More on the New Jobs Tax Credit

By :: January 9th, 2009

Good to see comments on the New Jobs Tax Credit from two authors of papers on the subject, Timothy J. Bartik of the Upjohn Institute and John H. Bishop of Cornell. In response to my criticism of Barack Obama’s call for an employer credit to encourage hiring, both argue that the Carter-era version of this idea—the 1977-78 New Jobs Tax Credit—succeeded in creating as many as 700,000 new jobs in the first year.

Dr. Bartik has written a book on the subject, and Professor Bishop is the author of several scholarly articles on the credit. Both know far more about this than I. However, after reading two of Bishop’s pieces, an essay by Bartik, as well as an article by Jeffrey Perloff and Michael Wachter and Emil Sunley’s tale of the credit’s rather sad history—which TaxVox posted yesterday—I remain far from convinced that this is a good idea.

One problem is the evidence of success Bishop and Bartik cite is very limited. It is based on two surveys, one by the federal government and the other by a business group, which asked whether companies knew about the credit and whether they increased employment. The results: Those aware of the credit hired 3 percent more than those that didn’t. But Perloff and Wachter, who did the initial research on the plan, warned that these results “should be viewed with caution.” Among the difficulties: the sample was not random, and growing companies were the very ones that had the greatest incentive to learn about the credit. Thus, hiring plans may have driven knowledge about the tax break, rather than the other way around.

In addition, the Carter-era plan was very different from what Obama is talking about. Finally, both men acknowledge the old credit was extremely inefficient: About two-thirds of the jobs it subsidized would have been created anyway. Not much bang-for-the-buck.

There are several challenges to designing a workable credit. As I noted in my original post, businesses losing money (those most likely to be cutting jobs) get no immediate benefit unless the credit is made refundable or is used to offset their payroll taxes—either of which create all kinds of other problems. Also, Bishop concedes that in today’s awful economy a relatively paltry $3000 government subsidy won’t encourage many companies to hire. So he suggests a credit of $6550. This would generate more interest, for sure, but it would also more than double the cost and increase the potential windfall to those businesses that would be hiring anyway.

That brings us to the opportunities to game the system. It happens all the time with business credits. The R&D credit, for example, may do more to encourage companies to shuffle internal costs than increase actual research. The problem, of course, is that the more anti-abuse rules, the less attractive the credit becomes to companies that truly could use it.

It still seems that the easiest way to create jobs is the old fashioned method: Boost demand. I’d rather give the money to people who are going to spend it and let their increased consumption drive the job market.

