Here’s issue #7 of my Policy and Politics Newsletter, written 11/27/11. As you probably know, the Congressional Super Committee failed this week to reach an agreement on a recommendation for reducing the federal deficit. One of the key sticking points was income tax rates. The Republicans insisted on reducing income tax rates along with reducing some deductions, while the Democrats refused to lower tax rates for the wealthy and supported rolling back the Bush cuts in tax rates for the wealthy.

The federal income tax went into effect in 1913. The income tax rates have always been progressive, meaning that the tax rate for lower income tax filers has always been lower than the rates for higher income filers. The rates are much less progressive today than they have been historically and they have been simplified by reducing the number of steps between the lowest rate and the highest.

A summary of federal income tax rates: [1]

Year	Lowest Rate	Highest Rate	# of Steps	Notes
2003 – 2011	10%	35%	6	Bush tax cuts
1993	15%	39.6%	5	Clintontax increase
1988	15%	28%	2	Reagan tax cuts
1981	14%	70%	16
1964	16%	77%	26
1946	20%	91%	24
1944	23%	94%	24

During most of the post World War II economic boom in theUS(1946-1964), the wealthy paid at a 91% rate while the lowest income filers paid at 20%. For the next 18 years, the wealthy paid at a 70% or higher rate while the lowest income paid at roughly 15%. Since then the rates for the wealthy have been reduced dramatically. The threshold for paying the top rate has been between $200,000 and $400,000 of income since 1964.

Note that if your taxable income is $1 million, a 1% rate reduction reduces your taxes by $10,000. If your taxable income is $50,000, a 1% rate reduction reduces your taxes by $500.

The argument typically advanced for reducing tax rates for the wealthy (or for not increasing them) is that if they have more money they will invest it and that, therefore, the economy will grow, jobs will be created, and everyone will be better off. However, in the 1990s, when President Clinton increased income tax rates on the wealthy, the economy performed very well. And in the 1980s and the 2000s, when tax rates were cut, there was no economic boom. Furthermore, over the last 30 years, as the income tax rates for the wealthy have been cut in half, income inequality in the US have widen considerably and middle and low income households have seen very little growth in their incomes (see newsletter #4, 11/13/11).

In summary, both the performance of the economy and changes in household incomes over the last 30 years do not support the argument that cutting income taxes for the wealthy will lift all boats, trickle down to middle and lower income households, or stimulate the economy.

Here’s issue #6 of my Policy and Politics Newsletter, written 11/20/11. As you probably know, the US House voted on and rejected a Balanced Budget Amendment to the US Constitution this week.

Consideration of a Balanced Budget Amendment (BBA) to the US Constitution by both houses of Congress was required as part of the agreement that raised the debt ceiling back in August. The House and Senate will probably vote on different versions of the BBA. (See below for more detail.) A BBA, if ratified, would constitute a dramatic, some say radical, shift in policy making.

The biggest concern about a BBA is that in a recession, when government revenue falls, the BBA would require cuts in expenditures. Therefore, government likely would have to cut safety net programs, such as unemployment compensation, food stamps, heating assistance, and subsidies for health care when they are most needed. It would eliminate the ability of the government to serve as a counter weight to recessions by spending when other sectors of the economy are on a downswing. Seven Nobel Prize-winning economists have stated that a BBA would “mandate perverse actions in a recession” and would harm economic growth. Norman Ornstein of the conservative American Enterprise Institute has called a BBA “about the most irresponsible action imaginable.” [1]

An argument advanced in support of a BBA is that states have and have managed to live with requirements for balanced budgets. However, because of this, during the current recession, state and local governments have been cutting jobs nationwide by roughly 10,000 a month and have been making painful cuts in services and programs. They have been helped through this crisis by federal government support and federal deficit spending, where they get roughly a third of their revenue, and especially by the stimulus funding in 2009 that explicitly supported states. Moreover, states can borrow for capital spending outside of their balanced budgets, something the federal BBA would prohibit.

Possible provisions of a BBA include: [2]

• Super majority votes in both houses of Congress are required for:
  • Deficit spending (most likely a three-fifths [60%] majority)
  • Tax increases (most likely a two-thirds [67%] majority)
• Cap on overall spending at 18% of gross domestic product (GDP, the size of the overall economy) (Note: Under President Reagan spending averaged 22% of GDP)
• Capital spending (i.e., long-term investments in infrastructure and human capital) would be included under the cap and spending controls (Note: Generally not the case at the state level)
• Exemptions for national emergencies and Social Security

In summary, the BBA makes for great politics for some but is lousy policy. Please note that President Reagan promoted and popularized the BBA while the budgets he presented to Congress were the eight most out of balance budgets since WWII. And that for many of those pushing the BBA today, it was not a priority for them when George W. Bush was president and significant surpluses inherited from President Clinton became large deficits.

