Friday, September 30, 2011

Hard Problems Lack Simple Solutions

Well, the title says it all, doesn't it?

Almost everyone thinks that the annual deficits in the U.S. have reached alarming levels. Even worse than the $1 trillion+ deficits as far as the eye can see are the liabilities - off-the-books as far as the deficit is concerned, an accounting sleight-of-hand that only a government could get away with - of various social programs, especially Medicare but also including Social Security.

The Pollyanna-ish view is that we don't have a spending problem, we have a revenue problem. Or, to put it another way, we don't tax enough. If we just tax the rich - sometimes expressed as "making the rich pay their fair share" - we can go on spending on everything from universal health care to foreign military adventures to...well, cowboy poetry festivals.

The harsh reality is that there just aren't enough rich people - truly rich people - to make the numbers work. The middle class is where the money is. And it should come as no surprise that politicians of all persuasions find it a good idea to pander to the middle class - that large group of voters who will make or break a career in politics.

While President Obama likes to talk about ending tax breaks for "millionaires and billionaires," the fine print always mentions a $200,000 annual income for individuals and $250,000 for households as the dividing line between "millionaires" and the rest of us.

Sunday's Washington Post had two pieces that put the problem in perspective. The first, an op-ed in the business section by Fiscal Times columnist Karen Hube, noted that some of the truly rich people, Warren Buffett most notably, complain that they are not taxed enough. Buffett recently said that his average tax rate was lower than the administrators in his office, and that this wasn't "fair." Well, fair or not, the President's most recent tax plan, er, "jobs bill" does little to address this imbalance. The President's bill would limit deductions for mortgage interest, charitable donations, and state and local taxes, but, Hube notes, this would do little to affect taxes paid by the truly rich.

The Obama proposal doesn’t address the major reason for the kind of tax inequity that exists between Buffet and his secretary: the preferential tax treatment of capital gains and dividends. The tax rate on dividends and long term capital gains is 15 percent, while the top income tax rate is 35 percent.

The super-wealthy can easily cut their effective tax rates to half of the 35 percent income tax rate by drawing modest incomes and using their long-term gains to live on, according to [director of federal tax at the Center for Budget and Policiy Priorities Chuck] Marr.

At the same time, this article in the Post notes that the big winners in the tax break sweepstakes have been the middle class.

The number of tax breaks has nearly doubled since the last major tax overhaul 25 years ago, with lawmakers adding new benefits for children, college tuition, retirement savings and investment. At the same time, some long-standing breaks have exploded in value, such as the deduction for mortgage interest and the tax-free treatment of health-insurance premiums paid by employers....

Only about 8 percent of those benefits went to corporations. (The write-off for corporate jets equals about .03 percent of the total.) The bulk went to private households, primarily upper-middle-class families that Obama has vowed to protect from new taxes.

“The big money is in the middle-class subsidies,” said Syracuse University economist Leonard Burman, former director of the nonpartisan Tax Policy Center. “You’re not going to balance the budget by eliminating ethanol credits. You have to go after things that really matter to a lot of people.”

These tax breaks weave an invisible web of government benefits that now costs nearly as much as the Pentagon and all other federal agencies combined.

Not surprisingly, polls have shown that the vast majority of voters don't want their Social Security benefits cut, don't want changes in Medicare, don't want to pay higher taxes, and really like their tax breaks. It's easy to vote a tax cut, or a benefit increase, or a new spending program, but nearly impossible to raise taxes, cut benefits, or eliminate programs.

For those inclined to blame the Bush administration for such things, the Post provides a great deal of support.

The biggest culprit, by far, has been an erosion of tax revenue triggered largely by two recessions and multiple rounds of tax cuts. Together, the economy and the tax bills enacted under former president George W. Bush, and to a lesser extent by President Obama, wiped out $6.3 trillion in anticipated revenue. That’s nearly half of the $12.7 trillion swing from projected surpluses to real debt. Federal tax collections now stand at their lowest level as a percentage of the economy in 60 years.

Big-ticket spending initiated by the Bush administration accounts for 12 percent of the shift. The Iraq and Afghanistan wars have added $1.3 trillion in new borrowing. A new prescription drug benefit for Medicare recipients contributed another $272 billion....

Obama’s 2009 economic stimulus, a favorite target of Republicans who blame Democrats for the mounting debt, has added $719 billion — 6 percent of the total shift, according to the new analysis of CBO data by the nonprofit Pew Fiscal Analysis Initiative. All told, Obama-era choices account for about $1.7 trillion in new debt [albeit over three years, rather than eight], according to a separate Washington Post analysis of CBO data over the past decade. Bush-era policies, meanwhile, account for more than $7 trillion and are a major contributor to the trillion-dollar annual budget deficits that are dominating the political debate.

(One could certainly quibble about the Post's article. National Review's Jim Geraghty notes that the Bush years raised the debt by $4.9 trillion over eight years, while the debt under Obama increased by $3.6 trillion in 27 months. I'm not pointing fingers here, and there's plenty of blame to go around, including both Republican- and Democratic-controlled Congresses.)

The amounts are staggering, and's not too late to change course. Politicians need to step up to the plate and acknowledge that the promises made aren't feasible. Doing is soon is important, though. Wait too long and, rather than enjoying 90% of benefits, we'll be making do with 50%.

Of course, part of the problem is that most people have high discount rates; that is, they weigh future consumption much less than consumption today. It's why savings rates are too low, and it's why few people are interested in paying more today for retirement years from now (or paying the same today for less of a retirement years from now). Worse, they think the problem will not be their problem, but will belong to a future generation. Why so many people are interested in consuming their children's and grandchildren's income is beyond me.

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