assess the economic effects or even the measure of whether the economy will be stronger or weaker in the long run. Analysis by CBO, 

JCT, and Treasury have all concluded that the way current tax 

cuts are paid for can fundamentally alter the conclusions about 

their growth effects. It is impossible to predict whether the tax cuts 

will ultimately be good or bad for the economy unless you know 

how they will be paid for. Since it is impossible for official scorers 

to predict how the deficits will be closed, they can’t produce a single point estimate or dynamic score for the long term of deficit financed tax cuts. 

As a related issue in the short run, the effectiveness of tax cuts 

depends on whether and how the Federal Reserve responds. Economists can provide some useful insights about the potential range 

of economic effects of tax policies, especially in the long run, but 

it is important to understand that macroeconomic models are more 

valuable for demonstrating the channels through which policy can 

affect the economy than for providing numerical estimates. 

Many fundamental parameters, including how people respond to 

incentives to work and save more, are highly uncertain. We do not 

understand well how people form expectations about the future in 

the context of uncertainty. Because of limitations of computational 

power, the models necessarily have to vastly simplify reality. Tens 

of thousands of products, goods and services are represented by, at 

most, a few representative sectors. The range of differences of individuals in terms of preferences, education, income, family structure 

and age is similarly condensed. The mind-numbing complexity of 

the Tax Code, which creates costs for businesses and individuals 

and opportunities for tax sheltering, disappears in the models. Nobody knows how important those simplifications are. 

19

While careful researchers like Professor Diamond work tirelessly 

to calibrate their models to reality as well as they can, there is tremendous uncertainty about the statistical properties of the model’s 

long-term predictions. 

I also want to reiterate Doug’s recommendation that specifying 

a finance mechanism is necessary for meaningful dynamic analysis. 

It is also necessary for meaningful distributional analysis, for 

measuring the benefit that distribution of benefits and costs of tax 

legislation. And it should be noted that the best financing mechanisms, from the point of view of economic growth, would raise serious distributional concerns. 

For example, the recent tax cut package enacted by Congress, according to the estimates by the Tax Policy Center, would have provided an average tax cut of about $20 for the people in the middle 

of the income distribution. But if you assume that every household 

bears an equal share of the long-term debt burden that goes with 

the tax cuts, a $20 tax cut turns into a $466 tax increase over time. 

Despite the limitations, dynamic analysis is potentially a useful 

complement to policymaking. The models tell us that certain kinds 

of policies rank better than others. Similarly, microeconomic analysis of the efficiency effects of targeted taxes and subsidies would 

be a useful complement to the policy process. 

That concludes my prepared remarks. I would be happy to answer any questions. 

Mr. CRENSHAW. Thank you very much. 

[The prepared statement of Leonard E. Burman follows:]

PREPARED STATEMENT OF LEONARD B. BURMAN, SENIOR FELLOW, URBAN INSTITUTE1

Chairman Nussle, Ranking Member Spratt, and members of the committee. 

Thank you for inviting me to present my views on dynamic analysis and scoring. 

With three economists on this panel, I think it is safe to say that we would all 

like more attention paid to the economic effects of public policies. The big question 

is whether dynamic scoring or dynamic analysis is the best way to bring such analysis to bear on public programs. (To define terms, dynamic scoring involves adding 

a point estimate of macroeconomic feedback effects into official revenue estimates. 

Dynamic analysis is a supplemental analysis of plausible macroeconomic responses 

under a range of models and parameter assumptions.) 

A related question, which I will also touch on, is how the policy-making process 

itself could be made more conducive to meaningful economic analysis. 

In short, my conclusions are these: 

• Many behavioral responses are already included in official revenue estimates of 

tax changes; that is, they are not static. The estimates could be improved in several 

ways. However, given the current state of economic knowledge, including macroeconomic feedback effects (dynamic scoring) is not one of them. 

• There are three key problems in analyzing the effects of tax policy proposals: 

for deficit-financed tax and budget proposals, the long-term economic effects depend 

critically on how the deficit is financed (that is, on who ultimately pays for the tax 

cuts or new spending), and that is inherently unknowable by any estimator; there 

is tremendous uncertainty about key parameters that reflect how people make decisions about working and saving that can have large effects on estimates; and the 

limits of data, computing power, and economists’ ingenuity mean that our models 

have little relationship to the way real people make real decisions. 

• That said, most economists would agree that certain kinds of tax and spending 

policies are better for economic growth than others, so we could produce a rough 

ranking regardless of the financing mechanism or long-term economic model. For 

that reason, economic analysis of specific provisions as well as entire packages is 

useful. While dynamic analysis typically has been equated with macroeconomic 

modeling, for many specific provisions, an analysis of the microeconomic effects is 

all that is feasible at present. Such analysis would be a useful complement to policymaking. 

20

INTRODUCTION

Federal tax and spending policies have an effect on the economy and citizens’ 

well-being. Obviously, we should measure those effects as accurately as we can simply as a matter of responsible budgeting. What’s more, the effects of policies on the 

economy clearly should be considered as a factor in assessing their desirability. All 

else equal, pro-growth policies are better, although there is often a trade-off between 

economic efficiency and other goals, such as fairness; growth is only one factor to 

consider. 

MICRO-DYNAMIC REVENUE ESTIMATES

By longstanding practice, official revenue estimates are dynamic in a microeconomic sense. They account for all the measurable behavioral responses that can 

be anticipated consistent with an assumption that macroeconomic aggregates—including labor supply, saving, and gross domestic product—are held constant. Thus, 

the official estimates of the income tax rate cuts enacted in 2001 assumed that at 

lower tax rates, taxpayers would report more taxable income because, for example, 

they would earn a smaller fraction of compensation in the form of untaxed fringe 

benefits and perhaps be less prone to cheating. However, the estimates accounted 

for neither a boost in hours worked or saving, which might have increased growth, 

nor a drop in investment or demand for homes and other consumer durables as a 

result of swelling public debt and higher interest rates, which would have retarded 

growth. 

There are ways to improve revenue estimates, but dynamic scoring is not, at 

present, one of them. A problem that could be rectified is that estimators must provide a single point estimate that assumes that a host of unknown factors are known 

with certainty. This can cause the cost of particular types of tax proposals to be consistently underestimated. For example, in 2004, Congress effectively created a price 

support program for certain low-yielding oil wells. If prices fell below a certain trigger price, a tax credit would offset the difference between the actual price and the 

trigger price. Since the trigger was set below then-prevailing oil prices, the provision 

was scored as having no revenue effect, even though under some scenarios it could 

have been very costly to the Treasury. A better rule would be to estimate the expected revenue loss—that is, the average across all the plausible price scenarios—

to get an idea of what the price guarantee would cost the government (and be worth 

to recipients).2

More fundamentally, the legislative process itself may introduce biases into revenue estimates in a subtle way. The reason is that revenue estimates are subject 

to error. Under the best of circumstances, the errors will average out to zero. However, if overall budget targets are binding, then tax cuts and spending programs 

that appear to cost less will be favored over those that appear to cost more. (Indeed, 

the principal argument for dynamic scoring is that advocates believe that tax cuts 

would be more feasible if official estimators predicted that they would cost less in 

terms of lost revenues.) That means that tax cuts that are underestimated (and tax 

increases that are overestimated) will be more likely to be enacted than those that 

err in the opposite direction. As a result, despite the best efforts of estimators, the 

errors in policies that are actually adopted will tend to go in the same direction—

they will not average out to zero. Revenue estimates will be consistently over-optimistic and deficits larger than predicted (or surpluses smaller). This might argue 

for a deliberate offsetting conservative bias in revenue estimating to make estimates 

more accurate on average. 

Berkeley economist, Alan Auerbach looked at the accuracy of baseline receipts 

forecasts over many years and did not find evidence of consistent bias one way or 

the other.3 However, Auerbach found that receipts projections tend to be inefficient 

in the sense that aggregate errors tend to repeat from year to year. Building on 

Auerbach’s work to adjust baseline outlay and receipts forecasts could make budgets 

more accurate although, as he notes, that is easier said than done. 

PITFALLS OF INCORPORATING MACROECONOMIC EFFECTS IN ESTIMATES

What about macroeconomic effects? Most economists would agree that a major tax 

reform in which loopholes were eliminated and tax rates lowered, holding overall 

revenues constant, would increase economic growth, although there would be a wide 

range of estimates of how much. 

Unfortunately, the vast majority of tax proposals considered by Congress would 

not fit in this no-brainer category of growth enhancers. While everyone likes lower 

tax rates, base broadening is a lot more popular with economists than it is with the 

people who pay higher taxes as a result. Tax cuts enacted since 2001, for example, 

21

have lowered marginal tax rates, but they also narrowed the tax base by creating 

a slew of new targeted tax breaks—including that one for unproductive oil wells I 

mentioned earlier—that are likely to hurt the economy rather than help it. This 

makes assessing the net effect problematic. 

The biggest problem, though, is that recent tax bills have produced significant 

revenue losses with no indication of how those losses will be offset. Without knowing 

that, it is impossible to assess the economic effects, or even to measure whether the 

economy will be stronger or weaker in the long run. 

Depending on how the deficits are closed, there could be dramatically different 

economic results. The best-case scenario for economic growth is for deficits to be financed by cuts in transfer programs or increases in lump-sum taxes (fixed per capita taxes not related to ability to pay). That deficits might force spending constraint 

appears to be the logic behind the ‘‘starve the beast’’ rationale for deficit-financed 

tax cuts, but there is no evidence that this tack actually works. It is not clear why 

spending cuts would be easier in the future than they are now. Will it be easier 

to cut Social Security and Medicare 20 years from now when all the baby boomers 

are retired (and AARP’s membership has exploded)? 

The worst-case scenario for economic growth is this: years from now, our profligate budgetary policies lead to dramatically higher interest rates and a massive 

recession, if not a depression. Taxpayers blame this on the tax cuts for the rich and 

decide to deal with budget problems by raising tax rates on high-income folks. (And 

they leave in place all the middle-class tax cuts like the child credit, higher standard deduction, and 10-percent bracket.) I think it is safe to say that in JCT’s, CBO’s, 

and Treasury’s models, such a tax increase would prove most damaging to growth. 

The net effect would be a much smaller economy than would exist had the tax cuts 

not been enacted. 

To be clear, this long-term risk also means that deficit-financed spending would 

also be more costly than would appear in either a balanced-budget scenario or one 

assuming less damaging deficit offsets in the future. 