8Comments

  1. Anonymous  ::  10:44 pm on January 9th, 2009:

    Thank you Howard for your thoughtful comment. I will address two issues:
    (A) How to interpret Perloff and Wachter’s results and
    (B) What we learn from interrupted time series analysis of employment growth rates for different industries.
    (A) As P&W and I both pointed out, endogeneity of knowledge about the NJTC may inflate Perloff and Wachter’s estimate of NJTC’s effect on employment in February 1978. However, there are also biases that cause their results to understate the effect of NJTC . Some of P&W models controlled for sales growth during 1977, a variable that theory predicts should have itself been influenced by a NJTC that lowered the marginal cost of labor by 22+ percent. Even more important is the fact that P&W are only studying the first year of NJTC’s operation. Their survey was conducted in February 1978, eleven months prior to the programs expiration. Employer knowledge of the credit grew rapidly during 1978. Only 48 percent of NFIB members knew about NJTC in January 1978. Six months later 73 percent knew about the credit and claimed responses to the Tax credit had grown.
    (B) Theory makes a host of predictions about the likely effects of a tax credit structured like 1977-78 NJTC:
    1. Private employment growth should accelerate as knowledge of the credit grows.
    2. Growth of private employment should slow and possibly reverse after the credit ends.
    3. Industries eligible for the credit should grow more rapidly than industries that are ineligible for the credit.
    4. Since the NJTC was a higher portion of labor costs at low wage firms and at employers with high turnover, low wage industries with high turnover should have grown more rapidly during 1977-78 than other industries.
    5. During the NJTC period, part-time employment should have increased more rapidly than full-time employment and average hours worked per week should decline.
    6. NJTC advantaged new firms relative to existing firms, so industries where new firm formation is substantial (eg construction) should have grown particularly rapidly during the NJTC period.
    7. The $100,000 cap on the size of a firm’s NJTC credit significantly reduced the incentive effects of NJTC on firms employing a thousand employees or more. Industries dominated by small firms should therefore have grown more rapidly during 1977-78 than industries dominated by large firms.
    8. NJTC should cause price-cost margins to narrow in industries where labor costs are a significant share of sales prices.
    When I compared industry specific growth rates before, during and after the 24 month period of the NJTC, all eight of these hypotheses were supported by the data. Bishop and Haveman’s time series analysis of employment in construction and distribution industries from 1952 through the third quarter of 1978 concluded that employment growth had accelerated during the 15 month period following the passage of the New Jobs Tax Credit legislation (Bishop 1981, Bishop and Havemen 1979). Consistent with theory, NJTC’s ‘impacts were larger for part-time jobs than full-time jobs. Hours worked per week in retailing fell in 1978. Theory predicts that a temporary marginal employment subsidy should lower marginal costs and increase price competition. Bishop (1981) found that margins between retail and wholesale prices in restaurants and other labor intensive retail sectors were declining during 1977-78.
    The unemployment rate which had stagnated between 7.6 and 7.9 percent in 1976 dropped two percentage points to 5.9 percent in the final quarter of 1978. Private employment grew by an impressive 7.4 million jobs or 11.1 percent during the two year period (December 1976 to December 1978) the NJTC was in effect. Only entry into World War 2 and the Korean war and demobilization at the end of WW2 generated higher two-year rates of private job growth. Industries not eligible for the NJTC—government and private colleges and universities– grew at a significantly lower rate during 1977 and 1978. Growth was particularly rapid in industries with many small firms: 18 percent in construction, 10.9 percent in retail trade, 10.8 percent in professional and business services and 11.2 percent in physicians offices. A limitation of $100,000 on the amount of the credit any one firm could receive reduced its incentive effects for very large firms. Consistent with that hypothesis, growth rates in 1977 and 1978 were lower in industries dominated by large firms–6.6 percent for utilities and 8 percent for manufacturing.
    What happened after the NJTC expired in December 1978? The growth of private employment slowed to 1.8 percent during the next six months and then stopped altogether. By the third quarter of 1980, the unemployment rate had returned to its 1976 level of 7.7 percent. Was this due in part to an unwinding of the NJTC’s employment stimulus? Possibly, but we will never know because the American economy experienced two huge shocks—a doubling of oil prices (after the February 1979 Iranian Revolution) and the Federal Reserve’s adoption of a tight monetary policy on October 1979—that would defeat any effort to tease out the effect of a NJTC phase out. Unemployment reached 10.6 percent in the fourth quarter of 1982.
    In my view these diff-diff tests build a solid case that NJTC boosted employment growth. Indeed, they also support Emil Sunley’s view that the 1977-78 NJTC was poorly designed and caused many distortions. The lesson I draw from the 1977-78 experience is that marginal employment tax credits have powerful incentive effects and must be very carefully designed to minimize unwanted distortions while achieving desired impacts on total employment.

