Republican Splits, Fiscal Opportunity

By Simon Johnson

An informative and potentially productive political debate has broken out over fiscal policy.  Ironically, this is not between Democrats and Republicans – the leadership on both sides of the aisle is trying hard to agree that a moderate stimulus is worth increasing the national debt by nearly $900 billion.  And the new debate is not particularly due to the Bowles-Simpson bipartisan commission or other serious efforts to put the real math on the table; those technical discussions have so far been brushed aside.

Rather the intensifying and illuminating debate is within the Republican Party – particularly between people who are reasonably presumed interested in running for the presidency in 2012. 

On the one hand, there are those such as Newt Gingrich and Mike Huckabee, who are in favor of the tax deal currently on the table.  This seems to be where most of the Republican mainstream is.  On the other hand, Sarah Palin and Mitt Romney have come out strongly against the proposal.

On the merits of the economic argument – within the terms of reference laid down by Republicans themselves – Romney and Palin have the advantage.  The House Republican Pledge to America, after all, said clearly and forcefully, “We will put government on a path to a balanced budget and pay down the debt.”  This is hardly where the latest fiscal stimulus is leading, including with pork barrel measures that the Republicans just spent months saying they would never pass.

Of course, this really this is all about politics.  Romney and Palin are betting that unemployment will still be over 9 percent in 2012 (at least during the primaries) and anyone who supports any kind of stimulus now can be represented as a partial owner of that continuing human recession.  Gingrich and Huckabee are betting that a broader economic recovery will be underway, so they can say: the 2009 Democratic stimulus didn’t work, but the 2011 Republican-led tax cut package made all the difference.

Who is making the right judgment?  The Barney Frank Principle will be in effect – Frank is famous for emphasizing that voters never judge politicians relative to some hypothetical, but rather on the basis of how badly they dislike the actual outcome.

Still there is a big opportunity lurking here for the Democrats.  The president owns the recession and its aftermath, whether or not you (or he) think that is fair.  The tax deal with the Republicans may bring on board some unlikely co-owners, but it doesn’t much diminish Mr. Obama’s vulnerability in the general election.

But the White House can still get ahead of events by setting up a Tax Commission, to be directed by Alice Rivlin.  This should not be another attempt to build bipartisan consensus – as we can see from recent events, there is no way this would lead in a responsible direction.  Rather Rivlin, a former Congressional Budget Office director who is immensely sensible and respected across the political spectrum, should be empowered to come up with sweeping tax code changes that would reduce rates, lower complexity, and – here’s the point – raise revenue.

The economic opportunity here is that the US tax code is a complete mess.  Sensible reform would reduce distortions while also increasing revenues.  Rivlin has already made some reasonable proposals in this direction, but she needs the political authority to go further.

The weakness in the Palin-Gingrich position is that while they want to balance the budget, they want to do so primarily by cutting spending.  This is very difficult to do, as most of the spending issues over the next 30 years are about Social Security (a little) and Medicare (a lot); see this primer.

Cutting or limiting nonmilitary discretionary spending may play well with voters but it is simply not big enough to make that much difference.  If Palin and Gingrich are willing to put military spending on the table, that would help, but this is fast becoming a taboo subject for all Republicans.

Most of all, the Republican side of the aisle is against increasing federal government revenue (as a percent of GDP) under any circumstances.  This is not a strong position because how much revenue you want to raise should depend on what it costs (due to the distorting effects of taxes) and how you will use it – for example, as more people retire, do you really want to cut average pensions in real terms?

The Rivlin Commission would at least be insurance against the downside scenario – that we face a serious fiscal crisis, with sharply rising interest rates, at some point in late 2011 or early 2012.  This could very well happen as the eurozone is likely to sort out its problems – serious but not insuperable – over this time frame.  Our underlying fiscal position is no stronger than European countries now under pressure and our ability to make effective fiscal adjustments under pressure is just as likely to be tested (and initially found wanting) by financial markets.

