Larry Mishel nails a key point: tax cuts are palliatives, not cures.

February 24th, 2015 at 8:50 am

I don’t think you need a crystal ball to predict that whoever runs for president in 2016 will have some sort of tax cut at the heart of their platform, probably targeted at the middle class, and I’m talking both D’s and R’s. It will likely be pitched as a response to middle-class wage and income stagnation, and as such, I certainly understand the motivation. The disconnect between growth and middle-class prosperity is the motivation for my own tax cut proposal new book, The Reconnection Agenda: Reuniting Growth and Prosperity, hopefully out within the next few months.

But I actually say little about tax cuts as a solution to the fundamental disconnect, for reasons Larry Mishel articulated effectively in an NYT oped yesterday: “What has hurt workers’ paychecks is not what the government takes out, but what their employers no longer put in — a dynamic that tax cuts cannot eliminate.”

No question that some of the tax cuts we’ve been hearing about lately, such as those in the President’s budget to help pay for childcare or college, could help strapped families. The fact that a policy is palliative versus curative doesn’t mean it’s a bad idea.

But to get to the root of the disconnect, we need measures that strengthen workers’ bargaining power, from full employment supported by the Fed and investment-oriented fiscal policy, to improved labor standards and collective bargaining, to more balanced trade, and (I’d add) direct job creation and fair-hiring practices to reach the hardest to employ (each one of which gets a chapter in the forthcoming book).

One point I’d add to Larry’s excellent oped, and I think it’s important. This issue of wage and income stagnation is not quite the duality that our rhetoric suggests. That is, there’s no firewall between the primary distribution, or market outcomes, and the after-tax and transfer distribution. They’re related.

For example, this paper shows strong negative correlations between top tax rates and before-tax high-end compensation or income shares (see figure). One reason is that as top marginal tax rates go up, high earners have less incentive to push for super high salaries. E.G., a top rate of say, 70%, on income over some very high threshold disincentivizes the kind of super-numerary CEO pay packages we’ve seen evolve as top rates have come down. Of course, this result is conditional on few avenues for tax avoidance, which unfortunately does not describe our current tax code at all.

So sure, more progressive taxation is warranted, but to rely wholly or even mostly on that solution is to both further reduce our revenue base–very bad move–and to require annual trips back to the redistribution well…not, shall we say given current and probably at least near-term future politics, a promising strategy.

 

ceocomp_tax

Source: Piketty et al (see text for link)

 

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4 comments in reply to "Larry Mishel nails a key point: tax cuts are palliatives, not cures."

  1. Smith says:

    You’re being too subtle here.
    The major point made already is that cutting taxes pales in comparison to boosting wage growth. Cutting my taxes 5% one year is nothing compared to getting 3% annual raises for a decade (which is not inflationary if inflation is 2% and productivity growth is 1.5%)
    There are other arguments for not cutting taxes, like the need for infrastructure and research investment. Also, many programs the government funds, like education, disproportionately benefits the 99% (the 1% go to private school and don’t need college loans).

    The other major point is cutting taxes tends to negate even the thought of raising taxes on the rich. But tax the rich high enough (70% to 90%) and they will have less incentive to grab all the corporate profits for themselves. That would leave some money left to give the workers a raise, and as indicated, wage growth is better than tax cuts. You can’t keep cutting taxes 1% each year. You can keep getting real pay raises of 1% after inflation paid by historical average productivity growth every year. Raising taxes on the rich helps that process.


  2. Flex says:

    As Smith indicated above, should the government not get a single dime directly from a higher top marginal tax rate the benefits to the economy would still be tremendous.

    Should a CEO decide to voluntarily cap their compensation to avoid a high marginal rate, the money would still go somewhere. The money would be spent on increased workers salaries, increased benefits, research and development, even possibly dividends to investors. All this economic activity would, as a side effect, put more money into the government coffers, and while on it’s journey help reduce inequality.


  3. Robert Salzberg says:

    Tax cuts are the problem, not the solution. For political reasons, it’s easier to run programs through the tax code rather than stand-alone spending programs. The net result is catastrophic where tax cuts with good intentions, like the mortgage interest deduction, end up going primarily to those who don’t need help and do little to promote home ownership among people who need help affording a home.

    Worse still, as detailed in the excellent book The Submerged State, people generally don’t see tax cuts as government assistance and therefore don’t give government any credit. The end result is $1.3 trillion plus in annual tax expenditures that could be allocated much more efficiently if removed from the tax code and re-written as stand-alone spending programs.


  4. PJR says:

    Tax cuts also can resemble old medical practices that eventually prove to be counterproductive. Bleeding, anyone?


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