Marginal Income Tax Rates, Economic Growth, and Primary Fiscal Deficits

Abstract

Economic theory suggests that variations in marginal tax rates are more important for consumption and investment decisions than the average rates commonly studied. This article analyzes the aggregate implications of the statutory tax code, using a new times series on annual marginal tax rates, which decomposes the federal income tax code into its “level” and “progressive” (or spread) components. Robust results from a vector autoregression model show that increasing the spread of the marginal income tax rates has a positive impact on private spending growth, leading to an indirect, negative impact on the primary deficit ratio. Contrary to the political narrative, our findings suggest that the general level of these tax rates does not significantly impact growth rates or the primary deficit ratio.