By all rights, tax reform should be dead. The Obama administration and congressional Republicans remain far apart on the basic question of how much revenue the federal government ought to raise over the next decade. And because any serious overhaul of the tax code would involve phasing out or shrinking popular tax expenditures, the incentive for any individual legislator to defect from such a deal would be quite strong. Back in January, Keith Hennessey described the political dynamics that made a bipartisan deal so unlikely, focusing on the division within the Senate Democratic caucus between Montana Sen. Max Baucus, chairman of the Senate Finance Committee, and influential New York Sen. Chuck Schumer, who functions as one of the party’s chief strategists. While Baucus might be inclined to cut a deal that raises only a modest amount of new revenue, Schumer, like Obama and Senate Budget Committee chairman Patty Murray (D-WA), is committed to raising much more. Moreover, it is not unreasonable for Democrats to gamble that they will achieve a more favorable tax settlement if they want until after the 2014 congressional elections, particularly if they succeed in portraying GOP resistance to substantial tax increases as somehow extreme.
Now Baucus and Rep. Dave Camp (R-MI), chairman of the House Ways and Means Committee, have co-authored an op-ed expressing their continued willingness to work together on a tax overhaul this year. Though they don’t identify specific areas of agreement, they articulate a few broad principles that have governed their ongoing efforts: a desire to simplify the tax code; to use at least some of the revenue from closing tax loopholes to help lower rates; to preserve the progressivity of the current tax code; to see to it that low- and middle-income households pay no more than they do at present; and to level the playing field for U.S. business enterprises, including small ones.
Camp has released a number of ambitious discussion drafts on the taxation of foreign income, financial products, and small firms, and the common thread appears to be that he is willing to alienate powerful interests in service to base-broadening, rate-lowering tax reform. Yet my understanding is that Camp is resistant to populist measures championed by conservative reformers, like an expansion of the child credit. Rather, he’d prefer to simplify the code and trim it of tax expenditures in the interest of keeping marginal tax rates as low as possible, consistent with a given revenue goal, etc. Though this approach is totally respectable, I think it’s the wrong one on both substantive grounds — reducing the tax burden on households with children might be the most straightforward way to counter disincentives to invest in the human capital of children — and political grounds.
The shrewdest tax reform strategy for Democrats working towards a bipartisan deal is to accept the case for lower marginal tax rates, including a lower top rate. Congressional Republicans overvalue the statutory top marginal tax rate, and so my guess is that eye-catching rate cuts would lead them to accept more revenue than they would otherwise. In a similar vein, the shrewdest tax reform strategy for Republicans is to leave the statutory top marginal tax rate on ordinary income untouched and instead fight for (a) more favorable tax treatment of households with children and (b) a shift in the direction of a progressive consumption tax or a hybrid tax like Michael Graetz’s Competitive Tax Plan (CTP).
The Camp approach has many virtues, but unless it directly addresses the concerns of middle-income voters with children, I have a hard time seeing it resonate politically.