Sunday, September 13, 2009

Time to Return to TRA 1986?

I am fine with the current fiscal deficit--the evidence is pretty clear to me that we would be worse off in the absence of the stimulus, and so long as we can borrow cheaply, and build projects cheaply (because contractors are eager to get work), there are positive NPV opportunities for the public sector.

But the long term fiscal position worries me a lot (and it bothers me when people I respect as much as Paul Krugman soft-peddle it). The question is how to we get out from under?

The good news is that we have gotten out from under budget shortfalls before. The Obama administration proposes raising taxes on high earners, and that is fine, but it is not enough. More fruitful, I think, would be to go after the tax expenditures.

Leonard Burman, Eric Toder, Christopher Geissler estimate the size of tax expenditures. It is huge: depending on the modeling strategy they employ (they look at tax expenditures with and without interaction effects, and with different assumptions about the Alternative Minimum Tax), they estimate tax expenditures for 2007 of 700 billion to 760 billion. The largest expenditures are for retirement plans (126 billion), employer contributions for health insurance (138 billion), the mortgage interest deduction (92 billion), and preferential treatment of capital gains (84 billions).

If we were to eliminate tax expenditures, the overall effect on the tax code would be largely progressive. Pretty much everyone would take a hit, but those at the top would take a bigger hit. If the earned income tax credit (about 43 billion) were left alone the impact would be more progressive.

According to CBO, the long-term fiscal deficit is somewhere in the neighborhood of 600 billion per year. Elimination of tax expenditures other than the EITC would put us back into fiscal balance in a progressive manner without raising rates. It would also make the tax code simpler and less distortionary.

Just a thought.


Gary Curran said...

Yes I totally agree :Tax breaks are one method Congress could use to promote certain policy objectives. For example, deductions for mortgages encourage home ownership, while credits for childcare expenses allow single parents to work ETC ETC.

David Barker said...

Bravo, Richard. Another TRA 1986 is exactly what is needed - keep marginal rates the same (or lower), simplify the tax code, eliminate ridiculous tax expenditures, and revenue will be adequate without economic distortion.

Anonymous said...

It sounds okay, except that capital gains taxes should be indexed for inflation. That is, tax all capital gains greater than the rate of inflation at the normal tax rate.

Older IRAs and 401ks should probably be grandfathered in though. No new tax advantaged money can be added, but money already in them should be treated as promised when the contributions were made.

Employer deductions for health care should be scrapped, and national health care substituted. All other advanced countries have it.

Anonymous said...

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reoproperties wake said...

It should be that way, high earners must contribute more through paying their tax that is actually suitable on how much they earn. Doing the right thing is a smart move for everyone.

realtor from Vancouver said...

Hi and thanks for the post. I agree that the state deficit is alarming. However, first of all, what is necessary to be done is that people should stop spending borrowed money and taking more loads. Unless we learn this, the situation will never get better.

All the best,

jouer au poker en ligne said...

No new tax advantaged money can be added, but money already in them should be treated as promised when the contributions were made.