Why Obama's Tax Deal May Be an Even Bigger Disaster Than You Think

If our politics weren’t tainted by a unceasing barrage of innumerate right-wing demogoguery on taxes and public spending, then a temporary tax cut would be just that and the deal Obama cut with the GOP last week would be, as the president insisted, a pretty good one on balance.

But as it stands, the package that has outraged many progressives -- and not a few conservatives -- is a baited trap, a Trojan Horse for the "entitlement" cutting crowd that could lead to disaster for working families over the long haul.

It's true at face value that the Republicans supporting the deal are guilty of rank hypocrisy. After years screaming that we face a looming fiscal crisis that will doom the nation in short order, Republicans won the House on a pledge to repeal the Democrats’ health care reforms, a move that would add $455 billion more to the federal deficit over the next decade (PDF) and before even taking the Speaker’s gavel, they held benefits for the long-term unemployed hostage in exchange for a tax deal that would add another $854 billion in red ink over that same period.

Progressives have been appalled, largely by what they view as the administration’s easy “capitulation” to the GOP. But the truth is that, on its merits, the deal isn’t at all bad for the "Main Street" economy. 

Despite being the central point of contention, just 15 percent of the package’s total value (including the $57 billion cost of extending unemployment benefits) would go to cuts for the wealthiest taxpayers. Fifty-seven percent of the costs are for extending the “middle class” tax cuts -- a Democratic priority. The package also includes a payroll tax holiday next year, which is an effective 2 percent pay-raise for working people -- people who will spend that money when consumer demand is at a low. There are also tax credits for working families, and for businesses that invest in the American economy in 2011. 

According to the nonpartisan Center for Budget and Policy Priorities, the payroll tax holiday and working families credits alone will keep 2 million people out of poverty. And an analysis by the Center for American Progress estimates that despite its flaws, the deal will create or save 2.2 million jobs.   

With so much in the package for Obama, this leads to the question of why the deal has garnered so much support among a Republican caucus that's made no secret of its desire to sabotage his presidency. 

The answer is that they’re playing the long-game, and are confident that two years from now, during the heat of a presidential election, they will once again be able to extend “temporary” tax cuts without effective opposition from Democrats, and that those lower rates will cut deeply into the federal government’s revenues, forcing painful cuts and ultimately advancing their overriding wish to shrink government down so it can be drowned in a bathtub.

Consider the latest wrangling over the Bush tax-cuts for high-earners. Democrats had popular opinion on their side, but were unable to carry the fight to the GOP and let the “temporary” relief for millionaires expire. 

As Nancy Altman, co-director of Social Security Works, put it, “Given [law-makers'] unwillingness to raise taxes by less than a nickel on every dollar earned over $1 million, I find it unfathomable that a more conservative Congress, in two years, in an election year, will increase the payroll tax by 2 percent on the very first dollar, and every other dollar up to the cap, earned by virtually every single worker in the country.” 

Recent history suggests she’s right, and conservatives are quite open in acknowledging it. When Howard Kurtz of the Daily Beast asked Bush’s former communications director, Dan Bartlett, about the “temporary” tax cuts they passed in 2001 and 2003, the GOP strategist openly gloated about the successful “trap” the Bushies had set for the Democrats.

“We knew that, politically, once you get it into law, it becomes almost impossible to remove it,” says Dan Bartlett... “That’s not a bad legacy. The fact that we were able to lay the trap does feel pretty good, to tell you the truth.”   

Two of the provisions of Obama’s tax deal are, like the cuts for the highest earners, potentially disastrous for the American economy were they extended again and again, indefinitely.

The first is the payroll tax reduction. Again, it’s a policy that some progressive economists like James Galbraith of the University of Texas have advocated for some time. But the best-case estimates for the jobs picture in 2012 is an unemployment rate of about 8.5 percent, and raising taxes on working people at that time is going to be a potentially insurmountable political challenge.

Next year, the cut in payroll taxes would be made up out of general revenues -- from deficit spending -- and the Social Security system will be protected. But with a bipartisan fetish surrounding the federal deficit, it’s not hard to see that payroll tax reduction being baked into the long-term projections of the system’s finances in short order. 

The Social Security system is, in reality, in very good shape fiscally, and could remain so into the indefinite future. But that hasn’t prevented conservatives from claiming the opposite to be true -- calling Treasury bills, the safest investment on the planet, “worthless IOUs.”  

They make the claim that Social Security is in trouble despite the fact that the payroll tax has produced surpluses in 26 of the past 27 years — when it didn’t add a penny to the deficit. But if that 16-percent cut in payroll taxes remains the law of the land over the longer term, the program’s fiscal picture changes dramatically, and the argument that Social Security is in trouble becomes fact rather than fiction. From there, the claim that we have to cut benefits becomes much easier to make, and far more difficult to refute.

The other odious measure is a reduction in the inheritance tax, which is set to return to its pre-Bush rates if Congress doesn’t act. Under the deal Obama cut with the GOP, the top inheritance tax rate would be 35 percent on estates valued at more than $5 million, as opposed to a top rate of 55 percent on estates worth more than $1 million. According to the Associated Press, that would exempt 400,000 of the wealthiest families in the U.S. from paying any taxes at all on inherited wealth, leaving only 3,500 of the country’s largest estates to be taxed under the deal.

Called a “death tax” by the right, it’s been subject to mendacious claims that it causes families to lose their farms and small businesses, despite the plain fact that there has never been a documented instance of that happening.

But the measure isn't just egregious because the reduced rate would starve the government of $270 billion in revenues over the next decade in order to fatten the bank accounts of the wealthiest heirs in the country. The inheritance tax has also been a bulwark against the accumulation of massive piles of wealth at the top.

Here we have to look at some rarely discussed economic history of the United States. According to economist Ethan Wolff, the top 1 percent of American households controlled just over 36 percent of the nation’s wealth in 1939, as the country emerged from the Great Depression. By 1976, the share of of the country’s wealth controlled by the richest had shrunk to just under 20 percent, but by 2007, the top 1 percent again owned around 35 percent of our national treasure.

Now consider the historical estate tax rates in that context -- its growth, and later its reductions, correlate perfectly with the lopsided accumulation of wealth in the hands of the wealthiest.

estate tax

Franklin Delano Roosevelt signed four increases in the estate tax into law -- in 1931, 1933, 1934 and 1941-- and in 1939 the share of wealth controlled by the top 1 percent began to decrease, which it did steadily until 1976 (with a top rate of 77 percent). In 1977, the first of a series of cuts in the estate tax were passed, and the trend reversed -- again, more treasure accumulated at the top of the economic pile.

Changes in the estate tax alone didn’t result in the kind of inequality that makes the U.S. more closely resemble a banana republic than a modern superpower, but it contributed to a more equitable distribution of wealth. It’s long been in the Right’s cross-hairs, and the tax deal gives them a foot in the door to push for a permanent top rate of 35 percent — the lowest since 1931, and less than half of what the wealthiest paid as the American middle class was born.

The final element of this story is Obama himself, and the current Democratic leadership. If we had reason to feel confident that they’d spend the next two years forcefully making the case that these “temporary” cuts needed to expire for our long-term fiscal health, and that they’d stick to their guns and win that fight in an election year, then there’d be a much stronger argument for supporting this deal. 

As it stands, we're familiar with the soft way they play hardball with Republicans, and the deal’s simply a disaster in the making. 

A correction was made to this article after publication.


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