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The Economist Magazine on Why We Have to Be Biased Toward Tax Increases in the Short Term

November 22nd, 2009 . by economistmom

economist-cover-fiscal-hole-112109

The cover story in this week’s Economist magazine discusses “dealing with America’s fiscal hole.” The “hole” is described not as something we’ll have to dig ourselves out of in the far-off future, but something we’re already too far in now.  (The story quotes Bill Gale and Alan Auerbach’s line on it:  “The future is now.”)  While the article describes “the elephant in the budget” as entitlements and how most of the effort to control deficits after 2019 will have to be focused on entitlement reform, it acknowledges that any such entitlement reform even coupled with other spending-side cuts won’t do enough to help the fiscal outlook anytime soon (emphasis added):

Because entitlement changes have to be phased in slowly, they offer only limited savings in the short term. Other programmes such as highway funding and farm assistance could be trimmed, and perhaps handed over to the states. Defence and discretionary items represent just a third of spending, and Mr Obama has already planned to shrink both in nominal dollars by 2014, as the wars in Iraq and Afghanistan (with luck) wind down and the stimulus expires. Thereafter, they would grow only slightly faster than inflation. Freezing both at 2014 levels would shrink them in real terms. Still, it would save only $160 billion a year by 2019. Even elimination of the notorious “earmarks”, favoured projects slid into the federal budget by individual congressmen, would save little; they add up to less than $20 billion a year, and in any case they only rearrange, rather than expand, the budget.

Even with the best-case scenarios for trimming the spending side of the budget, both mandatory and discretionary parts, as much as is both possible and wise, the Economist concludes (emphasis added):

The [spending-side] measures outlined above could generate perhaps half the savings needed to get the deficit down to 3% of GDP (see table). Without more drastic cuts, achieving the other half requires higher tax revenue. George Bush’s tax cuts expire at the end of next year. This could provide a catalyst for more fundamental tax reform…

And that table referenced?  It looks at options for reducing the deficit in terms of their 2013-14 impact and is copied below:

economist-deficit-reduction-options-112109

Note that it shows spending options totaling $101 billion, but tax expenditure reductions (usually considered “tax-side” options) totaling $552 billion.  It also shows “other tax options” including a 5 percent VAT worth $324 billion and an increase in the gasoline tax of 50 cents/gallon worth $62 billion.  The point is that the Economist magazine’s tax-side options far outweigh the spending-side options by a 9-to-1 ratio, which is not-so-coincidentally very close to the dominance of tax-side options to spending-side options in the Concord Coalition’s Federal Budget Challenge (which covers the full ten-year budget window and not just the four-to-five-year-out point).

The point is that we have to be biased toward tax increases over spending cuts if we really want to at least “stop digging” right away.  It doesn’t matter if the profligate spending of the past is more to blame than the unaffordable tax cuts of the past for the mess we’re in today.  What matters is the best, most sensible way forward to get out of the fiscal hole both immediately (mostly tax increases) and sustainably over the longer term (mostly entitlement reform).

My big worry is that the more folks argue that the main problem is out-of-control entitlement spending and so “let’s just worry about those programs later” (once we figure out how to do it!) rather than trying to raise taxes right away, the more likely we’ll keep putting it off and putting it off and claiming we’ll behave better in the future, and the more likely we’ll never dig our way out–or stop digging our way down.

4 Responses to “The Economist Magazine on Why We Have to Be Biased Toward Tax Increases in the Short Term”

  1. comment number 1 by: Econ Mom Too

    Good points, but notice that if growth is 1% lower it would offset a great deal of those changes. For example, if we change the mortgage interest rate deduction, imagine what would happen to the already ailing real estate industry?

  2. comment number 2 by: SteveinCH

    Well, here we go again.

    “Because entitlement changes have to be phased in slowly, they offer only limited savings in the short term. ” (from the article). Here is an assumption once again masquerading as argument. Why do entitlement changes need to be phased in slowly? Nobody ever explains this.

    How’s this for an entitlement change — means test SS and Medicare to 200% of the poverty level AND a net worth of $300,000 — I bet that saves more than $100 billion annually and it could be done quickly. Somehow a change like that never seems to make the assumption list of those arguing for tax increases. Is it hard, sure it is.

    I mean, get real for a moment. Medicare, SS, and Medicaid account for more than 50% of the budget (excluding “one time” stimulus and TARP), in excess of $1.3 trillion in today’s dollars and the best we can do saves barely 7% of the total. Come on, that’s just not trying.

    I hope I’m not playing to Diane’s fears. I will happily accept the changes I just described for myself. In point of fact, I don’t expect to receive either benefit when I retire (still a few years off).

    And I guess I still don’t accept that tax increases will reduce the size of the problem materially. For a prime example, see the current health care legislation. It’s a (roughly) $100 to $150 billion per year increase in spending (net of the Medicare reductions but including Medicaid mandates).

    I might be willing to sign up for tax increases the day that Congress stops creating new entitlement programs. Two in the last 8 years doesn’t give me a lot of comfort and that’s without other minor improvements (e.g., NCLB).

    Said differently, the argument would be a lot more compelling if Congress agreed to put down the shovel. If you support “health care reform”, you are, at least in my opinion not at all credible on deficit reduction as you just want to dig the hole deeper.

  3. comment number 3 by: SteveinCH

    To conclude, the only thing we have to be vigilant against is digging a bigger hole today. The one thing that this administration is doing is digging a bigger hole. Who cares if the hole is “paid for”, it’s just less dirt we have to fill he hole later

  4. comment number 4 by: AMTbuff

    To conclude, the only thing we have to be vigilant against is digging a bigger hole today. The one thing that this administration is doing is digging a bigger hole. Who cares if the hole is “paid for”, it’s just less dirt we have to fill he hole later

    Well said. As to cuts in benefits having to be phased in, that’s false. When budgets were tight, California has made 10% cuts in some programs. That’s not gradual. Not only can it be done, but it has been done.

    It’s an insult to taxpayers who face the prospect of sudden loss of their income at any time that government benefits cannot similarly be cut suddenly. If government benefits were less certain, perhaps fewer people would choose to use them when a choice is available (such as the choice to retire or not).