  2. Anonymous  ::  3:08 pm on January 10th, 2009:

    I appreciate the thoughtful responses by both Howard Gleckman and Len Burman to the posts by me and John Bishop.
    I want to address one point that is brought up by both Howard Gleckman and Len Burman. Len Burman says that “the most effective way to boost employment is to boost demand”, not a revived New Jobs Tax Credit. Howard Gleckman says there is “Not much bang-for-the-buck” in a revived New Jobs Tax Credit, as “About two-thirds of the jobs it subsidized would have been created anyway.”
    It is true that the best available estimates of the impact of the NJTC suggest that only one-third of the jobs subsidized were actually induced by the NJTC. It should be noted that some such slippage is common with many government programs, including fiscal stimulus programs. For example, it is probably the case that some dollars devoted to anti-recession assistance to state and local governments will in fact merely subsidize spending that would have been undertaken anyway.
    But the bigger point is that even if only one-third of the jobs subsidized are truly induced jobs, a revived New Jobs Tax Credit would have an extraordinarily high bang for the buck. John Bishop, in his comment on Len Burman’s post below, estimates a GDP impact per dollar spent of somewhere in the range from $4.35 to $8.70.
    A back of the envelope way of calculating bang for the buck for a revived New Jobs Tax Credit is as follows. In my memo from October 2008, I estimated that a revived New Jobs Tax Credit might cost $26 billion and induce the creation of 1.3 million jobs. This calculation assumes that only 1 of 3 subsidized jobs are truly induced new jobs. A 1.3 million boost to jobs is a little less than a 1% boost to U.S. employment. Assuming the GDP impact is similar in percentage terms, the boost to GDP in a $15 trillion economy would be a little less than $150 billion. The “bang-for-the-buck” of a revived New Jobs Tax Credit would be a little less than $6 per $1 of fiscal stimulus.
    Mark Zandi of Moody’s Economy.com estimates fiscal bang for the buck of various fiscal stimulus options. None of his estimates exceeds $2 per dollar of fiscal stimulus. Therefore, it would appear that a revived New Jobs Tax Credit might have a bang for the buck that is triple other fiscal stimulus measures.
    Now, perhaps these estimates are exaggerated. As Howard Gleckman and Len Burman point out, there are arguments that can be made that these impact estimates of a revived New Jobs Tax Credit may be too high. But a revived New Jobs Tax Credit might make sense even if only 1 in 10 of the subsidized jobs were actually induced jobs. Even under these lower impact estimates, a revived New Jobs Tax Credit might be competitive with other proposed fiscal stimulus measures.
    A revived New Jobs Tax Credit deserves exploration because even modest impacts of wage subsidies result in high job creation estimates and GDP generation estimates per dollar spent. We are facing the possibility of a very weak labor market for at least the next two years and probably longer. As Paul Krugman has pointed out, during this period there will be a very large gap in the economy’s performance compared to potential GDP and potential employment. There are problems with all the fiscal stimulus measures that have been proposed. For example, it is unclear whether there are sufficient good infrastructure and spending proposals to adequately fill the large GDP and jobs gap.
    Therefore, we need to explore a wide variety of options for filling this gap. Some consideration of a well-designed New Jobs Tax Credit should be on the table for serious discussion.

  3. Anonymous  ::  8:36 pm on January 10th, 2009:

    Should all businesses be divided into those who are failing (or losing money) and those that would hire new workers anyway? What about a firm that would benefit from expansion but is reluctant to hire new workers in the present economic climate? They would seem to be precisely the target of a credit for hiring new workers.