Since it is impossible for official scorers to predict how the deficits will be closed, 

you cannot expect them to produce a dynamic score for the long-term effect of deficit-financed tax cuts. For related reasons, it is a challenge to predict the short-term 

effects as well. In the standard Keynesian macroeconomic model, short-term fiscal 

stimulus (a spending increase or tax cut) boosts the economy during downturns by 

spurring households to spend and businesses to invest, creating more demand and 

thus more jobs. When the economy is at full employment, deficit-financed tax cuts 

can hurt by creating inflationary pressure. If the economy is running at capacity, 

companies will respond to higher demand by bidding up wages to try to keep or retain workers, which translates into higher product prices and inflation. 

The wild card is the Federal Reserve, which tries to stimulate the economy when 

it is underperforming and slow it down when inflationary pressures arise. Fed policymakers are likely to respond to tax cuts by tightening up monetary policy to prevent inflation. Since monetary policy affects the economy more slowly than fiscal 

policy, short-term deficits that are larger than the Fed had expected can still have 

an immediate effect, but the effect beyond that is complicated by the Fed’s response. 

While this is probably more predictable than how future Congresses will deal with 

the national debt, it significantly complicates forecasting the effects of fiscal policy 

beyond a year or so. 

VALUE AND LIMITATIONS OF LONG-TERM MACROECONOMIC MODELS

A model of the economy can be a very useful tool in assessing tax reform options. 

A well-designed model incorporates individuals’ and firms’ decision processes and 

their interaction with each other and with government policy. Although the point 

predictions of such models are of questionable value, since they depend on parameters that are highly uncertain, the models do demonstrate the channels through 

which tax policy can affect the economy. They also allow for consistent comparisons 

of different policy options. 

There are four basic kinds of models used for macroeconomic analysis of tax policy 

(with almost infinite variations): neoclassical growth models; disequilibrium (or 

Keynesian) models; infinite horizon models; and overlapping generations (OLG) 

models.4 The first two types of models represent a very stylized version of the economy. Individuals and firms do not make optimizing decisions. Instead, the results 

of those optimization decisions are reflected in numerical measures of the response 

of saving, labor supply, and factor substitution (firm’s ability to substitute capital 

and labor for each other in the production process), which are known as elasticities. 

Taxes can affect the economy by altering the return to saving and working for individuals or the costs of labor and capital for firms. Such models are often enhanced 

22

by disaggregating different economic sectors (such as manufacturing, agriculture, 

services, etc.) on the assumption that they have different production technologies 

(i.e., use capital and labor differently) and often include different classes of workers 

who have different skill levels. 

The neoclassical growth model assumes full employment: markets for all goods 

and services always clear instantaneously so unemployment, which is a disequilibrium between the supply and demand for labor, is not possible. Disequilibrium or 

Keynesian models assume that such disconnects are the norm, but that they can 

be affected by government policy and the business cycle. Thus, during a recession, 

tax cuts can reduce unemployment and increase GDP because lower taxes spur individuals to spend more or companies to invest more, which increases the demand for 

goods and services, translating into more jobs. 

Modern disequilibrium models are typically combined with standard growth models. In such models, tax changes can affect labor supply and saving, which affects 

output and the demand for capital in the next period. The changes alter the return 

to capital and labor, which adjust again affecting output and the demand for productive inputs. The process continues until the demand and supply for capital return 

to equilibrium, from which point on the economy grows at a constant steady-state 

rate. 

Such models have been used for decades and are well understood. They are attractive because their results are fairly easy to explain and intuitive, but they have 

some limitations. First, Keynesian models, being inherently short-term in focus, do 

not tell policymakers about the long-term effects of tax policy, when, presumably, 

the level of equilibrium is of most interest. Indeed, they may not provide the answer 

tax cut advocates want in the short term. Such models typically predict that spending increases or cuts will have a larger effect than tax changes because government 

spending immediately generates additional demand for goods and services, whereas 

tax cuts affect demand only to the extent that the recipients choose to spend them 

rather than save. In such models, tax cuts are good, but spending is better and deficits are a plus in the short-term. 

A more fundamental problem with both the disequilibrium and the growth models 

are that they are too aggregated. They assume, for example, that labor supply and 

saving decisions of individuals (or groups of individuals) depend only on the average 

tax rate on labor and capital income. Thus, replacing a progressive income tax with 

a flat rate tax that raises the same amount of tax revenue would be expected to 

have no effect on work or saving decisions since the average tax rate remains the 

same. But reducing high tax rates is likely to produce a larger positive effect than 

the negative effect of increasing tax rates at the bottom or broadening the tax base. 

The individual decisions do not average out to zero. Similarly, policies that affect 

individuals’ and firms’ expectations about the future can have big effects on their 

behavior now, but the neoclassical and disequilibrium models are not forward-looking. 

Infinite horizon (or Ramsey) models and OLG models are more modern representations of the economy based on the decisions of individuals and firms. Individuals 

maximize utility subject to an intertemporal budget constraint (that is, typically, 

they cannot die in debt). Firms maximize profits. The government must balance its 

budget over the long term (although not necessarily over any finite interval). In 

some such models, people have perfect foresight: they can predict the future accurately. In other more realistic models, the future is uncertain so results depend on 

how people are assumed to form expectations. Rational expectations models assume 

that people have a very good macro model inside their heads so that their forecasts 

are correct on average.5 Other models assume myopia—people assume that the 

present will continue—or adaptive expectations. 

In infinite horizon models, people (and firms) live forever. Obviously, this is an 

unrealistic assumption, but advocates of such models argue that they are a good and 

relatively simple representation of a world where people care about their children 

as much as they care about themselves. Therefore, the preferences of children enter 

their parents’ utility functions and are represented in a motive to leave bequests. 

Since children will also care about their children, and so on, the very long time horizon may be warranted. 

The OLG models represent the very long term by assuming that individuals live 

for a fixed number of years, but are replaced by children and grandchildren with 

similar preferences who are young when the parents age. By solving for the decision 

process of each generation and connecting them (primarily through interest rates), 

there is, again, a very long horizon in such models. 

An advantage of this class of models is that it is possible to build in great detail 

on the tax structures facing individuals and firms. A disadvantage is that the models depend on parameters about which little is known. In particular, the models deVerDate 0ct 09 2002 16:07 Nov 28, 2006 Jkt 000000 PO 00000 Frm 00026 Fmt 6633 Sfmt 6621 H:\DOCS\HBUDGET\HBU256.000 EDUWK PsN: DICK
23

pend on the parameters of individuals’ utility functions: their trade-off between consumption and leisure (and thus labor) in the current period, and their willingness 

to trade future consumption and leisure for current consumption and leisure. For 

example, if people expect taxes to increase in 20 years, will they work harder and 

spend more now, and if so, by how much? These intra- and intertemporal elasticities 

(and, to a lesser extent, factor substitution elasticities of firms) are critical to the 

predictions of such models, but very little is known about the proper values. Critics 

have also pointed out that there is a considerable amount of evidence that individual decisions deviate in important ways from the predictions of the life cycle 

model, which underpins both of these frameworks. 

These models are also very sensitive to their exact structure. The CBO found larger growth effects in the infinite horizon model than in the OLG model; the smallest 

long-term effects arose in the neoclassical growth model. Different forms of uncertainty and assumptions about individuals’ attitudes towards uncertainty can also 

produce markedly different predictions about the effects of a given policy. 

A key implication is that a single model will not be adequate for evaluating the 

long-term effects of public policies since the results may be very sensitive to the 

choice of model. When employing any model, parameter assumptions should be subjected to extensive sensitivity analysis. That is, different values for key parameters, 

such as labor supply and saving elasticities, in the case of the disequilibrium and 

growth models, and intra- and inter-temporal elasticities of substitution, in the case 

of the infinite horizon and OLG models, should be tried to see how sensitive the 

results are to the parameter assumptions. 

Put differently, there is no basis for producing a single point estimate for the macroeconomic effect of tax or spending policies, even when they are not deficit-financed. While the kind of dynamic analysis that CBO and JCT have done using a 

range of models can be an informative input to public policy, it is of virtually no 

value in improving estimates of the short- or long-term effects on revenues. Indeed, 

since none of these models has been validated in actual practice, choosing a particular model, a set of parameters, and assumptions about the way deficits will be 

offset and the Federal Reserve will react would almost surely add new biases and 

significantly increase the variance of revenue estimates. This problem also raises 

the risk that policymakers will gravitate towards policies whose macroeconomic 

feedback effects are most overstated in a particular model chosen by estimators, 

even though these policies may not necessarily be the best ones for the economy in 

the long run. It certainly raises the risks that forecast accuracy would be significantly worse with this approach. 

THE POTENTIAL USEFULNESS OF DYNAMIC ANALYSIS

Despite its limitations, dynamic analysis is potentially a useful complement to 

policy making, although existing models are quite limited in what they can simulate. All else equal, it would be nice to discriminate in favor of pro-growth policies, 

especially if the growth benefits are widely shared rather than concentrated at the 

top. 

Note, however, that this is not necessarily an argument in favor of tax cuts. First, 

as noted, when financing is considered, almost any tax cut could turn out to be 

counterproductive over the long run. Second, some tax cuts would tend to reduce 

economic growth no matter how they are financed and some spending increases 

would tend to enhance growth. 

For example, a horse-and-buggy tax credit would certainly create jobs in the horse 

and buggy industry, potentially reversing a century-long downturn, but almost nobody would argue that this would be good for the economy overall. The resources 

that were diverted into horses and buggies could surely be better used in any of 

thousands of goods and services that consumers value more. 

You might think that Congress would never enact such a thing, but the manufacturers’ tax deduction and many of the other targeted tax breaks, enacted as part 

of the American Jobs Creation Act of 2004, are not much different. They distort 

market prices and interfere with the efficient allocation of scarce economic resources. While there may be a role for targeted taxes or subsidies in markets when 

they are not working—for example, when there is pollution—many if not most tax 

breaks cannot be justified on those grounds. 

On the other side, some kinds of government spending may produce economic benefits over and above their direct value to beneficiaries. Some examples include investments in infrastructure, education, information, and research and experimentation. Not all such projects produce benefits in excess of their costs (as the recent 

debate about the bridge to nowhere in Alaska illustrates), but well chosen public 

investments can produce substantial payoffs. 

24

Unfortunately, the kinds of models designed to do dynamic analysis are not well 

suited to discriminating among good and bad kinds of targeted tax incentives or 

spending programs. Typically, such models represent different sectors at a highly 

aggregated level and have only a rudimentary representation of the tax system and 

no detail at all about spending. Indeed, in some macroeconomic models, government 

spending is tantamount to throwing the money (and the real resources it represents) 

into the ocean. 

However, government analysts can do a microeconomic analysis of the efficiency 

effects of different programs and, indeed, the CBO, GAO, and CRS do when Congress asks. . Often, the analysis can be informed by empirical estimates—as in the 

case of investments in infrastructure, education, and research—although the research findings can vary wildly. 

At a minimum, as part of the summary analysis of each piece of proposed legislation, it would be nice to include a qualitative analysis of the likely efficiency effects 

of each provision. 

