Reeling from Fiscal Vertigo

Conservatives would have much less to fear from Big Government and the entitlement state if one simple little mechanism were in place that was ironclad and could not be gotten around. That simple little mechanism is this: a requirement that the federal government pay off all its yearly bills by the end of each fiscal year. In other words, the federal government would have to operate entirely off of cash flow, i.e., tax receipts.

Were that mechanism in place, conservatives could then taunt progressives to do their damnedest: You want another Big Government program? Fine, but you'll have to raise taxes. The GOP could let Democrats enact every Big Government program they can think of because their tax hikes to fund their new programs would sink the economy and the electorate would run back to the GOP and fiscal sanity.

Imagine what the economy would have been over the last four years if Congress had to raise taxes to pay for all their spending. Congress would have had to suck more than one trillion dollars more out of the private sector each year. One way to raise such revenue would be to more than double the receipts from the Individual Income Tax, which is already the federal government's largest source of revenue. Such a doubling would have doomed what little recovery we've had.

The mechanism we're talking about is called "pay-as-you-go" financing. When they campaigned in 2006, Democrats promised to abide by PAYGO if voters would just give them the majority. The voters complied, and the new Democrat Congress then set out to immediately run the two largest deficits ever, including the first trillion-dollar deficit. You see, the Democrat version of "pay-as-you-go" only concerns itself with offsetting the cost of new programs, not with cutting the deficit. They did neither.

A true pay-as-you-go requirement, one that forbids deficits, would need to be put into the Constitution, because if it were merely statutory Congress would just ignore it. By way of example, congressional Democrats have flouted the 1974 Congressional Budget Act for the last three years. Even so, there'd need to be an escape clause (to a constitutional requirement forbidding deficits) for emergencies. An escape clause, however, would provide progressives with all they need to keep running deficits, as everything would become an emergency. If women don't have "free" contraceptives, it's an emergency. If would-be beauticians can't get loans to go to beauty school, it's an emergency. One way to counter that is by requiring emergencies to be funded by their own dedicated taxes which would be put into their own separate accounts, as Social Security is.

America is now reeling on the vertiginous edge of the "fiscal cliff." Unless Congress overrides it, automatic spending cuts and tax rate hikes will kick in. The president is keen on raising tax rates on the top earners while the GOP House is holding out for reform of the tax code and of entitlements. None of this unpleasantness would have happened if Congress had to abide by pay-as-you-go budgeting.

Michael Booth recently posted some nifty material that includes a fun video and charts that explain the basics of the fiscal cliff. From this, one reads that one of the automatic tax hikes comes from the expiration of the "payroll tax holiday," which is a temporary 2 percent cut in the Social Security part of the payroll tax. The Tax Foundation reports that the "holiday" costs the federal treasury $125 billion in lost annual revenue.

Until just recently, Social Security almost always operated as a pay-as-you-go system. But nowadays it's being funded, in part, by income taxes and debt. If it were a private sector company, Social Security would have gone bankrupt two years ago. And apart from the crush of retiring Baby Boomers lining up for benefits, there's the added strain of those getting SSI disability benefits. (Dramatically expanded by Obama and filled to the brim with bogus claimants.)

The rationale behind the holiday was to get folks spending; progressive economists wanted to ratchet up demand. But the holiday hasn't worked as advertised, as progressive economists are still squawking about low demand. More importantly, once government starts giving away stuff, it's quite difficult to take it back. Better to end the holiday now before folks get too accustomed to it.

Congress and the president should agree to let the payroll tax holiday expire. And to do that they should take that expiration out of the fiscal cliff negotiations; it should be a separate negotiation and not be held hostage to the rest of the deal. Yes, that means taking another 2 percent out of workers' paychecks, but America would get $125B in deficit reduction. We might even get the deficit below $1 trillion. Besides, Social Security is supposed to be a pay-as-you-go system.

As for the rest of the fiscal cliff, it seems that all they talk about is tax rate hikes; one hears little about spending cuts. If we can't get real -- and immediate -- cuts in spending, then let's just join hands and jump off the cliff. It may be a lousy way to finance a government, but if it's good enough for Paul Krugman, it's good enough for me. And if Howard Dean thinks jumping off the cliff is a swell idea, then let's go for it.

If jumping off a fiscal cliff gets your fiscal vertigo up, remember that the idea for the "sequester" came from the White House, not Capitol Hill. Obama was (at the very least) "mistaken" in the third debate when he said that it was Congress that had proposed the "sequester." The Fact Checker at the Washington Post gave Obama Four Pinocchios for that. Concerning the cliff, Bob Woodward recently said:

No one thought it would happen. The idea was to design something... that was so onerous that no one would ever let it happen. Of course, it did, because they couldn't reach agreement," he said. "They all believed that the super committee was going to come up with a $1.2 trillion deficit-reduction plan, so there would be no sequestration. Of course, the super committee failed and so the trigger went off, which has all of these very Draconian cuts.

One fears that Obama will try to secure the tax hikes and renege on the spending cuts. But House Republicans should not agree to any "grand bargain" on the fiscal cliff that does not include spending cuts of at least $109 billion for 2013 and for 2014. (Beyond those years, the current Congress has no control.)

When you have a delicate economy, raising taxes is counterproductive. President Obama would do well to remember how gingerly the "Bush tax rates" were introduced -- the rates for the top bracket of the federal personal income tax went down by a half percent in both 2001 and 2002 (source). That's delicate, especially compared to the 4.6 percent adjustment in rates that Democrats are proposing. Obama used to understand that raising taxes in a bad economy is a bad idea. But if Obama simply must raise tax rates, then let's raise high earners' rates by 1 percent and everyone else's by a ½ percent. If that's not good enough for Dean, Krugman and Obama, they can go jump off a cliff.

Jon N. Hall is a programmer/analyst from Kansas City.

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