Could a tax cut lift the debt ceiling?

Two days ago, here’s what I thought was going to resolve the debt-ceiling deal: Republicans would continue to refuse a deal including serious revenues and Democrats would continue to refuse a deal composed solely of spending cuts. But both sides recognize that there are two categories of policies that the Democratic Party is willing to see as a win right now: short-term tax cuts that stimulate the economy while increasing the deficit and longer-term tax increases that contract the economy but improve the deficit. And Republicans hate one of those things much more than they hate the other. So just as the tax deal ended with Democrats giving up tax increases in return for more tax cuts, the debt-ceiling deal would end with Democrats delaying the fight over serious tax increases in return for an expansion of the payroll tax cut.

Depending on how the rest of the deal is structured, that might not be such a bad trade. But I’ve grown more pessimistic over the past 48 hours. A crucial element of the original tax deal was that the Democrats didn’t run on the payroll tax increase before it emerged in the negotiations. That was an explicit choice: The Obama administration understood that running on it would polarize Republicans against it and perhaps make it impossible for them to accept as part of an eventual bargain. But Democrats are now hammering Republicans for opposing an expansion of the payroll tax cut to employers, and Republicans are predictably escalating their attacks against the policy, and Democrats are returning fire. That doesn’t make its eventual passage as part of a deal impossible, but it makes it harder — which is something both sides might soon have reason to regret.

The payroll tax falls equally on employers and employees. The 2010 tax deal cut the payroll tax on the employee side. The deal under consideration would also cut it on the employer side. Christina Romer, the White House’s former top economist, recently called this her “favorite additional short-run stimulus,” arguing that it would “make hiring workers cheaper and would therefore likely be particularly helpful for employment growth.” Larry Summers also floated the idea in a recent op-ed.

Not everyone is so sold on the plan, however. “I don’t think an employer side payroll tax holiday is particularly efficacious stimulus,” says Mark Zandi, chief economist at Moody’s Analytics. “The HIRE Act which provided a payroll tax break for additional hires wasn’t particularly effective. And there is no theoretical reason to expect such a tax break to pack a sizable bang for the buck. Large companies that would benefit the most are already very profitable and such a small break does not measurably lower the cost of labor. If more stimulus is needed, an extension of the payroll tax break for employees would be more helpful.”

The economy has been sufficiently shaky in recent months that I come down on the “something is better than nothing” side of the argument. Moreover, the unhappy truth is that the payroll tax cut isn’t only needed to act as further stimulus, but it’s possibly the only policy that can prevent a massive negative shock to the economy: the collapse of the debt-ceiling deal, and thus of the debt ceiling. In a world where the alternatives were more and better stimulus, I’d be more skeptical. In a world where no other stimulus is possible and a stalemate on the debt ceiling remains a serious threat, it looks pretty good.