OTHER ADVANTAGES OF SPECIFYING FINANCING FOR TAX CUTS

As noted, the way tax cuts (or spending increases) are financed can fundamentally 

alter the assessment of their long-term economic effects. It also affects how we assess the distribution of tax benefits. The standard distribution table ignores the 

question of how deficits will be financed. As a result, tax cuts can look like good 

news for almost everyone. Advocates can argue that everyone is a winner and may 

appear to be right. Anyone arguing against the tax cuts is just a selfish demagogue 

practicing the ‘‘politics of envy.’’

If we were explicit about financing, however, the picture would change. A deficitneutral tax change has to make some people worse off and those people often object. 

The people who will pay for the government’s current generosity appear to be our 

children, and maybe that works politically because children and those not yet born 

don’t vote. However, if one accepts the key assumption of the infinite horizon model 

that parents care as much about their children and grandchildren as they do about 

themselves, then being explicit about who will bear the burden of current tax cuts 

would create political fallout. 

How the tax cuts are financed then becomes very important. Under the scenario 

where a future Congress decides to close the deficit by soaking the rich, the President’s tax cuts become a lot more progressive than they appeared before financing 

was considered. If, instead, we follow the growth-maximizing path and slash spending, then many, if not most, taxpayers will find that they lose much more in future 

benefits than they gain in short-term tax cuts. 

Thus, the best case for economic growth (all households take an equal share of 

resulting future debt service) produces the bleakest case for progressivity. For example, under any of the major tax cuts passed since 2001, the vast majority of households would be worse off under this financing option unless the economic benefits 

turned out to be implausibly large.6 And the best case for progressivity (high-income 

taxpayers face income tax rate hikes to offset the debt) is the worst case for longterm economic growth. 

If Congress has in mind financing options that involve less draconian trade-offs, 

it should be explicit about them. 

CONCLUSION

Dynamic scoring is not feasible because of lack of knowledge about how deficits 

will be offset, uncertainty about key parameters in economic models, and inherent 

limitations in those models themselves. Dynamic analysis, however, is useful, but 

it should be applied to spending as well as taxes. What’s more, the economic analysis of tax and spending provisions should be done on a provision-by-provision basis, 

not just overall packages. 

Finally, both dynamic analysis and the assessment of the distribution of winners 

and losers from tax changes could be made much more accurate if Congress specified a financing mechanism for each major piece of tax legislation. 

ENDNOTES

1 Views expressed are mine alone and do not necessarily reflect the views of any organization 

with which I am affiliated. 2The CBO now applies ‘‘probabilistic scoring’’ to measure the cost of similar spending programs. 3 Alan J. Auerbach, ‘‘On the Performance and Use of Government Revenue Forecasts,’’ National Tax Journal. Vol. 52 no. 4 (December 1999) pp. 765-782 4For a good survey, see Jane G. Gravelle. 2003. ‘‘Issues in Dynamic Revenue Estimating,’’ 

CRS Report for Congress RL31949, U.S. Congressional Research Service; or the Appendix of 

25

U.S. Congressional Budget Office. 2003. ‘‘How CBO Analyzed the Macroeconomic Effects of the 

President’s Budget.’’ CBO Paper. Available at: http://www.cbo.gov/ftpdocs/44xx/doc4454/07-

28-PresidentsBudget.pdf. 5 Ironically, a consequence of this assumption is that it is impossible for economists to develop 

an accurate aggregate model of the economy because individuals’ behavior changes the parameters of the economists’ models, invalidating them. 6 Jason Furman, ‘‘A Short Guide to Dynamic Scoring,’’ Center on Budget and Policy Priorities, 

August 24, 2006. Available at http://www.cbpp.org/7-12-06bud2.pdf.

Mr. CRENSHAW. And now we will go to questions. And I want to 

ask unanimous consent that all members be allowed 7 days to submit statements for the record. Without objection, so ordered. 

Let me start by, first of all, saying I appreciate some of the clarification. There is a lot of misunderstanding from time to time 

among members in terms of static versus dynamic. The fact that 

Dr. Holtz-Eakin talked about, the fact that static scoring is not exactly that, in the sense that when projections are made, consideration is given to changes in behavior. But in the final analysis, the 

dynamic analysis is much broader and only occurs in certain instances big enough to have a big enough impact. 

And as Mr. Neal pointed out earlier, if you do a dynamic analysis 

and you find that the GNP is only impacted .1 percent, while it 

might seem significant, that is $13 billion. And as Dr. Holtz-Eakin 

pointed out, if our economy grew .4 percent faster than Great Britain over a period of years, it all adds up at the end of the day. So 

it is, I think, a valuable exercise, and it is good to hear some of 

the difference between what we often think is just purely static and 

dynamic. 

Let me start by just asking the question that this is one of the, 

I guess, concepts, this dynamic scoring concept that is part of this 

legislation that I filed. And I should say that Mr. Spratt and Chairman Nussle had worked on similar legislation to kind of modernize 

what goes on. The last time we actually did anything in terms of 

these budget concepts was 1967. And that is still kind of bible, and 

the world has certainly changed in the last 40 years. 

So as we deal with entitles, as we deal with trust funds, as we 

deal with public/private partnerships, maybe the question to Dr. 

Holtz-Eakin is, is this the kind of legislation that you see that we 

need today to kind of modernize those concepts? 

Mr. HOLTZ-EAKIN. I think it is high time for a thorough rethinking of budget concepts, and I think the notion of having a commission go back and replicate the effort in 1967 was entirely desirable. 

There are many instances where the threshold question, what is on 

and what is not on the Federal budget, are now murky and that 

needs to be clarified. You know, when is it that the taxpayers are 

at risk for providing resources to meet obligations undertaken by 

the Federal Government. And so a commission that simply did a 

rethinking of what the boundaries were, reclassified transactions 

for whether they are appropriately on the spending or the tax side, 

the profusion of those things which are labeled offsets to spending, 

which are really receipts by any other name, or tax credits which 

are called tax cuts but which are spending by any other name 

makes the budget less clear. I think having a commission undertake that kind of rethinking would be entirely desirable at this 

point in time. 

Mr. CRENSHAW. Thank you. And maybe, Mr. Diamond, you mentioned that the kind of macroeconomic impact that I guess TreasVerDate 0ct 09 2002 16:07 Nov 28, 2006 Jkt 000000 PO 00000 Frm 00029 Fmt 6633 Sfmt 6602 H:\DOCS\HBUDGET\HBU256.000 EDUWK PsN: DICK
26

ury put together, there is a chart in our kits, can somebody put 

that chart up and maybe—I can’t see it very good. But maybe can 

you highlight some of the points you made about, when you look 

at that base simulation, you know, if you extend the lower dividends and capital gains tax rates and then you see that if you have 

got to make a choice between lower spending or increasing taxes, 

highlight a couple of those points that you made earlier, as I look, 

I can see, I think that is what maybe Mr. Neal was referring to. 

If you look at that real GNP, you get .1 percent growth. If you were 

to lower the ordinary tax rates, that second column, and then I 

think the best I can see 1.1 percent, GDP might grow 1.1 percent, 

which would be very sizable. Highlight a couple of those so that we 

can see kind of more clearly what you talked about when you discussed that Treasury, maybe what was your input into that. 

Mr. DIAMOND. Well, I started off with one of the points that has 

been made in the testimony of many people over the years, which 

is the positive-negative relationship between dynamic scoring and 

the fiscal offset. So if you assume one fiscal offset, you get a positive result, and if you assume another fiscal offset, you get a negative result and you can see that in column 3. The effects of the 

total package are in column 3, the second column of column 3. If 

it is financed by a decrease in government consumption, so this 

would be the full tax relief proposed by the President, you would 

see that it would increase real GNP by 0.7 percent, whereas if you 

financed it by an increase in future taxes, real GNP would actually 

decrease by 0.9 percent. 

This is a standard argument that it is kind of a zero-one assumption. And I guess my point was, one, to point out that we can actually compare the alternative policies, the dividend cuts, versus the 

lower ordinary rate brackets, versus these other three things, the 

increase in the child credit, the increased standard deduction and 

bracket width for joint filers, and the increase, or the 10 percent 

bracket, and that when you compare those, that you see that the 

growth effects of the dividend and gains cut is larger than column 

three for the credits and deductions and so forth. And also, that 

you can see that there is an increase in growth from lowering the 

ordinary tax rate brackets. So if you take the 0.4 percent number 

and then you look at column two and you get real GNP goes up 

by 1.1 percent, the different between those numbers is a rough estimate of the effect of lowering the tax rates in the top four income 

brackets. So with a government consumption offset, after 10 years, 

you get that basically increased growth by 0.7 percent, and with a 

tax offset, it does not affect growth because your number is the 

same as with the dividend tax cuts in column one. 

And the final point I was kind of hoping to make is that it is not 

always a positive negative outcome. We see for the dividend taxes 

that in all of the cases provided in the Treasury report, that the 

tax cuts led to a larger economic growth. So maybe we should look 

for those types of proposals and pass those types of tax cuts instead 

of the types of tax cuts that lead to negative long run growth. 

Mr. CRENSHAW. And that is kind of an example of a dynamic 

analysis that Burman said it is not scoring, but it is kind of information that would be helpful in making these kind of policy decisions. 

27

Mr. DIAMOND. Exactly. If you have 6 to 10 proposals, you could 

look at each one, at least in this example, in terms of how they 

would affect long run growth and then obviously, like we have both 

noted is that you would also want to, you know, you have other 

things, you have other factors that you consider, but this at least 

gives you some hard evidence on one factor that goes into your policymaking decision. 

Mr. CRENSHAW. Thank you very much. Mr. Neal. 

Mr. NEAL. Thank you very much Mr. Chairman. And thank you 

for your expert testimony this morning. Just a general question to 

the three of you. Does Congress currently constitutionally have the 

tools to balance the budget? Mr. Eakin. 

Mr. HOLTZ-EAKIN. Absolutely. 

Mr. NEAL. Mr. Diamond. 

Mr. DIAMOND. Yes. 

Mr. NEAL. And Mr. Burman. 

Mr. BURMAN. Yes. 

Mr. NEAL. Thank you for clearing up that notion. The reason I 

raise that question is, one of the things that I witnessed during the 

time that I have been here, the 18 years, is that the more we employ gimmickry, somehow the scenario will change. So in the 

1990s, if we simply had term limits, all would be well. Fascinatingly enough, many of the people that voted for them and were 

most vociferous in their support of them, geez, they all stayed because the country needed them. 

