Is There Any Case for Revenue Enhancements?

Is There Any Case for Revenue Enhancements?

The short answer is 'yes'.

I must admire the newest political speak from the ruling elite that cannot even bring themselves to utter the words 'tax increase'.  'Revenue enhancement' includes more than just increases in the statutory rate; it includes an increase in revenue from the elimination of deductions and from taxes on new sources.

The contentious debate on this issue usually does not distinguish between the statutory tax rates, the rates stated in the code, and the effective tax rates which is actually the percent paid after deductions and credits. The effective tax rate is less consistent since the various credits and deductions are not evenly distributed.  The prime objective of many lobbyists is tax breaks for their narrow constituency.

The increasingly progressive nature of our taxes, a trend that accelerated under George Bush, carried two liabilities.  As tax revenues became more dependent on the wealthy, the recession was made more severe.  The wealthy are more sensitive to economic swings and their tax payments dropped precipitously during the recent recession, not because they were not paying their fair share, but simply because they were making less money.

Secondly, as the percent of the population paying no taxes increased there was less popular restraint on government spending.  We spend money that is not ours much more freely.

How effectively we enhance revenue depends on which revenue source you target.  A small increase on the middle and lower class will generate much more revenue than a more significant increase on the 'wealthy',  first because there are so many more of them, and secondly because their income base is much less elastic.  A more broadly distributed tax burden would create a more stable revenue stream and could create a larger populist block against out of control government spending.  It is a little ironic that the call for revenue enhancements from the left could lead to increases on taxes on the middle class and lower income population.

It is tempting to increase the taxes on the rich, especially capital gains taxes, but this is one of the most elastic taxes and the easiest to avoid.  The Laffer Curve's display of higher rates leading to lower revenues is probably most clearly demonstrated on the most elastic taxes such as capital gains.  Capital gains is also competitive on a global scale more than most taxes.  We may loses investment capital and the jobs they create to countries with lower capital gains rates quicker than we will if we just increase everyone's income taxes a little.   A large part of Bill Clinton's economic success was the increased revenue he got from lowering capital gains rates.

Revenue enhancement that comes from  reducing and eliminating deductions have the benefit of removing distorting government incentives from the market place.  The deduction for home mortgage interest was one of many government inducements that created a huge misallocation of national wealth into the housing bubble. This deduction is also regressive to the degree that the wealthiest with the biggest mortgages, and therefore the biggest deductions get the biggest tax breaks.

What should be avoided the most in search of revenue enhancements is increases in the marginal tax rates, the percent paid on the incremental dollar of income.  This is one of the greatest disincentives to economic growth and job creation.

Before the Tea Party and other fiscal conservatives refuse to consider ANY revenue enhancements, they should reconsider broadening the tax base and eliminating some of the market distorting deductions.

And then they should get busy cutting spending.


Henry Oliner