The Tax-Cut Setback
. . . but all is not lost.


Larry Kudlow

In a stunning reversal, the president’s tax-cut proposal was chopped in half in a 51-48 Senate vote to reduce the “cost” of the cut to $350 billion from $725 billion (according to static revenue projections). Only a week ago, this Democratic effort was handily defeated 62-38 by an amendment that lowered the tax cost by $100 billion to defray the expected war tab. So what happened?

Senior White House staff were ecstatic to get a $625 billion revenue bill out of the Senate budget resolution last week. They knew that this revenue target level would be sufficient to fund a full 100 percent investor dividend exclusion, the centerpiece of the president’s investment-and-growth initiative that is so essential to resurrecting the hobbled wartime economy.

But late Tuesday afternoon it appeared that Sen. John Breaux (D., La.) out-hustled Majority Leader Bill Frist (R., Tenn.) by adding new provisions to his original amendment that would divert the alleged savings to a so-called “war reserve fund” and Social Security. In other words, more phony lockboxes.

But we know all about these lockboxes. They are really nothing more than a federal revenue grab for the purpose of additional spending.

“It’s got nothing to do with the war,” said Senate Finance Committee Chairman Charles Grassley (R., Iowa). “The people defeating it want to spend money. They ain’t worried about paying for the war. They ain’t worried about the deficit.” He got that exactly right.

Oddly, in Tuesday’s roll call, Sen. Zell Miller (D., Ga.), a Bush tax-cut supporter, was absent. Also, a hoped-for pro-Bush vote by Sen. Ben Nelson (D., Neb.) never materialized. Without the potential support of these two Democrats, it’s hard to understand why Sen. Frist did not act to postpone the vote.

In a related oddity, Frist Senate aide Bill Hoagland referred to the Bush plan as a “shock and awe deficit” on CNBC Tuesday morning. Hoagland, a longtime former budget aide to Sen. Pete Domenici, has never been a friend of supply-side economics. Whether Sen. Frist will discipline his new assistant remains to be seen.

Then we have a case of outright desertion by three GOP senators. When Olympia Snow of Maine, Ohio’s George Voinovich, and Lincoln Chafee of Rhode Island decided to turn their backs and walk away from their wartime commander-in-chief in the Tuesday vote, they performed an remarkable act of cowardice and ingratitude. Cowardice because extraordinary times like these require a strong backbone to buck the chorus of liberal Beltway critics who always find a reason to oppose tax cuts. Ingratitude because these Republican senators would never have enjoyed control of the Senate were it not for the Herculean campaign efforts of President Bush last November.

But all is not lost. Republican Budget chief Don Nickles is likely to seek a vote to restore about $150 billion to the Breaux amendment, bringing the revenue target up to $500 billion in the final Senate budget resolution vote.

And fortunately, under the whip hand of Majority Leader Tom DeLay, the House has already passed a budget resolution that targeted the president’s full revenue package. In a recent meeting with the Texan, it was very clear that his devotion to conservative principles in fiscal, monetary, and defense matters is unyielding. More, Speaker Dennis Hastert has given DeLay full backing on key policy votes.

Whatever the Senate outcome, the contrasting views of the two houses will be reconciled in conference. While there is no hard and fast split-the-difference rule in resolving differences between the two chambers, it may be difficult for the president to get a 100 percent investor tax exclusion for dividends unless the revenue target is first increased in the Senate.

So, the fall-back position on dividends will be a 50 percent exclusion. In and of itself this is a very strong tax-reform measure that would change the incentive structure for investor share purchases and corporate deleveraging. It’s not as strong as a full dividend-tax exclusion, but half a loaf is better than none.

Also, the conference meeting is many weeks off. In the turbulent world of Washington politics, President Bush will have much more time and presumably far more leverage to exert influence on the conference and subsequent votes on the floor of the two houses.

Right now the most important issue in front of the president is Iraq. As U.S. and allied troops move toward a confrontation with the Iraqi Republican Guard outside Baghdad, a nation’s hopes and prayers will be with the fighting men and women as they head toward victory.

But it’s gonna be a long worldwide war to defeat terrorism. When will Olympia Snow, George Voinovich, and Lincoln Chafee realize that strong economic growth at home is absolutely essential to total victory abroad?

Mr. Kudlow is CEO of Kudlow & Co.


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