Last week in Washington, we were all abuzz about health-care reform. Now we’re all abuzz about tax reform. Our problem — one of our problems — is that all the buzzing crowds out rational thought. An objective look at the reality of today’s economy, our demographics and our income distribution suggests that the current tax debate is terribly misguided.
I suspect I’m shouting into a void here, but that’s never stopped me: The nation does not need and most of us don’t want a big, regressive tax cut. Yet despite claims to the contrary, that’s what we’re likely to see at the end of this benighted process.
An objective look at the questions posed by tax reform requires both sides to banish some shibboleths. For Republicans, this means dropping the assumption that tax cuts are always and everywhere desirable, as they generate more economic activity and shrink government. Neither of those claims are anywhere close to true, as there’s no empirical correlation between tax cuts on the wealthy or businesses and favorable, lasting economic outcomes. Neither do tax cuts shrink government, as tax-cutting policymakers are happy to use deficit spending to replace revenue losses.
Also, the increasing tendency of Republicans to engage in reverse Robin Hoodism — paying for huge breaks for the wealthy by raising taxes or cutting spending on the poor — in an economy that generates too much inequality before taxes kick in is unjust and terrible policy.
For Democrats, it means abandoning the notion that we can have everything we want and send the bill to the top 1 percent, and accepting that the corporate tax system is a hot mess that needs repair.
Yes, the rich disproportionately benefit from pretax growth and, in a progressive system, should not be shielded from paying more taxes. Ideas such as getting rid of the estate tax are preposterous saps to the superwealthy for no other reason than to do their bidding. But “get it from the rich” can’t be the extent of every Democratic tax plan.
The statutory corporate tax rate — at 35 percent — is among the highest among advanced economies, but because of all the loopholes the effective rate is at least 10 points lower. This creates a strong incentive for special treatment, and these carve-outs are a function not of thoughtful policy but of the skills and connections of your lobbying team. There is some bipartisan consensus to lower the rate while maintaining at least revenue neutrality by closing the loopholes, but the problem is always that the lobbyists are very good at protecting their turf.
So, with those ground rules in place, and with the recognition that “we” is a tricky word in today’s polity, let’s think about what we want our tax system to accomplish.
• It must raise ample revenue for the public sector to meet the challenges that the private sector won’t address. Markets fail, and markets are incomplete. No private business will provide optimal levels of public goods and services such as education, transportation, health care and retirement security, global protection (both defense and climate), the justice system, labor and financial market oversight, and anti-poverty and countercyclical policies (not a complete list, I’m sure, but you get the idea). What that revenue level should be is of course the hard part, but let me resort to averages, which if not a systematic, bottom-up calculus, at least reveals how we’ve answered this question historically.
Since 1970, the federal revenue share of the gross domestic product has averaged 17.4 percent, ranging from around 15 to 20 percent. It’s just under 18 percent today. Congressional Budget Office analysis reveals that meeting the promises of Social Security and Medicare would require about 2.5 percentage points more than that by 2027. That takes us slightly past the upper bound of the historical record, but the extent of our aging demographics is historically unique.
In other words, revenue neutrality is an insufficient goal. Tax reform — meaning changes in revenue dictated by needs and obligations — should be revenue positive.
• We can argue whether a tax system should reduce market inequalities — based on non-merit-based inequalities embedded in the market economy, I think it should — but I know no cogent argument for why tax changes should be dis-equalizing. Yes, you still hear about “trickle-down”: give the rich a tax break and they’ll create opportunity for everyone else. But as noted, this is nothing but a fact-free rationale for regressive tax cuts. I’m probably being too optimistic, but I sense that people increasingly know this, and that the politicians who sell this snake oil are starting to sense that maybe the people are on to them.
• We want a tax code that does not distort people’s behaviors too much, although it’s easy to overdo these concerns. There are many different types of tax systems around the globe, and at the end of the day they don’t have nearly the impact on people’s willingness to work, invest, move, trade, and so on that the noise from this part of the debate would lead you to believe.
So we want a tax system that will raise ample revenue without worsening pretax inequality, in which “ample” means enough to meet the functions in the list above.
I’m sure there are readers who think that by dint of arguing for more revenue, I’ve punted on objectivity and tilted in support of more government. I disagree. Unless what you’re saying is, “No, we don’t need or want as much Social Security, Medicare, schools, roads, police, armies and so on as we already have,” you either have to agree with me or explain to me where we get the money. If your answer is cut waste, fraud, abuse and foreign aid, you’re not being serious.
If your answer is, “We can’t afford all the above and must cut them,” I disagree, but at least you’re consistent. You are, however, out of step with most Americans who want what’s on that list, and it’s very important to recognize that they’re not being unreasonable: These are things provided by governments in every advanced economy — again, for good reason. They are public goods.
I urge you to keep all this in mind during the forthcoming tax debate, although I warn you that to do so is to reveal the complete nonreality of that debate. I hope you’re not allergic to cognitive dissonance.