Other CRFB Papers
The Hill | September 18, 2012
Members of Congress will return home for yet another recess in the next few days, leaving behind nothing but a swirl of rumors about how they plan to address America’s major fiscal issues.
Until now, lawmakers seem to have held out hope that voters aren’t paying attention to the particulars of the “fiscal cliff” and America’s out-of-control national debt. Neither party revealed specific plans for dealing with these challenges at their recent political conventions, or since. New stories appear each day in the political press suggesting that lawmakers are preparing to once again punt on the tough choices required to address our looming fiscal crisis.
All of this is status quo political maneuvering. But there are two major reasons to believe that it won’t fly this time around. The writing on the wall about the implications of inaction is getting too bright to ignore, and a well-resourced, national, bipartisan campaign has been launched to take the issues straight to the voters in lawmakers' districts.
Alarm bells about the fiscal cliff are going off with increasing frequency. Last week, Moody’s Investor Service, the major ratings agency, warned that the U.S. could lose its sterling credit rating if Congress doesn’t reach a deal to replace the abrupt, mandatory spending cuts and tax increases that are set to take effect in January with a plan to stabilize and ultimately reduce the debt as a percentage of GDP. A ‘kick-the-can’ solution that simply delays the abrupt tax increases and automatic spending cuts for a few months would leave this uncertainty hanging over an already struggling economy.
Business leaders are also weighing in about the urgency of action. As the New York Times reported last month, “A rising number of manufacturers are canceling new investments and putting off new hires because they fear paralysis in Washington will force hundreds of billions in tax increases and budget cuts in January, undermining economic growth in the coming months.”
It would be a mistake for policymakers to take these cues as a reason to simply institute a short-term fix that avoids the fiscal cliff and tees up another crisis next year. The fiscal cliff is simply a curtain raiser on the bigger issues we will likely face with the debt, including rising inflation, dollar devaluation, disappearing resources for public works, and a growing dependency on China. What we need is to replace the fiscal cliff with a long-term, bipartisan deal on the national debt that alleviates economic uncertainty and increases confidence that our leaders are up to the task of addressing the greatest fiscal challenge of our lifetime.
This message is starting to be heard more loudly and more clearly across the country. Great credit for the increased awareness is due to dedicated advocates such as former Senator Al Simpson (R-Wyo.) and former Clinton White House Chief of Staff Erskine Bowles, who championed the idea of an “everything on the table” approach and co-founded the Campaign to Fix the Debt.
Senator Simpson and Mr. Bowles, along with former Republican Senator Judd Gregg and former Democratic Governor Ed Rendell, the Campaign co-chairs, have announced that the effort has raised almost $30 million dollars in just over a month, with more coming in, to educate voters and mobilize them to urge lawmakers to get a debt deal done. The Campaign is employing all the tools of modern political outreach, including advocacy in many states and major advertising, media and online programs.
Already, nearly 140,000 concerned citizens across the country have signed the Fix the Debt petition. A growing number of CEOs and current and former public officials also have signed on to support the campaign at the national and local levels.
With this broad bipartisan backing, we hope to increase the noise and heat on the debt issue, in order to urge policymakers to reach a deal based on key principles. Legislation addressing the spending and revenue elements of the fiscal cliff needs to be accompanied by concrete steps toward a long-term debt reduction plan that is credible to the public and to domestic and international financial markets.
Such a plan must be bipartisan and comprehensive, addressing all parts of the budget, including cuts in low-priority spending, reforms of entitlement programs to reduce the growth of health care entitlements and make Social Security financially sound, and pro-growth tax reform which broadens the base, lowers rates, raises revenues, and reduces the deficit. It must also be large enough to stabilize and ultimately reduce the debt, but be implemented gradually to protect the fragile economic recovery and to give Americans time to prepare for the changes in the federal budget. Lastly, the plan should be conducive to long-term economic growth, protect the vulnerable, include credible enforcement mechanisms to ensure that the promised deficit reduction is achieved, and leave the next generation better off.
We are running out of time and rhetoric is of little value at this point. We need action.
The Financial Times | September 17, 2012
One of the few issues on which Barack Obama and Mitt Romney agree is the need for tax reform. Since the last overhaul in 1986, loophole after loophole has been added, producing a tax system that is complex, unfair, inefficient and detrimental to growth. Today, tax reform must also address three major challenges: escalating federal debt, rising income inequality and intensifying global competition.
Addressing the long-run deficit and stabilising the debt will require more revenue. Even after the economy recovers, current tax policies will not generate enough revenue to cover future spending on social security, health, defence and debt interest, let alone basic government operations and investments. In 2012, federal tax revenues are likely to be less than 16 per cent of gross domestic product, compared with an average of more than 18 per cent in the 20 years before the crisis hit in 2008.
When the US economy is operating near capacity, total tax revenues – federal, state and local – are much smaller as a share of GDP than in other developed countries. And there is scant evidence that taxes as a share of GDP and economic growth are negatively correlated. Indeed, there is a small positive correlation between income per capita and tax revenue as a share of GDP.
