Spending cuts are more effective than tax increases for reducing government budget deficits

What's this about?

People disagree about whether spending cuts work better than tax rises when a state tries to shrink its budget gap.

The answer can change with the time, the cut or tax, and what happens in the wider economy.

What supporters say

• Spending cuts can bring more lasting savings because they lower future costs each year.
• Tax rises can slow buying, jobs, and business growth, which may shrink the money that taxes can reach.
• In states with very large debt, clear spending cuts may build trust and lower loan costs.

What critics say

• During a slump, spending cuts can make the slump worse by taking money from shops and jobs.
• Cutting public works, such as roads, schools, and labs, can hurt growth later.
• Some tax rises may hurt the economy less than spending cuts, based on what gets taxed.

How to read this

The number of points on each side does not show who is right; strong proof matters more than a long list.

The bottom line

The claim gets some support, but it does not work as a rule. Spending cuts may help in some cases, but cuts during a slump can backfire, so the evidence does not clearly favor them overall.

The claim that spending cuts are more effective than tax increases in reducing government budget deficits is partly supported, but not as a general rule. The outcome depends on when the measures are used, what is cut or taxed, and how the wider economy responds.

The case for

The strongest argument for spending cuts is that they can produce more lasting savings. Reducing recurring government outlays directly lowers future spending, while tax measures may be reversed or raise less money than expected if weaker economic activity shrinks the tax base. Historical and cross-country studies often find that spending-led budget adjustments have delivered better medium-term results, although this advantage is conditional rather than universal. 1

Tax increases can reduce consumption, investment, hiring and business activity. That can weaken the economy and shrink taxable income, offsetting part of the expected revenue gain. Spending restraint may therefore have a more direct effect on the deficit, especially when tax increases would cause a significant economic contraction. 2

Spending cuts may also strengthen confidence in countries with very high debt. If investors believe that a government is credibly controlling its future outlays, borrowing costs may fall and the risk of a worsening debt spiral may decline. Early and credible action can be particularly valuable when delaying adjustment would make both the fiscal and economic costs larger. 3

But this case is strongest when governments cut less productive or less growth-sensitive spending while protecting public investment and other measures that support future economic capacity. It also assumes that the broader policy package is credible and that economic conditions do not make immediate cuts especially damaging.

The case against

The main challenge is that spending cuts can backfire during a recession. Research reviewed by the IMF and NBER finds that fiscal changes often have larger effects on economic activity during downturns, especially when monetary policy cannot respond effectively. A sharp spending cut can reduce output and tax receipts enough to weaken the immediate improvement in the deficit. 4

Experience in the euro area also suggests that both spending cuts and tax increases can depress output in the short run. Which option does more damage depends on the specific measure, the wider policy setting and the response of monetary policy. (see Figure 1)

The composition of spending matters greatly. Cutting public investment, infrastructure or other growth-enhancing programs can reduce future productivity and weaken the tax base. In that situation, the spending cut may damage future growth and make long-term debt reduction harder rather than easier. IMF analysis distinguishes these cuts from reductions in government consumption and transfers, which may carry smaller long-run costs. (see Figure 3) 6

Some tax increases may therefore be less harmful than spending cuts. Broadening the tax base, closing loopholes or taxing activities with relatively low economic effects can raise revenue at a smaller cost to growth. Taxation is not a single policy: its impact varies by the type of tax, who pays it and what spending would otherwise have been reduced. 5

The bottom line

The evidence moderately favours a qualified version of the claim: spending restraint has often produced more durable savings and better medium-term growth outcomes than tax-led deficit reduction. But it does not show that spending cuts are always more effective.

The balance changes with the goal and the timing. Tax increases may improve government cash flow quickly, while spending reforms can take longer to implement but deliver more persistent savings. Cuts made during a recession, or cuts to public investment, may be more damaging than carefully designed tax increases.

Cross-country evidence often links expenditure-based packages with stronger medium-term outcomes, but not in every setting. (see Figure 2) Studies cannot fully separate the apparent benefits of spending restraint from other factors, including monetary policy, exchange rates, starting debt levels and the credibility of the overall package. The confidence in the qualified conclusion is moderate, not high: policy design and economic conditions matter more than whether a measure is labelled a spending cut or a tax increase.