Repealing Tax Cuts and Redistribution

Lori Montgomery writes about tax policy in today's Washington Post. Her article was cross-posted in the Fiscal Times and commented on in TaxVox by Howard Gleckman of the Tax Policy Center of the Brookings Instiution and the Urban Institute. I commented on it there and am cross-posting my comments here.

...conservatives like Rep. Cantor argue that not keeping the tax cut in place is some form of class warfare. As I posted on the Fiscal Times, a reason for governmental redistribution is to correct for the maldistribution of income in an unfree labor market - which is made possible by government benefits to corporations and other capitalist businesses. The fact that this correction is not adequate to the subsidy for the rich is not grounds for ending the correction, but for increasing tax rates on the wealthy even more.

Back before the Reagan tax cuts, companies had less of an incentive to play hardball on salaries, since most of the money going to investors and/or managers for doing so would be taxed. It is no accident that salary raids and union busting began in earnest under Reagan and not just because of lax DOL enforcement - but because changes in the tax code made doing this pay.

The problem becomes how to undo the implicit inequaltiy. Controls don't work and taxes will never go up as high as they used to be (although the prospect is tempting). Social Security reform may be an avenue for equalizing wages if personal retirement accounts are managed by the union and if they can be managed to maximize salary benefits as well as short term return. The other option is to allow concentrated ownership of one's employer in personal accounts. Eventually, most firms will go private (or stay private) and be owned by rank and file employees rather than management - with the rank and file in control of what management and executives are paid. This would especially be the case if the employer contribution to these accounts was equalized (decoupled from salary) with the income cap removed - with the added feature of shifting all contributions to employers). Now that would be successful class warfare.

The other aspect of redistribution is land reform. The current crisis is masking a land grab by the wealthy - which must lead to a discussion of land value taxes as a way to equalize income - since people's largest expense is still housing. An LVT which extracts the value of these holdings will cause excessive land accumulation to end, especially if this is attached to a citizen dividend that both redistributes income and cancels out the tax obligation of single-family homeowners.

None of these three of these options (high taxes, personal accounts, land value taxes) are ever discussed - they are essentially off limits - even at TPC. I can assure you that if the personal account scheme I have described was discussed, no one would talk about Social Security reform for a while - especially on the Republican side. Indeed, the Tea Party would protest anyone who did. Discussing any of these would also jeapordize the funding of Brookings, Urban and TPC, so I doubt a more in-depth discussion will occur (although I would love to be proven wrong on this).

Today's letter to the Fiscal Commission

Commissioners,

I write today to comment on the presentations by Dr. Paul Posner of George Mason University and Janet St. Laurent and Patricia Dalton of the Government Accountability Office. Both of these presentations were quite well done, however they did not provide much new knowledge. While both methodologies are useful in administrative budget formulation, they do not get at the heart of the problem - which is the political incentives which keep the budget out of balance and the process out of control.

Posner's presentation on performance based budgeting will lead to better government, but not necessarily to cost savings. The reinventing government efforts championed by Vice President Gore came a bit closer on that front by suggesting that agencies who cut administrative costs be given a larger overall budget - giving them a bottom line to shoot for. This is similar to an idea I submitted to the Gore task force in 1993. Whether there is any connection to my suggestion and the final recommendation is unclear, since such efforts rarely cite the sources for the ideas they implement. Irregardless, the impact of this reform was not what balanced the budget during Mr. Clinton's presidency. Spending caps, increases and the willingness to enforce them had a much bigger impact.

The problem we as a nation face is one of incentives. Until tax increases to fund overspending on discretionary and entitlement costs become automatic, there will be no incentive to enact discretionary budget cuts, earmark reform or entitlement limits (assuming the latter is even a good idea to start with). Enacting spending bills on time is a separate issue - and this won't occur until a Joint Budget Resolution is enacted before detailed budget estimates are even submitted by the executive - with automatic enactment of either the estimates or adjustments to current law should appropriations committees fail to complete their work.

Regional appropriations and entitlements, with regional Value Added Taxes to fund the former and an expanded business income tax (all businesses - including sole proprieters, all value added) to fund the latter, with a balance requirement for each region, will get domestic spending under control - although to be really effective a constitutional amendment would be required allowing both automatic tax increases and regionally based excise taxes - as well as regional legislative bodies and executives to implement these things. The national government would impose a second VAT for truly national agencies - like NIH, continue to fund and administer retirement and old age survivors insurance and the associated payroll tax, finance net interest and debt retirement, strategic nuclear forces, naval sea deployments and overseas military and marine deployments - all funded by a surtax on higher incomes and deficit spending in times of national military emergency.

Altering taxing and spending as I have suggested makes it more noticeable to taxpayers, especially high income earners, who would be clear on who would have to pay back shortfalls. While most students of federal finance are well aware that this obligation will be met mostly by the children of higher income taxpayers - most such taxpayers do not have this level of awareness. Were they so aware, there would be no question of how to ultimately meet our budgetary shortfall or of how aggressively to do so. To be clear, general tax increases will decrease economic activity and become self defeating, while taxes on the wealthy will not. Indeed, such taxes may be a salutory way to prevent concentrated asset accumulation and price inflation in the financial sector. While I agree that there is a delicate balance where too high a tax rate might lead to a decrease in revenue, we are currently no where near that point. By ignoring necessary tax increases we put the general economy at risk while putting the assets of upper income families at even greater risk. The kind of disruption a financial collapse would cause for the poor is unconscionable - however in terms of dollar value risk, the entire stock of financial wealth is at even greater risk of loss should nothing be done. The reforms I have suggested will defuse the current crisis and will lead in time to incentives to keep the budget in balance, reduce excess defense expenditure and deployments without allied cost sharing (what used to be called tribute) and ultimately the repayment of the national debt and the temporary sunsetting of the surtax.

Thank you for your attention to this option. As always, I am available to answer any questions you might have.

What to do about Freddie and Fannie? Pay it forward.

In Today's Washington Post, Barnie Frank and his chance to reform Freddie Mac and Fannie Mae next year (assuming a House majority) are profiled.

I have some ideas on this issue, but they have more to do with Federal Reserve action than congressional action.

First off, the Federal Reserve should write down the Mortgage Backed Securities in its portfolio to the market price of the underlying mortgage and then use its leverage to decrease the loan balances of the underlying assets, reducing both principal balances and monthly payments. Nothing else will really stimulate the economy like paying this problem forward.

Second, the Federal Reserve should buy Freddie and Fannie from the federal goverment for the current market value of their portfolios. Again, the underlying loans should be adjusted.

Third, the Fed should buy up all the Securities it can on US mortgages that are under water discounted to the market value of the underlying assets. This may take some encouragement - I suggest that this encouragement come in the form of Bankruptcy Reform, where borrowers are allowed to petition that their first mortgages be crammed down to market value. Meanwhile, assets should be required to be marked to market. Do these things, and assset holders will be all too happy to sell to the Fed.

Fourth, repackage mortgage backed securities held by the Fed on a regional basis - corresponding to Federal Reserve Bank regions. Then, create two new GSEs in each region, with the Federal Reserve receiving the proceeds from the initial public offerings to compensate them for the write downs.

Do these things and the prospect of a double-dip recession - which would in actuality be a Depression - would pass. Don't do this and a douple-dip is a sure bet, especially if the Republicans win and grid-lock results in Washington.