Special tax rates and allowances are a major reason why tax revenues are comparatively low in the US. So-called tax expenditures amount to about 7 per cent of GDP; more than what the federal government spends individually on defence, health and social security. Reducing the number and limiting the size of tax expenditures would simplify the tax code, remove distorting incentives and raise revenue. Mr Obama proposes to use some of the revenue from reforming tax expenditures for deficit reduction; Mr Romney would use all of it to cut tax rates, with disproportionate benefits to high-income taxpayers.
But tax reform should not come at the expense of progressivity. Income inequality is greater in the US than in the other developed countries of the OECD. The US tax system is considerably less progressive than it was a few decades ago and it does less to counteract pre-tax income inequality than other OECD systems.
Widening inequality is reflected in opportunity gaps between children born into different income groups and a decline in intergenerational mobility: an American child’s future income is more dependent on his or her parents’ income than in most other OECD nations. Mr Obama’s plan counters these trends. The Romney-Ryan plan exacerbates them.
Proponents of greater progressivity often call for an increase in corporate taxes but this would lead to slower growth and fewer jobs. The US has the highest statutory corporate tax rate in the developed world. Even after tax expenditures are included, its effective marginal corporate tax rate is one of the highest in the world. Business decisions about where to locate investments are responsive to differences in taxes and have become more sensitive over time. Of all taxes, corporate income taxes do the most harm to economic growth.
Both Mr Obama and Mr Romney advocate corporate tax reform that lowers the rate and broadens the base. The economic benefits could be significant. The current system has large unjustifiable differences in effective tax rates that influence business choices about what to invest in, how to finance an investment, where to produce and even what form of organisation to adopt. These differences distort capital allocation, add complexity, increase compliance costs and reduce corporate tax revenues.
A lower rate would stimulate investment, narrow the tax preference for debt over equity financing and weaken the incentives for international companies to move production to lower-tax locations. But lowering the corporate tax rate is expensive – each percentage point reduction would cut revenues by about $120bn over 10 years. Scaling back the three largest corporate tax expenditures to pay for a cut could increase the cost of capital, thereby reducing investment and growth.
A more efficient and progressive way to pay for a lower corporate tax rate would be to increase taxes on dividends and capital gains. This would shift more of the burden towards capital owners and away from labour, which bears the burden in the form of fewer jobs and lower wages. Mr Obama proposes to raise rates on capital gains and dividends for the top 2 per cent of taxpayers. Most capital gains and dividends go to this group. Mr Romney would leave these rates unchanged for this group.
The US economy needs efficient and progressive tax reform and it needs more revenues for deficit reduction. Revenue increases have been a significant component of all major deficit-reduction packages enacted over the past 30 years. This must be the case now, too. Additional revenues as part of a credible long-run deficit-reduction plan and supported by progressive tax reforms will boost economic growth and job creation.
The Hill | September 11, 2012
Washington’s new pet solution to the “fiscal cliff” — the spending sequester and the expiration of tax cuts scheduled to collide in the first few days of January 2013 — is “let ’er rip.” In other words, let the tax cuts expire, let the spending cuts hit — we’ll clean up the mess later. It reminds us of Scarlett O’Hara’s “after all, tomorrow is another day.”
For each political party, this notion is predicated on an expected sweep — House, Senate and White House — in the November elections. The prevailing mindset is, “when we take control next January, even though it is after the scheduled train wreck, we’ll fix it all our way — and the other side can’t stop us.”
However, this gamble assumes the use of two legal, but economically and socially dangerous, mechanisms to circumvent the automatic tax increases and spending cuts. Mechanism 1: Even though the 2001 and 2003 tax cuts will expire on Jan. 1, the Treasury Secretary can simply leave income tax withholding unchanged, preventing taxpayers from immediately feeling the effect of elevated rates. Mechanism 2: The president’s budget director can continue to supply government agencies with cash in the same amounts that they would have without the sequester, delaying the spending reductions until later in the year.
As the logic goes, if the incoming president and Congress can then change the law and undo the “fiscal cliff” in early 2013, the taxpayers and the federal agencies can just continue on that path laid out in January by the Treasury secretary and the budget director.
But consider how perilous this high-stakes gambit really is. Both Republicans and Democrats agreed to the sequester’s automatic spending cuts because they knew that the federal government must cut its deficit by at least — and really much more than — the amount of those reductions. Since then, however, the president and Congress have avoided any action that truly lowers the future accumulation of debt. They cannot now simply continue to kick this fiscal hand grenade down the road; they cannot postpone budget savings forever. Temporary budgetary gimmicks provide no solution; they just put off January’s pain by risking much greater pain later in the year.
And if either party does control the government, and does “let ’er rip,” action must follow early in the 113th Congress. We have watched extremely critical legislation fall apart in the thicket of congressional procedure, no matter how committed a majority of members might be.