  4. Anonymous  ::  9:10 pm on June 24th, 2009:

    The recession has been much deeper than the administration was expecting when the stimulus was being devised in early January. They have since lowered their forecast (NY Times 5/11/09). Independent forecasters have also become more pessimistic. The Wall Street Journal June 5-9 survey of forecasters predicts unemployment will be 9.8 percent in June 2010 (Izzo, WSJ, 6/11/09). These forecasts incorporate the expected effects of the 3.5 million jobs created or saved by the $787 billion stimulus plan already passed. Brad Delong (June 17, 2009) now sees only a 30% chance of a rapid V shaped recovery. He concludes with “I do not understand why the Obama administration is following policies that presume such a rapid recovery –a V rather than an L for the shape of the recession–is not just possible but probable.” He recommends doubling the fiscal stimulus.
    The Democratic Congress elected in 1976 faced a similar situation–high (7.5 to 7.9 %) unemployment and anemic (3.4% during 1976) employment growth. It responded with a temporary New Jobs Tax Credit (NJTC) for 1977 and 1978 that lowered the marginal cost of expanding your workforce by roughly 15 percent on average (more for low wage and high turnover firms). Despite foot dragging by the IRS, one third of the nation’s private employers received NJTC credits that lowered their 1978 taxes by $3.1 billion. By the final quarter of 1978, real output of non-farm business had grown 15 percent in two years and unemployment had dropped from 7.8 to 5.9 percent. Private employment rose 11.5 percent from January 1977 to January 1979. In the 70 years the BLS has collected monthly data on private employment, this growth rate over a 24 month period was exceeded only three times–entry into World War 2, demobilization after WW2 and entry into the Korean War. The two-year percentage increase in total hours worked in the non-farm economy also set a record for the past 50 years as did the increase in the employment-population ratio.
    The 1974 recession hit bottom in the first quarter of 1975. Private sector output grew 7.7% in the next 4 quarters, slowed to 4.0% and 4.7% in the next two years and then accelerated to 7.5% during 1978. Total hours worked grew slowly during the first two years of the recovery–3.4% and then 2.0%. After the NJTC passed Congress, hours worked started rising more rapidly—by 4.5% in 1977 and 5.8% in 1978. The NJTC appears to have temporarily boosted the growth of both output and labor input. As one would expect, the subsidy of labor costs seems to have had much larger effects on labor input growth than output growth.
    A tax credit for increasing jobs in the U.S. encourages firms to use existing plant and equipment more intensively (eg. by staying open longer, increasing overtime or hiring additional workers). And indeed capacity utilization did increase from 81.5 percent in December 1976 to 86.6 percent in December 1978 while the NJTC was in effect. That 86.6 percent rate of capacity utilization in manufacturing, mining and energy utilities has not been exceeded since. Over the last 30 years capacity utilization has averaged 81.3 percent.
    What happens when a marginal employment tax credit expires? Do employers immediately reduce their work force? Apparently not. During the subsequent 12 months, output and payroll employment continued to grow albeit at a slower pace and the employment-population ratio and unemployment rate were stable. Manufacturing employment peaked in June 1979. Industrial production was stable. Capacity utilization slowly declined as new capacity was brought on line. Apparently, the temporary character of the employment subsidy induced some employers to expand now rather than later. When the subsidy ended, the new hires were retained and those who left were replaced. Then two huge negative shocks hit the nation— the Iranian Revolution and the Iran/Iraq war caused oil import prices to increase by 160% and the Federal Reserve responded with a tough anti-inflationary monetary policy. These shocks caused the recessions of 1980 and 1982-83.
    The 1977-78 NJTC had a number of features that helped it succeed. It was:
    (a) easy to describe,
    (b) cheap to administer and audit,
    (c) directly related to measures of employment routinely reported to the IRS,
    (d) generous [a substantial share of the cost of hiring additional low-wage high-turnover workers],
    (e) limited to firms expanding their work force by at least 2 percent over the previous year
    (f) could not be gamed by changing business ownership. (Firms buying ongoing businesses assumed the 1976 employment threshold of the acquired business. Startups got half the rate of subsidy of firms with a track record of employment prior to 1977.)

  5. Don’t repeat Jimmy Carter’s failed policies in special session jobs bill | Tea Party Tribune – Tea Party & Political News  ::  9:11 am on February 17th, 2011:

    […] is not through the red ribbonMackinac Center: Literature Review and AnalysisTax Policy Center: More on the New Jobs Tax CreditSimilar Posts:Goldwater Institute: The path to jobs is not through the red ribbonStimulus logic: […]

  6. The Bring Jobs Home Act Won’t | The Today Online  ::  1:54 pm on July 25th, 2014:

    […] Such a measure was enacted during the Carter years. For an insider’s take on what happened, read Emil Sunley, who was a top Treasury official at the time. Len Burman helpfully dug out Emil’s comments in a blog back in 2009 when the Obama Administration was toying with a similar idea.(For a contrary—and more positive view—of the Carter bill, you can read another Tax Vox blog and its comments here). […]

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