Tripping the fiscal fantastic

Business Times - 26 Jul 2011

Tripping the fiscal fantastic

Liberal Democratic pro-spenders and conservative Republican crusaders are both living in parallel fantasy lands


ACCORDING to the latest reports circulating in Washington, after the collapse of their talks last Friday, US President Barack Obama and the Republican Speaker of the House of Representatives have returned to negotiating a deal aimed at reducing the federal government deficit, which would allow for the raising of the debt ceiling before Aug 2.

The good news for the American taxpayers (Main Street) and the financial markets (Wall Street) is not only that the US Treasury is not going to run out of cash to pay its debt and run the government, but the leaders of the two major political parties may be moving in the direction of getting - or at least, trying to get - the US fiscal house in order.

If the reports are correct - a big 'if' - it is not inconceivable that the White House and Congress could be on the verge of embracing one of the most ambitious plans in recent decades to control the rise in the national debt.

It would supposedly save around US$3 trillion dollars over the next 10 years through major cuts in government spending on programmes that are considered to be the foundations of the modern American welfare state - as well as through an increase in government revenues resulting from a historic overhaul of the US tax system that would help eliminate major tax breaks for consumers and businesses.

This is really, really big in terms of dealing with America's fiscal problems. But it is also politically explosive for both Republicans and Democrats.

The notion that Congress is going to even touch - not to mention, make cuts in - the Social Security programme (the government-backed insurance plan) and Medicare (the healthcare insurance system for the elderly) sounds like a plot from a science fiction novel.

In fact, most Americans would tell you that they do expect to see US astronauts landing on Mars sometime in the future. But to raise the eligibility age for Social Security and Medicare? Forget about it!

And talk about the fantastic. Among the many popular tax-breaks being considered for elimination by the White House and Congress is apparently the deduction for home mortgage interest.

The darling of the powerful mortgage industry and beloved by America's home-owners, this is the tax loophole that helped produce the wild housing bubble that created the conditions for the financial meltdown and the Great Recession. So getting rid of it will not only raise more revenues and reduce the deficit, it will also end a destructive speculative binge.

But will it happen? Conservative Republicans and their allies in the Tea Party movement continue to resist any form of tax hike, and have been until now the main obstacle to reaching a deficit-cutting/debt-ceiling-boost deal.

President Barack Obama and the centrist Republican lawmakers are hoping that by masquerading what amount to tax increases as 'eliminating tax loopholes', the Republicans who had pledged to devote their political lives to cutting the tax rate to zero would buy into the bipartisan deal that they consider to be a betrayal of Ronald Reagan's anti-government crusade.

Liberal Democrats and their supporters in the progressive movement, on the other hand, are outraged that President Obama is even considering the idea of making such drastic and painful cuts in social economic programmes that have been central to the ideological and policy agenda of the Democrats since the New Deal era of Franklin Roosevelt.

If conservative Republicans warn that raising taxes would retard the economic recovery, liberal Democrats are worried that cutting government spending would have the same effect.

In a way, the liberal Democratic pro-spending crowd and the conservative Republican crusaders both seem to be residing in parallel in their fiscal fantasy lands that reflect their commitment to outdated ideological principles.

It is true that very high tax rates on consumers and business could slow economic growth, and that officials and lawmakers should always consider the way that the size as well as the timing of tax increases would affect overall economic policy.

But the notion that tax increases are always bad, and that tax cuts are always good is nothing more than a right-wing myth that has been disapproved by reality.

Similarly, while many liberal Democrats rely on old-fashioned Keynesian economics to argue in support of more government spending to help get America out of its economic mess, the reality of present-day government - a gigantic bureaucracy propelled by numerous interest groups - makes it unlikely that spending more on make-believe government projects is going to increase economic growth.

In fact, both dogmatic conservatives and doctrinaire progressives should start paying attention to the, well, facts. Marginal income tax rates for US households in the post-1945 era - and especially for the top income earners - have never been as low as they are today.

And as a percentage of gross domestic product (GDP), the federal government is bigger today than it ever was since the end of World War II. Note to Republicans and Democrats: The Great Recession took place at a time when tax rates were low and the size of government was big.

Getting out of the recession and expanding economic growth is not going to happen by cutting more taxes, increasing government spending and raising the federal deficit to the stratosphere - but by reversing the course.

The hope in Washington and Wall Street is that the majority of Democrats and Republicans - and the American people - are finally recognising that reality.

Copyright © 2010 Singapore Press Holdings Ltd. All rights reserved.


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