Both Republican factions might not worry too much about a perceived fiscal crisis in the run-up to 2012.  This would let them play to their themes of “we must cut spending,” and a major lesson from the current eurozone debacle is that crises do lead to big spending cuts – whether or not those make sense from a longer term productivity and fairness point of view.  (In this regard, consider Congressman Brad Miller’s important points on Social Security.

Rivlin-type proposals would give the president a powerful counterweapon.  Instead of “just cut spending” as the response to rising long-term interest rates, he could present a menu of sensible comprehensive tax reform steps.  Then the 2012 presidential campaign could, in part, be about the extent to which people would like to (a) cut Social Security, or (b) reform the tax code.

And, hopefully, if we are really having an adult conversation at that time, let’s hope that both sides agree on the need to control future increases in heathcare costs – as reflected in Medicare and Medicaid, but also more broadly.  Without that, we are bankrupt in any case.

An edited version of this post appeared this morning in the NYT.com’s Economix blog; it is used here with permission.  If you would like to reproduce the entire article, please contact the New York Times.

33 responses to “Republican Splits, Fiscal Opportunity

  1. Jonathan V. Porcelli

    Mr Simon,

    One change I would advocate for, is that I have long thought one of the issues with how our tax code is perceived by individuals, is the fact that workers are told what their supposed gross pay is rather than their take home pay. This creates the problem of the perception of the government “stealing” their money versus a fee paid by their company pays to the government.

    In Europe people refer to their salary as what they take home each month such as 2400 euros, or 1500 euros. They do not discuss what they are “Taxed” because it is irrelevant and is a business matter for their company, not themselves. This also makes for budgeting your expenses simpler as you are not confused by what you perceive you should be taking home.

    From this you will notice the arguments in Europe are not about high tax rates, but about reduced services, while here in the US, we argue about tax rates, and not services.

  2. You can’t expect today’s politicians to worry too much about a deficit problem that doesn’t really get going for another 10 years.

    The Republican party is currently composed of the ******* insane, and their only political interest, beyond helping the rich to get richer, is to keep the misery going through 2012.

    We’d all like a well respected czar to wave a magic wand, but these are political decisions and the country remains deeply divided.

    Most of the deficits to come are connected to health care costs. If the US paid what every other developed country pays for health care, we’d have surpluses as far as the eye can see.

    What’s really troubling at the moment is the refusal of both parties to do anything serious about unemployment: there are 25 million Americans without work. Get these people productively back into the economy and we can avoid the lost decade to come.

  3. Gorilla Meek,
    You forgot the GOP vision for everyone. I’m convinced that the GOP vision for American employment is that everyone is running a small business where 80% of the labor is outsourced to China, with some of the high-tech labor (think lawyers, engineering design, managers of Chinese workers) is kept in America. If you aren’t in one of these jobs you’re a loser, and you have no right to a job. Losers are public employees (with the exception of Congress and their staff) who are a drain on the country.

  4. Bowles-Simpson bipartisan commission or other serious efforts to put the real math on the table

    ?!

    Or did you mean the real math of class war robbery at its most vicious, short of open violence?

    Oh, I see – “serious efforts” – as in from Very Serious People. Like here:

    ..if we are really having an adult conversation at that time

    Yes, we know that code. Boy, this stupid peasant democracy concept is becoming more and more irritating and inconvenient all the time for these criminals, isn’t it?

  5. alice rivlin is popular

    with pete domenici chairing a debt reduction task force

    obama appointment to bowles-simpson commission

    author of minority report from bowles-simpson commission advocating “payroll tax holiday”

    what’s going on

  6. “And, hopefully, if we are really having an adult conversation at that time, let’s hope that both sides agree on the need to control future increases in heathcare costs – as reflected in Medicare and Medicaid, but also more broadly. Without that, we are bankrupt in any case.”

    An ‘adult’ conversation would seem to mean one you agree with, Mr Johnson? One that transcends ‘conventional wisdom’ I presume? Given the greatest robbery in human history has led to the greatest socialised debt in history, I see no political legitimacy for making cuts to medicare, medicaid, social security, or any other so-called parasitical entitlement program. What I do see as perfectly legitimate involves much bloodshed and the sort of change the people really CAN believe in. Did I miss the part where you mention controlling military spending? Just a childish observation, apparently. This nation has been morally bankrupt for a long time, and that is what has caused its fiscal bankruptcy, NOT medicare, medicaid, and social security.

