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Why Temporary Fixes Aren’t Fixes at All

11:08 AM, Jun 27, 2011 • By JIM PREVOR
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Robert H. Frank, a professor of economics at Cornell University, makes an important point in his New York Times column, titled “The Payroll Tax Needs a Vacation.” Specifically, Frank argues, we shouldn’t allow the debate over the federal deficit to obscure the problem of getting people back to work.

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As a matter of fact, these two problems are really flip sides of the same coin. It is highly unlikely that we will solve the deficit problem if we don’t grow the economy and get people back to work. 

The solution Frank identifies as most promising – a limited payroll tax holiday through 2012 – would seem to have much to recommend it. By eliminating both the 6.2 percent of salary the employee gives up in social security taxes and the 6.2 percent that the employer pays on new hires, a payroll tax holiday would lower the cost of providing jobs and allow people to live on jobs that pay less than they needed previously. Both aspects would surely boost employment. 

If one is Keynesian-minded, there is also a bonus in that all this extra money left in the pockets of people and businesses would amount to “stimulus” and boost aggregate demand – but that effect is not necessary to see this as boosting employment.

Certainly such a proposal is more likely to be successful than plans, also endorsed by Frank, to hire the unemployed to fix bridges and roads, since even President Obama has pointed out the difficulty of finding “shovel-ready” projects.

Yet we are already living in the midst of a partial payroll tax holiday with employee contributions reduced to 4.2 percent of salary for 2011, and its impact has been limited.

There is a lesson here for policymakers, if they are willing to pay attention. It is that macroeconomic models are imprecise and that the success of any economic policy depends, crucially, on the way businesspeople and entrepreneurs will react.

Unfortunately, most of those in a position to influence policy have no practical experience in business or creating jobs. As a result, they don’t really understand what will motivate action. Thus policymakers are frustrated; they honestly don’t understand why their trillion-dollar schemes aren’t producing the growth expected.

As an employer, although I would welcome any payroll tax relief for my company and our employees, a law such as Frank proposes would actually make me very careful about hiring.

Employee hiring and training is very expensive, and we really don’t want to hire anyone if we don’t think there is a decent shot they will be working for us in two years.

Terminating employees is also difficult and expensive and we try hard not to do things that could lead us to have to fire people. We often pay severance pay and wind up keeping people longer than we need to (for example, we try to not fire people in the weeks before Christmas). It also is demoralizing for fellow employees. Then there is the burden of COBRA paperwork and pension rollovers. There is the ever present possibility that a terminated employee will sue.

Yet this plan seems to set us up either to experience dramatically increased cost of employment on January 1, 2013, or to lose lots of employees.

Obviously, the fact that we will have to start paying 6.2 percent on January 1, 2013 right away makes me hesitant. If I don’t think the workers are worth that price now, I wouldn’t sign an agreement with the workers promising to give an automatic payroll increase of 6.2% in the future. Yet that is practical the implication is of Frank’s proposal. It would make me instantly want to underpay any new employees so that I could be ready to give them this raise that would be required by law when the payroll “tax holiday” is over.

Yet the issue goes beyond the employer-paid 6.2 percent. Like it or not, in business the problems of the employees are the problems of management, and if we don’t withhold the 6.2 percent contribution required under law for the next year and a half and then start withholding it on January 1, 2013, my office will be filled with employees pleading for a raise. A very small percentage of employees may bankroll a temporary payroll tax holiday or use it to pay down debt, but for most, it will become part of their income and they will respond to the re-imposition of the tax as if I gave them a pay cut.

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