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The Phantom $5 Trillion Cut



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Last night, the two candidates spent a significant amount of time clashing over their respective tax plans, especially Mitt Romney’s proposal to lower tax rates and make up for the (large) revenue losses by closing loopholes. The rate reductions were the source of the number you kept hearing from Obama, about a “$5 trillion tax cut,” which Romney seemed to have disavowed by repeatedly saying, “I don’t want a $5 trillion tax cut,” “I don’t have one,” etc. This led a lot of liberal commentators (and surely some conservative ones, too) to conclude that he’s given up a significant amount of policy ground. Talking Points Memo’s Brian Beutler suggested that Romney “appeared to disavow one of [his tax plan’s] central features.” Today in Colorado, Obama said the following:

The real Mitt Romney has been running around the country the last year promising 5 trillion in tax cuts that favor the wealthy. The fellow on stage said he didn’t know anything about that.

Leaving aside that no one’s heard anything from Romney about “5 trillion in tax cuts that favor the wealthy,” the Republican candidate’s disavowal of a huge net tax cut is completely consistent. It’s what he’s been saying since he was forced during a harrowing primary run to come up with the tax plan in the first place. He isn’t proposing to cut Americans’ taxes by $5 trillion dollars (or a smaller number, as I explain below) — he’s going to cut some taxes substantially, but overall, he’s not proposing a massive tax cut, since most would agree that the federal government’s current fiscal situation is such that we can’t afford less revenue. His plan is, in the main, a cut in tax rates that will reduce revenues by a number that’s actually a lot lower than $5 trillion (see below), made up for by eliminating tax deductions — so you’re not looking at a cut in trillions of dollars in taxes paid at all. That element wasn’t a key talking point during the GOP primaries (duh), but it happens to be pretty widely acknowledged good tax policy, since it improves incentives and reduces distortions in the tax code, without blowing a hole in the federal balance sheet. This seems relatively doable, since Romney’s proposed rate cuts amount to about $360 billion a year in 2015 (about $300 billion when dynamically scored), and in that year, tax deductions/expenditures will amount to $1.3 trillion. It seems, then, that even some major deductions can be preserved while still paying for the plan.

However, there’s been a messy debate, to which the president alluded last night, about whether such a plan would increase taxes on middle-class families, and possibly decrease the burden on upper-income taxpayers. This would run contrary to another stated goal of Romney’s tax reform, which he repeated last night, that the share of taxes paid by the rich would not go down (we can leave aside whether, with the federal tax system being one of the most progressive in the world, and America’s middle class being fairly lightly taxed, that might not be an acceptable outcome). The debate focuses on a study by Brookings’s Tax Policy Center which found, operating under certain assumptions about Romney’s plan, that upper-income taxpayers don’t receive enough in deductions to cancel out the revenue losses from rate cuts. This is basically true, but Romney could violate some other promises if he is committed to maintaining progressivity: For instance, TPC followed his dictum that he won’t touch incentives for investment and savings, and therefore assumed that he wouldn’t eliminate the tax exemption for, say, municipal-bond interest. That was a fair assumption in their study, but given that such a change could go a long way toward maintaining progressivity (and be good policy that doesn’t affect overall investment incentives, to boot), it’s just one way that Romney might be able to get closer to achieving his goals. That said, given that the U.S. currently faces a trend of unacceptably slow growth and yawning federal budget deficits, it seems that out of pro-growth reform, revenue neutrality, and constant progressivity, policy-wise, Romney’s least important goal is the last of these, but it seems quite unlikely he’ll disavow it.#more#

TPC’s study has also pointed out that practically speaking, it will be difficult to eliminate tax expenditures in a strictly progressive way, as you’d need to do to maintain progressivity, while lowering rates. One way around this is a hard cap on deductions, as Romney mentioned last night and on the trail recently (throwing around numbers in the range of $15–20,000, the implications of which Josh Barro discusses here). However, if this is the primary venue Romney is going to use for base-broadening and deduction-elimination (rather than eliminating specific deductions), his plan may be more politically palatable, but as Reihan Salam put it, “revenue neutrality will likely prove an elusive goal.”

You’re still not going to see, however, the phantom “$5 trillion tax cut,” since Romney’s committed to raising revenue to offset it, and he’s said that all along. And a final point on “$5 trillion”: Even if Romney were proposing only his rate cuts, and estate-tax and AMT elimination, Obama’s favorite new number isn’t really the actual revenue loss. Here’s how they got to it: The Tax Policy Center, at one point, estimated that cutting every individual income tax bracket by 20 percent would cost $360 billion a year by 2015, and then Romney’s other proposals, relative to current policy (enactment of Obamacare, continuation of all Bush tax cuts) would cost another $96 billion, so the 2015 cost is $456 billion. This was originally $480 billion, before TPC took into account a range of obvious microeconomic incentive effects. Over ten years, you’re looking at either $4.56 trillion, or $4.8 trillion; Obama decided $5 trillion sounded nicer. But there’s a further important caveat to that: Cuts on earned-income tax rates that are already in the 10 to 35 percent range are never going to come anywhere close to paying for themselves, but there will be dynamic effects. One reasonable model Brookings used suggests about 15 percent of the value of the cuts will be made up for, so we now end up with $3.9 trillion in revenue losses from all of Romney’s tax-cutting proposals.

And that isn’t really fair, either: Yes, Romney is proposing these cuts relative to current policy, but “current policy” involves some significant Obama tax hikes in 2013: most prominently, Obamacare’s new surtaxes on investment and wage income by high-income earners. I wouldn’t exactly call it a tax cut to prevent increases that have been scheduled for next year by the current administration. The CBO estimates that the cost of preventing these tax increases over the next ten years would be $569 billion. Since that number isn’t actually a tax cut, but in fact, the cost of preventing proposed tax increases, you can subtract it from the $4.56 trillion number, end up with $4 trillion, and after allowing for a reasonable amount of dynamic effects, you have $3.4 trillion in cuts. Thus, Obama is also significantly overrating how dramatic a cut Romney’s rate cuts would actually imply.



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