  7. You forgot about the DOD and Homeland Security, but maybe they can outsource that to private security firms with good connections in high places.

  8. excellent suggestion but Alice Rivlin is not only a flaming socialist (according to Tea Party sources) but a woman and it’s a truth universally acknowledged that they just don’t have a head for figures. So it should be someone with the interests of the country at heart. I understand Jack Abramoff is currently available http://www.washingtonpost.com/wp-dyn/content/article/2010/12/14/AR2010121403028.html

  9. Bruce E. Woych

    “…Who is making the right judgment? The Barney Frank Principle will be in effect –…”

    Simon: don’t you mean the “…RUBE GOLDBERG Principle will be in effect…”

    Between Bailouts, sellouts, shoutouts, burnouts spillovers, bustouts and finally just to throw-it-out, we are at a new level of lexicon economics that circulates “rhetoric” as the common currency of economic factoids and meaning. After policy positions, permissions, promissory commissions and finally extra-ordinary renditions…, we are left with the three ring circus of circularity and the ritual progressive regression of political circuitry.

    One question though. Does your mention of “discretionary spending” (that’s a foreign term isn’t it?) imply that there is alternative “indiscrete spending in these policy driven budgets? Ultimately are we not seeing policy proposals that will end up Too Big to Bail (TBTB)? You don’t have to answer, of course, It has all been “…clearly and forcefully…explained.

  10. Blunt Instrument

    Mr. Porcelli,

    Quite right. Why should workers be told the total amount of compensation that they are exchanging for their labors? Why should it be any of their business how much of their labor is expended for the benefit of society instead of themselves?

    In fact, I think we should extend it to all walks of life. Doctors should no longer be required to tell patients of their diseases; only of the treatments. The nature of the disease is a matter for the doctor and the disease. This way, the patient won’t be needlessly worried about the particulars of their illness and won’t spend anxious hours on the internet trying to second guess the doctor. Additionally, the disease (be it bacterial or viral) is actually not originally of them. They have no right to discover the nature of this foreign being that is only pasing time in their corporeal space before it moves on to a different host.

    arguments in Europe are not about high tax rates, but about reduced services
    Because they do not understand that they are paying for the services by taking reduced pay. They think that the services get paid out of company profits; they are wrong. If competing companies pay the same rates, then there is no adverse problem with extracting those rates from employee wages versus profits. Your solution does not address the problem, it just provides an “opiate for the masses”, i.e ‘Let them blame nasty corporations for reduced services, not government for making promises to be fulfilled from someone elses bank account.’

  11. Jonathan V. Porcelli

    Hey Blunt,

    Thanks for keeping things civil.

  12. Jonathan V. Porcelli

    Nothing I suggested says workers could not still bargain for the highest amount they can get from their employers. I provided an idea for helping simplify taxes and how they are perceived. But your knee jerk reaction implies you are not here to read or learn or think about the problems in different ways them someone else told you to think.

  13. Blunt Instrument

    I provided an idea for helping simplify taxes and how they are perceived.

    I don’t object to simplification of taxes and how they are percived. I object to two of your statements because I inferred that they would lead to a deliberate misperception about taxes.

    Specifically, your comment problem of the perception of the government “stealing” their money versus a fee paid by their company pays to the government. suggests that the fee paid by the company is somehow divorced from the income of the employee. It is not. Your ‘solution’ therefore changes the perception from “government takes our money” to “selfish corporations are paying too little in fees.” The reality is that the second paradigm masks the origin of the money.

    Similarly, that the arguments in Europe are not about high tax rates, but about reduced services further informs us of the misperception. Workers concerns about reduced services belies their misconception that the cost of these services are paid by someone else.

    Your comments imply that your suggestion was meant to deceive workers about the true nature of taxes. This I cannot abide.

