About a year ago I tried to produce such an analysis in a post entitled, Is it possible to have thoughtful conversation about America's future between Conservatives and Liberals? I'm going to have another go at it here. That earlier post was written before the first Ryan Tax Plan was announced. This post is being written in the aftermath of the second plan.
The two pundits I refer to in my title are E.J. Dionne of the Washington Post and David Brooks of the New York Times. They are friends. But they tilt a little differently. Dionne leans left. Brooks leans right. This bit is from Dionne's latest column:
Robert Greenstein, president of the progressive Center on Budget and Policy Priorities, is tough on deficits, careful in his use of numbers, and measured in his choice of words. These traits make his assessment of Ryan’s proposal all the more instructive.“It would likely produce the largest redistribution of income from the bottom to the top in modern U.S. history and likely increase poverty and inequality more than any other budget in recent times (and possibly in the nation’s history),” Greenstein wrote. “Specifically, the Ryan budget would impose extraordinary cuts in programs that serve as a lifeline for our nation’s poorest and most vulnerable citizens, and over time would cause tens of millions of Americans to lose their health insurance or become underinsured.”
Brooks, in contrast, was much milder about the Ryan plan on the NewsHour last Friday. He said the following in response to some comments from Mark Shields, who said much the same thing as Dionne:
Yes, I have my doubts about it, but not in that way.I think one of the things it does -- and the argument behind it, and I have debated Paul Ryan about this -- is he thinks we're headed -- and I think he's right about this -- toward a fiscal catastrophe some time in the next few years, and you might not like the cuts that go in the Ryan budget, but it gets us toward fiscal survivability.It doesn't balance the budget. It increases spending 3 percent a year. It doesn't shrink government. Government goes up by over $1 trillion in 10 years, but it gets us to avoid a fiscal catastrophe. And Ryan's argument is, you may not like all this, but at least I'm getting us to fiscal survivability. The Democrats are not willing to propose a budget that gets us there. And, therefore, you have got to take us seriously.And the political argument is we're going to treat the American people like adults. And I'm not sure it's going to work politically, but that's their argument.
It seems clear that there will be gridlock on these issues at least till after the election. I wonder, however, what will prevent gridlock after that. It's in trying to find what might work that justifies this exercise. I will content myself here to talk about the revenue (tax) side of the equation only. The spending side clearly needs addressing too, but to keep the task at hand manageable, let's focus only on taxes. That's hard enough.
How much revenue should come in from taxes? What principle(s) should guide the way the tax system is constructed? Can there be a fair system and one the does not retard growth in the process?
I grew up being taught that progressivity in the tax system is a desirable. For the income tax, which has increasing marginal tax rates, progressivity is built into the design in that way. However, deductions tend to offset the progressivity. For example, the mortgage interest deduction tends to be bigger the more valuable the home and the value of the home in turn tends to correlate with income. This particular deduction may be less important now, with interest rates very low. But if rates were to rise in the future, it would be an important consideration. For the payroll tax, where there is a cap above which earned income is not subject to the tax, there is some regressivity built in. Since capital gains and dividends are currently taxed at a lower rate than earned income, and much of this unearned income is received by by the very rich, this puts a different type of regressivity into the tax system, as the example of Warren Buffett and his secretary illustrates.
Last year on the Charlie Rose show, in a segment that also included Martin Feldstein and Dave Leonhardt, Bill Bradley articulated a principle I hadn't heard before, but one that seems to try to reconcile these tensions. Bradley said that each dollar of income should be taxed the same way - a full flat tax approach. This could happen if there were no deductions whatsoever, there is no separate payroll tax, and capital income and earned income are taxed at the same rate. If this were to happen, would both Liberals and Conservatives accept it? I confess to struggle with this question, not knowing my own mind on the issue.
On the one hand, you could get rid of deductions, have the payroll tax bundled with the income tax, and treat capital income and earned income the same for tax purposes, while maintaining increasing marginal tax rates. This is my personal ideal. On the other hand, I posed the issue by talking about gridlock. Does my personal ideal have a chance of being implemented? Does any other approach have a chance to be implemented that includes the feature that the rich will pay more in taxes than they currently are paying? It's on the other hand where Bradley's "principle" seems to recognize the reality needed for compromise.
Let me now assume we have a "flat tax," not to resolve the issues discussed above but simply to make the numbers easy to talk about. The flat tax rate then would be one and the same as the share of GDP the Federal Government collects in tax revenue. What should that rate be or, equivalently for the purposes of analysis, what should that share of GDP be?
The big issue here is whether we should answer this by appeal to historical norms (where 20% sounds like a nice round number) or if, instead, we say this is a new ballgame because of rising income inequality and the aging of society, and that demands higher shares. There is much rhetoric, often expressed angrily, around these issues. The point is put forward by Conservatives that government is too big, but even they should recognize that is a critique about relative size only. How does one answer the Goldilocks question: when is the size of government just right? To my knowledge this is not done by appeal to principle a la Bill Bradley but rather is mainly the practice of looking backward at historical shares (a practice I believe Milton Friedman popularized). It would be nice if economic theory of public finance could serve up a principle or set of principles. It does so for local government spending and taxation via the Tiebout (vote with your feet) model. Unfortunately, that's not useful here. At the federal level, the taxation is essentially divorced from the basket of public good that are provided.
There is a further important issue that if we eliminate or reduce the deductions, as Martin Feldstein suggests we do, there is then the question of whether some socially productive spending done by private citizens ceases. (I'm inclined to agree with Feldstein that there is waste in excess home consumption and perhaps in overly generous health insurance because of the tax deductions, but suppose also that charitable contributions decline. What will replace the charitable contributions?) Might government spending have to increase somewhat to offset the decline in this socially productive private spending?
Let me get back to Dionne and Brooks on how they see the Ryan Budget. That they can come to such different conclusions suggests they are asking different questions in framing the response. Dionne seems to be asking, whom does Ryan believe the Government can say no to? Dionne's answer is that Ryan is picking on the poor and defenseless and that doing so is deplorable. Brooks asks a different question, how does the Federal Budget come into balance long term? Brooks gives Ryan some credit for asking the question, although his budget doesn't bring us any closer to passing something like that.
We need to get further along on thinking through these issues. As it is, it seems like more gridlock is the safe prediction.