Here’s issue #5 of my Policy and Politics Newsletter, written 11/17/11. Another piece of the debate on how to reduce the deficit is whether defense spending should be cut. Here’s some context.

Defense spending has more than doubled from 2001 to 2011, increasing 121%, more than any other component of the federal budget (all other discretionary items together increased 60%). It now stands at $733 billion, 58% of discretionary spending. [1]  In 2011, theUS spent $51 billion on the war inIraq and $122 billion on the war inAfghanistan, together representing 24% of the defense budget.

If the Super Committee of Congress cannot present a deficit reduction compromise that is approved by Congress, defense spending will be automatically cut by about $1 trillion over 10years, a 17% reduction. For the sake of comparison, after the Korean War ended defense spending declined 31%, after Vietnam28%, and after the Cold War 31%. [2]  Both of the bipartisan deficit reduction commissions, which if anything tilted to the conservative side, recommended cutting defense spending by $1 trillion over 10 years and said this could be done responsibly. Therefore, substantial cuts in defense spending should not only be possible, but are appropriate.

Some people are arguing against cuts in defense spending because of their negative effect on employment. Ironically, this argument is coming from many of the same people who have argued against federal stimulus spending, saying the government spending doesn’t create jobs. Many of them have also supported government budget cuts that reduced jobs for teachers, construction workers, police officers, and firefighters. [3]  So these arguments against defense cuts ring hollow.

Furthermore, a study from the Political Economy Research Institute at the University of Massachusetts Boston by Pollin and Garrett-Peltier found that for every 12 jobs created by defense spending, the same spending for education would create 29 jobs, or in health care would create 20 jobs, or in clean energy would create 17 jobs. [4] 

The USnow spends more on defense than all our top rivals in the world combined. We spend 5.4% of our overall economy, our Gross Domestic Product (GDP), on defense, while our European allies spend 1.7% of GDP on the military. They, Japan, Korea, and other countries around the world no longer need tens of billions of dollars in USmilitary support. “We can still maintain the superiority of our own security, … for two-thirds of what we now spend.” [5] 

All indications would seem to be that we can safely cut our defense spending, particularly as the wars inIraqandAfghanistanwind down. Furthermore, cuts in other areas are likely to be more painful both in terms of jobs and in the reductions in the services or support people receive, such as through Social Security, Medicare, Medicaid, Head Start, education programs, etc.

Perhaps the question should be, “Can we afford NOT to cut defense spending?”

In the previous newsletter on corporate taxes, I mentioned that having corporations pay their fair share of taxes would help reduce the deficit. The deficit is a hot topic with the federal Super Committee required to submit its recommendations on how to reduce the deficit in 2 weeks. (This is issue #3 of my Politics and Policy Newsletter, written 11/10/11.) 

The deficit does need to be addressed, especially over the long term. However, the strategies for reducing the deficit are hotly contested. The context and rational debate on the deficit often get lost in the heated rhetoric and political posturing. So here’s a first piece of perspective on the deficit.

In 2001, President Clinton turned over to new President George W. Bush a federal budget with a substantial surplus: [1]

• 2001 federal budget: a $127 billion surplus (asClinton left office)
• Projected surplus over the next 10 years of $5.6 trillion

When President Bush left office 8 years later, he had turned this surplus into a substantial deficit:

• 2008 federal budget: a $455 billion deficit (as Bush left office)
• Projected deficit for 2009 of $1.2 trillion and many trillions of dollars of deficits over the next 10 years

The surpluses turned into deficits due to three major reasons:

1. Large tax cuts that particularly benefited high income individuals and corporations
2. Increased military spending (including wars in Afghanistan and Iraq)
3. An economic recession (largely caused by a lack of regulation of the financial industry)

To reduce the deficit, therefore, it only makes sense to reverse the policies that caused it in the first place:

1. Reverse the Bush tax cuts. If all of them were allowed to expire at the end of 2012 as scheduled, future deficits would be cut roughly in half. [2]
2. Reduce military spending. Military spending more than doubled from 2001 to 2008 ($332 billion to $686 billion). All other federal spending increased less than 50% ($332 billion to $494 billion), excluding Social Security and Medicare, which have their own funding separate from general revenue. [3] (Figures are not adjusted for inflation.)
3. Improve the health of the economy, most importantly by increasing jobs and reducing unemployment. (More on this in a subsequent newsletter.)

I hope this is helpful context as you hear coverage of the Super Committee’s work to reach recommendations on deficit reduction. If you are so inclined, I encourage you to contact yourUSRepresentative and Senators by phone, email, or regular mail to share your thoughts on deficit reduction.