2007 November 01 Thursday
Hot Potato: Which President Gets Next Recession?

Megan McArdle expects the Democrat who wins the US Presidency in the November 2008 election will get saddled with the next recession.

The next term is going to be pretty interesting, in terms of watching what wonks say about presidential impacts on the economy. If Bush doesn't end up with a recession on his watch, the next person in office will almost certainly catch a nasty twofer: a deepening hole opening up in the budget due to entitlements, and a recession that will make any such problems desperately worse. I expect a neat (and amusing) flip between Democrats proclaiming that deficits don't matter, and anyway, the president has limited power over the economy; and Republicans righteously screaming about fiscal responsibility.

If oil prices keep going up then I expect the recession will happen sooner. But we could get lucky and avoid a recession until 2009.

The big budget crisis coming up due to exploding old age entitlements spending makes me expect higher taxes. But in the last 45 years US federal taxes as a percentage of total GDP have averaged 18.2% of the economy with a peak in the late 1990s of 20.5% of GDP. Tax revenues were only 16.5% of GDP in 2003 rising to 18.4% in 2006. That rise probably was due to especially fast income growth among higher income people in higher tax brackets.

That historic range of tax revenues as a percentage of GDP suggests the people are pretty opposed to paying high taxes. So on one hand, we have the historical post-WWII limits on the federal government's slice of GDP. But on the other hand we have the huge unfunded old age entitlements and the demands that the Baby Boomers will make to have their old age entitlements paid in full. How is this going to pan out? Does the resolution of this conflict depend on who gets elected as the next President?

I'd rather raise retirement ages and cut old age entitlements than increase taxes and avoid big tax increases. For that reason I'm suspicious of all new forms of taxes even if those taxes are billed as ways to cut other taxes. Value Added Tax (VAT) seems like a bad idea because the European countries with VAT have governments that (and someone correct me if I'm wrong) take larger percentages of GDP than the US government does. My guess is that people are less opposed to VAT because VAT is less visible. Money taken out of one's paycheck is visible in every check you get and every time you fill out income tax forms. But taxes that just show up as higher prices for various products are more hidden and create less opposition. So oppose hidden taxes.

If the Democrats win the White House and Congress in the next election will we see enactment of a national VAT to pay for old age entitlements?

Share |      By Randall Parker at 2007 November 01 09:39 PM  Economics Political

Ned said at November 2, 2007 5:41 AM:

The VAT is the ultimate stealth tax, so the politicians love it. If you buy something in a country with a VAT (most of Europe, for example) and the VAT is 15%, your purchase of an item for, say 115 actually costs 100 plus a 15 VAT. Of course, this is never directly stated to you, but it's there, all the same. I'm not so sure the Democrats will win in 2008, but they might. How will they deal with a recession - good question! This would be an easy one for a Republican administration - just cut taxes. Will the Democrats take the same path or choose something like a massive increase in government spending? Pretty tough if you've just run on a platform of reducing the deficit. Stay tuned....

Wolf-Dog said at November 3, 2007 6:08 AM:

It seems that VAT is a form of consumption tax, which punishes the lower and middle classes more than the upper class. After all, the VAT essentially has on effect on high income people who choose to accumulate wealth instead of spending. At the end of 1999, the top 10 % richest families owned 90 % of the wealth. By 2020, the top 5 % will probably own 95 %. This trend will never stop, unless there are wars, plagues, earthquakes, revolutions or volcanic eruptions.

Randall Parker said at November 3, 2007 9:57 AM:


VAT is preferable to income taxes for rich people in part because rich people can decide when where to spend. They can build mansions in the Bahamas or somewhere else outside of a VAT zone.

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