    The suggestion actually has some benefits. Since workers do not know their total (gross)rate of compensation, increases in taxes would result in less actual (net) compensation. In other words, their pay (what they consider their actual compensation) would fall. Because total (gross) compensation can rise even when taxes rise and reduce actual (net) compensation, we can be sated that our “salaries” are rising even when we have less in our pockets. If there is no total compensation to give us an ego offset to the decline in actual compensation, your plan might actually result in more backlash against tax increases.

  14. Blunt Instrument

    what they are “Taxed”… is irrelevant and is a business matter for their company, not themselves.

    It is not irrelevant. It is not a business matter for their company. What they are “taxed” reduces their take-home pay. Ultimately, decisions about spending the money will be vested with others, not with them.

    Yours is a path to larger and more powerful government. I will always object to giving corrupt politician more bullets and shackles with which to enslave us.

  15. Blunt Instrument

    But your knee jerk reaction implies you are not here to read or learn or think about the problems in different ways them someone else told you to think.

    Thanks, Jonathan, for keeping the discussion to the merits of your argument and not stooping to ad hominem attacks.

  16. Jonathan V. Porcelli

    Blunt,
    The libertarian in me says, I just want to know what I am going to take home each week, month or year. Simple.

    So we can argue about what taxes are and the size of government, but in a truly free market, wouldn’t I ask for exactly what I want to take home each month and thats it?

  17. Jonathan V. Porcelli

    Blunt,
    The libertarian in me says, I just want to know what I am going to take home each week, month or year. Simple.

    So we can argue about what taxes are and the size of government, but in a truly free market, wouldn’t I ask for exactly what I want to take home each month and thats it?

  18. Blunt Instrument

    @Jonathan,

    I think that deliberate deceit runs counter to liberty. Free markets require transparency to be efficient. Your suggestion makes one market specifically opaque.

    I don’t necessarily quarrel with your suggestion. I quarrel with the stated and implied REASONS for your suggestion. By not informing the workers about how much of their compensation is paid to the government, it masks the true source of government funds.

    I prefer simplicity; but I prefer honesty more.

  19. Jonathan V. Porcelli

    Our relationship to something changes how we look at it and for me and my experiences, I thought this was something to consider.

    If this is a covert way of ceding power to government is news to me and I am open to understanding why that may be true.

    But I can’t believe that if everyone was an independent actor asking for what their take home pay was instead of their pre-tax pay, how that might impact everyones role in the system.

    Our checks could still show the taxes paid on our behalf, but it would be perceived differently because you’d be taking home what you asked for. This, in theory, reduces uncertainty and increases transparency.

    I am not an ideologue, I appreciate the complexity of our world today. It very well may be a stupid idea for reasons I haven’t thought of, but the current system of being told you will be paid X and then receive Y creates cognitive dissonance for people, even when they may be paying low taxes.

  20. “…if we are really having an adult conversation at that time…”

    Hahahahah, now that’s the most wishful thinking I’ve heard yet on this blog.

    There will be no adult conversations so long as right wing pundits continue to get high ratings for sitting up on the TV and spitting copious servings of vitriol down on their entranced audience. There will be no adult conversations so long as the Democrats continue to state their position then say “Oh I didn’t really mean that anyway.” the moment a Republican says “I disagree.” There will be no adult conversations so long as corporatism and regulatory capture are the primary movers of government policy and public opinion.

    I see none of those things changing. Ever. Not until complete social disorder and chaos simply crush the current establishment out of existence by sweeping its legs out from under it.

  21. Ironically it’s the godless, gunless socialist countries taking to the streets in protest of their governments while god-fearing, gun bearing Americans, blog.

  22. Rivlin’s plan is regressive and should be opposed by any party truly representing the majority. What theory supports the proposition that top level income tax rates should be lowered and essentially financed by regressive consumption taxes?

    Is this what you call an adult conversation?

    Jim

    http://commentsongpe.wordpress.com

  23. Blunt Instrument

    if this is a covert way of ceding power to government is news to me and I am open to understanding why that may be true.

