A tax cut is politically inevitable this year with the economy faltering. The real questions are when, how much and for whom.
When? So far, the faltering economy has affected corporate profits and the stock market. Alan Greenspan and others had long warned investors that the market was overvalued. The market adjustment was inevitable and perhaps will be beneficial in the long run. The high level of consumer debt is worrisome, but consumer spending is still high, although there has been a drop in the purchase of big-ticket items like automobiles. Unemployment has not yet increased dramatically. The economy has paused for a breath, not crashed.
If the economy worsens and needs a stimulus, then the tax cut should be front-loaded with benefits that will take effect this year. Yet much of the president’s tax cut goes into effect in later years. If the economy recovers by then, such cuts could cause the economy to overheat. Our inability to see clearly into the future calls for prudence in tax policy. It would be easy to cut taxes again in the future, but raising taxes to cool an overheated economy is politically unpalatable.
How much? Prudence calls for a smaller tax cut rather than a larger one. But most of the pressure on Congress is to increase the tax cut, not to reduce it. President Bush’s tax proposals are remarkable in that there are no corporate tax cuts. Corporate lobbies will press Congress and the president to add corporate tax cuts. So far the president has held firm to his figure of $l.6 trillion, which means that if corporate tax cuts are added, Congress will have to reduce the individual tax cuts. Resisting pressure to increase the tax cut may be the president’s first real test as a leader.
Finally, the larger the tax cut the less money there will be for government spending and debt reduction. Programs for housing, drug treatment, environmental protection, health care and other societal needs are underfunded already, and the president wants to add more expenditures for education, prescription drugs and the military while still reducing the debt and protecting social security. Good luck.
For whom? One percent of households with the highest incomes would receive 40 percent of the Bush’s tax cut—an average of $40,000 per household. By contrast, the bottom 40 percent of households would receive just 4 percent of the tax cut. This is unacceptable.
President Bush’s proposal to increase the child credit to $1,000 from $500 per child is to be commended. Parents face significant costs in raising their children and deserve special help. Since this tax provision is a credit rather than a deduction, its benefits are distributed equally instead of favoring the wealthy in high tax brackets.
President Bush’s proposal to reduce tax rates is more problematic. In favor of reducing tax rates is the fact that this does not further complicate the tax code and the preparation of tax returns as would Democratic proposals for targeted tax cuts. But there are problems. First, his tax rate cuts give too much of the benefit to high-income taxpayers. More of the tax cuts should go to those who have been left out of the prosperity of the last decade. Cutting the bottom tax rates more and the top rates less would distribute the cuts more fairly. Second, upper-income tax rates should not be cut except as part of a package that includes the elimination of tax loopholes. Those who proposed a flat tax understood this. Bush is flattening the tax system without any corresponding tax reform.
Twelve million American families with 24 million children will receive no benefit from the president’s tax cuts because they are too poor to pay income taxes. Many working families pay much more in payroll taxes (Social Security and Medicare) than they do in income taxes. In order to help the working poor, the earned income tax credit should be increased. Giving more of the tax cut to lower-income taxpayers will not only be fairer; it will also help stimulate the economy, because these people will spend their tax cuts quickly on the necessities of life.