Many mainstream economists have convinced themselves that the tax proposals won’t stimulate the economy or threaten the recovery. Here’s the conclusion of a study from Moody’s Analytics:
“Neither the House or Senate [tax] plans would meaningfully improve economic growth. . . . Growth would be stronger initially, since the deficit-financed tax cuts are a fiscal stimulus. But given that the economy is operating at full employment, stronger inflation and higher interest rates will result. The economic benefit of the lower tax rates on business investment is washed out by the higher interest rates.”
Maybe. But in practice, this view may be too sanguine. Suppose the strong demand of a boom economy causes inflation to exceed expectations — say 4 percent instead of 2 percent. The increase could set off a destructive chain reaction. Higher inflation begets higher interest rates. (The Fed raises short-term rates; market pressures push up long-term rates on bonds and mortgages.) Higher interest rates darken the economic outlook, causing stocks to crash and confidence to slump.