The Agenda

Democrats and the Deficit

Over the last few years, Democrats have had a field day pointing out (accurately) that Republicans were being wildly fiscally irresponsible. In fact, Republicans were such bad stewards of the federal budget that it was easy not to notice that the Democrats didn’t really have a plan to restore fiscal order, either. But in the last few weeks that has started to come into focus.

Those irresponsible Bush tax cuts that Democrats attacked for ballooning the federal deficit? Barack Obama and Nancy Pelosi want to make about three-quarters of them permanent. Democrats were willing to make cuts in Medicare, but only if most of the savings were used to finance another health care entitlement. To his credit, President Obama’s budget does involve a wind-down of many overseas military operations, but even with the resulting savings factored in, the long-term budget picture is unsustainable.

Beyond campaigning to end the parts of the Bush tax cuts that principally benefit high earners, a move that would get us about 10-15 percent of the way to fiscal sustainability, President Obama has had little to say about cleaning up our fiscal mess. He could note that he appointed a bipartisan fiscal commission to find additional savings. But the Left’s heated reaction to the report from that commission’s chairmen belies the idea that the Democrats are the grown-up party on the budget.

When the Simpson-Bowles plan was released, Nancy Pelosi called its recommendations “simply unacceptable.” But where is Nancy Pelosi’s fiscal plan? If a slow rise in the Social Security full retirement and eliminating the mortgage interest deduction are unacceptable to the Minority Leader-elect, how does she propose to make the budget sustainable?

I will be interested to see what Pelosi has to say about the plan released yesterday by Illinois Rep. Jan Schakowsky, a liberal Democrat who sits on the fiscal commission and also dislikes the chairmen’s report. Schakowsky’s plan incorporates defense cuts similar to those the chairmen propose, but makes no significant cuts in non-defense discretionary or entitlement spending.

It instead includes a swathe of tax increases, far beyond the relatively modest ones that Simpson and Bowles propose. These include corporate tax increases, uncapping the employer part of Social Security tax and imposing an additional tax on high earners above the cap, taxing capital gains and dividends as ordinary income, implementing cap and trade, letting the Bush tax cuts for high earners expire, and potentially imposing some sort of tax on executive compensation.

Schakowsky’s plan would indeed take a huge whack out of the deficit: over $400 billion in 2015, by her numbers. But there are two key flaws with the Schakowsky plan.

One is that these tax proposals would cause huge economic damage: not only would they raise the tax burden overall, but they would do it principally by raising marginal tax rates on high earners and on capital income. Because the deadweight loss of taxation (the economic loss caused by distortions created by taxes) is a function of the tax rate squared, raising already-high rates is the most economically damaging way to raise more revenue. This means that Schakowsky’s proposals would both greatly harm economic growth and fall short of their statically-calculated revenue targets.

The second flaw is that Schakowsky does nothing to address one of the two key problems with the federal budget. One problem is that we spend a lot more money than we take in. The other is that spending is expected to systematically grow faster than the economy.

You can tax your way out of the first problem (which is not to say that you should) and Schakowsky’s plan does. But you cannot tax your way out of the second problem—to keep pace with exploding Medicare spending, you would need to keep raising taxes over and over again. Indeed, Matt Yglesias of the Center for American Progress has noted this about the Schakowsky plan: “Schakowsky’s deficit plan would balance the budget in 2015, but then Medicare will explode in the next 15 years.”

So, Schakowsky’s plan would do terrible damage to the economy and would only fix the budget gap for a fleeting moment. Not a very good deal. But so far, I haven’t seen any other budget-balancing plans getting much of an embrace from the Left.

Meanwhile, conservative politicians (and this publication) have, to their credit, been cautiously positive on Simpson-Bowles, even though it contains tax increases and sharp cuts in defense. Stalwart conservative Senator Tom Coburn explicitly said that he’s willing to do a budget deal with tax increases. This reflects an understanding that, in a budget compromise, nobody will get exactly what they want. Action will have to follow rhetoric, but Republicans could be on their way to reclaiming their position as America’s fiscally responsible party.

Josh Barro is the Walter B. Wriston Fellow at the Manhattan Institute.

Josh Barro — Mr. Barro is the Walter B. Wriston fellow at the Manhattan Institute. His research is focused on state and local fiscal policy.


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