    Your original argument contains the seeds for this:
    “workers are told what their supposed gross pay is rather than their take home pay” You don’t want them to be “told.” You want to keep it from them. If they are not told how much of their paycheck is going to fund the government, then the government is spending someone else’s money. This creates bigger and bigger government. Read this for a primer on how and why this is a problem.

    Our checks could still show the taxes paid on our behalf,
    But it’s not OUR money, is it. That is the problem. Do you regularly inspect your paystub to see the “taxes paid on your behalf by your employer?” No. Neither do I. But I know (roughly) the percentage that I lose each week because I can do the math and estimate how much it is less than my “salary.” Therefore, I have a “feel” for how much taxes affect me. Without this feedback mechanism, there are few real checks on the power to tax.

    This, in theory, reduces uncertainty and increases transparency.
    How can it possibly increase transparency if we are deliberately misled about our salaries being reduced by taxes?

    Look, I am not a hard-core libertarian who believes in minimal government and practically no taxes. I recognize the necessity of government and our responsibility to support it. But power and money corrupt even good men. Money = Power. The more money congress has to spend, the more power they exercise over our lives and the more corrupt they become. It is inevitable. It is humanity. Our only recourse is to keep the power (money) distributed so that it can not be concentrated in small entities. Our current system is rigged to concentrate wealth and power. This greatly affects our freedoms. I cannot abide anything that would lead to greater concentration of power in congress. If you are truly a libertarian, like you say, you would understand the danger inherent in your suggestion.

    I am not an ideologue
    Good. Neither am I, except when it comes to an extreme distrust of the concentration of power.

  24. Bruce E. Woych

    * http://aolsearcht10.search.aol.com/aol/search?invocationType=webmail-hawaii1-standardaol&query=The%20Tinkerbell%20Effect
    *
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    An experiment shows that this ‘Tinkerbell effect’ is a good example of a …. this phenomenon as the Tinkerbell effect. In the stage version of Peter Pan, a …

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    *
    The Tinkerbell Effect – The New Science of Wishful Thinking

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  25. Bayard Waterbury

    Actually, Simon, you are posing the alternative outcomes as unemployment stays high, or, the economy improves (with unemployment going down). The reason why the Dems will hold their noses and pass this is that they believe that it represents a stimulus AND certain tax and other needed relief to their constituants. Sadly, while it may act somewhat as stimulative, the stimulus won’t be nearly enough to overcome the lethargetic economic profile of this country as of this moment. The Republicans again prove that they deceive themselves (if they speak honestly) that a tax cut for the wealthy (they say small business, but we all know that’s not true, since only about 10% of small business owners have income to qualify for the top tier), will assist in the economic recovery. Meanwhile for a .32% affect of each tax discounted dollar, they shun the irresponsibility of adding a huge amount more debt to the escalation of what we already have.

    By the way, Simon, Social Security, as much as the Republicans would like it to be, is not actually a spending item, or certainly not a budget spending item, since its funding is entirely external to the budget.

    You say that addressing the deficit and debt problems are difficult if one only talks about budget reductiona. Since truly discretionary spending is actually only a small fraction of the Federal budget, this is somewhat disingenuous. Dealing the the deficit MUST be done by a combination of taxation and budget management. The only possible way to contain things only be budget management would be to cut military spending massively. The debt commission suggested a 10% reduction in Military spending, but that’s not nearly enough.

    Anyway, I completely agree that the “Rivlin Commission”, if given any real authority, could be a big step in getting the revenues controlled properly. The US Tax Code is possibly the most complex law in human history, and, until about 90% of gutted, we can’t effectively tax in any meaningful way without harming those who don’t have the earnings and wherewithal to take advantage of 22,000 pages of details and loopholes.

  26. Tax codes are made to be exploited. Simplifying the tax code has been tried before and it doesn’t work. For every wealthy tax payer or corporation there are 1000 accountants finding new ways for their clients to avoid paying taxes. Frankly, I don’t trust the man who just enshrined Bush economics into law to protect my interests in an “adult” conversation about taxes.

