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The case for a temporary extension of all the Bush tax cuts

Mark Zandi argues that "the prudent middle ground [on the Bush tax cuts] would be to forestall any tax increases in 2011 and to phase in higher rates on upper-income households in 2012, when the economy will be on firmer ground." Here's why:

In most times, raising taxes on the wealthy by such a modest amount has had little impact on the economy. But these aren’t most times. The well-to-do appear unusually sensitive to changes in their finances, probably because their nest eggs are significantly smaller with the drop in stock and housing prices. Only the top 3 percent of households would have to pay higher taxes if the president got his way, but this rarefied group currently accounts for a fourth of consumer spending. If they pull back, even a bit, the recovery could be derailed.

Successful small-business owners, who power the nation’s job-creation machinery, make up one-third of these high-income taxpayers. They have set up their businesses so that their profits are taxed at personal rates. Raising marginal tax rates, even a little, on those who have suffered during the past several years would be a mistake.

Some people make a more nuanced argument that higher taxes on the wealthy could pay for additional economic stimulus — like a bigger job tax credit or resurrected 1930s-style work programs. This view has theoretical merit — some of my own analysis has been used to support it — but it is asking too much of our political system now to get it just right. I’m skeptical that a politicized Congress would be able to pull it off, and failure to do so would leave us next year with higher taxes and a hobbled recovery.

By Ezra Klein  |  August 17, 2010; 10:58 AM ET
Categories:  Taxes  
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Comments

"Successful small-business owners, who power the nation’s job-creation machinery, make up one-third of these high-income taxpayers. They have set up their businesses so that their profits are taxed at personal rates."


Wait a minute. Aren't we told incessantly around here that the fact that small businesses aren't hiring because of burdensome taxes (or fear of burdensome taxes) is a red herring?

Well, which is it?

Posted by: visionbrkr | August 17, 2010 11:17 AM | Report abuse

"Some people make a more nuanced argument that higher taxes on the wealthy could pay for additional economic stimulus — like a bigger job tax credit or resurrected 1930s-style work programs. This view has theoretical merit — some of my own analysis has been used to support it — but it is asking too much of our political system now to get it just right."

This part of Zandi's argument seems a little strange.

He concedes that an alternative approach has merit, but concludes that "it is asking too much" of current Congress to get it "just right", so evidently it is better to do nothing at all and simply kick the can down the road for a few years, despite lost the lost opportunity to direct further revenue toward recovery and/or lowering the deficit.

I can't see that it is "asking too much" to aim for the best alternative. And if we applied Zandi's "just right" logic across the board, I don't know when we would ever ask our Congress to do anything at all.

Posted by: Patrick_M | August 17, 2010 11:17 AM | Report abuse

"They have set up their businesses so that their profits are taxed at personal rates. Raising marginal tax rates, even a little, on those who have SUFFERED (my emphasis) during the past several years would be a mistake"

Ah yes, it truly is the top 2% that have 'suffered' in recent years!

BTW, until recently the argument against raising the rates for the upper two brackets has been that it will stifle job creation to raise taxes on these valiant 'small businessmen' (who are overwhelmingly doctors and lawyers, I believe.) However, that argument never made much sense, since the issue was taxes on the personal income they made from the business, and money invested to create new jobs would be deductible as a business expense, and therefore not subject to tax. However, now Zandi seems to be pivoting, arguing that the economy can't survive unless the top 2% feel secure enough to go a a personal consumption spending binge and buy a boatload of stuff that (almost by definition) they don't need. I have yet to hear a cogent argument as to why spending on consumer cr_p is supposedly so much more 'stimulative' than spending on desperately needed public goods.

Posted by: guesswhosue | August 17, 2010 11:30 AM | Report abuse

Zandi's argument has SOME merit, but almost zero merit for people in the top-most tax bracket (taxable incomes over $384,000 after deductions). For those who are one bracket below that level and facing a tax hike ($250,000 to $384,000), I do see how many--primarily those living in NYC, SF, Chicago, or another high-priced city--might reduce spending somewhat because their marginal rate is going back up and their real estate and stock market investments already have been hit hard.

