2009 February 28 Saturday
Obama Will Need Much Higher Taxes To Fund His Plans

Steve Sailer says Obama won't be able to fund his social programs just from taxing the top 2% in income.

Obama's economic thinking remains stuck in 2007. He assumes he can turn American into a social democratic state by taxing the top two percent, by closing loopholes on hedgefund managers, and the like.

Yet, the problem of the rich getting richer largely solved itself in a few days in early autumn of 2008. I suspect that hedge fund managers won't be a bottomless source of taxable income in 2009, and for a number of years to come.

So, Obama will eventually realize that he'll have to squeeze the upper middle class: families making from, say, $90,000 to $250,000. He'll have to raise income tax marginal rates on this broad expanse.

If Obama wants to try to preserve all the old age entitlements currently promised he has to jack up taxes even for people making below $90k. If he wants to expand entitlements (e.g. to provide health care benefits to more working age adults and children) then he has to increase taxes even further. The coming financial crisis due to unfunded old age entitlements is going to collide with Obama's ambition to expand other social programs aimed at his younger supporters. Obama stands by the standard liberal position that Social Security and Medicare require only minor tweaks. But this position won't be sustainable as more baby boomers retire. I'm expecting de facto rationing of medical care in response to the entitlements-driven fiscal crisis.

Harvard economics prof Greg Mankiw says even under optimistic assumptions about US economic recovery Obama is going to end up with deficits after the economy recovers larger than Bush had.

During the period 2005 to 2007, the U.S. unemployment rate hovered in the ballpark of 5 percent. What was the budget balance? According to OMB historical documents, the budget deficit averaged just under 2 percent of GDP during those three years.

Now compare these results to the new Obama budget. For the moment, let's put aside concerns about the economic forecast on which the budget is based and take their figures at face value. According to the Obama administration numbers, the economy will reach normalcy of 5 percent unemployment in year 2014, and they project unemployment remaining at that level thereafter. (I infer they take 5 percent to be an estimate of the natural rate of unemployment, which seems reasonable.) What happens to the budget balance when we get to that long-run equilibrium? According to their numbers, under their proposed policies, the budget deficit will average a bit over 3 percent of GDP during that time.

Megan Mcardle says three quarters of Obama's planned improvements to cut the spending deficit come from scaling down the Iraq war and his other expected improvements in the US federal government's budget come from sources that are unlikely to help as much as he projects.

Take the Iraq war.  We were not, under any administration, going to spend as much in 2015 as we did in 2005.  But by treating that spending as an ongoing cost, Obama now gets to take as much credit for reducing it as he would for closing permanent air bases in Germany, or trimming Social Security.    Reducing the cost of "overseas contingency operations" acounts for $1.5 trillion of Obama's much vaunted $2 trillion in savings.  Likewise the AMT fix--with high-end incomes falling, deflation in the air, and homeownership rates declining, AMT collections are going to decline even without a fix; this lets them recognize the entire decline at a time when the numbers are so large that taxpayers are too dazed to notice the fall.

The Obama administration is hardly the first to calculate the numbers to allow them to deliver upside surprises; during the Bush administration, the forecasts issued by the White House's Office and Management and Budget started to diverge from those of the Congressional Budget Office in an unexpected direction:  they became markedly more pessimistic.  Few people think it was an accident that this allowed the Bush administration to deliver a steady stream of "Surprise!  The budget deficit is falling even faster than expected!" announcements.

Megan doesn't think most of Obama's other sources of revenue improvements will pan out.

Obama needs those big bath numbers on the Iraq side, because it seems unlikely that a lot of the things he's counting on to bailout his budget are going to materialize.  Health care savings are often promised by American politicians, but so far never delivered.  The cap and trade revenues which are supposed to deliver $625 billion over the next 10 years are going to be politically controversial, and also, highly dependent on energy demand--if there are too many permits, they won't yield much revenue.

I do not think cap and trade will pan out as a revenue source because I think carbon dioxide emissions will plunge without carbon taxes. We are very close to the arrival of the oil production downslope after Peak Oil. If khebab is right then we've already peaked and the early stages of the decline will be sharp. Less oil produced means less CO2 emitted. US oil consumption flattened in 2006 and 2007 and declined in 2008. We may already be looking at peak US oil demand in the rear view mirror.

Update: Obama wants to get more money from upper income earners. He claims only the top 2% need to pay in order to fix our budget deficit problem. Let us put that in perspective. The top 7% pay 62% of all federal tax receipts.

Consider the IRS data for 2006, the most recent year that such tax data are available and a good year for the economy and "the wealthiest 2%." Roughly 3.8 million filers had adjusted gross incomes above $200,000 in 2006. (That's about 7% of all returns; the data aren't broken down at the $250,000 point.) These people paid about $522 billion in income taxes, or roughly 62% of all federal individual income receipts. The richest 1% -- about 1.65 million filers making above $388,806 -- paid some $408 billion, or 39.9% of all income tax revenues, while earning about 22% of all reported U.S. income.

But that was in 2006 when the upper class were making big money. Their incomes have plummeted. Obama needs a lot more.

But let's not stop at a 42% top rate; as a thought experiment, let's go all the way. A tax policy that confiscated 100% of the taxable income of everyone in America earning over $500,000 in 2006 would only have given Congress an extra $1.3 trillion in revenue. That's less than half the 2006 federal budget of $2.7 trillion and looks tiny compared to the more than $4 trillion Congress will spend in fiscal 2010. Even taking every taxable "dime" of everyone earning more than $75,000 in 2006 would have barely yielded enough to cover that $4 trillion.

Fast forward to this year (and 2010) when the Wall Street meltdown and recession are going to mean far few taxpayers earning more than $500,000. Profits are plunging, businesses are cutting or eliminating dividends, hedge funds are rolling up, and, most of all, capital nationwide is on strike. Raising taxes now will thus yield far less revenue than it would have in 2006.

To pay for the old age medical entitlements will require several GDP percentage points. Make the taxes on the upper classes too high and they will not earn as much money. There are diminishing returns from higher tax rates and eventually higher taxes become counterproductive. So Obama will need to extend down his tax increases to the upper middle class and the middle class. But an attempt to do that will shrink his political base.

The carbon tax attracts him not just (or even mainly) because it deals with global warming (now rebranded as climate change). The carbon tax allows him to get more revenue without raising income taxes. To get more total GDP as taxes really requires more kinds of taxes. Value Added Tax is his best bet because it is much harder to avoid - spending abroad is the best way to avoid it.

Share |      By Randall Parker at 2009 February 28 08:59 PM  Economics Government Costs


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