There’s a phrase that never crosses President Obama’s lips, even as he prepares to propose new tax cuts for small business. The phrase: permanent, across-the-board cuts in marginal tax rates for the wealthy.
Such cuts were championed by Presidents Reagan, Kennedy, and Coolidge. But Obama prefers – indeed, he insists on – temporary, targeted cuts that don’t reduce actual tax rates. Why is he sticking with this policy? I’ll get to that after breaking down the parts of the Reagan-JFK-Coolidge type cuts.
Start with the wealthy. As a group, they’re the most economically productive people in the country. That’s why they’re rich. They’re the biggest investors in the economy – in companies, in startups, in entrepreneurs – because they’ve got the discretionary funds to do so. It’s their investments that produce private sector jobs.
Despite this, Obama would punish them by raising taxes on income, capital gains, dividends, and estates as of January 1, 2011, for individuals earning more than $200,000 a year and couples making more than $250,000. If his goal is to stir economic growth and create jobs, his policy is counterproductive.
Next, marginal tax rates. These are the ones that affect potential investors the most. (The top rate is critical to wealthy investors.) Cutting them reduces the rate on the next dollar earned. This, in turn, creates a strong incentive to invest because the investor will earn more than he would have if rates were higher. Higher marginal rates, which Obama would impose, are a disincentive to invest.
But why must the cuts be across-the-board? First, these are the cuts that historically have had the greatest economic impact. Second, they incentivize everyone. Third, they’re the least complicated and easiest to apply. Fourth, they eliminate uncertainty – a strong disincentive all by itself – about who is eligible for lower tax rates and who isn’t. Fifth, they’re more effective than targeted cuts and less subject to the biases and fads of the political class.
Lastly, tax cuts that are permanent. They’re a no-brainer. They have the most powerful incentive effect. Investors are leery, and quite naturally so, of cuts that vanish in a year or two. But if the cuts are permanent, investors can envision long-term gains. Short-term profits are not to be sneered at. But the prospect of lasting gains – which investors crave most of all – is unparalleled as a catalyst for investment.
So what is Obama’s problem? His grounds for opposing permanent, across-the-board cuts in marginal tax rates are three-fold: ideology, economic inexperience, and political control. He wants growth and jobs, but he’s fearful, as many liberals are, of the rich becoming richer. He’s not inclined to rely on them to boost the economy. That would be “trickle down economics.” And he’s especially against cutting the tax rate on capital gains, even if tax revenues rise as a result. That would violate “fairness.”
While the president has lived many places, he’s yet to work in the profit-making sector. He loves non-profits and in his commencement address at Arizona State University last year urged graduates to work for them. One could argue he doesn’t like the profit motive. He lacks any personal experience with it, at any rate. Nor with incentives, though he once advocated an incentive in health insurance to promote weight loss.
In tax policy, political control matters to Obama and his allies. If tax cuts are targeted and temporary, they can decide who gets them and for how long. They feel most comfortable with spending masquerading as a tax cut. That was the case when checks were dispatched to the non-rich last year. But with tax cuts of the Reagan-JFK-Coolidge variety, control slips away. They have a decentralizing effect. The private sector nationwide – individuals, investors, stockholders -- would decide how to respond to tax cuts. Washington would lose control. To Obama, that appears to be unacceptable.