Beware the Tax Cut Siren. . . and Dreams of Surplus

Robert D. Reischauer
Robert Reischauer Headshot
Robert D. Reischauer Distinguished Institute Fellow; President Emeritus - Urban Institute

June 10, 1998

Watch out! “The surplus is surging out of control,” or so warns Rep. Bill Archer (R-Texas), chairman of the House Ways and Means Committee. To ward off this frightening prospect, he and a growing number of his colleagues have proposed that at least a portion of the surpluses predicted in the administration’s new budget review be used for tax cuts.

The government shouldn’t take in more revenue than it needs to pay for current government programs, they reason—after all, “that tax money belongs to the taxpayer, not the government.”

Before we let our election-bound lawmakers lavish another tax cut on us, we should ask them to answer the following three questions.

1) Where will the money to pay for the tax cut really come from? Certainly not from excess income, excise, estate and non-Social Security payroll tax revenues, for there are none. Even if the administration is right and the overall budget registers a $39-billion surplus this year, revenues from these taxes will fall some $63 billion short of covering the costs of the non-Social Security activities of the government. The projections suggest this shortfall will continue for at least the next five years. The money for the tax cut will come from Social Security, whose receipts will exceed expenditures by a bit over $100 billion in 1998 and by larger amounts in the future. But Social Security’s surpluses are not evidence that the program is taking in more revenues than it needs. In fact, these surpluses come nowhere near covering the increased obligations the program incurs each year to pay future benefits. That’s why the president and congressional leaders are engaged in a bipartisan effort to “save” the program.

In the past, many have railed against using Social Security surpluses to pay for government spending programs. Certainly, it’s no more appropriate to squander the retirement program’s surpluses on tax cuts.

2) If surpluses are dissipated through tax cuts, how will tomorrow’s priorities be financed? Soon, the nation will have to begin restructuring the Medicare and Social Security programs so they can weather the demographic deluge of retiring baby boomers. The projected surpluses could be used to ease the transition to whatever new structures Congress and the president agree on. The fate of fundamental tax reform, which is still a high priority of many Republicans, is also tied to surpluses. There is little chance that real tax reform will be politically viable without lower tax rates of the sort that could be financed only from large budget surpluses.

3) Is a tax cut good economic policy? With the economy running flat out, the dose of fiscal stimulus that a surplus-financed tax cut would provide is about the last thing the fiscal doctor would prescribe. In fact, it could force the good Dr. Alan Greenspan of the Federal Reserve to raise interest rates even sooner to keep inflationary pressures in check. Moreover, any tax cut that could make it through Congress—reducing the marriage penalty, for example—would only serve to boost consumer spending, of which there is no current shortage. What the economy needs for the long run is increased saving and investment, which would be provided by preserving the surpluses.

The deficits of the past decade added about $1.8 trillion to the national debt. Only four-fifths of this hole would be filled if all the surpluses projected for the next decade were saved—that is, used to pay down the national debt. Those who care about the strength of the economy in the future, the nation’s ability to cope with the baby boomers’ retirement and the prospects for a simpler and more rational tax code should fight to protect from this latest outbreak of tax cut fever the modest surpluses that sensible fiscal and monetary policy, a strong economy and a bit of good luck have unexpectedly bestowed on the nation.