The Corner

A Little Symbolism to Fight Fiscal Denial

I have been saying for a while that the kind of fiscal deal it looks like the president and Speaker Boehner want may avoid broad-based tax hikes, but it won’t address our fundamental fiscal problems if it doesn’t cut spending and fails to credibly reform the drivers of our future debt (Social Security, Medicare, and Medicaid). Even if they finally agree on something, the country will still be on a path unsustainable in the long term.

I understand that no one likes to pay more taxes. I also understand the negative consequences of raising taxes on everyone or  on higher income taxpayers only. However, there is a point at which Americans are going to have to make a choice between paying for the big government they claim they want or cutting spending. If we want a big government and the services it provides, we will have to pay for it or at least to pay more for it than we do now. And make no mistake, if we choose to maintain a big government, raising taxes on the rich alone won’t be enough. Taxes will have to go up for everyone, and they will have to go up much beyond a simple return to Clinton levels. 

Denial is a powerful thing, which is why I really like Tyler Cowen’s idea from the New York Times this past weekend, about a symbolic solution to the fiscal-cliff problem as a way to commit to addressing our long-term problems. Here is his suggestion to Republicans:

To see how this could work, consider this script: Let’s say the Republicans decide to largely give in to what the President Obama is proposing. There is, however, a catch: the president has to agree to raise marginal tax rates on all income classes, not just on the rich. The tax increase would be one-quarter of a percentage point, or some other arbitrary small amount, with larger increases possible for higher incomes, as has been discussed. The deal also stipulates that both the president and Congress must publicly acknowledge that current plans for government spending can’t be financed unless taxes on most or all income groups climb further yet, and by some hefty amount.

Given the slow economy, it is undesirable to reverse all or even most of the Bush tax cuts. A small but publicly trumpeted clawback of some of the cuts would send the right message to voters, while minimizing the macroeconomic fallout. The nice thing about symbols — single shots across the bow — is that they often can suffice.

If people already rationally expect these tax increases, this signal would do neither good nor harm, but perhaps such an approach would nudge political expectations closer to reality without draining the economy.

With such a deal, President Obama would get much of what he wants, which many Republicans find objectionable. Still, the Republicans are in any case unlikely to win this round of budget negotiations. The positioning suggested here would highlight the major weakness and, indeed, an evasion in the Obama administration’s fiscal stance — namely, the president’s campaign pledge to protect the middle class from income tax increases. It is commonly agreed that raising taxes on the wealthy alone will close only a small part of our fiscal gap over the next 10 years; an estimate of 15 percent is optimistic.

It could also be agreed that taxes could come back down in the future, but only if politicians found matching spending cuts.

Think of this stance as a first step toward the explicit pairing of spending and taxes, toward a goal of more responsible fiscal decisions. Although taxes would go up for now, this could lead to a smaller, more effective government than our current mismatch of taxes and spending would produce.

This might work. In particular, I like the part where both the president and Congress must come clean and acknowledge that a deal that just soaks the rich won’t work. Obviously, the more revenue you give government, the more it spends, so an increase in tax revenue won’t make deficits disappear. Also under this regime, many high income and middle class taxpayers still won’t be paying for all the services and subsidies they receive. But at least the Cowen plan would send the right signal, reminding us that we can’t spend like Europeans and tax like Americans forever. I personally like my government small — very small, actually — and for that reason I would like to see the size and scope of government shrink significantly. But if that’s not what today’s Americans want, then they ought to pay for the services they demand with higher taxes. The price, of course, will go beyond the higher tax bills since we can reasonably expect slower growth and higher unemployment rates in the long-run as a result. That’s not what I want but that is definitely the price we will pay for staying on the current path. 

The whole thing is here. I also recommend this piece by New York University’s economist Mario Rizzo over at ThinkMarkets. 

Veronique de Rugy is a senior research fellow at the Mercatus Center at George Mason University.

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