Congress has now enacted a large tax cut in each of the first three years of President Bush's term. Each tax cut was designed in one way or another to reduce the income tax burden on investors, corporations, and high-income taxpayers.
The Progressive Policy Institute (PPI) believes these tax changes are part of a longer-term strategy to shift the tax burden toward labor income, personal consumption, and the middle class. Therefore, the Bush tax cuts are better described as "tax shifts," from current to future taxpayers, and from businesses and high-income investors to middle-class taxpayers.
One ultimate result will likely be a reduction in progressivity. Less affluent taxpayers will shoulder a greater share of the revenue burden.
Another result will be generational: Younger working people will pay more, and older retired people will pay proportionately less.
Because financial markets, investors, and consumers expect this tax shifting, the Bush tax-and-spend program -- a massive fiscal stimulus -- has not sparked the expected economic recovery.
As a result, the Bush tax program may lead to slower economic growth than more progressive, generationally fair tax policies. For example, the progressive tax policies implemented by President George H.W. Bush in 1990 and President Clinton in 1993 controlled the deficit, raised taxes for high-earners, and sparked a period of austerity in Congress that dramatically slowed the growth of federal spending. Those policies led to more rapid growth and more equal income distribution than the current policies of President George W. Bush are likely to achieve.
None of the Bush tax cuts were "paid for" by direct, offsetting spending cuts or increases in other taxes. Therefore, they are tax shifts in the long run unless:
- They cause the economy to grow much faster than would otherwise have been the case, and therefore pay for themselves in higher tax revenues in the future;
- They indirectly pressure Congress to make future offsetting spending cuts; or
- The deficits they cause are economically and socially tolerable in the long run.
If any of these conditions were present, it would be fair to describe the Bush tax cuts as true tax cuts, and the recipients of the tax cuts would be safe to spend their windfall.
However, none of these conditions are valid in reality.
First, the Bush tax program almost certainly won't pay for itself via faster economic growth. The sheer magnitude of the revenue reduction is stunning: roughly three percent of GDP on a permanent basis. A revenue reduction of that size pumps hundreds of billions of dollars directly into the economy. The result should have been much more dramatic than it has been.
The economy, however, remains sluggish. Economic growth since the beginning of 2002 has averaged two percent, which is less than half the four percent growth that characterized the mid- and late 1990s. Bush-era economic growth has not been sufficient to prevent continued job losses.
Alternatively, if the tax cuts were designed for long-term economic growth -- not simply to pump money into the economy in the short run -- then they should have sparked a resurgence in long-term investment and boosted the stock market, which is priced based on expectations of long-run business earnings.
However, investment remains stagnant. Investors and businesses are not confident enough in the prospects for economic growth to put their funds at risk.
Second, there is no political consensus for spending reductions in the foreseeable future. Spending for defense is up. Agriculture subsidies are up. Medicare spending is poised for very rapid growth with the introduction of a drug benefit. Other entitlement spending is rising as a percentage of GDP. Domestic non-defense (non-entitlement) spending is growing at double-digit rates.
Rather than "starving the government" and forcing Congress to pursue austerity, the Bush tax program has had the opposite effect. Legislators figure there must be plenty of funds for spending increases for their favored programs and constituencies, as long as the president says there are sufficient funds for tax cuts.
So, instead of pressuring Congress to cut spending, the Bush tax program has broken the spirit of shared sacrifice that characterized past budget-cutting efforts, thereby worsening the budget picture and relaxing, not tightening, the congressional sense of fiscal discipline.
Third, the budgetary day of reckoning isn't far off. The Congressional Budget Office now estimates that the deficit will exceed $400 billion in fiscal year 2003, and PPI projects it will exceed $400 billion in 2004 as well. That is about 3.5 percent of GDP. And the deficits will grow as a percent of GDP when the baby boom generation starts to retire toward the end of this decade.
(www.cbo.gov/showdoc.cfm?index=4310&sequence=0 )
These deficits will have uncertain, but surely negative impacts on the U.S. economy. They cannot be ignored. Absent action to slow the growth of entitlement programs, dramatically reduce defense or domestic spending, or raise taxes, the deficits will reach an economically untenable percentage of GDP after 2015.
If the Bush tax program doesn't boost economic growth and isn't likely to restrain spending much, and if the future deficits it will cause have the potential for large-scale economic disruption, then taxes will surely be raised down the road. So the Bush tax cuts are actually tax shifts.
Tax Shift #1 is from the present to the future. In all likelihood, the crunch will occur around 2008 or 2009, when the first wave of baby boomer retirees is poised to swamp Medicare and Social Security.
Tax Shift #2 is less clear. However, the Bush tax program implies that the tax burden will shift from high-income taxpayers to middle-income taxpayers, and from unearned (investment and inheritance) income to labor income.
Already, Bush's program has started shifting the tax burden toward the middle class. Assuming the "sunset" provisions in the various tax laws are extended, the Tax Policy Center estimates that the overall tax burden (including income, payroll, estate, and corporate taxes) would fall by approximately 1.5 percentage points for the top 1 percent of taxpayers. Likewise, the tax burden would fall by 0.2 percentage points for the bottom 40 percent of taxpayers. However, the taxpayers making between $23,000 and $81,000 per year would shoulder an additional 0.6 percentage points of the tax burden.
(www.taxpolicycenter.org/commentary/congress/
table5_41.pdf)
The shift would be more pronounced in the future, as pressure builds to raise payroll taxes -- literally, taxes on the work of working people -- to pay for the costs of Medicare and Social Security as the baby boomers retire.
Of course, political sentiments may change. The electorate may reject the Bush tax shifts as their implications become apparent. Hopefully, that realization will come sooner rather than later, when correcting Bush's budgetary mess will be a little less disruptive.
The decisions about taxes and spending we make now will affect U.S. economic performance and living standards for generations to come. If we continue to lock-in oversized tax cuts and too-generous spending increases, our political and social systems will face tremendous strains a decade from now as we try to unwind the damage.
