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I don’t see how Sen. Chuck Schumer’s speech on tax reform yesterday helped anything — other than providing further clarity on how Democrats are going to try and deal with the exploding national debt: taxes, taxes, and more taxes.
The speech certainly didn’t make striking a deal on avoiding the fiscal cliff — much less getting a “grand bargain” on tax and entitlement reform — more likely. Here is the core of Schumernomics:
These three principles–curtailing tax expenditures, returning to a Clinton-era top rate, and reducing but not eliminating the tax preference for investment income–provide a foundation for a tax reform plan that would reduce the deficit without hurting the middle class.
A few observations:
1. Schumer totally mischaracterized his opponents arguments. Schumer:
The lesson here is that contrary to the view of the supply-siders, the level of the top rate does not, by itself, dictate what happens to GDP.
Supply-siders certainly think income tax rates matter — a lot — but they do not think tax rate levels are the only thing that matters. (Immigration, regulation, monetary policy are all pretty important, too, just to name a few.) Many liberals these days, by contrast, seem to think that tax rates don’t matter much at all, unless top rates are in the 70% to 90% range.
2. He offers Republicans and conservatives nothing. Schumer:
Now, you may ask, “Hey, what’s in this for Republicans? Why would they come to the table around a proposal that doesn’t cut rates?”
For one thing, they get serious deficit reduction–which will matter to the true budget hawks left within the Republican Party. That is no small achievement.
What else besides deficit reduction would Republicans quote-unquote “get” out of tax reform? Well, that’s the wrong way to think about it. The lure for Republicans to come to the table around a grand bargain should be the potential for serious entitlement reform, not the promise of a lower top rate in tax reform.
Democrats will never sign on to a shredding of the safety net because it isn’t necessary to change the fundamental way Medicare works. But we can find ways to reduce Medicare costs by hundreds of billions of dollars. That is tough medicine but still preserves the safety net.
That is how a grand bargain can be had: Republicans get entitlement reform, while Democrats get revenue.
That might be the way to a big deal, except that Democrats, including President Obama, have spent the past two years attacking the GOP’s big idea on entitlement reform, premium support. In fact, Schumer clearly rejects it in his speech: ” … it isn’t necessary to change the fundamental way Medicare works.”
3. Schumer tries to make the tax hikes seem pro-growth because they would reduce the deficit. This is EXACTLY the path being taken by Europe right with its heavy emphasis on tax hike-driven austerity. How’s that working out for them? Deficit reduction does the least amount of harm in the short term if it is light on tax hikes. But Schumer goes heavy on tax hikes.
4. Schumer negates the corporate income tax cut he endorses by embracing big hikes in capital gains and dividend taxes. Schumer:
For the third and final element of this tax reform model, we turn to investment income. It’s time to reduce the sizable differential in the tax treatment of earned and unearned income.
The reduction in the capital gains rate to 15 percent under President Bush tax was a major contributor to the growth in wealth disparity we see today. … The extremely low 15 percent rate in effect today is an outlier. It is the lowest rate on investment income since the Great Depression.
Republicans have understood the need to raise it before. As part of the 1986 reform, Reagan raised it to 28 percent. Simpson-Bowles–which was supported by good Republicans like Tom Coburn–endorsed raising it too, all the way to the same level as ordinary income.
Now, if you are returning the top income rate to Clinton-era levels, as I have proposed, I do think it is too much to treat capital gains the same as ordinary income. We don’t need a 39.6 percent rate on capital gains.
This is anti-growth. See, capital gains are partly due to reinvested corporate earnings that have already been taxed and dividends represent earnings that have already been taxed. So what you have here is a double tax. And the U.S double tax is really high right now, as this chart shows:
Right now the combined corporate-cap gains tax is 50%, a 35% corporate tax plus a 15% cap gains tax. Under a plausible Schumer scenario, the corporate tax rate would drop to 28% while the capital gains tax rate would rise to 28%. So under Schumer, the integrated or combined tax rate would actually rise. Why would any pro-growth politician on the right — or left for that matter — vote for such a plan?
In short, the Schumer plan would raise marginal rates, raise rates on capital, and reject real entitlement reform. Other than that, it’s a real winner.
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