Posted by: pjro | August 17, 2010 11:31 AM | Report abuse

This group accounts for 1/4 of consumer spending? What in the world are they buying?

Posted by: RedBird27 | August 17, 2010 11:38 AM | Report abuse

"Only the top 3 percent of households would have to pay higher taxes if the president got his way, but this rarefied group currently accounts for a fourth of consumer spending. If they pull back, even a bit, the recovery could be derailed.

Successful small-business owners, who power the nation’s job-creation machinery, make up one-third of these high-income taxpayers. They have set up their businesses so that their profits are taxed at personal rates."

I see some flaws in this analysis: firstly, the top 3% will not increase their spending, and any benefit they get will not translate into more spending. It seems to me that the better alternative is to let the cuts expire (as the Republicans and apparently God wanted them, since they consult with each other so often), but also give tax credits to any small business that creates permanent positions. That money will be spent much faster, and with greater assurance, than any tax cut.

Posted by: AMviennaVA | August 17, 2010 11:40 AM | Report abuse

RedBird27 @ August 17, 2010 11:38 AM wrote "This group accounts for 1/4 of consumer spending? What in the world are they buying?"

All the latest toys imported by our high tech companies.

Posted by: AMviennaVA | August 17, 2010 11:45 AM | Report abuse

Feh.

Posted by: JJenkins2 | August 17, 2010 11:48 AM | Report abuse

"Aren't we told incessantly around here that the fact that small businesses aren't hiring because of burdensome taxes (or fear of burdensome taxes) is a red herring?"

The 'burdensome taxes' is certainly wrong; we have the lowest rates in the past 100 years and one of the worst job markets.

But 'fear of burdensome taxes' is sort of accurate; many businesses are holding off hiring and growth and will continue to do so until the rates go up.

What isn't clear is why we would want to delay hirings and growth for an extra year or two.

Posted by: eggnogfool | August 17, 2010 11:59 AM | Report abuse

Ezra I believe you are forgetting the most poignant part of Zandi commentary when Zandi discusses the theoretical merits of using proceeds of tax on rich people for stimulus purposes (basically redistribution). He flatly says that he does not have any confidence that Congress can pull off that. It is a severe indictment of Dems and Congress in general (and participation of Obama White House to the whole 'harakiri' of government intervention philosophy). Not that it is anything different than what Tea Party and GOP are saying here.

Take for example house purchase tax credits which expired recently. Builders continued to build new houses to cater that demand and they are over shooting which means lot of oversupply of houses. The right thing to do was not to give that credit, but use that money for infrastructure (apart from tax cuts which were there in any case).

That is the point even Jeffrey Sach is making too i.e. this White House is guilty of not being 'creative' in devising stimulus and which dovetails with the well know inability of Congress to 'intervene' in any smart way.

If substantial money had gone into infrastructure, the opposition to government intervention would have been less since improvements were there for everyone to see and share. Just because such projects have long gestation period, this approach was curtailed with the assumption that recovery would come by now. That was a faulty assumption. Infrastructure projects would have kicked by now and possibly we would not have the slow down danger we face today.

Posted by: umesh409 | August 17, 2010 12:00 PM | Report abuse

Ezra, What's it like being a shill for corrupt politicians?

Posted by: soma_king | August 17, 2010 12:00 PM | Report abuse

When I say Ezra you are forgetting 'that' part, I mean to say you are not discussing it more, not elaborating more; but simply quoting it.

Posted by: umesh409 | August 17, 2010 12:02 PM | Report abuse

The very small effect of ending the tax cut for the wealthy could be more than offset by spending the money on job creation.

Posted by: bakho | August 17, 2010 12:04 PM | Report abuse

"...What isn't clear is why we would want to delay hirings and growth for an extra year or two."

