• By
  • Phil Izzo

A roundup of economic news from around the Web.

Tax-Deduction Caps: Martin Feldstein calls for a cap on tax deductions. “Billions of dollars of revenue are lost through many relatively small subsidies, such as the tax break given to homeowners who install better insulation or buy a more efficient refrigerator. These may be desirable actions, but given the current budget situation, the country cannot afford to subsidize them. Anyone opposed to government spending should favor removing these subsidies from the tax code. The big political challenge is dealing with the large tax subsidies to home mortgages, employer-provided health insurance and state and local taxes. Any attempt to eliminate these would almost certainly fail to get enacted. That is why I advocate allowing taxpayers to keep all of their current deductions and exclusions — but limiting the extent to which they can reduce their tax liabilities in this way.”

Economic Policy: Jeffrey Frankel looks at what we’ve learned about economic policy. “Initially, neither the income tax nor the Fed was associated with the explicit concepts of fiscal and monetary policy. Indeed, it wasn’t until after the experience of the 1930’s that they came to be viewed as potential instruments for macroeconomic management. John Maynard Keynes pointed out the advantages of fiscal stimulus in circumstances like the Great Depression. Milton Friedman blamed the Depression on the Fed for allowing the money supply to fall. Keynes is associated with a belief in activist economic policy aimed at ensuring counter-cyclical responses to economic fluctuations – expansionary policies during recessions and policy tightening during upswings. Friedman, by contrast, opposed discretionary policymaking, believing that government institutions lacked the ability to get the timing right. But both opposed pro-cyclical policy, such as the misguided US fiscal and monetary tightening of 1937: before the economy had fully recovered, President Roosevelt raised taxes and cut spending, while the Federal Reserve raised reserve requirements, prolonging and worsening the Great Depression.”

Stress Tests: John Gulliver sees dubious assumptions in the Fed’s stress tests. “The tests, based on any of the financial-shock scenarios, assume that the short-term creditors of the largest banks wouldn’t start a run on them. The importance of this assumption is hard to overstate. According to the Office of Financial Research, the department established by the Dodd-Frank Act within the Treasury to monitor financial stability, this assumption seriously limits the value of these tests for evaluating that stability. It seems entirely plausible that the shock scenarios imposed by the stress tests, which include equity prices falling by 50 percent and the unemployment rate rising to 12 percent, would result in a large bank’s short-term creditors pulling their financing.”

Compiled by Phil Izzo