Not so much, argues the Urban Institute's Gene Steuerle in this E-mail.
THE GOVERNMENT WE DESERVE - Gene Steuerle
How Far Would $50 Billion in Taxes on the Rich Go?
Democrats at Congress's helm are discovering what Republicans learned by the end of President Bush's first term: they have little leeway to do anything. But, you say, isn't Congress going to try to rescind some of the Bush tax cuts? Most likely, yes, but not enough to make much headway against many problems that each entail annual shortfalls of hundreds of billions of dollars. By contrast, the tax changes being considered might, at best, add $50 billion a year in increased revenues.
Where does the $50 billion come from? The only revenue increase even vaguely mentioned is repealing recent tax cuts for the super rich (perhaps those making $200,000 a year or more). According to the Urban-Brookings Tax Policy Center, $50 billion is also the approximate revenue pickup from an earlier proposal by presidential candidate John Kerry to repeal high-income tax cuts. Even that estimate is an overstatement, the Center indicates, since some of the increase would be dodged when individuals take additional deductions and engage in other tax-sheltering activity.
No one has suggested abandoning the middle-class tax relief enacted over the past decade. Neither congressional leaders nor presidential candidates would reduce many of the more expensive Bush tax cuts: the child credit that was increased from $500 to $1,000, the "marriage penalty" relief for households filing joint returns, and some of the rate cuts that applied to middle-income taxpayers. There's simply not much political capital in proclaiming that the "Smith" family, with two children and $50,000 in income, should now pay $1,500 more in income tax, losing half its child credits and paying a higher marriage penalty and higher tax rates.
The decision to try to leave the middle class alone should not be surprising. Outside of wartime, legislated tax increases of any significant size on America's great middle are almost nonexistent. But, then again, so are cutbacks in their benefits.
So where will the $50 billion wrung from the rich go? Here's a tally of the many possibilities that tempt our elected leaders:
-- It might pay for one-half or one-quarter of alternative minimum tax (AMT) reform, depending on how extensive the changes are. Both the president and the Democratic Congress have said they want the revenues the AMT would raise, and they count it in their budget projections. These same leaders have also said they don't want taxpayers to pay any additional AMT. In apolitical English, they need to raise taxes on somebody to pay for AMT relief, and rescinding the Bush tax cuts on the rich isn't enough to pay for complete reform.
-- Divvy up the $50 billion and you've got about $150 per individual to alleviate middle-class worries. Congressional Democrats have recently held various hearings on middle-class risks and concerns. They would like to spend some money to reduce those fears. Our presidential candidates also want some of that money to meet their promises and don't really want the current Congress to tap that well before the election
-- Both parties have now pledged themselves to deficit reduction. The $50 billion would cover a little less than one-third of the scheduled 2007 deficit.
-- The $50 billion could slightly and temporarily slow down the inevitable crunch of growing Medicare spending. It would cover just a few months of the increase in total government health costs projected in 2010.
-- Rescinding the tax cuts on the rich could cover about one-fifth of the annual shortfall predicted for Social Security once all the baby boomers move into retirement. By then, Social Security revenues are expected to fall short of expenses by about 2 percentage points of gross domestic product (GDP) annually, or roughly $270 billion at today's level of output.
Blame whomever you want for today's current fiscal mess, but don't cling to any myths about how far rescinding recent tax cuts for the rich would go toward meeting the nation's many budgetary shortfalls. Our elected officials simply cannot get around the most fundamental of political dilemmas. Even if they enact additional taxes on the rich--and that would not be easy--they still must either retract many of the promises made to the middle class, increase its taxes, or both. Right now, the leaders of both political parties consider it political suicide to lead the way. Some comments. First, Steuerle correctly recognizes that the rich are not going to sit still and let themselves get entirely soaked.
Even that [$50 billion] estimate is an overstatement, the Center indicates, since some of the increase would be dodged when individuals take additional deductions and engage in other tax-sheltering activity.
There's a larger point here. High tax rates on high earners tend to make them shift the focus of their psychic energies from making money, which by definition they're good at, to avoiding taxes. I can remember being in the company of rich men in the 1970s, when salary income was taxed at 50 percent and investment income at 70 percent, and hearing them engage in "My tax shelter is bigger than your tax shelter" competitions. When smart people are trying to make money they tend to make, on balance, decisions that increase the nation's total economic product. When smart people are trying to avoid taxes they tend to make, very often, decisions that don't. Indeed, decisions that may not in the long run make economic sense to them. A few years ago, a friend was telling me about how he had to settle his father's estate. He found it cluttered with all sorts of small investments that had never made any money. He quickly figured out what these were: tax shelters. His father hadn't wanted to tell the guys at the country club that he hadn't been able to figure out how to shelter as much income from the 50- to 70- percent rates as they had.
John Maynard Keynes wrote that economic growth depends in large parts on the "animal spirits" of entrepreneurs. High tax rates mean that those "animal spirits" are directed at tax avoidance rather than economic growth. That diminishes the overall economy, which hurts all of us, and, as Steuerle points out, it tends to reduce revenue to the Treasury below straight-line projections.
I thought that when the Clinton administration and the Democratic Congress raised tax rates in 1993 that there would be a depressing effect on the economy. There may have been, but it was not enough to prevent continued growth (though, as my supply-side friends like to point out, most 1990s growth and all of the 1990s stock market rise came after the election of the Republican Congress in 1994). I think the Clintonistas hit a sweet spot when they set the top income tax rate at 39.6 percent. Keeping it in the 30s, I believe, kept the animal spirits of high earners from being directed at tax avoidance: It didn't sound so much different from 33 percent (although in fact it's 20 percent higher). If they had set the top rate at 40 percent, I think, there would have been an entirely different reaction. Gee, that sounds like almost half your income. You better figure out some way to avoid taxes, and quick. So please, Democrats, keep that rate under 40 percent again. Otherwise, the tax shelter salesmen will go back into business, and our economy will suffer.
Second, Steuerle underlines what a problem the alternative minimum tax is for the Democrats, something I've written about several times.
It might pay for one-half or one-quarter of alternative minimum tax (AMT) reform, depending on how extensive the changes are. Both the president and the Democratic Congress have said they want the revenues the AMT would raise, and they count it in their budget projections. These same leaders have also said they don't want taxpayers to pay any additional AMT. In apolitical English, they need to raise taxes on somebody to pay for AMT relief, and rescinding the Bush tax cuts on the rich isn't enough to pay for complete reform.
Soaking the rich to the tune of $50 billion doesn't give you enough money for much more than a temporary AMT patch and not nearly enough for abolition of the AMT altogether. The pressure Democrats are under to reduce the AMT (which threatens their constituents in high-income, high-tax states like Massachusetts, Connecticut, New York, New Jersey, and California) will not be reduced significantly by soaking the rich.
Third, Steuerle complains about "today's fiscal mess," but if I'm reading him correctly he's talking about a long-term fiscal mess, not a short-term one. In the short term, we've got a rapidly declining budget deficit, thanks to surging federal revenue, a deficit well below the historic average, and a debt we can easily service. The fiscal problem is that Social Security, Medicare, and Medicaid are on long-term growth trajectories that threaten to eat up all of the 18 percent or so of GDP that currently goes to the federal government. And young voters, as I write in my U.S. News column this week, don't seem particularly concerned about this, even though they're the ones who will have to pay, in one way or another, most of the price. Their attitude seems to be, "Whatever." They should read Steuerle.