Sunday, November 14, 2010

Thoughts on the Bowles-Simpson Debt Commission Report

Erskine Bowles and Alan Simpson, the two chairman of President Obama's National Commission on Responsibility and Reform, released a report this week outlining what they thing should be done to get our governments finances in order. Here are some of the highlights of their suggestions:
  • Cut $200 billion in discretionary spending by 2015.
  • Half of which, $100 billion, will be from the Department of Defense's budget.
  • Raise the retirement age for Social Security.
  • Reduce the growth in Social Security payments. (It is currently indexed to wages.)
  • Simplify the tax code by doing away with many deductions, such as the home-mortgage interest deduction and employer provided health care.
  • Abolish many farm subsidies.
  • Cut Medicare spending.
  • Increase the gas tax by 15 cents per gallon.
The rest of the commission will vote on the proposal next week and the full report is due December 1.

The report does a great service by showing what it would actually take to get our fiscal house in order. During the election campaign, many politicians paid lip service to fiscal responsibility, but few would provide details on how they would do that. When you read this report, you can see why. Most of us could find at least one thing in the report that we would find upsetting, and if you're running for office the last thing you want to do is upset voters.

Criticisms of the report have come from both the right and left of the political spectrum. Conservatives don't like the tax increases and cuts to the military; liberals don't like the cuts to Social Security and Medicare. Here are some things to keep in mind, however, as you follow this story:

The biggest parts of the federal budget are Medicare, Medicaid, Social Security, and Defense. We can't make big cuts in spending without cuts in the areas where we spend the most. If we say that any one these are off the table, then we would have to make even more dramatic cuts in the other areas.

Everyone likes the idea of simplifying the tax code in principle, but not in practice. “Simplify the tax code, Congress, just don't touch the part that benefits me!” This is the message members of Congress get from their voters, and is the reason the tax code has not been simplified already.

Most of these deductions in the tax code simply distort the market and give preferences to certain people over others. Let us use the most popular deduction as an example—the home mortgage interest deduction. This deduction gives a preference to those who have a home mortgage over those who rent or own their home. Why should those with a mortgage be favored over those without? By including this deduction, home renters and those who owe nothing on their home have to pay higher taxes to make up for the $1 trillion per year in lost revenue. On top of that, the home mortgage interest deduction contributed to the housing bubble that was at the heart of our current economic crisis. It encouraged people to buy homes that they couldn't afford and led to inflated costs in housing. Any savings in taxes from the deduction were wiped out by the higher costs of the home itself.

Both conservatives and liberals have reason to oppose the home mortgage interest deduction. Conservatives should oppose it because they are in favor of a free-market capitalist system, and the deduction distorts the marketplace. Also, since most of the benefit of the home mortgage interest deduction goes to the wealthy, liberals should oppose it because they are in favor of progressive taxation (those who are most able to pay should pay the most in taxes). As it stands, however, the deduction would be difficult to do away with because many benefit from it.

The report is able to reduce the overall tax rates because it raises revenue by getting rid of deductions. This makes a lot more sense than raising tax rates and leaving the deductions in place. Most of those who pay income taxes (about 40% of wage earners pay nothing), do not itemize deductions. All of them would actually be paying less in taxes. Taxes would go up for those who currently take advantage of a lot of deductions.

We have dug ourselves into a big financial mess. To dig out, we will all need to make sacrifices. If all our politicians insist, however, on only supporting a plan that contains all of their priorities and none of the other party's priorities, we have no chance to address our growing debt problem. Ultimately, however, it would not be the politicians fault, it would be yours--the voters. Politicians respond to what the voters want, as they should in a democracy. So, if you look at this plan, or any similar plan, to deal with our debt crisis and reject it because of the sacrifices it demands of you, you have become part of the problem, rather than part of the solution.

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2 comments:

Anonymous said...

We have to be very carful, because...

"Taxes would go up for those who currently take advantage of a lot of deductions. "

That would be many small business owners, so I am not certain we would get the result we want, if we increase their tax burden. Even if the system is simplified.

I agree with changing the tax code

Joe said...

Debt reduction will be the issue that test our political system in the age of party polarization. Are the factions of how country still coming to a balanced medium for goverance or are factions slowing gaining power and creating an almost idle government. Debt reduction will test Madison's warning in Federstlist #10.