The Free Market 14, no. 7 (July 1996)
A year ago January—what a moment!—the two parties were in a tax cut bidding war. Each side was attempting to gain political advantage by trumping the other guy’s proposal. Everything was on the table: capital gains tax cuts, income tax cuts, inheritance tax cuts, and every manner of tax credit.
Suddenly, everyone stopped cold. What about revenue neutrality, the sacred doctrine that government revenues can never go down? Budget committee head John Kasich called a time-out. Congress won’t cut taxes, he said, until cuts are “paid for” with spending reductions.
Thus ended the Republican revolution. What followed was 18 months of haggling about projections, assumptions, and base years, but still no tax cuts. The next time the subject of taxes came up, it was in the context of an overall budget agreement that Clinton was foreordained to veto.
The Republican were not even able to hold Clinton to his word on small items like the per child tax credit. Everyone in Washington is on record as favoring a tax cut, but it somehow never arrives. It won’t—until we toss out the malicious doctrine that keeps tax cuts at bay.
“Revenue neutrality” has turned fiscal policy into, at best, a pointless exercise; at worst, a deeply dishonest shell game. We cheer when they propose a low tax, but look at the fine print. It’s accompanied by higher taxes elsewhere. Grant a tax credit for adoption, and business taxes go up. Cut gas taxes, and other excise taxes go up. What’s next? Cuts in the inheritance tax, “paid for” by an increase in the gas tax? Maybe the per child tax credit can be “paid for” by repealing the adoption tax credit.
What is supposed to be purpose of this nonsense? The total burden of taxes remain the same no matter what. Is it too much to ask that the federal government take less from the private sector overall? If so, Republican slogans about cutting the size of government will be forever empty. You can’t cut government without cutting its income.
The doctrine of “revenue neutrality” is a leftover from George Bush’s 1990 budget agreement, which raised taxes, arguably lost him the election, and discredited the party. Part of the deal was that any increase in spending had to be accompanied by an increase in taxes; likewise, any decrease in taxes had to be matched by equal decreases in spending.
It sounds reasonable at first to treat the federal budget as if it were a household. But it’s not. The federal budget is a vast property redistribution machine. Politicians are glad to “pay for” a tax break by raising taxes elsewhere. It’s not coming out of their income, but ours. The “deficit” is more and more a fiscal fiction designed to cover this fact.
From the point of view of taxpayers, a tax cut is not “expensive,” but a way of allowing people to keep more of what is rightfully theirs in the first place. What’s expensive is the idea that taxpayers should be forever on the hook to fork over the same percentage of the national income year to year.
There’s another fallacious assumption behind the doctrine of revenue neutrality: Congress can predict what people will do before and after tax changes. In fact, the tax take is strongly influenced by people’s behavior, which in turn is affected by the marginal rate and the overall level of taxation.
Consider the gas tax. If people cut their driving by 20 percent, the revenue derived from the tax would fall. But is it possible that deep cuts in the gas tax would cause the price to fall, increase demand, and thus increase overall revenue? Of course, but Congress’s models don’t even consider the possibility that demand can change when the price changes.
This is true for every tax. If the inheritance tax were cut dramatically, people’s incentive to accumulate property would increase dramatically. It’s even possible that lifetime savings could go high enough to offset the revenue losses of the tax cut. So it goes for the income tax and every other excise tax.
But let’s say this so-called Laffer Effect doesn’t kick in and total revenue falls. Lower revenue means government has become less a burden on the American people and the economy is that much freer. We should be as happy about a falling tax take as we should be about a falling crime rate. Each makes people that much more secure in their person and property. A fiscal loss to government is a property gain to everyone else.
Of course, deficits don’t represent the best of all worlds. They crowd out private investment, tempt the Treasury into monetizing debt, and drive up interest rates. Balanced budgets, so long as both spending and taxes are low, are joys to behold.
But the reason we live in the age of deficits isn’t because taxes are too low. Government has been freed from the obligation to back the currency with gold. It’s no coincidence that the last time the budget was balanced was in 1969, when gold still restricted the Treasury’s ability to pile up debt.
Since then, the deficit has furnished the excuse for Congress not to do what it should have done, which is lighten the terrible tax burden borne by individuals, families, and businesses. It is taxes (not deficits) that have shackled the economy and continued to frustrate the dreams and ambitions of the middle class.
Besides, deficits are determined by factors over which the political class has very little control, like economic growth, the size of the underground economy, and the percentage of people receiving wages and salaries. Yet every day in this Congress, Republicans pretend as if they can know for sure what the future of both taxes and spending portends.
It’s time to trash the 1990 budget deal, which must have been concocted by an evil genius. It’s the only budget agreement in the last two decades that anyone’s bothered to adhere to. So long as this is the case, leviathan will and grow, and the Republican promise to reduce the size of the government will be merely a cover for the exercise of political power.
Let’s hear less talk about deficits until we are freed from the tyranny of “revenue neutrality,” freed from the desire to replace one source of revenue with another, and freed from $1.7 trillion budgets. A deficit hawk can keep the rodents away, but he can also sink his claws into our backs and neutralize us, as the CIA used to say, with extreme prejudice.