Then there was the argument from the caucus of the line-item 

veto that really should be called the stop me before I spend again 

caucus. And then, of course, raging with popularity in the 1990’s 

and, by the way, being discussed again is this notion of a balanced 

budget amendment to the Constitution. Finally, I take you back to 

January of 2001, what the scenario looked like financially for the 

Nation. Long term projected surpluses, without any gimmickry, 

and I guess the question that I would like to pose to the three of 

you, is there any evidence, Mr. Eakin, first, that these tax cuts pay 

for themselves? 

Mr. HOLTZ-EAKIN. Tax cuts don’t pay for themselves, although I 

think it is important to—I believe that. I don’t want to be evasive. 

But the question is what does ‘‘pay for itself’’ mean? I think this 

term gets tossed around a lot without a precise definition of what 

that means. So I would like to hear someone define that before I 

answer it. 

Mr. NEAL. Well, let me throw this out to you. If you are late on 

your mortgage payment for 7 months, and if the bank is in foreclosure proceedings, and if you call the bank and say please, I will 

change my behavior if you will forget about this; what is the bank’s 

position? 

Mr. HOLTZ-EAKIN. Rather unsympathetic. 

Mr. NEAL. Thank you. Would the other two panelists like to respond to the first question I raised about the notion of whether or 

not these tax cuts really do pay for themselves? Mr. Diamond. 

Mr. DIAMOND. They don’t. That is clear. 

Mr. NEAL. Thank you. Mr. Burman. 

Mr. BURMAN. Obviously they don’t. Greg Manke, who was President Bush’s first CEA chair, said in a textbook that people who 

28

thought that tax cuts paid for themselves were like snake oil salesman trying to sell a miracle cure. 

Mr. NEAL. The Congressional Research Service and the Treasury 

have both drawn the same conclusion that our three panelists have 

drawn. And their argument is that little will be of consequence in 

terms of those tax cuts paying for themselves. But there is an element in the Congress that insists on ignoring the evidence at hand, 

and that is why we go through many of these procedures that we 

do, and I think that your testimony today has been very helpful. 

Thank you, Mr. Chairman. 

Mr. CRENSHAW. Thank you. Mr. Barrett. 

Mr. BARRETT. Thank you, Mr. Chairman. Gentlemen, thank you 

for coming this morning. I have got a couple of questions for you. 

If you compared the margin, and Dr. Holtz-Eakin, if you would answer this. If you compared the margin of error, let’s say, static 

analysis versus dynamic analysis, I mean, can you give us some 

kind of figures that dynamic analysis is much more effective? Or, 

I mean, compared to the two? 

Mr. HOLTZ-EAKIN. I would hesitate, I can’t give you numbers 

that would illuminate that. I think that the right answer to that 

question is two dimensions. I mean, the first is that, by definition, 

the current, quote, static procedures leave out potential responses 

that the dynamic analysis would put in. And that is just the nature 

of the beast. 

And so to the extent that those responses, economic growth responses are important to the Congress, then it is ‘‘better to get 

them in.’’

The second piece is that I don’t divide scoring issues reflexively 

into static and dynamic. I think I divide them into those things we 

know a lot about it. We have seen programs like it before. We have 

collected a lot of evidence. The research community has looked at 

that evidence and come to some conclusions and those scoring 

issues like the very first terrorism risk insurance bill, where we are 

in a new world and there is no evidence. Well, I don’t think that 

is a static dynamic problem. That is we don’t know a lot about this 

particular program. 

We don’t have a lot of evidence, and the techniques brought to 

bear on it are far less the source of uncertainty than the fact that 

we just don’t have much in the way of evidence. 

Mr. BARRETT. I know that Dr. Holtz-Eakin and maybe Dr. Diamond, you mentioned that the process is a little more complicated 

than the static method. And I firmly believe we need to go to a dynamic type of analysis. But should it be when we are talking about 

overall budget reform and trying to be more accurate, when we are 

talking about this, does it make sense, when we are talking about 

dynamic analysis, also talk about further budget reforms, like, No. 

1, a biannual budget so you guys are only having to go through this 

process once every 2 years and possibly because of the complexity 

and the added things in the process, doesn’t it make more sense? 

And I am asking this to all three of you guys, for a major overhaul 

of the Tax Code, another step in the right direction to simplify 

things, whether it is a flat tax, consumption tax, just a major going 

back and taking a look at not only dynamic analysis, but the budgVerDate 0ct 09 2002 16:07 Nov 28, 2006 Jkt 000000 PO 00000 Frm 00032 Fmt 6633 Sfmt 6602 H:\DOCS\HBUDGET\HBU256.000 EDUWK PsN: DICK
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et process and possibly the Tax Code? And I pose that question to 

all three of you guys. 

Mr. DIAMOND. I will take part of it, which is the added complexity in dynamic analysis, or the dynamic scoring process. I 

mean, you would have added a number of questions because you 

are now asking not only about the micro behavior, but you are also 

asking about the macro behavior so there is definitely some additional complexity. But that complexity, I am not always certain 

that that makes it less reliable. To some extent, the standard or 

conventional revenue estimating process is extremely uncertain. 

And when I was at JCT, I was making decisions daily that I had 

no evidence for. But because I needed to have an estimate, a member had asked for an estimate, and I was responsible for presenting 

it, so that is what I did. And I made an educated guess. And so 

I am not certain that we should throw dynamic scoring out because 

of its uncertainty or its complexity. Revenue estimating and I think 

cost estimating are uncertain by nature, and I am not sure that assuming that all the effects are zero is always the best assumption. 

I think a lot of times it is a very good assumption. 

The other problem is that you do have to, when we do dynamic 

analysis, include this government offset effect, or this debt effect. 

But in policies that don’t receive a dynamic analysis we don’t consider the effect or the debt effect or the debt servicing cost of that 

proposal. So if you have one policy that is pro growth and its 

growth is offset by the cost of servicing the debt, you have one policy that has no growth effect, but it is not analyzed dynamically, 

so you just kind of see it as it is conventionally scored, and I think 

there could be a real misperception there of when it comes to comparing which of those policies would be good for the country. And 

I will leave the other questions for the other guys. 

Mr. BURMAN. I am pretty skeptical about the value of dynamic 

scoring in most contexts. The one exception might be that if we actually did have a major tax reform that was revenue neutral and 

we were broadening the base and lowering the rates like we did in 

1986. So I think the idea of thinking about this in the context of 

a major overhaul of the tax system, which I think is really necessary given the huge demands that are going to be put on it in 

the decades to come, is a good idea. 

Mr. HOLTZ-EAKIN. Your question really had two different pieces 

to it, one of which is process issues. And dynamic scoring would be 

one part of changing the process of deliberation. And I think it is 

important to step back and recognize that, you know, the Congress 

adopts policies for their benefits and they have an enormous 

amount of information about their benefits provided by their constituents, first and foremost, by analyses, from interested groups 

and think tanks and things like that. 

The budget is there to reflect and report the costs. And what the 

current budget costs don’t reflect are the efficiency costs and the 

economy. When you get a dollar of Federal revenue, you don’t ask 

the question how much did we muck up the economy in the process 

of collecting that dollar? What dynamic scoring would do would be 

to include that efficiency cost, at least in part and imperfectly into 

recognizing the cost of Federal programs. Since budget are supposed to reflect costs, that strikes me as entirely desirable. To exVerDate 0ct 09 2002 16:07 Nov 28, 2006 Jkt 000000 PO 00000 Frm 00033 Fmt 6633 Sfmt 6602 H:\DOCS\HBUDGET\HBU256.000 EDUWK PsN: DICK
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tend the mandates of dynamic scoring to somehow also reveal all 

the distributional fairness benefits or all the other things I think 

is unfair. We are not asking the budget to tell us what the best 

policies are. We are asking it to tell us what they cost. 

And so I think as a part of the process reforms to get in order 

our fiscal House, going forward, it strikes me as sensible. As I tried 

to be clear, I don’t think it going to change dramatically most 

things. But for some big things it will be important. 

Well, what are the big things where it will show up? All the 

things we are going to face. Anything that has a profound impact 

on how we raise the revenue, like a major tax reform. We are going 

to face big issues in our retirement programs. Medicare, Social Security. Any changes in those have profound impacts on how much 

people work over their lives, how they save for their retirements. 

They will have profound impacts on the economy. So all the big 

issues that are coming up will require this sort of understanding, 

and it seems to me that to build into the process the capacity to 

get those feedbacks is entirely sensible. And I am really cognizant 

of all the problems. I tried to list them all and be honest about it. 

But I don’t think it is sensible to say, gee, we have all these problems and we can’t do it, because that is the luxury of hand wringing in public. 

You know, once you are on the other side of CBO and someone 

wants a number, as Mr. Diamond was real clear, you give them the 

number. You don’t have the luxury of wringing your hands. You do 

it. So think hard about what you want to do, make provisions to 

get it done in a sensible fashion. And then I think all the work 

after that is a really a matter of understanding it on the part of 

members, understanding what you are getting in a dynamic analysis. It is clear there is not a complete understanding of what is 

going on in the current scoring process. So there is a lot of education on the other side as well as just the issue of getting it done. 

Mr. BARRETT. Thank you, Mr. Chairman. 

Mr. CRENSHAW. Mr. Baird. 

Mr. BAIRD. I thank our distinguished witnesses. It is good to see 

you again, Dr. Holtz-Eakin. We have missed you around here. 

First a question about logic, really. We often hear people say 

there was a tax cut if the revenues increased. Therefore, tax cuts 

caused the increase in revenues. I would like each if you if you may 

briefly say is that justified. 

Mr. HOLTZ-EAKIN. You can’t draw the conclusion from that and 

try to estimate that component. 

Mr. BAIRD. Mr. Diamond, would you concur with that? 

Mr. Burman. 

Mr. BURMAN. I agree. There are some very silly arguments. Like 

we end up saying well, we had tax increases in the 1990’s and the 

economy grew really fast, and therefore, the tax increases cause 

economic growth and we had tax cuts in this decade and the economy grew, without allowing for all the other things that are happening at the same time. 

Mr. BARRETT. I appreciate that. I hope folks will remember this election season, especially in the context if I where given, say, $600 

billion of deficit spending plus 2 to 3 percent interest rates, I think 

I could make the economy grow, regardless of what happened with 

31

taxes virtually, and nobody seems to talk about that. Back home 

it seems to me, folks got more money in their pocket from refinancing their house than they ever got from a so-called middle 

class tax cut. Any thoughts on that on those other factors? Say, low 

interest rates or deficit spending as stimuli to the economy? 

Mr. BURMAN. It is actually a little bit hard even to draw the inference because there was a huge amount of economic stimulus, not 

just the tax cuts. There has been a lot of spending over the last 

6 years. It is actually a little bit hard to draw the inference about 

what the independent contribution of that stimulus was to the 

economy when you consider that the Federal Reserve, at the same 

time, was also trying to keep the economy on an even keel. 

