Mitt Romney is proposing an across-the-board reduction of 20 percent in income-tax rates. The current 35 percent tax rate would become 28 percent, the current 28 percent rate would become 22.4 percent, and so on. These tax cuts would come in addition to his previous proposals to eliminate capital taxes for households making less than $200,000 a year and to eliminate the estate tax. He would also eliminate the alternative minimum tax and reduce the corporate tax rate to 25 percent.
It’s a pro-growth plan. It improves incentives to work, save, and invest, and should thus modestly increase the economy’s long-run growth. It modestly improves the tax structure by reducing the tax code’s bias against saving and investment, particularly when that saving and investment is done in corporate form. Romney’s plan should also be expected to simplify the tax code, on balance. Getting rid of the estate tax and the alternative minimum tax are major steps toward simplification. But creating new income limits for various tax breaks and an income-tier structure for capital taxation are steps backward. Those income limits could also reduce the plan’s effect on growth: Depending on how they are structured, they could amount to increases in the effective marginal tax rate even as statutory marginal rates drop.
We have two major concerns about the plan. The first is its effect on the deficit. For decades, we have favored aggressive tax reduction even in the face of concerns about the deficit, but the magnitude of today’s deficits and of tomorrow’s projected deficits are much larger than those that Ronald Reagan or George W. Bush faced upon taking office. Voters also, and therefore, seem more concerned about the issue than they were then. Romney rather vaguely promises that spending restraint and increased growth will keep these tax cuts from increasing the deficit — a promise that comes on top of vague promises to cut spending enough to reduce the deficit we already have.
It is especially a missed opportunity when you consider the structure of Romney’s tax plan. Cutting the bottom tax rates from 10 and 15 percent to 8 and 12 percent accomplishes almost nothing while forgoing a lot of revenue. Someone paying the lowest rate will see his incentives improve a measly 2/90ths, or 2.2 percent. But most of the money taxed at the lowest tax rate is made by higher earners as they pass through that tax bracket. The reduction in the lowest tax rate lowers their tax bill without altering their marginal rates, and thus their incentives, at all.
A better-designed tax plan that left the lower tax rates alone could have raised the same amount of revenue as Romney’s plan while expanding the child tax credit. That alternative would not only have offered meaningful tax relief to the middle class — the political consideration that obviously drives the tax-rate structure Romney adopted — but have addressed an actual problem of the tax code.
Romney has made a constructive proposal. If he should become president, we hope that Congress will build on it by adding what it lacks: real spending cuts and tax relief for parents.