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President Obama has been so busy proactively blaming Republicans for the allegedly dire consequences of the March 1 sequester that he has failed to notice something far more damaging to the American economy. The tax increases already enacted on Jan. 1 by Congress and the president, coupled with the “tax” of higher fuel prices, altogether mean that about $275 billion worth of economic drag is already in the pipeline for 2013.
These tax increases are far more economically and politically burdensome than the spending cuts mandated by the sequester. They get little attention now, but politicians won’t be able to ignore them by the summer.
As a quick refresher, the direct tax increases, amounting to $175 billion per year, were enacted by the Congress on Jan. 1 as a means to avert the “fiscal cliff” that would have mandated even larger tax increases. The legislation rescinded the $110 billion payroll tax reduction that was part of the 2010 stimulus package. Virtually all households pay the payroll tax to finance the Social Security, Medicare, and Medicaid programs. Then the president’s tax increases on “the rich” boosted income tax rates for households earning over $450,000 per year, thereby garnering another $65 billion per year in revenue. On top of this, if fuel prices prices stay at this sharply higher level, there will be another $100 billion in lost disposable income for households. The total, $275 billion, or nearly 2 percent of GDP, dwarfs the $44 billion in actual spending cuts mandated by the sequester.
Sequester math, like most budget math, works in mysterious ways. The sequester mandates $85 billion in reduced budget appropriations for the balance of the 2013 fiscal year. Given the lag between changes in appropriations and actual outlays, the Congressional Budget Office estimates that actual spending cuts in the current fiscal year will be only $44 billion. Thereafter, the sequester mandates annual $116 billion in across-the-board cuts every year for 10 years. Total outlays will fall by $1.16 trillion over the next decade, resulting in a slower rise in U.S. government debt by that amount. It a desirable outcome given the unsustainable deficits and debt increases.
Instead of talking about the numbers, the president has engaged in a sequester blame game. Few have realized how badly this blame game will end. The U.S. is likely looking at a recession, probably to start in the summer. Consider that the past four years (2009-2012) have each seen stimulus packages equal to a 2.5 to 3 percentage point boost to the economy. That comes on top of whatever modest boost has come from repeated rounds of quantitative easing by the Federal Reserve. For all the talk of how great the stimulus programs have been, remember that all that fiscal thrust produced only a moderate growth rate of 1.9 percent since 2008. Now that stimulus is going away, and Americans have a bigger hit on their pocketbooks from the tax increases.
A post-sequester recession will present both Republicans and Democrats, especially the president, with some knotty problems. Obama chose to emphasize the inconvenience tied to alleged sequester-induced, reduced government services — airport delays, no federal meat inspection, defense cuts, no tax refunds. Soon he will be forced to “pivot” to decrying economic costs — slower growth, higher unemployment — of deficit reduction. But it’s a flawed argument. Obama will likely blame the sequester when the real issues come from higher tax burdens.
It will be difficult indeed for the president to press for more tax increases given the obvious link that a recession would underline between higher taxes and slower growth.
Republicans will also be in a challenging position if a summer recession emerges. The president will, probably, with some success, try to blame the Republicans for the recession, citing their support for the spending cuts in the sequester while omitting mention of his own support for more targeted spending cuts along with his always-insistent call for higher taxes “on the rich”. But neither spending cuts nor higher taxes makes economic or political sense in a recession.
If past behavior is any guide, the one thing a summer recession will produce is bipartisan support for a sharp reversal from austerity to stimulus, lower taxes and higher spending, in a repeat of the stimulus packages of 2009, 2010, and 2011. Democrats will intone that the reversal from austerity to stimulus is necessitated by the Republican’s irresponsible spending cuts, while Republicans will cite the Democrat’s reckless tax increases. Both will bellow about the urgent need to get serious about deficit reduction — next year. And the nation will be worse off in both the short and long term.
A better approach, as I have argued before, is to proceed with the budget cuts while doing revenue-neutral tax and entitlement reforms. There is a path to growth and a more sustainable fiscal picture, but it means moving beyond blame to wise action.
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