It certainly is right that there are other factors that are very important and the concern is that if we don’t pay for the deficits that 

have come as a result of the tax cuts, through cuts in government 

programs or something like that, then the long-term effect could be 

higher interest rates and people could be spending a lot more on 

their mortgages and on buying cars. 

Mr. BAIRD. Let me follow up on that one question, and if you 

want to elaborate on the earlier one too. I am kind of interrupting 

myself. You used an interesting phrase. The deficits that come as 

a result of the tax cuts, would the three of you concur at least a 

portion of the current deficit or recent deficits are resulting from 

the tax cuts rather than the tax cuts lowering the deficit? 

Mr. BURMAN. I certainly would concur. Actually to clarify, the tax 

cuts are not the only cause. 

Mr. BAIRD. I agree entirely. Mr. Diamond. 

Mr. DIAMOND. I concur. There are several things that figure into 

the increased deficits. 

Mr. BAIRD. But the tax cuts are part of it rather than reducing 

the deficits? 

Mr. DIAMOND. Absolutely. 

Mr. BAIRD. Dr. Eakin. 

Mr. HOLTZ-EAKIN. Certainly tax cuts don’t pay for themselves. So 

it certainly has to be true. 

Mr. BAIRD. I believe that we ought to use some form of dynamics. 

I concur with Mr. Barrett and others, I think the more about information you can give us about the effects of our actions, the better 

off we are. I think we would be naive to assume, if the mock up 

of the budget deficit that we are going to have dynamic scoring rescue us, because every tax cut is going to generate more revenue, 

which I tend to hear from folks, and I think it may be uninformed 

and it may be naive. Is there merit also to the dynamic scoring of 

spending? And let me give you an example. I got an $80,000 appropriation for a little theater in a defunct logging town, that has revitalized that town to measures you can’t imagine. It has leveraged 

donations of wood from the timber company. The communities 

come together. They have got a steam locomotive bringing tourists 

up there, $80,000 has generated a tremendous amount of economic 

activity. Is there merit to dynamic scoring of spending? 

Mr. HOLTZ-EAKIN. I think in principle, you want to look at both 

sides of the budget when you do this. I think that is inescapable. 

I think the key is to step back from all the rhetoric that has surrounded this. This isn’t a gimmick. It is not a way to evaluate 

32

things based on the budgetary outcomes. That is a terrible way to 

evaluate policies. You evaluate policies by their impact on the overall well-being of the citizens of the United States. What this does 

is allow a particular channel of economic growth to enter into the 

formal measures of the costs, and I think it is entirely desirable to 

discriminate between good and bad fiscal policies on those grounds. 

Paying for themselves is a different game. And that is not really 

what this is about. 

Mr. DIAMOND. I stated in my testimony that we should do both 

taxes and spending, and partly because I would be a little worried 

the example—I mean, that is $80,000 that probably did increase 

growth in that area, obviously, but that is $80,000 that was taken 

from other areas. So we may have seen reduced growth there. So 

the national impact may have been a zero. But we are not sure. 

It would depend, and we would have to look at that. 

Mr. BAIRD. Yeah. We would have the $220 million bridge in Alaska minus $80,000. So we will have to struggle through up there. 

Mr. BURMAN. I think there are a lot of examples of spending that 

can enhance growth, like well-designed increases in education, research, or infrastructure. But the example of the bridge in Alaska 

points out that are some bad infrastructure investments as well. 

Mr. BAIRD. I thank the chairman and thank the panelists. 

Mr. CRENSHAW. Mr. Chocola. 

Mr. CHOCOLA. Thank you, Mr. Chairman. Thank you all for 

being here today. I haven’t been here that long. I am in my second 

term and I was in the corporate world before I came to Washington, and I am still trying to sort out the differences sometimes. 

Maybe you all could help me today a little bit. We used to engage 

in analysis of spending and revenue, policies and practices, things 

like capital expenditures, things like our pricing policy. We went 

through analysis, but we didn’t talk in the terms of static or dynamic. 

We were just trying to figure out what the world was going to 

look like after we did what we were thinking about doing. If we 

were thinking about a price increase, we would think about the behavior of our customers, behavior of our competitors, and what 

would it do to our volume, our pricing, our cost, our margins, what 

it would do to our ability to buy stuff. What were we doing? Were 

we engaged in static or dynamic analysis? Dr. Holtz, you point out 

that static is not really static. So what were we doing? Was it static 

or dynamic? 

Mr. HOLTZ-EAKIN. You are trying to look at your future in the 

presence of one set of policies versus another, and that is a—that 

is the nature of doing a ‘‘corporate score of alternative marketing 

policies’’ or whatever it might be. It would be a full-blown dynamic 

analysis from the point of view of the corporations, the kind of 

thing that we have talked about today. Just in case you are not 

clear exactly the differences, I doubt your corporate world had the 

power to tax or print money. 

Mr. CHOCOLA. No, we did not. But we were trying—we were trying to determine the outcome of behavior, outcome of decisions, and 

so I guess, you know, that my question is, can we learn anything 

from the corporate world? We weren’t as big as the Federal Government, obviously, but there are huge corporations that have to 

33

make these decisions based on real-world consequences. And can 

we learn from Microsoft or the way they analyze capital expenditures or their pricing policies? 

Mr. HOLTZ-EAKIN. It depends, I think, what you mean by ‘‘can 

we learn.’’ certainly, everyone who is involved in the policy analysis 

business, whether it is within the government or beyond learns 

enormously by looking at the kinds of things that corporations do, 

looking at their investment strategies, looking at their research 

strategies, trying to understand how they respond to different environments, how they, in fact, would innovate when given different 

pressures, whether they come from policies or not. 

The difference is private firms are using their own or their shareholders’ money and if they fail, they go away. That is not true of 

the government. And so, to full-scale import a corporate policy evaluation framework into the government is actually not appropriate. 

This isn’t a corporation. This is a different entity. It has different 

powers, and it has different metrics by which it evaluates success 

because it doesn’t go out of business. 

Mr. CHOCOLA. Well, the reason they would go away, there is lots 

of reasons but one, they are making bad decisions which are bad 

investments or bad—they don’t generate the revenue they estimate 

or they are acting unethically or essentially they are making bad 

decisions based on bad information. You know, I think what we are 

here to do today is to figure out, how do we get the best information so we can make the best decisions and implement the best 

policies? 

So from that standpoint, because there is less—maybe more severe consequences in the corporate world than there is in government sometimes, isn’t there a way that we could learn from the 

analyses they use? 

Mr. HOLTZ-EAKIN. I think you said it best when you said you 

want to bring all the information in the best form to the process, 

and my cautionary note to this, you know, as the one who really 

believes you can do this, I think I am relatively unique in that I 

actually believe you can do dynamic scoring and learn something 

from it on a regular basis. You just have to be careful about what 

you think you are going to get back. I don’t think you will get more 

accuracy. I don’t think that is the primary objective. I think you 

will get to discriminate between better and worse policies more 

clearly and you will know them when you see them. But because 

legislation takes place at different points in the year and the economy is always changing, you are doomed to inaccuracy. 

So given you are doomed to inaccuracy, I would place the premium on knowing a good policy when you see someone, regardless 

of when it is enacted. 

Mr. CHOCOLA. Well, we always knew we were wrong. We always 

knew. But painfully, it is the question of, how wrong are you? And 

so, you know, I guess my question is, is there—well, let me ask, 

is there a dynamic model that is even close to being accepted in 

the analysis world? 

Mr. HOLTZ-EAKIN. Yours? I think there are multiple—I think the 

issue is that if you put at this table a sort of a broad range of the 

American Economic Association, I actually don’t recommend that 

you do this, but if you imagine doing that, you could find three conVerDate 0ct 09 2002 16:07 Nov 28, 2006 Jkt 000000 PO 00000 Frm 00037 Fmt 6633 Sfmt 6602 H:\DOCS\HBUDGET\HBU256.000 EDUWK PsN: DICK
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sensus models, getting down to one would be hard, and it would 

be, in fact, I think the primary responsibility of the budget committees to make a decision about how to bring the information from 

those three models down to a single number. 

Mr. CHOCOLA. And the only way you are going to do that is trying it and see which one works the best. Right? Mr. Diamond, we 

are out of time. 

Mr. DIAMOND. Even then, trying them and seeing which one, 

someone who works with the models often don’t know what works 

the best. I mean, you know, often I am in positions where you are 

just—you just don’t have any information. But I agree with Dr. 

Holtz-Eakin there, there are basically three models out there that 

are considered. 

Mr. CHOCOLA. You have to do the analysis and then do some 

kind of post analysis what you thought happen, did that happen, 

right? 

Mr. DIAMOND. That is correct. It may be that—that the model, 

the best model changes with—depending on where you are in the 

business cycle and what policy you are looking at. So in 2001 and 

2003, I think what JCT calls their meg model, was probably a very 

reasonable model because they could build in unemployment into 

the baseline. Currently, if you were to do something, I think—and 

then again, so you have to even ask, do you want to do short run 

versus long run effects or not? So all of these questions kind of bear 

on which model you choose. I am not sure it is an open-closed answer. Even if you used one model and it does well one time, that 

doesn’t mean it will do well next time necessarily. 

Mr. CRENSHAW. Mr. Diaz-Balart. 

Mr. DIAZ-BALART. Thank you, Mr. Chairman. It is wonderful 

having this distinguished panel here. Doctor, it is always good to 

see you here, and Mr. Neal always has the ability to put things in 

real basic terms and I am going to give him credit I am going to 

try to do those things as well. One of the things we always forget 

when we are dealing with taxes is, we always talk about the effect 

on government, which is essential, obviously. 

We don’t talk about the effect on the guy who pays the bill, on 

the taxpayer. So I want to, following Mr. Neal’s model, first ask 

some pretty basic questions. Tax increases are paid for by government or are they paid for by the taxpayer? Who pays the taxes for 

tax increases? It is a pretty basic question. I know. I am following 

Mr. Neal. 

Mr. BURMAN. Taxpayers. 

Mr. DIAZ-BALART. Right. And when a taxpayer is asked to pay 

more money, it is not voluntary, right? I mean when the government says we are going to increase your taxes, it is not voluntary. 

That is correct. Third, and again, following kind of Mr. Neal’s questions, does Congress has obviously the constitutional ability to 

raise taxes massively or small or increase taxes. So my question is, 

for example, when Congresswoman Pelosi and the ranking member 

of Ways and Means, Mr. Rangel, supported and went to the floor 

and voted for a half-trillion dollar increase on taxes which were 

paid for by the taxpayer, if they got the votes, they would be able 

to do that, they could do that, right? Congress could do that if they 

35

got the votes. They could increase taxes by a half-trillion dollars. 

Who would pay those increases? Taxpayers? 

