StanCollender'sCapitalGainsandGames Washington, Wall Street and Everything in Between

To Extend The Bush Tax Cuts, Or Not To Extend The Bush Tax Cuts, That Is The Question.

14 Jul 2010
Posted by Pete Davis

At 10 a.m. this morning, the Senate Finance Committee held a hearing on extending the 2001 and 2003 Bush tax cuts. Former CBO Director Doug Holtz-Eakin and former Deputy Assistant Treasury Secretary Len Burman squared off in a very informative debate. They didn't agree on much, except that we desperately need income tax reform to lower marginal rates and broaden the tax base. Holtz-Eakin would focus on pro-growth policies led by making all of the Bush tax cuts permanent and cutting federal spending, and Burman would only extend the Bush tax cuts temporarily for low and middle-income Americans until Congress produces income tax reform and a carbon tax or a VAT to bring the public debt back to 60% -- a threshold we will cross in a few months time.

Holtz-Eakin argued pro-growth policies are essential, ruling out tax increases on anyone, and that a tax cut limited to those under $250,000 would damage small businesses and would cut employment of lower income small business workers. The person bearing the tax is often not the person filing the tax return and residing in the top quintile in the distribution tables. He also panned a temporary extension of the Bush tax cuts as much less effective than a permanent extension and provided macro model estimates to that effect. To deal with our unsustainable explosion of federal debt, Holtz-Eakin recommended cutting federal consumption spending and reforming the income tax to lower marginal tax rates and broaden its base. He would not add a VAT to our system because it would magnify tax distortions far beyond those if we had a free standing VAT without a large income tax.
Burman countered that we simply can't afford to extend $3 trillion of tax cuts over the next 10 years and that taking them away from high income taxpayers, who don't spend them anyway, won't hurt the economy. He said it would be a mistake to suspend all of the Bush tax cuts because the economy is too weak and that it would be a mistake to make the Bush tax cuts permanent because it would remove the impetus for reforming our income tax, which "is a mess." Making the Bush tax cuts permanent won't "starve the beast," citing co-blogger Bruce Bartlett on past failures to force federal spending cuts, nor with they pay for themselves. He expressed deep concern about the federal debt. "It is possible that interest rates will remain low for years, creating a kind of debt bubble: our ballooning debt appears affordable to us and our lenders as long as interest rates stay low. At some point, investors perceive a risk of default on the debt (or inflation, which would devalue it). This pushes up interest rates, which in turn raises the risk of default, creating a vicious cycle." Better to curtail the Bush tax cuts for high income taxpayers, reform the tax system, and stabilize the public debt at 60% with a carbon tax or a VAT. He noted that "Deficits are simply deferred tax increases or spending cuts."
Today's hearing showed Congress is just as deeply divided on these issues as the American people are. So what is Congress likely to do this year? My conversations with top Hill staff of both parties convince me that Congress is very likely to wait until a lame duck session in December to pass a one-year extension of the Bush tax cuts for those under $250,000 ($200,000 for singles). This will maximize tax rate uncertainty for small businesses and will hit the equity markets with a 39.6% dividends top tax rate, up from the current 15%. Both President Obama and Senate Finance Chair Max Baucus (D-MT) want a 20% top rate on dividends, but I don't see Congress reaching an overall compromise on the Bush tax cuts that would pay for the 20% rate. Then, if the Republicans take the House on November 2, we'll experience budget gridlock as the public debt rises toward 87% by 2020. This is a prescription for another economic downturn in a year or so that will hurt those low- and middle-income Americans least able to bear it.
We'd be much better off if, next January, our leaders headed off to Andrews Air Force Base and locked themselves in a room until they agreed on a sensible deficit reduction package balanced between base broadening, marginal rate lowering tax increases and federal consumption spending cuts like we did in 1990. Of course, that cost President George H. W. Bush a second term, but it also set us on the path for record economic growth in the 1990s. That's the dilemma facing our leaders.

Carbon Tax

From what I understand of economics, a carbon tax makes the most sense. It would add jobs, curb wasteful consumption of energy, and provide revenues.

To be or not to be

Our leaders might as well lock themselves in that room with some poison-tipped rapiers. It ends tragically in any event.

Questions that always go unanswered

Assuming you believe in the principles behind progressive taxation of income, and I do:

1. Why should the top marginal rate stop at ~$370k? Why not add a couple of higher brackets beyond that? Does it make sense that a person making $370k and a person making $300 million pay the same tax rate on each additional dollar of income?

2. Accepting for the moment the argument that dividends and capital gains should be taxed at a lower rate than ordinary income, why are they taxed at a flat rate? Why should an individual who receives $500 in dividends pay the same tax rate on them as someone who receives $500k in dividends? Why not make this rate structure progressive as well?

Not to be snarky, but if this

Not to be snarky, but if this really is a serious question, then we are so far past lost that there is no reason to continue trying...

Certain people may end up with the share of national income they want but I'm thinking they're not going to end up wanting to spend it in the nation that is left.

By the way, love the term "base broadening." The Luntzification of subjugation tactics continues.

To deal with our

To deal with our unsustainable explosion of federal debt, Holtz-Eakin recommended cutting federal consumption spending and reforming the income tax to lower marginal tax rates and broaden its base.
This really calls for some commentary -- the numbers don't seem to add up. Can you really balance the budget AND offset the Bush tax cuts by taxing poorer people more and cutting consumption spending? Poor people don't have that much money to start with, and they're already hurting from the long recession. This just doesn't seem serious.

Bush Cuts Have to Go

The Bush Tax Cuts were the most flagrant example of economic lying the world has ever seen. There has never been a time in the history of this country when high tax rates on extreme ORDINARY income have done anything but _HELP_ the economy. The vast majority of that income is economic rent and taxing it at high rates does not cause any DIRECT alteration in any underlying production. The secondary effects are seen as the taxpayer attempts to avoid the tax by investing for capital gains as opposed to ordinary income and in what government does with the increased tax proceeds.

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