A fiscal crisis is looming, and it seems that investors will remain squeamish, and the economy sluggish, until U.S. political leaders instill confidence in the long-term fiscal outlook. The so-called “fiscal cliff” is a series of tax increases and spending cuts that will automatically trigger if President Obama and Congress are unable to strike a deal. The fiscal cliff was a consequence of the Budget Control Act of 2011, a compromise measure that increased the debt ceiling last August.
We have heard a lot of blame going around for the current fiscal situation. The Democrats blame Bush policies. The Republicans blame Obama policies. Independents probably blame both sides. Washington’s culture of blame (along with a hyper-partisan media culture and partisan redistricting) has made compromise impossible, at least in recent memory. Forgive my skepticism about the likelihood of a “grand bargain”.
Our lawmakers should look at the cliff and see opportunity.
The last time the U.S. Tax Code was fundamentally altered was the year I was born: 1986. Everyone seems to agree that the system is too complicated and broken. While it does create jobs (accountants and lawyers), there are enormous inefficiencies that cost our society an ungodly amount of money.
Bruce Bartlett, veteran of the Reagan and Bush 41 administrations, has pointed to the key barrier to structural tax reform: popular and highly-used tax deductions.
The mortgage interest deduction, for example, “allows homeowners to deduct the interest paid on mortgage balances up to $1 million, including on second homes, as well as on $100,000 worth of home-equity loans.” The deduction was included in the Tax Reform Act of 1986 to incentivize home ownership.
It is popular among upper- and middle-class homeowners (read: voters), but it will cost the federal government $180 billion in 2013. Any economist worth his salt would tell you that such “incentives” actually artificially inflate home prices. After the events of 2007-2008, can’t we agree that policies that artificially inflate home prices, although perhaps popular, are not always wise?
The charitable contribution deduction is also a highly-utilized, but expensive, tax break. It will cost the federal government $50 billion next year. While encouraging charitable contributions might be a worthy goal, should the federal government go so far as to subsidize it? Doesn’t that almost defeat the point? Sometimes, those who give to charity even manipulate the tax code to make a profit.
The list of popular, and innocuous-seeming, tax credits goes on and on. The ten most utilized of these deductions will cost the federal government approximately $800 billion in 2013. The projected federal budget deficit will be $977 billion. The goals of these tax credits might seem worthy, but it seems that we have lost sight of the fundamental purpose of a system of taxation.
Perhaps Congress should go back to basics. What is the point of collecting taxes? If the answer is simple (to pay for government services and infrastructure), then the Congress could step back and write the tax code on a single sheet of paper. If the answer is to alter the behavior of the citizenry through a scheme of subsidies and penalties, then we are destined to live under an infinitely complex and unfair (the wealthier you are, the more you can afford to avoid tax liability) system.
Eliminating these deductions would place an additional burden on everyone. It seems that President Kennedy was correct in his criticism of the second President Roosevelt: that he changed the conversation about citizenship from one about responsibilities to one about rights. Perhaps we all should have a responsibility to sacrifice for the long-term fiscal future of the United States.