Agreed.

Anyone who is a believer that the economy is being held back by business "uncertainty" about future government policy cannot logically also advocate for a temporary across-the-board extension of the tax cuts. Doing so would only prolong whatever uncertainty currently restrains economic expansion and job growth.

Posted by: Patrick_M | August 17, 2010 12:09 PM | Report abuse

From the comments, I understand that Zandi is "good" when he demonstrates the stimulus value of various social programs (food stamps, etc.) favored by one political party, but is "bad" when he advocates a course of action not favored by that same party.

Typical.

Posted by: rmgregory | August 17, 2010 12:23 PM | Report abuse

If you're going to raise rates, just raise them. The economic literature is full of warnings regarding the general ineffectiveness of temporary policies. Concern about tax rate hikes now is probably just as bad as actually having higher tax rates - might as well cut the deficit while we're at it. As an aside, anything you think is bad in 2011 will be just as bad in 2012. We will not be anywhere near full employment in 2012.

"This group accounts for 1/4 of consumer spending? What in the world are they buying?"

RedBird27,

www.howtospendit.com

"I see some flaws in this analysis: firstly, the top 3% will not increase their spending, and any benefit they get will not translate into more spending."

AMviennaVA,

We're not talking about providing a new benefit. The issue is whether we should reduce the after-tax incomes of those with high incomes or not. In all probability, spending will fall as after-tax income falls. Not that this is necessarily a bad thing, as money doesn't disappear when saved.

Posted by: justin84 | August 17, 2010 12:33 PM | Report abuse

@rmgregory

As you say, he "demonstrated" the stimulus value of those programs, and as you say he is now "advocating" a certain course of action (without demonstrating any particular value to it).

It's not clear to me why it is a bad thing for someone to "typically" be convinced by arguments that are supported and demonstrated by facts and not automatically convinced by ideas that are not supported or demonstrated by facts.

Posted by: eggnogfool | August 17, 2010 12:44 PM | Report abuse

I'm not persuaded by his statement of the risks associated with not getting a tax increase just right. Not that I'm crazy about Robert Rubin, either, but I did note this:
""I would put an estate tax in place right now, immediately, because we have no estate tax right now. There is no supply side effect in having an estate tax. And we should fill that void. Number two, I would increase the tax on the higher brackets, those top two brackets, and bring them back up to the Clinton rate. I believe there's no supply side effect there. We did it in 1993 people said we were going to destroy the economy, in fact we had the longest expansion...in American history. I would leave the middle-class tax cuts intact for a limited period because I do think that the probability is higher that we're going to have slow and bumpy growth than vigorous growth, and I think that given the vulnerability, the high unemployment rate, one thing and another, I wouldn't want to have that contractive effect right now."

Posted by: lroberts1 | August 17, 2010 1:09 PM | Report abuse

Too bad the GOP has stated debt is the number one problem, because now they will be horses arses if they also want to extend the tax cuts for the wealthy and thereby create $700 billion more debt in the next decade. And since the GOP is now raging about CBO underestimates, I suppose they also would have no problem believing the debt might even go so far as a trillion dollars in the next decade.

Of course, logic, truth, and consistency is nothing I expect from Republicans any more, and that's why I am no longer a Republican.

Posted by: lauren2010 | August 17, 2010 1:11 PM | Report abuse

rmgregory: "From the comments, I understand that Zandi is 'good' when...but is 'bad' when..."

Personally, I think arguments are good or bad, not the people making them. And I evaluate those arguments on the facts, assumptions, and reasoning used to make them. I think Zandi is usually right, but I'll disagree with him where I think his arguments are flawed. Few people are right or wrong all of the time. No problem with that.

As for this particular issue, I am very skeptical that letting the Bush tax cuts expire on those who are already doing pretty well will result in any substantial decrease in their spending. If I'm already at the point where I can purchase most of the stuff I want without worry, then any benefit I'm getting from the tax cut is going into savings, not spending. It's an empirical question, and reasonable people can disagree, but I'd like to see some data if possible.

