CBO: Inflation Reduction Act ‘Would Have a Negligible Effect on Inflation’

(CNSNews.com) – The Congressional Budget Office said in a letter sent to Sen. Lindsey Graham last Thursday that the Inflation Reduction Act—which the Senate passed on Sunday—“would have a negligible effect on inflation.”

The CBO was responding to a set of questions that Graham had asked about the U.S. economy and the proposed legislation.

One question was: “How would enacting the bill affect inflation in 2022 and 2023?”

In its response, the CBO said:

“In calendar year 2022, enacting the bill would have a negligible effect on inflation, in CBO’s assessment. In calendar year 2023, inflation would probably be between 0.1 percentage point lower and 0.1 percentage point higher under the bill than it would be under current law, CBO estimates. That range of likely outcomes reflects uncertainty about how various provisions of the bill would affect overall demand and output, the supply of labor, the persistence of disruptions in the supply of goods and services, and how the Federal Reserve would respond to offset any increase in inflationary pressure. Responsiveness to the enhancement of health insurance subsidies established by the Affordable Care Act is the most important factor boosting inflationary pressure, and responsiveness to the new alternative minimum tax on corporations is the most important factor reducing inflationary pressure. The range applies to multiple measures of inflation: the GDP price index, the personal consumption expenditures price index, and the consumer price index for all urban consumers.

“In its analysis of the inflationary effects of the bill, CBO used an approach similar to that underlying the agency’s estimates of the short-term effects of legislation enacted in 2021.3 The agency augmented its analysis to account for the effects of supply disruptions and for the amount of tightness or slack in the economy on the inflationary effects of fiscal policy. Key inputs into the analysis of inflation were the effects of the bill on overall demand for goods and services. In the short term, changes in fiscal policies affect the economy primarily by influencing the demand for goods and services by consumers, businesses, and governments, which leads to changes in output. Factors increasing overall demand push inflation up and those decreasing overall demand push inflation down. To estimate the effects of changes in federal spending and revenues on overall demand and output, CBO considered evidence about the effects of similar policies in the past and used results produced by macroeconomic models.

“Key inputs into the analysis of inflation were the effects of the bill on overall demand for goods and services. In the short term, changes in fiscal policies affect the economy primarily by influencing the demand for goods and services by consumers, businesses, and governments, which leads to changes in output. Factors increasing overall demand push inflation up and those decreasing overall demand push inflation down. To estimate the effects of changes in federal spending and revenues on overall demand and output, CBO considered evidence about the effects of similar policies in the past and used results produced by macroeconomic models.

“CBO expects different provisions of the legislation to affect overall demand and output differently.5 For example, provisions that directly increase government purchases of goods and services would add to overall demand on a dollar-for-dollar basis. Increases in financial support to people, such as through enhanced health insurance subsidies, would boost spending more among lower-income people than among higher-income people, partly because lower-income households typically consume a higher fraction of their additional disposable income than higher-income households do. Thus, financial assistance to lower-income households would boost the overall demand for goods and services more than financial assistance to higher-income households would. Changes to business taxes that affect after-tax profits on past investments—as opposed to the return on new investments—would have relatively small effects on overall demand, in CBO’s assessment.

“CBO used its estimates of the bill’s net effects on the deficit as the starting point for its analysis of overall effects on demand (see Table 1). The enhanced health insurance subsidies and energy-related subsidies were the largest contributors to increases in the deficit. The new alternative minimum tax on corporations was the largest contributor to reductions in the deficit. For each dollar change in the deficit, the increases in subsidies would probably have larger effects on overall demand (boosting it) than the increases in revenues (which would reduce overall demand). Those factors could contribute to the effects on output and inflation being positive even when the overall deficit was reduced.

“Enacting the bill would also reduce some businesses’ incentives to invest through changes in the after-tax return on private investment, pushing down output and inflation. (See the answer to the fourth question in this letter for further discussion.) In addition, enacting the bill would reduce the incentives of some people to work, mainly because of the enhanced health insurance subsidies, pushing down output and pushing up inflation. Enacting the bill would affect economic activity and inflation beyond 2023. CBO has not evaluated those effects.”

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