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A Good Deal Will Raise Tax Rates, Fix Entitlements

Although it isn’t yet time to panic about the fiscal cliff, negotiations so far aren’t exactly going well. The Republicans are committing themselves to an unsustainable principle of no marginal tax-rate increases whatsoever. And the Democrats are failing to seize the moment to make progressive reforms to Medicare and Social Security.

There’s still time to come to an agreement to prevent the more than $600 billion in federal spending cuts and tax increases scheduled to take effect in January while also raising the debt limit, but both sides will need to get out of the boxes they have put themselves in.

Let’s start with the Republicans. Their adamant opposition to an increase in marginal tax rates for anyone, anywhere, has two problems. First, raising huge amounts of revenue by reducing tax expenditures gets harder to do as the details become clear. The only practical way to hit a reasonable revenue target is to have some increase in marginal rates.

The second problem is that hard-and-fast principles can look increasingly ridiculous when taken, by opponents, to their logical extremes. Imagine some clever but Machiavellian Democrat (Sen. Charles Schumer of New York comes to mind) proposing that the top marginal tax rate be increased to 35.5 percent, from 35 percent, for people with income above $5 million. Would the Republicans really blow up a deal over an almost undetectable increase on a tiny number of extremely high-income taxpayers? That would be political suicide. On the other hand, if the Republicans accept this increase, then they don’t have a principle anymore.

Republicans are losing the support of even leading executives and K Street lobbyists. Randall Stephenson, the CEO of AT&T, for one, recently stated that a deal “will require a compromise involving an increase in both tax rates and revenue in return for real and significant steps to reform entitlements and rein in federal spending.” Note that Stephenson’s statement specifically mentions higher tax rates.

On the other hand, it also reminds us that the negotiations are about more than taxes. There is also the debt limit, which, according to the best guesses of both the Congressional Budget Office and the Bipartisan Policy Center, will be reached in the first quarter of 2013.

So the question for the Democrats is: Even if you win higher marginal tax rates, how do you plan to get the debt limit increased? The Republicans, after all, could cave on raising taxes but still be unwilling to include a debt-limit increase, absent any changes to entitlements. In this case, the fiscal-cliff victory would be Pyrrhic, with another crisis arriving in February or March.

In any case, Democrats should want entitlement reform that is progressive and puts the crucial programs on a sounder footing.

On Social Security, the Democrats, while they still control the White House and the Senate, should want to lock in the victory they have already won over the idea of keeping private accounts out of Social Security. Plus, as Peter Diamond and I have laid out, it’s possible to restore the program’s long-term solvency while also making it fairer.

I’m not pretending that Social Security reform is easy. It must, though, be compared with the alternatives. Progressive Social Security reform not only would be desirable but also could partially displace other, more troubling proposals – which would take effect too quickly, and thereby raise the unemployment rate, or be problematic on their own terms.

The administration claims that it is committed to reforming Social Security – just not right now. But why would reform be easier in, say, 2014, when nothing is forcing action, than it is today? (And if the problem is that Republicans are reluctant to vote for additional revenue as part of Social Security reform, how exactly does that change over the next year or two?)

To date, President Obama’s administration has basically just repeated its previous budget proposals for Medicare, which are perfectly fine and desirable as far as they go. To go further, the Center for American Progress recently convened a group of health policy experts (including me), which put forward a dozen proposals to slow the growth of health costs over the coming decades. Although these changes don’t generate significant “scoreable” savings because their effects are too uncertain for the Congressional Budget Office to fully evaluate.

The optimistic view is that, so far, the two sides are just positioning. After all, if a deal were reached weeks ahead of the deadline, both sides would worry that they gave too much. But this week and next are when both Republicans and Democrats need to show more flexibility.

Legacy Comments8

A balanced approach would be to take seriously the suggestions of the GAO in cutting duplicative programs and spending as well as a 10% reduction in federal employees and 10% reduction in federal employee (including Congress and the President) salaries. It might also be wise to raise some taxes but for every tax dollar raised there needs to be reform of entitlements to the tune of $10 and I am not talking Social Security and Medicare. I am more interested in federal programs which are ineffective or allow fraud. SSI comes to mind. Those on disability should have to requalify in order to purge the theives in these programs. The Food Stamp program is riddled with fraud and theft as well. Before we can seriously consider tax increases we need to get rid of silly studies, grants and programs which analyze dating in the United States, cow flatulence and the effect of antiacids on pimples. It is time to lean out the government infrastructure and save some real money. Oh, and a $4 million Obama vacation? He should stay put and work every day until our economy is back to where it was in 2006. Let 's have a REAL balanced approach and hold people responsible.

Now Thats A Terrific Letter IAR. We seem to have lost our way with the balanced approach of solving problems. Compromise benefits everybody. Somebody needs to send that memo to our current President. He seems to be on a power trip. We all suffer when leaders have big egos.

Where was the "balanced approach" under Reagan when his huge tax cuts for the wealthy and drunken sailor spending nearly tripled the debt? Where was the "balanced approach" under Bush when more huge tax cuts for the wealthy and drunken sailor spending nearly doubled the debt? The Republican imbalanced approach created this $16 trillion mess, and you're expecting us to believe more of the same Republican imbalanced approach will fix it?

It really doesn't matter what the tax rate is because of the endless deductions and loop holes. You read that the effective tax rate of those making over $250k is somewhere around 15%. Raising the tax rate to 39.5% won't change that. What really matters is the effective rate of each individual which is in the end, what they pay. Personally, I would favor a system which doesn't tax the first $25000 of income and then gradually taxes the income as it increases. No deductions. No filing, No IRS to the level they are now. In the end, you find a better, fairer system and one that the effective tax rates of those making more money is raised.

The President's 39.6% top bracket rate proposal is way too low as a starting point in the negotiations. The starting point of the fiscal cliff/debt snowball was when Reagan cut the top bracket rate from 70% to 28%. The current 35% top bracket rate should be doubled. In 1944 and 1945 the wealthy stepped up for America when she was in big trouble and paid a big 94% top bracket rate. The Koch's John Bircher/Norquist tax cut cry baby gang is a Trojan Horse virus that should be deleted.

Ok...lets say we do double the tax rate to 70%..Realistically...how much revenue can we expect that to bring in per year??? $200 billion? That only leaves a $1.1 Trillion budget deficit...this year. According to Obamas budget plan...we still have trillion dollar deficits as far as the eye can see...Total economic collapse in what...2021???

Reagan and Bush tax cuts, finance charges, and drunken sailor spending created this fiscal cliff/debt mess. Our yearly interest expense, mostly on inherited Reagan/Bush debt, is now about $400 billion, up from $75 billion prior to Reagan. The Kochs have pulled off the largest rip off /power grab in history, and they're ramping it up right now in Michigan, in advance of "Total economic collapse in what....2021???" - I think sooner - 2008 was the prelude.

To SCO: Let's assume your $200 billion figure is correct for "how much revenue can we expect that to bring in per year" if we were to "double the tax rate to 70%". So we can also assume: 30 years times $200 billion/yr equals $6 trillion of revenue lost since the Reagan top bracket tax cut went into effect. Then there's the additional interest expense that we have paid to finance the borrowing of the $6 trillion for 30 years, which is about $8 trillion. $6 trillion plus $8 trillion equals $14 trillion, which we can assume is the current debt related to the Reagan tax cut.

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