Posted by: dasimon | August 17, 2010 1:13 PM | Report abuse

justin84 @ August 17, 2010 12:33 PM: The benefit I was referring to is to the economy, not the top 3%.

Posted by: AMviennaVA | August 17, 2010 1:33 PM | Report abuse

Funny, isn't it, how the weight of economists' advice just always happens to support what would benefit the top 2%? Which percentile is Zandi in?

Posted by: Mimikatz | August 17, 2010 1:49 PM | Report abuse

And I think it is pretty clear that business isn't hiring because demand is down. Now Zandi is saying that we need to subsidize the top 3% of households because they account for 25% of consumer spending. The top 1% has 23% of total AGI by itslef. The top 2-5% have an additional 15% of total AGI.

This means that the top 3% must be spending BELOW the rate of the rest of the population, who make up 75% of the spending with much less than 75% of the total income.

The top people spend a smaller fraction of their income, so clearly they can afford to pay more in taxes than people who have to spend everything they make in order just to get by.

But we non-economists already knew that.

Posted by: Mimikatz | August 17, 2010 1:59 PM | Report abuse

From rmgregory's comments, I understand that Zandi is "bad" when he demonstrates the stimulus value of various social programs (food stamps, etc.) favored by one political party, but is "good" when he advocates a course of action not favored by that same party.

Typical.

Posted by: Patrick_M | August 17, 2010 2:04 PM | Report abuse

"justin84 @ August 17, 2010 12:33 PM: The benefit I was referring to is to the economy, not the top 3%."

AMviennaVA

You said (and I quoted from here):

"I see some flaws in this analysis: firstly, the top 3% will not increase their spending, and any benefit they get will not translate into more spending."

How does "any benefit they get" in this context not refer to the top 3%?

Posted by: justin84 | August 17, 2010 2:18 PM | Report abuse

justin84 @ August 17, 2010 2:18 PM: The benefit they will get if the law, as voted on by Bush and the Republicans (at God's insistence I am sure) is reversed. That is, Bush gave and wanted back.

Remember, the law as it now stands will expire the cuts. There is no uncertainty there. That is, there was a sale, with a firmly defined time limit, and now the beneficiaries of the sale want it extended, as it will result in a great benefit to them. Do you now see where the benefit is? (The only thing missing is a statement about the obligatory consultation with the Allmighty).

Posted by: AMviennaVA | August 17, 2010 2:26 PM | Report abuse

Zandi appears to be realistically conservative (nicer way of saying pessimistic) on what the current Congress and Obama could accomplish on the economic front. So the surer bet would be to extend all the Bush tax cuts to avoid getting none.

Coupling a new jobs initiative which included a payroll tax _credit_ and a works program targeting long-term unemployment coupled with the expiration of the top end of the Bush tax cuts would be a no-brainer. But it would likely be too much to ask given the lack of leadership on economic issues at the moment (excluding the continuing effort to revamp the US financial system).

Posted by: tuber | August 17, 2010 2:28 PM | Report abuse

To me, it seems ironic that a skewed distribution of incomes, due at least in part to a skewed system of taxation, now becomes justification to further skew the system of taxation.

Posted by: zosima | August 17, 2010 2:37 PM | Report abuse

"Remember, the law as it now stands will expire the cuts. There is no uncertainty there. That is, there was a sale, with a firmly defined time limit, and now the beneficiaries of the sale want it extended, as it will result in a great benefit to them. Do you now see where the benefit is?"

AMviennaVA,

One more response here.

If you're going about this by considering an extension of the tax cuts a brand new tax cut, then I don't where you get "the top 3% will not increase their spending".

The marginal propensity to consume for the top 3% isn't zero.

Posted by: justin84 | August 17, 2010 4:01 PM | Report abuse

@zosima : To me, it seems ironic that a skewed distribution of incomes, due at least in part to a skewed system of taxation

This is nonsensical...