OK. Do we—and by the way, I mention that because that, in fact, 

was a proposal that was voted for by many on the floor of the 

House. So this is not theory. So in other words, if Ms. Pelosi was 

on the majority, Mr. Rangel, chair of Ways and Means, they could 

possibly then, if they got the majority, pass the proposal that they 

supported and voted for to increase the taxes on the American taxpayer by half a trillion dollars which just to put in perspective here 

with my colleagues is more money than the yearly expenditures of 

every single government in Latin America plus the Caribbean combined. 

Or to put it in a different way, is more money than the expenditures of 1 year of the government of Communist China. So they 

could, right, constitutionally, if they had the votes, pass such a tax 

increase as they proposed—as they voted for on the House floor, 

correct? 

Mr. DIAMOND. Correct. 

Mr. DIAZ-BALART. Now here is my question. When we are looking 

at dynamic scoring, do we ever look at the impact on—not the government which is essential, that is what we do. Do we ever look 

at the impact on the taxpayer, on the family as to—if we take out 

from—if we take away from them more money, how does that impact their decisions, their ability to pay their bills, their ability to 

send kids to school, their ability—do we look at that at all when 

we look at taxing? 

Mr. HOLTZ-EAKIN. Absolutely. The mechanics of doing a dynamic 

score would require anyone who doing it to first look at the policy 

of the tax increase in this case, look at how it impacts households 

and firms and all their decisions, did they work, did they save, did 

they spend money, on what and the feedback that has on economic 

growth and the overall collection of receipts and spending at the 

Federal lever. So it is embedded in there. 

Mr. DIAZ-BALART. So do we do that now? Do we do that now 

though? 

Mr. HOLTZ-EAKIN. We do it now to a certain degree. But again, 

we stop—in the mechanics of it, you would never let any policy 

change the total level of the economic growth off of the baseline. 

That is the conventional scoring at the moment. 

Mr. BURMAN. Distributional analysis from the Treasury, Joint 

Committee on Taxation, and the Tax Policy Center, periodically 

show the distribution of tax changes as a result of particular legislation. I think one important point is that the tax increase by itself 

doesn’t actually affect the long-term obligations of American taxpayers. What determines those is the level of spending. If we are 

financing current spending from deficits, that just means that we 

haven’t specified to who is actually going to pay for it. If we are 

running a $500 billion deficit now, then the implicit payer of the 

taxes might be my children or my grandchildren unless you come 

up with a way to cut spending to offset the deficit. 

In some ways, these distributional analyses are very misleading 

when we are running deficits because they don’t present a complete 

picture of who is bearing the burden. We are basically accepting 

36

the notion that the tax or spending we are not paying for right now 

effectively is never going to be paid for. 

Mr. DIAZ-BALART. Thank you. Thank you. 

Mr. CRENSHAW. Mr. Wicker. 

Mr. WICKER. Thank you, Chairman Crenshaw. Dr. Holtz-Eakin, 

we have a pretty good little briefing prepared by the committee 

staff here, and it, of course, defines static analysis for us. And then 

it talks about the distinction between dynamic scoring and dynamic 

analysis. You weren’t with CBO in 1997, but maybe you remember 

or maybe somebody else on the panel does. In 1997 Congress cut taxes by about $89 billion over 5 years and 

yet tax revenue the next year increased from 19.3 percent of GDP 

to 20 percent. And for the time being there, the budget was balanced even though we cut taxes. How would—in very practical 

terms that even a congressman could understand, how would static 

scoring apply to that one example? And then what would be the 

distinction between dynamic scoring in that 1997 tax cut of $89 billion and dynamic analysis? 

Mr. HOLTZ-EAKIN. Well, on scoring versus analysis, I am not 

going to pretend that everybody accepts these definitions, but I 

think of the difference being analysis is focused on economic performance. You do a dynamic analysis to see how fiscal policy affects 

the U.S. economy, it is going to grow faster or slower, and you 

might want to expand the scope to take account of—within the U.S. 

economy, different kinds of households rich, poor, savers, old, 

young, whatever, so you can break it apart in pieces too, but the 

basic issue is you look at economic performance. 

Scoring is about taking that economic performance, better or 

worse, whatever you are looking at and saying, OK, well if the 

economy is doing better, we are going to, perhaps, spend less on 

unemployment insurance when it goes down, collect more on tax 

revenue whether it is from corporate source or individual sources, 

receipts go up, let’s calculate the size of that impact and look at 

the net impact on the Federal budget, both the direct tax cut plus 

the offsets that you might get——

Mr. WICKER. And coming to a number. 

Mr. HOLTZ-EAKIN. And putting a number on it. 

Mr. WICKER. The problem is this. Mr. Chocola and the panel had 

a nice discussion about how we know we are going to be wrong, it 

is just a question of who is going to be closer, and when we are 

making decisions, oftentimes we are constrained by the scoring. We 

believe in our hearts based on experience and intuition and everything that is available to us that this would be good policy. 

We can’t do it because somebody counting beans in some office 

somewhere says it scores as costing more than you could do under 

this particular budget constraint that we have. 

Mr. HOLTZ-EAKIN. Well, as a former chief bean counter, let me 

just sort of point out how I think about this, which I think is important. If you go to this table that was put out there——

Mr. WICKER. Table three? 

Mr. HOLTZ-EAKIN. Table three was passed out. I am just eyeballing the three GNP effects. If you go from column 1 to column 

2, you always go up. If you go from column 2 to column 3 you always go down. So if you asked me the question, which tax policy 

37

in a dynamic scoring setting has the better long run impacts, I 

would pick the one that goes from column 1 to column 2 over the 

one that goes from column 2 to column 3. And that is true regardless of whether you use a future government consumption offset of 

a future index offset. So if you have a floor debate between going 

1 to 2 or 2 to 3, and you go to the bean counters, the bean counters 

are always going to give you a ranking that is the same. 

So that is point No. 1 and on that, I think that is the merit involved, it ranks proposals in a particular way. Second question is, 

well, is it really point 7 and it is up or is it really, you know, zero 

between 1 and 2? Well, you know, that is where the uncertainty 

arises, and you know, I say this lovingly, one of the reasons you 

get elected is you get to make the tough decisions, whether or not 

it is a good idea. And I am sympathetic, but the scoring system is 

not primarily to tell Congress what the outcome will be. It is to tell 

Congress the difference between this representative’s proposal and 

this representative’s proposal. That takes primary responsibility. I 

would love it if it was simultaneously exactly accurate about one 

versus the other, but I don’t think that is feasible, not about the 

way the business is being done. 

Mr. WICKER. Thank you. Well, if there is no one else waiting, 

could I perhaps have another second or two Mr. Chairman? 

Mr. CRENSHAW. Sure. 

Mr. WICKER. Tax cuts don’t pay for themselves. Everybody on the 

panel agrees. And it seems that our briefing from the committee 

agrees that no credible economist really believes that tax reductions could generate enough revenue through revenue growth to 

fully compensate for the tax reduction. Now, ‘‘fully’’ is a very important word there. And I guess this is what dynamic scoring is all 

about. In the example that I gave you where we cut taxes by $89 

billion over 5 years but revenue increased, would anybody here 

suggest that the tax cuts had nothing whatever to do with revenues increasing? 

Mr. DIAMOND. I wouldn’t. I mean, I would—knowing at least part 

of the 97 tax cuts were capital gains related, I think you could look 

at column one and say that that is one proposal that probably pays 

for more of itself but not fully. 

Mr. WICKER. So tax cuts don’t fully pay for themselves but they 

can partially pay for themselves. 

Mr. DIAMOND. That is correct. 

Mr. WICKER. And that is the problem with static scoring, is static 

scoring assumes it is just a total loss of revenue.

Mr. BURMAN. Correct. But for some tax cuts as Dr. Holtz-Eakin 

and Professor Diamond have pointed out, the dynamic costs are actually larger than the static costs. Even in the case of capital gains, 

there are complications. The problem is that with capital gains the 

difference between tax rate and capital gains and other income is 

exploited by everybody designing a tax shelter. When you make 

that difference larger, there will be more tax sheltering activity 

and that kind of thing doesn’t show up in these dynamic models 

because it is just very hard to represent. 

So the issues are complicated, but it is certainly true that for a 

lot of kinds of tax cuts, there would be general agreement that behavioral effects would be positive, especially if they were paid for. 

38

Mr. WICKER. Well, the chairman has been very indulgent on me 

with the time. Let me just observe in following up on Mr. Barrett’s 

question. It would seem to me that somewhere in the public record 

of the debate back in 1997, some entity somewhere in the private 

sector perhaps tried to do a dynamic score of the statute and the 

tax cut that the Congress enacted, and I would be interested if 

somewhere out there someone within the sound of my voice could 

discover if a dynamic score was urged upon the powers that be and 

how accurate it turned out to be as opposed to the scoring that we 

actually received. Thank you, Mr. Chairman. 

Mr. CRENSHAW. Thank you. Mr. Cuellar, do you have any questions? 

Mr. CUELLAR. Not at this time. Thank you, Mr. Chairman. 

Mr. CRENSHAW. Would you put the chart back up because to follow up on a couple of questions Mr. Wicker asked, when you talk 

about dynamic analysis, one of the things when we looked earlier, 

when you argue about do tax cuts pay for themselves, and I think 

most people say they don’t in full, but somehow that if you don’t 

tax overtime, wages, people might work more overtime and that 

might—I mean, that might change the dynamic. 

I think it has been pointed out there are relatively few situations 

where dynamic analysis would really be useful, but one of them 

would be these capital gains and the ordinary rates. And it seems 

to me that the one thing that stands out when—when you make 

that offsetting decision, when you look at that last column of number 3, when you say if you decide you are going to control spending 

as an offset so to speak, you end up saying the economy is going 

to grow by .7 percent, and if you say you are going to use the offset 

of raising taxes, you find in accordance with that dynamic analysis 

that the economy loses .9 percent. 

Now, if that is a dynamic analysis, is that legitimate? I mean, 

do you all agree? I mean, I think Mr. Diamond, that he was involved in the analysis, might say that that is true, but does anybody disagree when you make those kind of assumptions that 

you—that you can get the result that is on that screen? Maybe 

start with Mr. Burman, because he might not think so. 

Mr. BURMAN. I am skeptical of the actual point estimate. I agree 

that the dynamic analysis is helpful for ranking different options, 

but these models require so many simplifications, so many assumptions about how people respond, incentives to work and save, about 

what time period people make decisions over that I think that the 

sensitivity of these results to the assumptions can be really extreme. People who build these models, like Professor Diamond, 

tried the sensitivity analysis and they show that there is a range 

of outcomes. CBO has done this in other contexts as well and that 

is very helpful, but the point estimate itself is what I am fairly 

skeptical of. 

