As my colleague Larry Mishel wrote in a post last week, “Fighting to preserve social insurance (Social Security, Medicare, and Medicaid) benefits that the broad middle class depends on and making the public investments we need for growth and equity requires winning the battle over more revenues in the budget negotiations ahead.” This task will prove far more difficult now that the Bush-era income tax rate cuts have been made permanent for all taxpayers earning less than $400,000 ($450,000 for joint filers), making them a permanent part of the legislative landscape moving forward.
The Bush tax cuts, passed in 2001 and 2003, were designed to sunset after 2010 so they could pass Congress through the reconciliation process. They were extended by President Obama through 2012 so as to not raise taxes during the recession/weak recovery; additionally, in exchange for extending them two years, Obama was able to negotiate the payroll tax holiday and the extension of Emergency Unemployment Compensation (EUC).
The most recent extension of these cuts has allowed conservative members of Congress (and others, like Grover Norquist) to claim victory on these tax cuts, which briefly expired on Dec. 31, 2012, only to be reinstated almost in full. Conservative representative Dave Camp (R-Mich.) summed up the situation by saying, “After more than a decade of criticizing these tax cuts, Democrats are finally joining Republicans in making them permanent.” Indeed, in many ways these are now Democrats’ tax cuts as much (if not more so) as they are Republicans.’ In the House of Representatives, the bill was passed by majority Democratic votes.
With this new agreement, Democratic members of Congress and President Obama have permanently set tax rates—in the sense that the rates don’t expire, not that future Congresses can’t change them—at extraordinarily low levels by historical standards. Short of major revenue increases, projected general revenue consequently will grossly underfund government services and investments; relative to a current law baseline (in which the tax cuts would have expired), passing the income tax rate cuts will lead to $3.2 trillion in lost revenue over a decade, according to Citizens for Tax Justice. President Obama’s initial negotiating proposal to Republicans would have cost about $800 billion less, notably by raising taxes above a lower $200,000 ($250,000 for joint filers) threshold, taxing dividends as ordinary income, and limiting tax savings on itemized deductions to 28 percent. In short, the policy choice made on the Bush tax cuts is expensive. As the Center on Budget and Policy Priorities demonstrated in this 2010 chart, the Bush tax cuts have been projected to remain a large component of deficits in the coming years; they have also been responsible for much of the disparity between the current law and current policy baselines submitted by the Congressional Budget Office with each budget update.
The projected costliness of the Bush tax cuts should not come as a surprise; they have been expensive since enacted. They played a major role in the huge swing from surpluses to deficits we experienced over 2002–2011. Remember, in Jan. 2001, CBO had projected cumulative surpluses of $5.6 trillion over the 2002–2011 period. What we saw instead was cumulative deficits of $6.1 trillion—an $11.7 trillion swing from surpluses to deficits. While a number of factors contributed to this swing, including the Great Recession, stimulus efforts, supplemental war and other supplemental appropriations, as well as increased security spending, a huge part of the swing—about 16 percent—was due to the Bush tax cuts. The figure below indicates the role these tax cuts played.
While the Bush tax cuts were designed as overwhelmingly regressive, the most recent deal does add some progressivity to the tax code, by allowing the cuts to expire on the top 0.7 percent of taxpayers (remember that even if taxes do go up on someone earning $500,000, that person still enjoys lower rates on income below the $400,000/$450,000 threshold). And while there is something to be said for letting these cuts expire for the wealthiest 0.7 percent, remember polling has shown that Americans support raising taxes on the rich by an overwhelming margin. There is a reason why Americans support this: in the last decade, the tax cuts contributed to widening income inequality by a) providing greater percentage increases in after-tax income for high-income households than they did for low-income households, and b) providing greater increases in pre-tax income for high-income households than low-income households through preferential treatment of capital income.
Higher deficits in the future, thanks to all-but-certain continuing low revenue levels, will give the GOP many opportunities to pressure Democrats into accepting spending cuts. And while there is something to be said for the stability that comes with a more permanent tax code, this permanent solution is not a good one. It will not be too long before Democrats will again be forced to fight for more revenue increases because of this decision—and who knows if they will have the circumstances in their corner to persuade enough Republicans to join them.