First, Do No Fiscal Harm

Henry J. Aaron
Henry J. Aaron The Bruce and Virginia MacLaury Chair, Senior Fellow Emeritus - Economic Studies

September 3, 2010

What can someone concerned by the delicate condition of the U.S. economy feasibly do to get things moving again? It depends on political circumstances, but lawmakers should keep in mind the need for more stimulus now and the long-term fiscal picture.

First, if Republicans continue their “just say no” approach to governing, the administration should not give an inch in its insistence that tax cuts on the wealthiest Americans should expire. The argument that these tax cuts should be extended is incoherent. As my Brookings colleague Gary Burtless puts it, the argument runs: “The stimulus bill failed. The deficit is too big and must be shrunk. Therefore, further tax cuts for the rich are affordable and will speed economic recovery.” That position makes no economic sense. If the fiscal stimulus failed, much of which took the form of tax cuts, and if the deficit must be cut, how can more tax cuts than the president proposes be a good idea? Should Republicans successfully filibuster the proposal to extend all other cuts because they refuse to countenance ending tax cuts for the wealthy, Democrats could then point out that their opponents were willing to sacrifice tax cuts for millions of middle-income Americans in order to sustain cuts for a handful of the wealthy.

But if Republicans return to being true fiscal conservatives, the administration would be well advised to recognize that conditions have changed since the president advocated making all of the Bush tax cuts permanent except for those on the wealthy. Because the economy remains weak, lawmakers should instead provide more stimulus now and more fiscal restraint later. If bipartisan support existed, all of the tax cuts should be continued for one or two more years, provided that Congress also votes for additional government spending now and for higher taxes in the future. The spending would focus on infrastructure investments, support for housing, or assistance to the unemployed. The ideal tax policy, suggested by Brookings’s senior fellow emeritus Charles Schultze, would be to make none of the tax cuts permanent, except possibly for lower-middle income families—say, those with adjusted gross incomes up to $60,000.

To be sure, a future Congress could vote to prevent higher taxes from taking effect. But members of both parties would be on record and a future president could veto such irresponsible legislation.

In the prevailing political arena, such collaboration seems fanciful. But it is important not to let political bad behavior to stop thought about good policy. Once unemployment is down to a reasonable level, added revenue will be needed to reduce structural deficits. The simple fact is that there is no imaginable way to deal with the fiscal gap on a timely basis without sizeable tax increases. Cuts in some expenditures will be necessary as well. But even if sizeable cuts in Social Security and Medicare were politically acceptable, which I doubt, there is no way that sufficient savings can be achieved quickly enough to prevent unacceptable increases in the size of the public debt. And if the economy remains weak, there is no way to restore fiscal balance at all!