Mr. DIAMOND. I assumed you agreed with the analysis. 

Mr. CRENSHAW. Let him answer last and see what kind of——

Mr. HOLTZ-EAKIN. I think the primary pieces that go into longrun growth, to make the economy bigger, you either have to have 

more stuff in the way of people, more stuff in the way of buildings 

and factories, or more stuff in the way of technologies, and the only 

way you get the latter two of those, you give up something now, 

39

you make an investment, and so the key to long-term growth is 

saving, and these policies which cut government consumption, 

means the country saves more. You have to get this answer. 

Mr. CRENSHAW. Mr. Diamond.

Mr. DIAMOND. I will start out by just touching on one point Dr. 

Burman made, and that is that the OTA provided two other tables 

it provided for low and high parameter runs. And then I would just 

point out the result and kind of what you are getting there is you 

can see when you are going across from columns 1 to 3 that when 

you go from column 2 to column 3, adding in the remaining tax cut 

provisions, which were the child credit, the increased standard deductions and bracket width for married filers and the 10 percent 

rate bracket which are all somewhat or inframarginal for most taxpayers, meaning they are not going to have any of these behavioral 

effects that we talked about with dynamic analysis labor increases 

and so forth, in fact they may have the opposite. 

You can see that real GNP, the increase or predicted increase in 

real GNP drops from 1.1 to 1.7 percent. What happens now when 

you go down now to the future income taxes now, you are having 

these extra tax cuts but instead of offsetting them with decreases 

in government consumption, you are raising taxes on waiver income and capital income. So you are getting this magnified effect 

because now you have actually increased capital income taxes as 

opposed to lowering them because the tax cut for the child credit, 

the marriage penalty relief and the 10 percent rate bracket, that 

has been paid for through an increase in capital income taxes and 

labor income taxes, and that is why that result is so kind of substantial. And that is all I have to say. 

Mr. CRENSHAW. Thank you. 

Mr. BAIRD. Mr. Chairman? When you get a chance, you may 

have more questions, if I could ask. 

Mr. CRENSHAW. Go ahead. And then I have one final one. Baird. 

Mr. BAIRD. Just two quick questions, follow up on Mr. DiazBalart’s comments, and I think Mr. Burman alluded to this. It is 

true that people pay the taxes, that is where the money comes 

from. Who will pay for the deficit? 

Mr. BURMAN. Well, that is the big problem. We haven’t specified 

how we are going to close the deficit. It might be higher taxes on 

our children. It might be cuts in spending programs, which depending on what we are cutting could have big or small effects on the 

economy. The spending programs presumably benefit people as 

well, so cutting those would have a cost. The problem with deficit 

financing is that we really don’t know what the debt effects are 

going to be. 

Mr. BAIRD. Who pays—so it will be the people who will pay for 

the deficit at some point? 

Mr. DIAMOND. I mean, currently, we are all paying for it in that 

every year we make an interest payment. 

Mr. BAIRD. You read my mind. That was going to be my next. 

Mr. DIAMOND. Then also, eventually you have to pay it off. It is 

the principle interest question. We are all currently paying interest. At some point, someone will have to pay the principle. 

Mr. WICKER. Will the gentleman yield on that? 

Mr. BAIRD. Sure. 

40

Mr. WICKER. We are just speaking hypothetically here, and I 

would like to balance the budget and have advocated a balanced 

budget. But Dr. Diamond, you just said eventually you would have 

to pay it off. Corporations don’t eventually pay off their debt. They 

roll it over. And I have heard economists say, we realistically will 

never pay down the public debt. We hope that it is within a manageable percentage of GDP, but what says that this country will 

eventually have to pay off the public debt? And if so, when? 

Mr. DIAMOND. You don’t have to pay off the principle. You can 

continue to make interest payments forever. 

Mr. WICKER. Which is just what corporations——

Mr. DIAMOND. They often—I mean they have often rolled over 

one piece of debt for a new piece of debt. 

Mr. WICKER. Bonds. 

Mr. DIAMOND. I agree with you. You don’t have to pay it off, but 

you are still paying the costs through the interest payments and 

I agree that as long as GDP is growing faster than the government 

debt, then in some sense, you are actually getting more wealthy. 

I mean even though you have more debt stacking up, if your income is going up faster than your debt, I mean these are the types 

of things that we should look at. 

Mr. WICKER. Indeed. If Donald Trump owes a million dollars, it 

is not quite as severe as Roger Wicker owing a million dollars. 

Mr. DIAMOND. But whether we are going to pay it off or not, 

there is still a cost. 

Mr. WICKER. There is a cost, no question. 

Mr. BAIRD. I will reclaim my time. But Mr. Holtz-Eakin may 

want to respond to Mr. Wicker. 

Mr. HOLTZ-EAKIN. Just in the context of the question at hand 

which is the dynamic analysis issue, I think it is important to recognize that what is going on here is that taxpayers pay, bear the 

burden of a policy by having a lower ability to finance their private 

lifestyles because of the decisions made in the fiscal policy. And so, 

you know, my case, all I care about is Diet Coke and Twizzlers and 

when I pay taxes, I can’t get as much of either. And what the dynamic scoring would show for you, if you showed a tax financed or 

a deficit financed, whatever your fiscal policy was for a given level 

of spending, it would affect the growth in the economy. 

I mean, somewhere out there in some future generation, they 

might pay for it by having a less productive economy and less GDP 

and that is one way that the burden of particular spending policies 

gets inflicted on the private sector. 

So one of the things dynamic scoring would allow you to do 

would be to compare what is the impact of paying for it all now 

with taxes versus paying half of it now with taxes and doing it 

later and showing to the extent you care about it, the distribution 

across generations because there are different ways to shift this off 

to the future and slower economic growth is, in fact, one of them. 

Mr. BAIRD. Two points that I want to follow up on. I have looked 

at the OMB budget figures every year, and one of the things that 

strikes me is we are all committed to cutting waste, fraud, and 

abuse. That is given, and I think we ought to eliminate it. But that 

won’t solve the problem. As I looked at the budget deficit figures 

last year unless I am mistaken and actually has been the case for 

41

the last 4 or 5 years since I have been here, actually, the nondefense discretionary spending is less than the size of the Federal 

budget deficit if you include borrowing from Social Security in the 

budget deficit figure and you include spending on Iraq. 

In other words, if you—when we look at this chart you had up 

in decreasing future government consumption, if you completely 

eliminate nondefense discretionary spending, you are still in deficit. So you shut down the Federal prisons, you open up the borders, you shut down the national parks, you eliminate the Department of Education, some of these people may like, some people may 

not like but you are ending the whole show, except for defense and 

the mandatory programs. 

I will be the first to admit we have to deal with the mandatory 

spending side. We just have to do that, and frankly neither side 

has shown a great deal of courage in that regard. But this notion 

that—when we put here, decreasing future government consumption. Pretty easy to put down. Pretty hard to implement. When you 

put this statement here, do we have an idea of what that would 

look like, decreasing future government consumption, by what 

amount and where? 

Mr. DIAMOND. I mean, you definitely could have that idea and 

that may be another important aspect of dynamic analysis to give 

members what that would look like, to give some examples of what 

that would look like. That could be done. I don’t have any of the 

numbers with me, but that could be done. 

Mr. HOLTZ-EAKIN. Just to beat a dead horse, I don’t think it is 

imperative how that gets done. I think it is imperative if you are 

looking at policy choices now, they are on a level playing field. If 

you are going to specify an unrealistic, hypothetical, politically unattainable cut in government consumption for all policies in the future, then they are on a level playing field and that is fine. 

So for the future of actually doing an analysis, you don’t have to 

specify where to get the votes in 2080. You just have to make sure 

everyone gets the same treatment. 

Mr. BAIRD. I would argue it is easier because it is easier to say 

theoretically we are going to cut government spending than it is to 

say we are going to deal with the deficit through taxes because the 

taxes come straight out of your pocket so there is an inequality 

there in the underlying assumption. 

You just say cut waste, fraud and abuse and we will solve the 

problem. First is you may have to suck it up and pay a little bit 

for the services you are receiving today in order so you don’t pass 

the deficit on to your kids. The point I would be making is yes in 

the abstract, you are giving us the numbers how they turned out 

but the political reality and the day-to-day reality for the taxpayers 

and those who elect to who represent them is different. 

The final question I would just ask is I heard this issue about 

debt and deficit is a percentage of GDP. And in theory, I understand the concept, but here is the problem, I think there is a huge 

disconnect happening right now relative to prior times in which we 

have achieved debt at a comparable level of percentage of GDP. 

And here is the disconnect. In the past, and I have looked at the 

chart over the fluctuation of deficit and debt as a percent of GDP, 

42

the baby boom generation was paying in in the form of taxes, not 

drawing out. That would be point one. 

And point two is, we were not competing against 1.3 billion Chinese and 1 billion Indians and hundreds of million of people in Indonesia. I think there is an enormous historical disconnect and we 

are kidding ourselves if we think that we can carry the same deficit 

percentage GDP ratio now that we have carried in the past without 

any long-term consequences. Any comment on that? 

Mr. HOLTZ-EAKIN. Well, I would concur that you really should be 

looking forward all the time, not looking back. And if the budget 

was balanced today, we would still have a big problem if we don’t 

change Social Security, Medicare and Medicaid so looking forward 

and recognizing the demographic shift is imperative, and in looking 

forward, you are going to face an international economic arena that 

is very different than in the past and policies better reflect that or 

we will not be well served. 

Mr. BURMAN. My view is that, just looking at the demographics, 

if you can’t figure out what to do with Social Security Medicare and 

Medicaid right now, the next best thing would be not adding on to 

the national debt. The lower the debt is 10 years from now, the 

more able our children will be to deal with these problems that we 

have pushed off to them. By contrast, if we pile onto the debt and 

it is larger, it is going to require much higher taxes to bring things 

in the balance and much more draconian cuts in programs and 

they are not going to be any easier when there are twice as many 

people in AARP as there are now. 

Mr. DIAMOND. I agree with what they said. To be an optimist, 

hopefully the growth in China will expand our market more so 

than just—there is going to be a mutual gain there. So it is not always—one to one. That ignores a lot of questions about security 

and dangers and all that stuff. We will leave for——

Mr. BAIRD. Well, I guess that $64 billion a month trade deficit, 

that is a fairly optimistic scenario, but I thank the gentleman for 

the comments. 

Mr. CRENSHAW. Let me ask you just two final questions, and Mr. 

Wicker has another question. And one, Dr. Holtz-Eakin, when I 

asked you earlier about the legislation that kind of prompted this 

discussion, the modernization of all these concepts you said it was 

necessary appropriate and timely, could you give us a couple of examples of where, you know, where changes need to be made? In 

other words, for instance, like the pension benefit guarantee corporation, kind of public-private partnership, I mean, they didn’t 

have one of those in 1967, and—but a couple of examples like that 

of how, you know, how modernizing the concepts might help us get 

a better handle on what is revenue, what is expenses, just one or 

two that you encountered when you were head of CBO. 

