The Left Is Wrong: We’re Overspending, Not Undertaxing

T he Congressional Budget Office (CBO) last week released its much-anticipated mid-year baseline of expected federal spending, taxes, and debt over the next decade, along with the economic assumptions behind them. The nerdier end of official Washington has been pouring over the numbers ever since, and there are some conclusions to be drawn.

What screams out to the casual reader is how much of our fiscal woes come from spending, not taxes. According to the CBO baseline, federal spending is expected to grow from about 22 percent of economic output (once one-time Covid money is cycled out) to 25 percent of economic output a decade from now (assuming realistic projections of discretionary spending growth). In other words, federal government spending is eating up a bigger and bigger piece of our economic pie.

It gets worse from there. Federal spending just keeps going up, from 25 percent of the economy a decade from now all the way to 29 percent of the economy by mid century (just a couple of decades away). The national debt held by the public nearly doubles from 100 percent of economic output to 185 percent in that time. If you really want to be spooked by this stuff, read the annual actuaries reports for the Social Security and Medicare programs.

It’s important to note that federal spending has never been nearly this high on a sustained basis. Average federal spending since 1972 has been less than 21 percent of economic output. It’s only gone higher than that during recessions and has come back down to normal as the economy got back on its feet. Spending is truly out of control.

What about taxes? To hear the Left tell the story, the Tax Cuts and Jobs Act (TCJA) has not only been a policy flop, but it’s putting a gaping maw in the federal budget outlook. The Left is wrong, and CBO numbers prove it.

Since 1972, federal tax revenues have averaged just over 17 percent of economic output. Like the 21 percent spending number, this is the “normal” amount of federal taxation one should expect. So what does tax revenue look like?

The CBO is required to assume that all the tax relief which is set to expire will expire (notably, they have the opposite mandate when it comes to entitlement spending). Under that baseline, federal revenues will hold steady at over 18 percent of economic output for this decade, a full percentage point over the historical average. Thus, the CBO assumes that both spending and taxes will come in at historically high levels over the next decade — taxes are more than pulling their weight, and it’s fully a spending problem we are dealing with.

What happens if we make the Tax Cuts and Jobs Act permanent, and extend other tax relief scheduled to expire? According to CBO’s alternate score, doing this would mean federal taxes come in at 17 percent of GDP fairly steadily over the decade. In other words, avoiding tax increases means that federal tax revenues come in at their post-1972 average, or thereabout. This is dramatically portrayed as a huge lift for policy-makers, but it’s really just keeping the tax code as we have it today and expecting tax revenues to come in as they always have.

What does tax policy look like if the Tax Cuts and Jobs Act goes away in the middle of this decade, on schedule? Rather than being able to fully expense new equipment, businesses will have to subject them to long and costly depreciation schedules. Tax rates go up across the board, with the top rate climbing from 37 percent to 39.6 percent. The standard deduction is cut in half. The $2,000 child tax credit is cut in half. The alternative minimum tax (AMT) is reimposed on tens of millions of families, mostly in blue states and cities. The effective tax rate on family-owned businesses rises by at least 25 percent. Blue-state millionaires would be consoled by being able to again deduct 100 percent of their state and local taxes, as opposed to the common-sense $10,000 cap imposed by TCJA. There’s no telling what all these tax hikes will do to jobs and growth.

Full expensing of newly purchased business equipment (such as computers, factory machines, business aircraft and vans, and fiber-optic cable lines) starts to convert back to slow depreciation deductions just next year, as the amount that can be expensed declines from 100 percent to 80 percent for equipment purchased in 2023. The expense-able amount goes down every year from there until 2027, when no newly purchased equipment can be expensed.

Whatever is not expensed must be depreciated over five, seven, or even 20 years — without any adjustment for inflation. At a time when economists agree that productive, supply-side activity is a major tonic for supply-chain disruptions and inflation, letting this particular tax hike start to happen would be particularly stupid of us.

No one wants to see the TCJA fiscal cliff happen. The good news is that making current tax policies permanent is not expensive and would result in tax dollars flowing into the federal government roughly in line with what we have come to expect over the past 50 years. A tax code with permanent TCJA in place would raise more in annual revenues than half the years of the 21st century did.