A narrow congressional majority can disintegrate on a particular issue if a small faction within that majority realizes that it can demand a price for going along. If either party plays games with the expiring tax cuts and the sequester, and then its majority falls apart when it actually tries to change these laws, tens of millions of taxpayers will wind up under-withheld and owing big tax payments at the end of the year, and federal agencies will face massive furloughs to avoid overspending when their fiscal year ends. That will not only directly disrupt the economy and abruptly slash the take-home pay of millions of Americans, but it will also send a chilling signal throughout the world that the U.S. federal government cannot manage its own affairs.
Finally, if the election yields continued divided government, the “let ’er rip” tactic devolves into a potentially catastrophic game of chicken. Can the new government agree to undo the temporary mechanisms and provide at least an outline of a fiscally responsible plan before the taxpayers’ under-withholding and the agencies’ under-funding is exposed, and before markets implode because of all these shenanigans? If not, this will yield nothing but wreckage.
The president and Congress can avoid this wreck. Doing so will involve hard negotiations and a budget process that bridges the post-election lame-duck session and the 113th Congress.
We have developed this process, which would force congressional committees in the House and Senate to meet savings targets established by the budget committees. We are well aware that Congress suffers from process fatigue after the failures of the past 18 months. But coming to grips with the need for another new budget process is just one more challenge that will have to be overcome if this nation is to remain exceptional.
We are not naive. Politics will be played. But the players must look ahead to the endgame before they bet the entire country — and that is what they will do if they continue to “let ’er rip.”
The New York Times | August 29, 2012
Getting our economy growing is our most pressing economic problem. But there can be no sustainable economic growth as long as we face America’s enormous debt overhang. If we don’t put our nation’s fiscal house in order, we face the most predictable economic crisis in history.
Solving this economic crisis the right way means avoiding the large, immediate, indiscriminate cuts and tax increases that are on the horizon, from the “sequestration” deal.
We should be careful not to cut too deep too soon. But failing to deal with the debt is the real risk we just plain can’t afford.
One of the key principles set out by the National Commission on Fiscal Responsibility and Reform, which I co-chaired with former Senator Alan Simpson, was that a debt-reduction plan must be phased in gradually so as not to disrupt a very fragile economic recovery.
Our commission’s plan would reduce the deficit by more than $4 trillion over the next decade, but would do so in a way that encourages, rather than hinders, economic growth and stability.
The real short-term risk to the economy isn't a carefully thought-out deficit reduction plan, but the mindless spending cuts and tax increases — known as the “fiscal cliff” — that are scheduled to go into effect at the beginning of next year.
Allowing those deep and abrupt measures to occur would put us into a double-dip recession. At the same time, continuing on our current path by punting these measures would send a dangerous message to the markets that America is not willing or able to deal with our debt.
The only responsible course of action is to replace the fiscal cliff with a gradual and thoughtful plan to save at least $4 trillion over the next decade and put the deficit on a clear downward path relative to the economy.
Such a plan can lay the foundation for sustained economic growth through a combination of debt reduction, comprehensive tax reform, and maintenance of important investments in education, infrastructure, and high-value research and development.
We should be careful not to cut too deep too soon. But failing to deal with the debt is the real risk we just plain can’t afford.
The New York Times | August 29, 2012
The federal debt is the nation’s most pressing economic problem because our dangerously high debt levels are a threat on every issue — be it jobs, growth, competitiveness or public under-investment. The deficit is already harming the economy, and could eventually lead to a devastating fiscal crisis.
To suggest we must decide between debt reduction and economic recovery is to present a false choice. To the contrary, we cannot achieve one without the other. The key will be to implement a comprehensive debt deal large enough to fix the problem, phased in gradually enough so as not to derail the recovery, and designed to promote economic growth through reforms to the tax code and cuts in government spending that protect productive government investments.
We must be willing to reform all parts of the budget, including health care, Social Security, defense and taxes.
The upcoming fiscal cliff will soon cause the moment of reckoning. If we hurdle ourselves off the cliff, doing too much deficit reduction, too fast, and in the wrong ways, we will plunge the nation back into recession; whereas if we punt, we will surely endure further downgrades and quite possibly frighten credit markets into no longer favoring the U.S.
Instead, we must be willing to use this moment as the first step of putting in place a comprehensive debt deal. We will have to be willing to reform all parts of the budget — including health care, Social Security, defense and taxes. Doing so would not only be good policy, but good politics. Already, more than 140,000 Americans have signed a petition called Fix the Debt, asking our leaders to pass a comprehensive debt plan.
Any plan will have to be bipartisan, because quite frankly this will be just too hard for either party to do alone. And if we let the presidential election deteriorate into political posturing, we will make the job of passing the needed reforms even harder. It’s not enough for the candidates to accuse each other of touching the budget’s sacred cows; they must present their realistic plans to fix the debt — plans in which those sacred cows will have to be touched.
Changes will have to be made. We can do it on our own terms, or we can wait until we are hit with a crisis and are forced to — as we have seen in Greece and Portugal. Let’s hope our leaders are willing to come together to fix the debt while we still have time.