Mr. HOLTZ-EAKIN. Well, certainly the PBGC is No. 1 on my list. 

The statutory language says that the taxpayers are not at risk if 

the PBGC runs out of assets to pay off pension insurance. I don’t 

believe anyone in this room thinks the Congress would stand back 

and let that happen. So the taxpayer is at risk. The budget doesn’t 

reflect that at all because the budget has a very strange treatment 

of the PBGC where premiums are counted in and actual benefits 

are paid out, but if someone puts a pension plan in the PBGC, 

43

there is no change in the budget immediately of the recognition 

that we will pay out more in the future. 

If it is a government program, put it on the budget completely. 

If it is really not and the taxpayers is not at risk, then get all the 

treatment off, but currently, it is a little halfway house, and that 

is, I think, misleading and not appropriate. 

So that is No. 1. Another one that came up recently has been the 

Universal Service Fund, which, when it was created, some people 

believed was not going to be reflecting the Federal budget, but, in 

fact, it uses the sovereign powers of the Federal Government to collect revenues from telecommunications companies and use them for 

particular policy purposes, so it is reflected on the Federal budget. 

The fact that it wasn’t expected to be on the budget by some parties led them to behave in ways that are inconsistent with standard 

budget treatment, and that has been sorted out over the years. 

Well, that is another example where, you know, the lines need to 

be drawn about what is in and what is out and just get business 

clarified. For those who are in and in a big and important part of 

the Federal Government now are financial transactions, whether 

they be loan guarantees or direct loans or some sort of investment 

activities, venture capital activities, how do you treat all these financial transactions and appropriately reflect the taxpayers’ exposure to additional taxes to meet those obligations? That is a very 

important question. Financial arrangements have gotten increasingly intricate. When you bought something versus leased it is not 

obvious. When you have made a guarantee versus a loan is not obvious. There is a lot of work that would be beneficial in clarifying 

exactly what it is that is on the books at any point in time. 

Mr. CRENSHAW. I thank you. Did either one of you all have a 

comment to make in that regard? Thank you. And the last question 

now I would ask, is as we kind of go through this exercise of talking about—I think it is helpful to understand that static score and 

actually has a little more dynamism in it that might be thought, 

and yet dynamic analysis is a pretty broad overarching concept 

that would be helpful probably in a handful of situations. Would 

each of you all comment on what role the Budget Committee might 

play? Because you have got JCT, you have got CBO and where—

where and how can the Budget Committee fit in to kind of making 

this a better way to analyze spending, analyze taxes? Any thoughts 

on that? 

Mr. DIAMOND. As I pointed out in my testimony, I think the current House Rule 13 is a decent place to start, and that maybe going 

from there, we should just try to have the analysis done in a more 

timely fashion and it should be done on spending and taxes and 

that we should avoid—I mean, we are going to have to limit what 

it is done on, otherwise, there is just not the staff resources to do 

it, although there is a very competent staff in place, you have got 

to limit those choices, and that needs to be done in a way that is 

not done with a political bias, it needs to be done from kind of an 

observer’s—an unbiased observer’s point of view, and then last, I 

guess is just being educated. I think back to the Fed model. The 

Fed does use all these models, and they do use macroeconomic 

analysis, and I guess it is a little easier because some of them are 

economists, they don’t necessarily have the technical expertise, but 

44

to some extent I think just being more involved, especially, you 

know, maybe telling us what you want to see without—without 

forcing us to give any one certain thing or exclude—without forcing 

any exclusion of information. 

Mr. BURMAN. I had a couple of examples in my testimony of ways 

I thought the budget process could be improved. One issue was 

that we actually don’t do a very good job of forecasting the baseline. And there is some evidence from Professor Alan Auerbach of 

Berkeley that information is not incorporated in the forecast. The 

errors tend to be correlated over time. Forecasters consistently 

overestimate the deficits for a period, and then consistently underestimate deficits after that. 

He didn’t figure out exactly how to exploit that information to 

make the forecast better, but it might be worthwhile to invest a 

fair amount of time thinking about whether there is sort of a systematic bias in the whole process of forecasting the baseline and 

whether we could eliminate it or use information from year to year 

to help us to retarget the baseline and do a better job of forecasting 

going forward. There are a number of little things. One example is 

that on the tax side, unlike on the budget side, we don’t do probabilistic scoring and that produces legislation that looks like it 

doesn’t cost anything, but it clearly has value. 

An example in my testimony is that there is a tax credit for lowyielding oil and gas wells and it only kicks in if the price goes 

below a certain level. That score is costing nothing because that 

level is below the level that was prevailing when the legislation 

was put in place. But there is an enormous lobbying effort for this 

provision. So clearly some people thought it was going to be of 

some value under some circumstances, and the right answer would 

be, just as on the spending side, to include the expected costs to 

the government across the range of prices, and not just the point 

estimate of what you expect given a set price. 

Mr. HOLTZ-EAKIN. I think there is an important role for the 

Budget Committee. First of all, given the state—not just the scientific knowledge, but the overall understanding and acceptance of 

these dynamic techniques, I think it remains appropriate for them 

to be supplemental at this point and not the major way of doing 

business, but they should be regularized and the Budget Committee can take the lead in doing that. And the Budget Committee 

then would have an important educational role to help members 

understand what it is that would come out of such an analysis and 

how it would differ from current practice, and that is the first and 

foremost role. 

The second one is if it were the case that this would be brought 

formally into the budget process, it has to be the Budget Committee who is ultimately the guardian of what scores get entered 

into the budget that makes the call on when a dynamic analysis 

is done. You know, as I stress, not every piece of legislation merits 

this. And it would be a terrible misuse of resources to crank up big 

models for tiny proposals, but you can’t leave it to the judgment of 

the CBO or the joint committee or somebody when they are going 

to do it or it is going to be perceived as a political call and that 

is going to undermine the entire effort. 

45

So there has to be a call made at a higher level on the circumstances in which dynamic analysis would be employed. That is 

an important consideration. The Budget Committee would have to 

weigh in heavily there and they would also have necessary the coordination issue between the joint committee and the CBO because 

of the ability to disband both sides of tax and spending aspects of 

the budget. I think those are crucial to think about. 

I just want to close by disagreeing somewhat with Mr. Burman, 

who I otherwise respect greatly, especially since he is so much taller and funnier than I am. I don’t think this is going to be an issue 

getting the baseline more accurate. A while back, the Federal Reserve staff put out a study which I found very informative. It compared the CBO projections, which have a particular set of handcuffs on them which are called current law, they project under current law and they compared them with the OMB forecast which 

have a different set of handcuffs, which the president’s policies are 

fully embedded in those forecasts and then the third player, the 

Federal Reserve who, you know, we are all jealous of because there 

is no handcuffs, they get to just project what they think will happen. 

The Federal Reserve was more accurate by 1 percentage point 

over a 1-year horizon in forecasting the deficit and after that it was 

a wash. They were all wrong, and I think that tells you it will be 

very difficult to make dramatic improvements in budget forecast 

especially on the deficit, and that is not a good place to spend time 

and energy. It is just something that is just hard. 

Mr. CRENSHAW. Well, thank you very much. No further questions—one final question. 

Mr. WICKER. The President asked for a half million dollars for 

the Treasury Department for an Office of Tax Analysis to create a 

division for dynamic analysis. Both Appropriations Committees, 

House and Senate, have approved this figure. And so it seems that 

for the first time, we are actually going to have a little division 

within Treasury to do dynamic analysis. Is this a good idea? And 

is there a danger of political pressure being brought to bear on the 

people within this division? And I would just like to give each panelist an opportunity to talk about the merits of this proposal, which 

seems to be on track. 

Mr. HOLTZ-EAKIN. I think it is a good idea. It is a good idea, No. 

1 because, you know, I have a basic endorsement of the idea of 

doing this kind of analysis. No. 2, I am very skeptical of monopolies, and having just the congressional branch doing it is not a good 

idea. In my experience of CBO, every time that the CBO had to explain why it was different from the administration, whether it was 

in Social Security or in Medicare or any other aspect, PBGC, both 

parties’ analyses were improved by just the simple act of getting 

together and trying to figure out why they were different, so I 

think it is actually very healthy and constructive for this kind of 

capacity to be broadly spread throughout the fiscal policy of the executive branch and the Congress. 

Mr. DIAMOND. I think it is very useful and I know several of the 

people over there, they are not—you know, they are not out of the 

mainstream. Very reasonable people and in general my view of 

OTA, and I think Lynn will have a much deeper view, since he was 

46

the deputy assistant of OTA, I don’t think that is a real—the staff 

is, in some sense, nonpartisan in some way, and they don’t—they 

have some political pressure, but my view is that they tend to fight 

it just a little whereas I think the appointed positions tend to put 

it on them. But that is—that is an uneducated view to some extent. 

Mr. BURMAN. I was a deputy assistant secretary of Treasury 

heading up the office that would be doing this at the end of the 

Clinton administration, and I actually have serious concerns about 

this. I should point out that I have enormous respect for both of 

my colleagues, both of whom are funnier than I am, but I disagree 

on this one issue. The Treasury, unlike JCT and CBO, is an inherently political organization. The staff is nonpartisan. The staff is 

exceptionally good. I think the analysis that they did recently is a 

fine analysis, but there is political pressure in the budget process. 

I was at the Treasury Department when we produced baseline 

receipts estimates. I can’t even remember what was wrong with the 

bottom line, but we got a new forecast from the administration, 

and we produced a new set of baseline receipts estimates, and then 

we got another new forecast from the administration, and we produced another new baseline receipts estimates. Many, many broken 

arms at OMB later, they had their budget forecast. 

I think the effort is duplicative of the work that is done by JCT 

and CBO, which are nonpartisan. I think that there is the pressure 

for politicization. I don’t think the staff would ever do a bad analysis, but the problem is that the analysis that would be released 

would be very, very selective, at least that is the concern. And it 

might be that the analysis would always be above reproach, but I 

think there would always be a suspicion that the analysis that 

came out of the Treasury Department would be part of Treasury’s 

advancing the President’s agenda, which is what Treasury’s role is. 

So I think if you actually wanted to have an independent dynamic analysis division to act as a check on the other organizations 

that are doing it, it would be better to put it somewhere else, like 

at the Federal Reserve or in an independent agency. 

Mr. CRENSHAW. Well, thank you very much for being here today. 

Thank you for your testimony. Thank the members. The meeting 

is adjourned. 

[Whereupon, at 12:01 p.m., the committee was adjourned.]

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