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Congress Must Extend Unemployment Insurance: Here’s Another Reason Why

We and others warned a year ago that letting the payroll tax expire would hurt the economy.  Policymakers ignored those warnings, and in a new analysis, Goldman Sachs highlights the economic damage that the resulting tax increase has caused in 2013.

Congress now confronts a similar choice on federal Emergency Unemployment Compensation (EUC) benefits, which are set to expire Christmas week.  The Congressional Budget Office (CBO) has raised the red flag:  inaction will mean slower growth and job losses on top of the hardship it will cause for jobless workers and their families.  Congress should learn from its past mistake on the payroll tax and quickly move to extend these vital unemployment insurance benefits.

In “New Evidence on the Tax Hit to Consumption in 2013,” Goldman’s David Mericle concludes that the payroll tax increase, along with the expiration of President Bush’s high-income tax cuts and new taxes on the highest-income earners under health reform, were “the primary cause of soft consumption growth in 2013.”  Using its own model and a Federal Reserve model, Goldman estimates that the tax changes reduced consumption in 2013 by a significant 0.7-0.9 percent.

Of the three tax hikes, the payroll tax cut expiration was by far the most damaging to the economic recovery because it affected people who were most likely to reduce their spending in response, whereas the other two affected only very-high income taxpayers who were much less likely to reduce their spending.

Additional studies back up this finding:

  • A New York Federal Reserve survey found that people were generally aware of the payroll tax increase and planned to cut spending by 72 percent of their hike.
  • Boston Federal Reserve researchers found that low-income people expected to cut their consumption by 90 percent of the tax increase.
  • Goldman’s in-house survey found that most people have noticed the hit to their paychecks and a large majority of those are curbing spending, particularly those earning less than $90,000 per year.  Goldman has also found that stores “posting the most disappointing sales” this year are those that cater to middle-income customers.

This economic damage was avoidable, and Congress can learn from it.  Specifically, it now confronts a parallel decision on whether to extend EUC or let the benefits expire.

CBO projects that an EUC extension would result in the creation of up to 300,000 jobs.  To put this in perspective, since the jobs recovery began in early 2010, the economy has added an average of 164,000 jobs a month and job growth topped 300,000 in only four months.  Extending these unemployment insurance benefits would, in effect, add a well-above average month to the calendar.

The case for action is compelling, as my colleague Chad Stone makes clear in a new paper:

[T]he premature turn towards budget austerity since 2010 has been a drag on economic growth and job creation.  Extending EUC would help offset that drag as well as reduce hardship among jobless workers and their families.  In contrast, letting EUC expire would increase hardship and cost the economy jobs.

Chuck Marr
Vice President for Federal Tax Policy