The Fiscal Cliff: Another Crisis the Dems Won’t Let Go to Waste

What's motivating Obama and the Democrats in their demonization campaign over taxes.

As the economy hurtles towards the Fiscal Cliff, President Obama on Wednesday scheduled a campaign event. There he recycled the class warfare rhetoric of rich people paying their “fair share”  and the need to take a “fair and balanced” approach to the looming disaster. Ignored was the biggest driver of our impending bankruptcy: the runaway entitlement spending that for decades has been identified as our biggest fiscal challenge. Yet so far, the Democrats have taken a hard line against any reforms of entitlement programs, and Obama has threatened to veto any agreement that doesn’t raise taxes on “millionaires and billionaires.” To switch metaphors, it’s as though the captain and crew of the Titanic had been watching the iceberg approach for four hours but steamed full-speed ahead anyway.

We all know the massive trauma our economy will suffer when the Bush tax-cuts, the 2% reduction in payroll taxes, emergency unemployment benefits, and certain tax-cuts for businesses all expire at the end of the year, at the same time the Alternative Minimum Tax sweeps millions of taxpayers into higher brackets, Medicare providers face a 27% cut, and Obamacare’s 3.8% surtax on investment income kicks in along with 4 other taxes. And don’t forget the automatic cuts mandated by the 2011 debt ceiling deal, $1.2 trillion over 9 years, half of that amount coming from the defense budget.

The effects of these cuts will be dramatic, as the Wall Street Journal reported in May: “In all, according to an analysis by J.P. Morgan economist Michael Ferule, $280 billion would be pulled out of the economy by the sunsetting of the Bush tax cuts; $125 million from the expiration of the Obama payroll-tax holiday; $40 million from the expiration of emergency unemployment benefits; and $98 billion from Budget Control Act spending cuts. In all, the tax increases and spending cuts make up about 3.5% of GDP, with the Bush tax cuts making up about half of that, according to the J.P. Morgan report.” An economy struggling through a sluggish recovery could slip back into recession as GDP is reduced by 4%, and unemployment could top 10%. Cuts to the defense budget will degrade our ability to protect our interests and security in a world where the Middle East is imploding and China is flexing its hegemonic muscles.

This combination of increased taxes and spending cuts was created by the need to reduce the monstrous $16 trillion debt, which the Tea Party movement and its electoral success forced upon our political consciousness. And everyone knows what is driving the deficits expanding the debt: out of control entitlement spending. Between 1960 and 2010, entitlements exploded from 28% to 66% of federal spending, and more than 34% of households were receiving means-tested benefits. Just the costs of funding the 83 federal programs dedicated to alleviating poverty are approaching $1 trillion a year. Under Obama this expansion has accelerated, as has the deficits needed to fund them, $5.5 trillion in his first term. Food stamp spending, for example, doubled during Obama’s first administration, and will reach $82 billion next year, and almost $1 trillion over ten years. If unreformed, Medicare, Medicaid, Obamacare subsidies, and Social Security are on track to devour 19% of GDP by 2050, a figure roughly the same as the historical average for tax revenues as a percentage of GDP. Overall federal spending will reach 43% of GDP, approaching the levels that are strangling many European economies. This trajectory is fiscally unsustainable, and if uncorrected will seriously damage our economy and the quality of life of following generations.

Yet despite the fact that our problems arise from too much spending, and despite the graphic warnings daily issuing from Europe where the wages of unrestrained spending and extravagant entitlements are obvious, Obama and the Democrats have nothing to offer but class warfare magical thinking about making the rich “pay their fair share,” and vague promises of future spending cuts that history shows us never materialize. The “fair share” meme, of course, is a dodge. By any objective standards, the “rich” already pay more than their fair share. In 2009, the bottom 20% of taxpayers earned approximately 5% of the nation’s income but paid just 0.3 percent of all federal taxes. Households in the middle 20%, which earned almost 14.7% of national income, paid only 9.4% of federal taxes. Americans in the top 20%, who earned 51% of the nation's income, paid almost 68% percent of all federal taxes.

Not only in terms of taxes paid in proportion to share of income, but also in terms of benefits received for those tax dollars, the U.S. has a highly progressive and redistributive tax system. According to Scott A. Hodge of the Tax Foundation, “The lowest-income Americans paid less than $1,700 in total taxes, but received $17,617 in spending benefits. In other words, they received more than $10 in spending benefits for every $1 they paid in taxes of any kind. Remarkably, middle-income families ––whom Obama says government does not do enough for––got $1.15 in spending benefits for every $1 they pay in taxes. By contrast, the top 40 percent of families pay far more in taxes of all kinds than they receive back from government in benefits. For example, families earning between roughly $86,000 and $110,000 paid an average of $23,289 in total taxes, but received $22,938 in benefits––equal to about 0.98 cents on the dollar. The wealthiest families, those earning over $712,000, paid more than $660,000 in taxes but received $283,000 in spending benefits––equal to about 0.43 cents on the dollar.” These disparities mean that the cost of entitlement spending is borne in the main by the top 40% of income earners. How much more “fair” can you get?

As for a “balanced approach” that makes raising tax revenues part of a plan to reduce the deficit, the numbers just don’t add up. Raising rates on those earning more than $250,000 a year––the threshold for “millionaires and billionaires” in Obama’s lexicon––would generate about $80 billion next year, when the deficit is projected to be about $1 trillion. That’s a scant 8%, the equivalent of couch-cushion change. More important, historically every dollar of tax hikes leads to more than one dollar of spending. The tax raise is always a fact, while the spending cut remains an unfulfilled promise. As Stephen Moore writes in The Wall Street Journal, both Ronald Reagan and George H.W. Bush negotiated between $2 and $3 of spending cuts for every dollar in raised taxes, but the cuts never happened. Now Obama and the Democrats, according to House Ways and Means Committee Chairman Dave Camp, have offered $5 in tax increases for every $1 in spending cuts––$340 billion in spending cuts in exchange for $1.6 trillion in tax hikes. And if history is a guide, even that lousy deal is unlikely to happen.

We have two explanations for what Obama is up to. The least likely is that he’s massively ignorant about economics and really believes that he can reduce the deficit by taxing the “rich.”  I think it more probable that he and the progressive Dems know exactly what they’re doing: not letting the economic crisis go to waste, but using it to attack and weaken the Republican Party, and expand the reach of the federal government and their own power by redistributing wealth to fund entitlement programs that benefit their political clients. That’s how Obama will fulfill his pledge to “fundamentally transform America.”

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