How is a progressive income tax skewing the distribution of incomes? Income gains have only happened to the top 3% over the last 10 years. Did that have something to do with income tax?

Posted by: srw3 | August 17, 2010 4:16 PM | Report abuse

I can't believe that anyone could suggest that this is not the time to allow tax cuts for the rich to expire.

Seriously? Ten years ago, the concern was the danger of paying down our national debt too quickly. So let's cut taxes on the wealthy.

Now, at the same time the debt nazis are setting their sights on cutting Social Security benefits for the riff-raff (because the national debt is growing too rapidly, don't you know), the prescription is again tax cuts for the rich.

Funny, when FICA withholding increased from 2% to over 6% in 1977, I don't recall anyone suggesting that we defer that tax increase, despite its much greater impact on the majority of Americans, compared to the tax cut expiration we're currently wringing our hands over.

When do we start recognizing this kind of transparent BS for what it is?

Posted by: jimol | August 17, 2010 6:03 PM | Report abuse

You can make a better case for indicting Bush, Cheney, and the Republicans who passed the tax cuts in the first place for embezzling a couple trillion dollars in Social Security receipts and sharing them with their rich friends.

While the last couple Clinton budgets were truly balanced, in that there were more dollars taken in to the general fund than paid out, without recourse to the various taxes that fund obligated funds like Social Security and the National Highway Trust Fund, The bulk of the surplus was Social Security, medicare and Medicaid, and other dedicated taxes. So when the surplus went totally away to pay for tax breaks and an unfunded war, to permit the tax cuts to continue, the couple trillion dollars in SS, Medicare, and Medicaid surpluses may certainly be said to have been embezzled and distributed to the wealthy who got the tax breaks.

So it will be fair for the Democrats to run against Republicans accusing them of at least eight counts of embezzlement.

Posted by: ceflynline | August 17, 2010 7:13 PM | Report abuse

And now let us try to compare the claimed effects of the tax cut with reality.

The original premise of the Reagan tax cuts was "They will pay for themselves in increased taxes because the economy will be so stimulated that it will grow enough to make up lost taxes."

That still hasn't happened after a quarter century.

"There is too much tax surplus so we need to reduce taxes." Of course most of the surplus was SS and its friends and was SUPPOSED to be used to pay down the national debt to leave room for borrowing when SS did go in negative income for a time. There was only a very small actual surplus when the dedicated income was removed from the surplus. But those good republicans acted like teenagers with part time jobs: "Hey, I earned twenty bucks, I want to throw a party."

And of course, the jobs line.

If tax cuts produce more jobs why was the Reagan administration such a bad time to be looking for work? And Georgie's tax cuts produced a net loss of jobs his first four years, no real improvement the next two, and then a big run at another depression in the last two.

Jobs? What jobs?

So now we try it the other way. First we let Bush's tax cuts expire. When we get a big increase in jobs we begin raising top tax rates. every time we bump top rates and jobs increase, we do it again.

Meanwhile we look for other excessive income sources, and begin taxing them.

When we get a surplus we begin using half the surplus to pay down the debt and put the rest on infrastructure. We especially rebuild and expand the power grid, burying as much of it as possible, possibly down the centers of the Interstates. We also build a large, Government owned very broad band, very high speed digital communications network. we bury that, again down the center of interstate highways. The Government has first use, and can sell excess capacity as it chooses. The jobs those projects will fund will definitely help the economy and the nets we build will be a public benefit to everyone.

Let the Bush Tax Cuts expire in toto.

Posted by: ceflynline | August 17, 2010 7:35 PM | Report abuse

If the poloticians extend the Bush Tax Cuts for the Rich and at the same time the Cat Food Fiscal Commission votes to cut middle class workers Social Security benefits ... There will be riots in the streets.

Count on it!

Posted by: cautious | August 18, 2010 12:03 PM | Report abuse

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