Is the Time Right to Cut the Payroll Tax? by KARL SMITH When the coronavirus pandemic first hit the payroll tax suspension could boost the economy. The United States in March of this year, I recommended first is the classic supply-side effect. When you tax that Congress immediately suspend the payroll tax something you get less of it. Economists agree that for both employers and employees through the rest the burden of both the employer and employee sides of the year. My reasoning was simple. A payroll of the payroll tax fall on labor. tax suspension could be implemented immediately, Cutting the payroll tax should reduce the would reduce the cost of burden on labor and thereby keeping workers on staff, and increase total employment. put more money in the hands This is basically the analysis of workers. that Casey Mulligan — an The U.S. was facing an economics professor at the unprecedented economic and University of Chicago who health threat. We knew little served as chief economist about how the threat would for the Council of Economic unfold or how deeply the Advisers from September economy would be impacted. 2018 to August 2019 — What was clear, however, uses when he estimates that is that many businesses and suspending the payroll tax for households were going to six months would create 2.7 take an immediate hit to their million new jobs. liquidity. This type of supply-side Karl Smith In particular, businesses analysis starts by looking at would have a hard time what would happen to the holding on to their employees economy in the long-run Facing an uncertain threat, as the virus induced lockdowns after all markets have full across the country. I was also with untested tools, a adjusted. As Mulligan admits, skeptical about how quickly it is very difficult to estimate payroll tax suspension and effectively the Small how quickly an economy will would have served as a Business Administration move towards its long-run would be able to implement useful backstop against equilibrium, especially in the a new nationwide system of midst of a pandemic. unforeseen events. lending. Mulligan deals with this Facing an uncertain threat, uncertainty by first estimating with untested tools, a payroll that a permanent payroll tax tax suspension would have served as a useful backstop elimination would generate 10.7 million jobs and against unforeseen events and the difficulties in then assuming the economy gets to about one-quarter getting what became the Payroll Protection Program of the long-run equilibrium within six months. started. Reasonable people can disagree about whether the Now, however, several months into the crisis, the economy could adjust that fast, but there are two case for a payroll tax cut is far more nuanced. One immediate concerns with this analysis. of its major selling points – that it quickly injected First, the same reasoning would suggest that enormous amounts of liquidity into the economy – the economy would shed 2.7 million jobs in the six has turned into a drawback as many lawmakers are months after the payroll tax suspension expired. looking to limit the total size of future relief bills. Second, knowing that the expiration was coming, There are three basic channels through which a would employers be willing to create additional jobs 20
RIPON FORUM August 2020
