Step 3. Increase wage and capital income in order to take into account the macro-dynamic behavioral effects of the Romney proposal, that is, the effects on the size of the economy. Then multiply the increases in before-tax income by the applicable marginal tax rates. This immediately raises the question of how much the proposal would increase growth.

Although both economic theory and historical experience suggest that a tax system with lower marginal rates and a broader base would enhance growth, there is considerable controversy with respect to the quantitative impact. Put another way, the honest answer is that no one knows for sure.12 Economic behavior is very complicated, and let’s face it, economic forecasters haven’t exactly covered themselves in glory during the past few years. But, as I emphasized above, it by no means follows that a zero response is the right answer. Given the uncertainty that attaches to these types of estimates, it makes sense to see how the results would differ assuming several different values for the growth-induced increase in incomes. I therefore include estimates for 3, 5, and 7 percentage points.

Although both economic theory and historical experience suggest that a tax system with lower marginal rates and a broader base would enhance growth, there is considerable controversy with respect to the quantitative impact. Put another way, the honest answer is that no one knows for sure.12 Economic behavior is very complicated, and let’s face it, economic forecasters haven’t exactly covered themselves in glory during the past few years. But, as I emphasized above, it by no means follows that a zero response is the right answer. Given the uncertainty that attaches to these types of estimates, it makes sense to see how the results would differ assuming several different values for the growth-induced increase in incomes. I therefore include estimates for 3, 5, and 7 percentage points.

The 5 percent figure is consistent with Diamond’s [2012] analysis, which is the only paper I have seen that embeds the Romney plan in a modern growth model. Diamond’s computations are based on the assumption that the baseline is the law that will apply if the 2001/2003 tax changes are allowed to lapse, at least for high-income taxpayers. I refer to this as the “2013 law.” The 2013 law embodies considerably higher tax rates than the 2012 law, so it is likely that the reform-induced increases in growth would be less with the 2012 than the 2013 baseline. That’s because the more efficient the starting point, the lower are the incremental benefits of introducing a tax system with lower rates and a broader base. Therefore, my guess is that the growth effects using the 2012 baseline are lower than Diamond’s estimate; 3 percentage points seems a reasonable figure.