Tax Baseline Key to Debt Fight

July 27, 2011

by Chidem Kurdas

Neither House Republican Speaker John Boehner  nor Senate Democratic Majority Leader Harry Reid propose tax increases in their competing deficit and debt-ceiling plans. Indeed, the Reid plan’s omission of tax hikes is described by Democrats as a major concession to Republicans.

But even if there are no new obligations, taxes are primed to go up. That baseline, biased in favor of a growing tax burden, is key to proposed deals and will no doubt remain the pivotal point in budget negotiations long after the current debt ceiling is broached.

In a recent report on the long-term fiscal outlook, the Congressional Budget Office  estimated that the wide range of tax increases built into current law would generate substantial additional tax revenue and boost the share of taxes to levels not seen in recent decades. That’s the baseline scenario.

Mario Rizzo reminded us that Medicare taxes will rise due to the new healthcare law and the tax on social security benefits, being un-indexed, will apply to ever more people over time.  Similarly, the alternative minimum tax has a broadening reach.

The AMT was originally sold as a tax on the rich—like some of President Obama’s proposals. But AMT, un-indexed like the social security tax, has already shown a formidable ability to spread to people who are not rich. And if the Bush tax cuts are not extended after 2012, that will be a huge source of revenue.

Putting together the various tax provisions as they stand, including but not confined to increases to finance new medical entitlements, spreading AMT and the end to the Bush cuts, the CBO found that “Revenues would reach 23 percent of GDP by 2035 – much higher than has typically been seen in recent decades – and would grow to larger percentages thereafter.”  

And that’s just federal taxes. State and local taxes are significant additions, as a recent analysis by Michael Boskin illustrates.  

Pundits often tell us that we are paying a historically small share of our income to the government, implicitly suggesting that we should not complain. They make no mention of built-in hikes that would push the tax burden to much higher percentages.

Talk of a low tax share and no major new taxes creates the misleading impression that the burden will stay low unless explicitly increased. In fact under today’s law we will have to fork over a growing share to Uncle Sam. A stronger economy will further add to the tax bite.

Tax-side bargaining has to be largely around these facts, whether acknowledged or not. The so-called Gang of Six deal in the Senate would abolish the AMT but other plans keep it; the compromise Mr. Boehner attempted to negotiate with Mr. Obama lets the Bush cuts expire for higher incomes. Other proposals say nothing about automatic tax increases, which are presumably left for future deals.

Even in the above baseline scenario with a massive increase in the tax burden, there would still be budget deficits and the federal debt would still increase, the CBO says. Obviously, out-of-control growth of the federal government is the real issue. But the tax deck has already been stacked in favor of large government.

5 Responses to “Tax Baseline Key to Debt Fight”

  1. bill butos Says:

    Thanks, Chidem. Couldn’t agree more that government spending, and not taxes, is the problem. This argument needs to be reiterated regularly, especially when professional heavyweights like Blinder and Shiller advocate more federal spending. Shiller’s considered recommendation to raise taxes is different from typical “tax the rich” schemes as it is based on a market failure argument that there is under-provision of public goods. (see

    http://online.wsj.com/video/robert-shiller-tax-and-spend/A4D0F21F-C30A-4F95-A4C7-C487A3305E87.html?KEYWORDS=robert+Shiller).

  2. Pietro M. Says:

    Taxes are law also because 10% of GDP is in deficit, with this banana republic deficit also in Italy taxes would be very low.

    The anticipated increases in social security and medicare expenditures, and possibly further international problems in the future, will make the budget even worse in the next decades.

    I think that a strategy to cut welfare-warfare expenditures by 20% are necessary. To cut only warfare expenditures is not possible because even a 33% cut wouldn’t do much to the deficit, and because medicare and social security liabilities will be larger and larger with population aging.

    Structural problems in the US economy are so large and so many that it’s starting to look like Italy, also with two charismatic leaders who are adding to the bill with their demagoguery.

  3. chidemkurdas Says:

    Bill Butos-
    One thing I don’t understand is all these economists who reason as if they’ve never heard of public choice economics. Shiller sounds oblivious to the failures of the actual government. The government he sees doing all these nice things is unreal, a fantasy, while the markets he writes about are actual markets–to paraphrase James Buchanan in another context, from a while back.

  4. chidemkurdas Says:

    Pietro M.–
    Italy is an interesting case. One gets a sense of extensive corruption, and yet for many years the economy was doing well. Perhaps its problems did not show until recently.


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