  27. Effective fiscal reform would of course be what most economists would recommend, concentrating on tax efficiency, sufficient revenue for widely supported expenditure and a lot of care for externalities.

    In a benevolent dictatorship those economists maight have an audience. However, that is not what the US is. In fact it is very far removed from something where benevolent rulers, technocrats etc, insulated from predatory politicians, do the right thing . As Simon mentions, the EU may be more able to do the sort of things its technocrats deem necessary, and maybe there will be a problem down the road. We have been there before, during the Carter administration and along came much denigrated politicias and economists led by a former actor who changed the path. Palin (may the Force be with her) may be not as gifted as President Reagan, but who knows, she may be the only one to create the illusion of government and authority in this ungovernable country, for a while.

  28. @ marc sobel___You had to mention Jack (Jeb Bush’s buddy?) Abramoff. Incidentially here’s another infamous fellow associate that did little time served for destroying Wall Street (Den of Theives’ fame/ co-conspirator Ivan Boesky) – the honorable Mike Milkin? The guys on CNBC every other day as if he’s a hero. He’s a scum bag that shouldn’t be allowed to step on Wall Sreet/Broad Street, Period! The guy was banned from trading for life, but he’s found religion like Jack the “Arab”? His unseemly organization that boast…”showing foreigner’s the ropes of Int’l trade”, an open affront to home-grown american entrepreneurs, period! What’s wrong with this countries backbone to back-up their “Laws”! These “Two Goodfellow’s belong behind bars with Maddoff,…sickening.

  29. Obama will break every promise ever made, and look you straight in the eye – repeat after me – it’s an unselfish act we all must, come too *”Term’s”* with in order for “Our/My Country” to move foward?
    “Yes I can” – believe in “Change”?
    PS. As Rahm baby build’s the Chicago fortress out of site…out of mind?
    Thankyou Simon, and James…and grats on the “Paperback”:-)

  30. I object also to corrupt and greedy corporate officials having more shackles with which to enslave us. At this time I consider that to be a much bigger danger.

  31. Simon is every which way but right in this post. But what can you expect from someone who worked for the IMF and the Peter G. Peterson Institute?

  32. Mssrs Porcelli and Blunt,

    I am European and we do know how much we earn and how much taxes we have to pay. As a matter of fact it is law that all tax deductions which are calculated and deducted in you employer’s office are printed on your monthly “wage sheet”. Means: European employees receive a “wage sheet” every month which tells

    a) the wage
    b) the deductions: income tax, social security, church tax (optional, self-admitted believers only, can be cancelled)
    c) benefits and pension schemes
    d) working hours (of that particular month, national holidays and days missed due to illness of employee are deducted)

    Nevertheless Europeans know that tax cuts do lead to deductions in all services provided by the government:
    – infrastrukture (streets, airports, ports etc)
    – police, criminal police, law courts
    – social security
    – health
    – education (most schools and universities are state funded and very good), libraries, sciences

    We do like good quality in these state-provided services. Therefore tax cuts are not that popular over here.
    But this perception is also based on another notion:
    Europeans consider their government to be our servant. We expect them to act in OUR interest and that is what we are paying them for. Don’t get me wrong as we do know that our governments often act corrupt. But the general attitude is that the government works for us.
    In contrast to this European attitude US-americans seem to regard their own elected governments as their enemy who tries to fraud them. This is quite funny because you have elected the very same politicians whom you don’t trust a few weeks later. Maybe the rest of the world shouldn’t trust into US-american politicians either because if even their own voters don’t trust in them why should we?

    I do partly attribute this different perception to the “tabloidisation” of the US-american news and media business. This can easily be understood by examining how Obama’s reforms were narrated in the media. The media generally bashed all of Obama’s reforms although many of the very same media’s customers did very much profit from Obama’s reforms especially the social health reforms. In short: Obama got bashed for being a decent politician and helping those who are not obscenely wealthy.

    European media is not getting better either but they are generally neither that demagogic and tabloid nor that monopolistic (less Murdoch).

    Best wishes